India: No Withholding Tax Applicable On Arbitral Award

Last Updated: 9 October 2019
Article by Joachim Saldanha and Ashish Kabra
  • Holds that damages for breach of contract and interest thereon, paid in consequence of an international arbitral award, are not taxable in India under Article 22(1) of the Indo-Swiss DTAA;
  • Re-affirms the principle that amounts paid pursuant to a court decree assume the character of a judgment debt and are not amendable to any deductions or adjustments (including tax deduction at source) absent specific provision in the Civil Procedure Code, 1908, the Income Tax Act, 1961, or the decree itself.

The Delhi High Court ("Court") in Glencore International AG v. Dalmia Cement (Bharat) Limited 1 has held that amounts paid to a non-resident pursuant to an international arbitration award would not be subject to withholding tax in India.

Background and Facts

Glencore International AG ("Glencore"), a Swiss company, initiated international arbitration proceedings against Dalmia Cement ("Dalmia") for breach of contract 2 and received an award in its favour. The Award comprised of (i) damages for breach of contract; (ii) Glencore's legal costs, (iii) the costs of the arbitration proceedings and (iv) interest on all of the foregoing.

Dalmia objected to the enforcement of the award under section 48 of the Arbitration and Conciliation Act, 1996 ("A&C Act"). However, the Court dismissed the objections, and the dismissal was upheld by the Supreme Court.

The Court then passed a decree directing Dalmia to deposit the full amount of the award (INR 37,20,13,028) with the Court, and subsequently directed that a part (INR 20,20,22,530) of the award to be released to Glencore, and that the remainder (INR 16,99,90,498) be retained while the views of the Indian tax department were sought on whether Glencore was required to pay, and therefore Dalmia required to withhold, tax on the award.

In this background, Glencore approached the Court for the release of the balance amount of the award.

Issue

Whether Dalmia was required to withhold, tax on amounts paid pursuant to an international arbitral award, comprising inter alia damages for breach of contract and interest thereon.

Argument of the Tax Department

The Tax Department sought to establish the underlying character of the various amounts comprising the award, in order to determine their taxability.

  • Damages for breach of contract: The Tax Department argued that such amounts would constitute "income from other sources" in the hands of Glencore under section 56 of the Income Tax Act, 1961 ("ITA"). While conceding that amounts characterized as "Income from Other Sources" would likely fall to be dealt with under Article 22(1) (Other Income) of the Indo-Swiss Tax Treaty 3, which accords the right to tax Other Income primarily to the country of residence of the recipient, the Tax Department argued that due to the "windfall" nature of the amounts, they could fall within the exception under clause 3 4, opening up the possibility for India to exercise a right to tax. While a more precise determination would need to be carried out at the time of assessment, the Tax Department argued that it would be fair for tax be withheld at the rate of ~40% 5 until a final determination was reached by the assessing officer during an assessment.
  • Legal Costs and Arbitration Costs: In spite of acknowledging that such amounts constituted reimbursements for costs incurred by Glencore, the Tax Department still recommended that tax be withheld on such amounts as if they had imbibed the same character as the payments for which they were intended to be reimbursements. The Tax Department argued for the amounts to be treated as fees for technical services, liable to withholding tax at the rate of 10% under Article 12 of the Indo-Swiss Tax Treaty.
  • Interest. The Tax Department recommended a withholding tax of 10% on such amounts under Article 11 of the Indo-Swiss Tax Treaty.

Ruling

The Court rejected the arguments of the Tax Department.

It held that amounts comprising damages for breach of contract, along with interest thereon would not fall within the exception to Article 22(1) of the Indo-Swiss Tax Treaty i.e., Article 22(3), and would therefore not be taxable in India.

It further held that the amounts comprising reimbursement of legal costs and arbitration costs could not be regarded as income of Glencore, and therefore would not be taxable in India.

Thus, having determined that the amounts would not be taxable in the hands of Glencore, it ruled that there was no requirement for Dalmia to withhold tax on the same.

Analsis

Indian taxation of damages for breach of contract typically depends on the nature and effect of the breach. Damages for breach of contract resulting in damage to a claimant's trading apparatus are usually characterized as capital receipts not subject to tax, while damages for breach of contract resulting in mere loss of revenue are usually characterized as revenue receipts, subject to tax.

In this ruling, although the Court did not address the character of the damages, it nevertheless held that they should be treated as "Other Income" under Article 22(1) of the Indo-Swiss Tax Treaty, and therefore not taxable in India. Importantly, the Court further held that the interest component of the award should also be treated as "Other Income" under Article 22(1) of the Indo-Swiss Tax Treaty, and not as "Interest" under Article 11.

The Court also rightly rejected the incredulous argument of the Tax Department that damages for breach of contract should be equated to "windfall" gains, akin to winnings from lotteries or horse races.

Interestingly, the Court, as obiter dicta, made reference to another judicial principle: that once an arbitral award acquires the status of a court decree, amounts payable thereunder acquire the status of a judgment debt. The judgment debt must be discharged by payment of the full amount due under the said decree, subject only to the deductions and adjustments expressly permissible under the Civil Procedure Code, 1908 ("CPC") or any other legislation, or the decree itself. Therefore, the question of withholding tax at source does not arise. The Tax Department is however free assess decree holders to tax in India, if they believe components or all of the awarded amounts should, for whatever reason, be subject to tax in India.

Footnote

1 EX.P. 75/2015 & EX.APPL.(OS) Nos.1216-17/2015

2 The breach was due to the non-acceptance of coal shipment delivery

3 Article 22(1) of the Indo-Swiss Tax Treaty provides that items of income not dealt with in the foregoing articles of the Treaty shall be taxable only in the State of residence of the recipient.

4 Clause (3) of Article 22 provides that notwithstanding Article 22(1), if a resident of a State derives income from sources within the other State in the form of lotteries, crossword puzzles, races including horse races, card games and other games of any sort or gambling or betting of any form or nature whatsoever, such income may be taxed in that other State.

5 Foreign Companies are subject to tax in India at the rate of 40%, unless a lower rate is prescribed.

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 Mondaq.com.

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

Authors
 
In association with
Related Topics
 
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

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 or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq 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 of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

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