On 30 December 2016, Singapore and India signed a long awaited third protocol to update the Avoidance of Double Taxation Agreement ("DTA") between the two countries. The changes in the protocol are due to enter into force latest by 1 April 2017.
The protocol follows the changes to the DTA between Mauritius and India in 2016 and brought parity between Singapore and Mauritius investors with respect to the alienation of shares of Indian companies. Other key changes impact transfer pricing and the clarity of the relationship between domestic tax law and the DTA.
The protocol introduces three key changes that may have significant impact.
The first key change relates to the capital gains tax treatment of assets in a contracting state (e.g., India) held by a resident of the other contracting state (e.g., Singapore) under Article 13. The treatment has been clarified as follows:
(a) Gains arising from shares of an Indian company acquired before 1 April 2017 shall not be taxable in India, subject to the revised Limitations of Benefits ("LoB") Article;
(b) Gains arising from shares of an Indian company acquired between 1 April 2017 and 31 March 2019 may be taxed in India but only at a rate of 50% of the domestic tax rate, subject to the revised LoB Article;
(c) Gains arising from shares of an Indian company acquired on or after 1 April 2019 may be taxed in India at the domestic tax rate; and
(d) Gains from the alienation of property in India not specifically referred to in Article 13 of the DTA shall be taxable only in the residence state.
It should be noted that the anti-conduit substance thresholds are still applicable before the capital gains tax exemption for shares can be enjoyed.
The second key change introduces a new paragraph in Article 9 of the DTA. It provides that where a contracting state makes a transfer pricing adjustment to the profits of an enterprise, and the adjustment results in arm's length transfer pricing, the other contracting state shall make an appropriate adjustment to the amount of tax charged on those profits. Competent authorities may consult one another during this process to agree on whether or such a corresponding adjustment is acceptable. This change aligns Article 9 of the DTA to Article 9 of the OECD Model Treaty.
The third key change introduces a new Article 28A that provides for a limited domestic law override, enabling a contracting state to apply its domestic general anti-avoidance rule to transactions independently of the provisions of the DTA.
Both Singapore and India will have to complete the procedures to bring the protocol in place and notify each other and the protocol will come into force upon completion of such procedures. In case the protocol does enter into force as on 31 March 2017, then, Protocol shall enter into force on 1 April 2017.
For Singapore investors that already directly hold shares of Indian companies, the protocol should not create a tax impact on the capital gains exemption currently enjoyed. For Singapore investors that plan to acquire shares of Indian companies on or after 1 April 2017, it should be noted that the protocol only introduces source taxation arising out of the alienation of shares of a company. Capital gains tax may not be applicable in relation to the divestment of other assets, e.g., Indian partnership interests and an indirect divestment of shares of an Indian company (subject to domestic general anti-avoidance rules).
Further, the introduction of new Article 9(2) is a welcome move and is in line with the provisions of OECD's BEPS Action Plan 14 on Dispute Resolution Mechanism. This amendment will facilitate the relief of economic double taxation in scenarios where a transfer pricing adjustment has been made by a contracting state by using mutual agreement procedures. Article 9(2) should also facilitate bilateral advance pricing agreements between the competent authorities of Singapore and India, thereby providing further options in pro-actively managing tax risks and allowing greater certainty for taxpayers.