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Beginning 1 January 2025, dividend payments from Swiss entities to Indian investors will be taxed at 10%, double the current 5%.
Switzerland has attributed this change to a 2023 Indian Supreme Court ruling in a case involving Nestle SA and others, which clarified that MFN clause benefits require explicit notification by the Indian government under the Income Tax Act, adding procedural hurdles to treaty implementation.
There are concerns that the increased tax burden on Indian companies could discourage investments in Switzerland. Similarly, Swiss investments in India may experience headwinds as businesses grapple with the Supreme Court’s stricter stance on MFN benefits.
Mint takes a closer look at the Nestle case and the broader legal and policy developments that led to Switzerland’s decision.
What is the DTAA and MFN clause?
DTAAs are bilateral treaties aimed at avoiding double taxation, encouraging cross-border investments, and benefiting non-resident Indians (NRIs). India has signed such agreements with nearly 100 countries, including Switzerland, which first entered into a DTAA with India in 1995, amended in 2010.
The MFN clause, a critical component of many DTAAs, ensures that favourable tax rates granted to one treaty partner are automatically extended to others under similar conditions.
For instance, if India signs a treaty with a third OECD country offering lower tax rates, those rates would apply to Switzerland under the MFN clause. However, the Indian Supreme Court’s ruling in 2023 has upended this automaticity, requiring formal notification for such benefits to take effect.
Legal precedents: From Steria to Nestle
The MFN clause dispute first gained prominence in the 2014 Steria India Pvt. Ltd. case.
Steria India argued that payments to its French parent company for management services should be taxed under the India-UK DTAA’s more lenient provisions, invoking the MFN clause. Indian tax authorities treated the payments as Fees for Technical Services (FTS) under the India-France DTAA.
Read this | Mint Explainer: Why Nestle failed to increase royalty payments while rivals succeeded
In 2021, Swiss multinational Nestle SA had filed a writ petition in the Delhi High Court, challenging an Income Tax Certificate issued in 4 January 2021 under Section 197 of the Income Tax Act. The certificate set a withholding tax rate of 10%, which Nestle argued should have been 5% under the India-Switzerland DTAA. In June 2021, the high court ruled in Nestle’s favour, quashing the certificate and upholding the reduced tax rate of 5% based on the Switzerland DTAA.
The revenue department challenged this ruling in the Supreme Court, where the matter was combined with 13 other petitions concerning the interpretation of DTAAs with countries like France and the Netherlands.
In October 2023, the Supreme Court overturned the Delhi High Court’s decision, reinstating the revenue department’s position and ruling that MFN benefits require explicit notification under Indian law.
The top court also clarified that benefits apply only if the third country was an OECD member at the time of the treaty’s signing, disqualifying subsequent entrants like Lithuania and Colombia.
Impact on India-Switzerland trade ties
Switzerland’s suspension of the MFN clause is set to impact Indian businesses operating in Switzerland.
From 1 January 2025, these companies will face a higher withholding tax rate of 10% on dividends and other incomes, up from the current 5%. This increase is expected to raise tax liabilities and reduce the competitiveness of Indian firms compared to businesses from countries still benefiting from MFN provisions.
Read this | India-China trade: An alarming $18 billion discrepancy
Key sectors likely to be affected include financial services, IT, and pharmaceuticals, where Indian companies like TCS, Infosys, Wipro, and Dr. Reddy’s Laboratories have significant investments.
The Global Trade Research Initiative (GTRI) echoed these concerns, stating that the withdrawal of the MFN clause would escalate costs for Indian firms in these sectors. “With the reversion to a 10% residual rate starting 1 January 2025, these firms face higher tax liabilities, reducing their competitiveness,” said Ajay Srivastava, founder, GTRI.
Over 330 Swiss companies, including major names like Nestlé, ABB, Novartis, Roche, UBS, and Credit Suisse, have invested in India. These companies operate across sectors such as machinery, electrical and metal, pharmaceuticals, finance, construction, sustainable technologies, clean energy, and ICT services.
India’s trade relationship with Switzerland remains significant.
In 2023-24, India’s imports from Switzerland amounted to $21.24 billion, while exports totalled $1.52 billion, resulting in a trade deficit of $19.72 billion, according to data from commerce ministry.
Furthermore, Switzerland’s Foreign Direct Investment (FDI) in India between April 2000 and September 2024 stood at $10.72 billion, while Swiss investment stocks in India reached $35 billion in 2021, according to the International Monetary Fund.
Legal options for the Indian government
Experts believe the Indian government has several paths to navigate the fallout from the Supreme Court’s ruling, including the option to file a review petition. However, there are broader considerations at play.
“The possibility of the Indian government requesting the Supreme Court to review its earlier decision in the Nestlé case cannot be ruled out,” says SR Patnaik, Partner (Head – Taxation) at Cyril Amarchand Mangaldas. “At this stage, the issue is not whether the government would choose to do so, but whether it is willing to accept the Supreme Court’s verdict and decide to ratify all bilateral and multilateral agreements through Parliament to avoid future recurrence of this situation. Additionally, it may be crucial for the government to convince partner countries to accept and align with its position.”
Rishabh Malhotra, counsel at DMD Advocates, notes that the Supreme Court’s review jurisdiction is limited to exceptional circumstances. The Court has already dismissed a review petition in the Nestle case, finding no grounds for revisiting its original ruling.
However, Malhotra suggests that a larger bench could reconsider the issue if a future case demonstrates that key aspects of treaty interpretation were overlooked.
Malhotra also highlights that India retains the authority to interpret tax treaties more liberally and grant benefits where appropriate. He points to India’s 2024 notification for Spain as an example of how the government can address such issues by issuing country-specific notifications to apply the MFN clause.
Ankit Jain, partner at Ved Jain & Associates, offers another perspective: the government could issue a retrospective notification to reinstate the MFN clause for Switzerland if it determines that the Supreme Court’s ruling has unintentionally disrupted bilateral trade or diplomatic agreements. This approach would require careful calibration to balance legal and diplomatic considerations.
Judicial impact on foreign policy: Not a first
The Supreme Court’s ruling in the Nestle case is not the first instance where judicial decisions have influenced foreign policy, experts note. Similar landmark cases in the past have had far-reaching implications on India’s international agreements.
“One such instance is the Supreme Court’s decision in the Azadi Bachao Andolan v. Union of India case,” says Rahul Charkha, partner at Economic Laws Practice. “It was contended that the India-Mauritius tax treaty was being misused as it facilitated tax avoidance through the creation of shell companies in Mauritius for the sole purpose of evading taxes in India.”
The Supreme Court upheld the validity of the treaty, emphasizing that it should be interpreted as per its text. The court ruled that allegations of abuse required proof of fraudulent activity, which significantly shaped the framework for foreign investments and tax treaty enforcement in India.
The ruling also spurred the Indian government to renegotiate the India-Mauritius tax treaty. In 2016, a protocol was signed to address concerns over “treaty shopping” and abusive tax practices. The amendment introduced a capital gains tax on shares acquired after 1 April 2017, marking a significant step in curbing the misuse of tax treaties.
Also read | India’s trade trajectory: FTAs and beyond
“My understanding is that with Switzerland, because of EFTA (European Free Trade Association), the double taxation treaty that we have; it’s going to be renegotiated. That is one aspect of it,” news agency PTI quoted Randhir Jaiswal, spokesperson, external affairs ministry, as saying.
Is the Nestlé case judicial overreach?
The Supreme Court’s decision in the Nestle case sparked a debate over whether it constitutes judicial overreach, particularly in the realm of foreign policy.
Rahul Charkha, partner at Economic Laws Practice, views the ruling as an overstep into diplomatic territory. “Tax treaties are negotiated by diplomats as a principle, are interpreted liberally,” he explains. “The Supreme Court’s decision of adopting a strict interpretation of the MFN clause in the tax treaties affects India’s conduct of international relations with the MFN jurisdictions. Hence, the Nestle case, without a doubt, reflects judicial overreach into foreign policy.”
In contrast, Alay Razvi, managing partner at Accord Juris, believes the apex court acted within its rights to interpret the law: “The judiciary’s role is solely to interpret the law, which includes international agreements ratified by the government. This ruling reinforces principles of sovereignty and transparency, ensuring treaty terms comply with Indian law by requiring formal notification.”
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