India: Swiss Apex Court Denies Treaty Benefits For Dividend On Securities Acquired For Hedging Derivative Contracts

  • Federal Supreme Court of Switzerland denies treaty benefits in case of dividend paid on shares acquired for hedging derivative contracts.
  • Court stated that due to the fully hedged nature of ownership, there was economic nexus and interdependency between two independent transactions and therefore, the "intermediary" bank did not have beneficial ownership over dividends received.
  • Holds the beneficial ownership requirement to be applicable even though the treaty does not contain the requirement.
  • The ruling is important for similar structures worldwide, including derivative structures hedged with Indian securities and also for back-to-back contracts between group entities for license of IP, subscription to debt instruments, etc.

The Swiss Federal Supreme Court recently gave an important decision denying treaty relief on dividend payouts in a derivative instrument structure.1 The case involved a Danish bank ("Bank") which had an entered into a total return swap arrangement with investors in various jurisdictions.

A total return swap can be used by an investor to invest notionally in a share or a basket of shares, a group of shares represented by an index or a basket of indices without in fact funding that investment. The investor pays LIBOR on the notional amount (as if it were borrowing) to a dealer. The dealer in turn agrees to pay an amount that is equal to the capital increase and dividends declared on the underlying shares during the relevant period (as if the investor directly invested in the shares). This becomes an interesting alternative to an investor who otherwise might have had to borrow funds for the investments. Such a structure also becomes useful in situations where the transaction costs per unit of share are prohibitive or if the regulations prohibit a 100% leveraged acquisition of the underlying shares. The dealer may buy the underlying shares to hedge the risk taken by it. The present fact situation is one such instance.

In an unexpected decision, the Swiss Supreme Court denied treaty relief on dividend payouts received by the Bank on hedged Swiss securities ("Shares') on the ground that the Bank was not the "beneficial owner" of the dividends received. The Court concluded that the beneficial owner was not the Bank but the investors outside Denmark who entered into swap contracts with the Bank.

The relevance of this ruling needs to be seen in light of the fact that 'beneficial ownership' is a pre-condition in several tax treaties (including Indian tax treaties) for availing relief from taxation in the source country in case of dividends, interest, royalties and fee for technical services. Further, in the Indian context, the 'beneficial ownership' requirement has also been considered in the context of capital gains, though tax treaties generally refer to such requirement.2 A beneficial owner is usually distinguished from the legal owner in terms of recognition as the owner in law versus enjoying benefits arising out of ownership. The beneficial owner usually retains the right to decide the manner in which the asset should be used and the manner in which the returns from the asset should be utilized. Therefore, this ruling could become important in the context of several situations in addition to derivative instrument structures, particularly, back-to-back contracts executed between group entities (for example, licensing and sub-licensing arrangements, back to back debt instruments with / without a margin being earned by the intermediate entity, outsourced technical services). However, it needs to be noted that there are several factual specifics on the basis of which the Swiss Supreme Court held that the Bank was not the 'beneficial owner' – particularly, the complete economic interdependency between the Bank's contract with the investors and the investment in the underlying shares (as reflected by exactly matching transactions).


  • The Bank entered into total return swap contracts with various parties in England, Germany, France and United States. Pursuant to the Agreement the Bank agreed to pay an amount equal to the return on the Shares(earned as dividends and capital gains) in consideration for a fixed payment which consisted of a LIBOR based interest payment and a margin amount (which was a percentage of the total amount involved in the contract). ("TRS Agreement").
  • The Bank subsequently hedged its obligations arising under the TRS Agreement by purchasing the Shares that formed the basis of the TRS Agreement.
  • Dividends were paid by the Swiss companies to the Danish bank net of withholding tax.
  • The Bank applied for refund of withholding tax in respect of dividends paid by the Swiss companies in light of the Swiss-Denmark tax treaty ("Treaty"). As per the Treaty, dividends distributed by a Swiss company to a shareholder in Denmark are not taxable in Switzerland.
  • The Federal Tax Authority ("FTA") rejected the claim for refund stating that the Bank merely acted as an intermediary entity to pass on dividends to investors who were not resident in Denmark. Consequently, refund was rejected on the following grounds:-
    1. Lack of beneficial ownership by the Bank: The FTA relied on the complete factual and economic interdependency of the two transactions; the swap arrangement and the purchase of the Shares to conclude that the Bank was not the beneficial owner of the Shares and was consequently not entitled to the refunds.3
    2. Abuse of treaty between Denmark and Switzerland: The FTA concluded that the Bank was only intermediated to take advantage of the Treaty and held that the structure had been utilized only to enable the investors from various jurisdictions to obtain benefits under the Treaty by using the Bank as an intermediary.
  • Upon appeal, the Federal Appeals Court ("FAC") set aside FTA's order and held that beneficial ownership was not a pre-condition for granting benefits under the Treaty with respect to dividends. The FAC also held that the Bank was the beneficial owner of the Shares and any economic proceeds that arose out such ownership as the Bank had the discretion to decide how the dividends could be utilized and as the Bank was not under any contractual obligation to hedge its position with acquisition of the underlying asset.

Ruling of the Swiss Supreme Court

The Supreme Court held that the Bank did not qualify as the beneficial owner of the dividends. The Court observed that the concept of "beneficial owner" is designed to assess the decision-making powers with respect to use of the income and the recipient of an income will be treated as the beneficial owner if it is at least able to make certain decisions independently. Therefore, the Court held that greater the interdependence between the income and the obligation to pass it on, the weaker the beneficial ownership.

While the Bank was neither legally nor contractually obligated to hedge the swap agreements entered into, the Court found that there was high interdependence between the income earned from Shares and the obligation to make payment of an equivalent amount to investors based on the following:-

  1. Each time, the hedging transactions were carried out simultaneously with the swap agreement and to the same extent.
  2. It was the party entitled to the economic returns (and not the Bank) that solely bore the risk associated with the income in economic terms. The impact of any price loss or dividend loss on the underlying securities was borne by the party entitled to the economic returns.
  3. The Court rejected the argument that the Bank had to bear the risk if the party entitled to the economic returns did not fulfill its obligation to pay interest or fall in price as the margin compensated for the interest risk taken.

Hence, the Federal Supreme Court held that the flows of funds clearly proved the interdependency between the two transactions. Therefore, the court held that the Bank was not the beneficial owner of the dividends received and was not entitled to refund on withholding taxes paid.

Analysis and Key Takeaways

By focusing on economic inter-dependence, the ruling appears to be contrary to the established principles governing beneficial ownership, more so as the investors are unrelated to the Bank. It appears strange that the ruling recognizes the existence of business risk for the Bank in the event of default by the investors, but concludes that the Bank is not the beneficial owner of dividends received by taking a view that margin amount received from investors is sufficient to compensate for the business risk. The ruling also ignores that: (i) the investors would not be entitled to any right apart from the right to a receive an amount capturing the difference in price and dividends paid and other rights such as voting rights shall remain with the entity holding the underlying assets; (ii) in the event of default by the Bank, the investor can only claim damages for breach of contract as opposed to demanding that the income/gains from the underlying assets be passed on to it.

It may be noted that earlier instances where beneficial ownership was attributed to the party enjoying economic benefits have generally been limited to circumstances where the legal owner's right to take decisions with respect to the asset and/or the manner in which the returns from the asset should be utilized were curtailed.4

Indian courts have also dealt with the issue of beneficial ownership, though not specifically in the context of derivatives structures. For instance, in the case of Universal International Music BV.,5 a Dutch company that had acquired musical recording rights from its group companies in other jurisdictions and had subsequently granted license for commercial exploitation to an Indian company. The tribunal held that the Dutch company would be recognized as the beneficial owner of the royalties paid by the Indian company since the Dutch company had a valid tax residency certificate issued by the Netherlands tax authority stating that it was beneficial owner of royalty income received from the Indian company time to time.

Further, we may refer to the SEBI Master circular on AML/CFT6 for guidance, though it is not binding from a tax perspective:

"The beneficial owner is the natural person or persons who ultimately own, control or influence a client and/or persons on whose behalf a transaction is being conducted. It also incorporates those persons who exercise ultimate effective control over a legal person or arrangement."

We may also refer to Indian jurisprudence distinguishing between "application of income" and "diversion of income". The Supreme Court of India7 has held that an amount is considered to be diverted before it reaches a taxpayer and consequently not taxed as the income of a taxpayer only where the taxpayer is under an obligation of such a nature whereby the amount cannot be considered to be part of the income of the taxpayer. However, where an amount is required to be applied to discharge an obligation out of the income of the taxpayer, it is merely considered to be an application of income and the assesse is considered have earned the income.

Having said that, the ruling appears to reflect the growing global trend in favour of the substance-over-form approach and measures to prevent the treaty abuse, including the OECD's recently crystallized report on Base Erosion and Profit Shifting ("BEPS"). Such a trend becomes important in the Indian context as well, given that India has been actively participating in the BEPS project. Further, General Anti-Avoidance Rules ("GAAR") are slated to come into effect from financial year 2017-18. Under GAAR, tax authorities may exercise wide powers (including denial of treaty benefits) if the main purpose of an arrangement is to obtain a tax benefit and if the arrangement satisfies one or more of the following: (a) non-arm's length dealings; (b) misuse or abuse of the provisions of the domestic income tax provisions; (c) lack of commercial substance; and (d) arrangement similar to that employed for non-bona fide purposes.Therefore, it becomes important to clearly and consistently reflect the strategic and commercial objectives of any structure in various statutory filings, internal records, websites and other fora.


1.Case no. 2C_364/2012, Federal Tax Administration v. X.______Bank, (Judgment dated May 05, 2015)

2.In the case of Aditya Birla Nuvo v. DDIT [(2011) 200 Taxmann 437)], capital gains relief under the India Mauritius tax treaty was denied to a Mauritian entity as it had acted in its capacity of a 'permitted transferee' under a joint venture agreement and as the agreement clearly stated that the 'permitted transferee' would have no rights in shares and would only hold them on behalf of the party to the joint venture agreement, which was a US resident.

3.It may be noted that the Treaty did not have a 'beneficial ownership' requirement. However, the FTA held that the requirement is implicit in the Treaty.

4.For instance, in the case of CSX Corp v. Children's Fund Management (UK),[1] the district court of New York held the party enjoying the economic benefits under a cash settled return swap could be deemed to be the "beneficial owner". In that case, the party enjoying economic benefits had control over disposal of underlying assets and the derivative counterparty was obligated to vote in accordance with their instructions.

5. (2011) 45 SOT 219

6. (SEBI Circular no CIR/ISD/AML/3/2010)

7.See: cases such as Dalmia Cement Limited v. CIT, AIR 1999 SC 2154; CIT v. Sitaldas Tirathdas, [1961] 4 ITR 367 (SC); Travancore Sugars & Chemical's case, [1973] 88 ITR 1 (SC)

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions