High Court (‘HC’) ruling wherein the court has allowed tax credit to Indian Company on its dividend income from Thailand subsidiary based on ‘tax sparing’ concept.

Facts of the case

• The taxpayer being an Indian Company received dividend income from its Thai subsidiary. The taxpayer accounted for the dividend in its tax returns and also claimed credit for the tax it would have ordinarily paid in Thailand (i.e. 10%) but for the statutory regime in Thailand (which grants exemption on dividend from levy of such tax);
• The tax authorities declined the tax credit as the tax on dividend was actually not paid by the taxpayer;
• The tax authorities argued that the promotion certificate issued to the Thai subsidiary permitted the Thai subsidiary to not pay tax on the dividend distributed by it. However, it is to be noted that in the hands of the taxpayer, such a dividend distributed became an income and hence the taxpayer cannot be allowed to rely upon such exemption under Thai law to claim tax credit in India.

Key excerpts from the ruling

• The HC takes note of the provisions of Article 23 of India-Thailand DTAA and observes that the provisions are configured to incentivize investments in Thailand by granting tax credit on tax payable in Thailand but not paid due to exemption or reduction granted under the Thai law.
• It negates tax authorities’ stance that the issue of eligibility of dividend income to tax and its exemption, being subject matter of foreign law is to be remitted to the AO by holding that “even though foreign law raises an issue of fact, which requires proof of the given fact, no proof is required in the instant case, as the foreign law in question is referred to specifically, in the DTAA which is being executed by Contracting States”.
• The Tribunal also observed that it was not necessary that the taxpayer ought to have paid tax, what was relevant was whether it was liable to pay tax to obtain benefit under Article 23;
• HC opines that dividends are distributable profits and if net profit is exempt from corporate income tax, dividends could not possibly be amenable to tax. Also, on the tax authorities’ contention that promotion certificate did not mention dividend, court finds that it specifically alludes to exemption of dividends distributed from levy of corporate income and also noted that revenue never made this submission before lower authorities;
• It also underscores that the concept of tax sparing is embedded in several DTAAs executed by India, such as with France, Jordan and Oman, apart from Thailand and insofar as the India-Thailand DTAA is concerned, credit for tax sparing works for residents of Thailand as well as India;
• Therefore, HC Holds that “this is a mechanism which is engrafted in DTAAs to incentivize investment for economic development and interdiction of such provisions would be detrimental to the larger public interest”.

The ruling reiterates the benefit of adoption of ‘tax sparing’ credit and eligibility to claim tax credit under the specific article of the DTAAs.