Synthesised Text under MLI

Background

In order to implement the Base Erosion and Profit Shifting (BEPS) Action Plans, the Organisation for Economic Co-operation and Development (OECD) released the text of the Multilateral Instrument (MLI) in November 2016 to implement treaty related BEPS measures into more than 3000 existing treaties in a synchronised and swift manner.

India became a signatory to the MLI at the Paris conference on 7 June 2017 and deposited its ratified instrument with the OECD Depository on 25 June 2019, thus seeking to modify its Double Taxation Avoidance Agreements (DTAAs). The DTAA modified by the MLI is referred to as a Covered Tax Agreement (CTA).

It is pertinent to note that the MLI is not akin to a Protocol i.e. it does not directly amend the text of the CTA but has to be read alongside the existing CTAs. Further, the MLI does not modify all the CTAs in the same manner. Each MLI signatory is free to choose to apply provisions of the MLI (except minimum standards) and the list of each signatory’s position on each provision should be submitted with the OECD at the time of depositing the ratified instrument.

Need for synthesised text

As countries can choose the MLI provisions which they want to incorporate in their CTAs, one will need to consider the following documents while evaluating the impact of MLI on a specific provision of the CTA:

1. The text of the CTA along with the Protocol (if any);

2. The text of the provision(s) of the MLI; and

3. The list of notifications and reservations submitted by both the parties to the OECD.

For instance, to evaluate the impact of Article 8 of the MLI (dividends) on the existing India- Slovak Republic CTA, one will be broadly required to follow the below steps:

• Check whether India and Slovak Republic are signatories to the MLI

• Check whether India has notified Slovak Republic in its list of covered CTAs

• Check whether Slovak Republic has included India in its list of covered CTAs

• Refer India’s ratified instrument to check whether it has opted to apply Article 8 of MLI for its CTA with Slovak Republic

• Refer Slovak Republic’s ratified instrument to check whether it has opted to apply Article 8 of MLI for its CTA with India

Where the answer to all the above steps is in the affirmative, Article 10 of the India- Slovak Republic CTA will stand modified by Article 8 of the MLI.

Needless to say, to undertake the above exercise for each Article of each CTA is highly cumbersome and tedious and increases the risk of errors while determining taxability and rates. This gave birth to the need of a comprehensive document providing the existing CTA along with the modifications made by the MLI – a Synthesised Text.

Meaning of Synthesised Text

The dictionary meaning of the word synthesis is “the combination of components or elements to form a connected whole”. This is what the synthesised text of a CTA does – it combines articles of the CTA and the modification proposed by the articles of the MLI.

In the synthesised text, the provisions of the MLI that are applicable with respect to the provisions of the CTA are included within “boxes” throughout the text of the CTA in the context of the relevant provisions of the CTA.

On 14 November 2018, the OECD released a “Guidance for development of synthesised texts” to provide suggestions to MLI signatories for the development of synthesised texts in order to facilitate the interpretation and application of modification proposed by articles of the MLI to the respective CTAs.

To ensure clarity and ease of reference on application of MLI, it is imperative that the synthesised texts of each CTA are as consistent as possible. Thus, the OECD Guidance also suggests sample language that may be included while preparation of synthesised texts.

Key features of synthesised texts as per the OECD Guidance

1. Not a legal document

The purpose of synthesised texts is primarily intended to facilitate the understanding of the MLI. For legal purposes, the provisions of the MLI must be read alongside Covered Tax Agreements as they remain the only legal instruments to be applied.

The synthesised text does not constitute a source of law and cannot be construed as a legal document admissible in a court of law.

2. Form of synthesised text

To be prepared in the form of a single document or webpage, the synthesised text would reproduce (a) the text of CTA (including the texts of any amending protocols or similar instruments), and (b) the provisions of the MLI that will modify that CTA in the light of the interaction of the MLI positions both the parties have taken.

Synthesised texts would also include explanatory information, including information on the entry into effect of the relevant provisions of the MLI.

Synthesised texts would thereby make it much simpler to understand the effects of the MLI and the way it modifies each CTA.

3. Prepared qua each CTA

Before developing synthesised texts, each MLI signatory is encouraged to integrate the effects of any existing amending instruments or protocols into the CTA.

4. No legal obligations on countries to develop synthesised texts

MLI signatories are not legally obligated to prepare synthesised texts for each of their CTAs and such synthesised texts are not a pre-requisite for application of MLI to the CTA.

5. No legal obligation on countries to consult each other while preparing synthesised texts

While there is no pre-requisite for countries to consult each other for preparing synthesised texts, the OECD encourages countries to do so. This is a good administrative practice and will help to ensure a consistent interpretation of the application of the MLI’s provisions to each Covered Tax Agreement.

When a synthesised text is prepared in consultation with the CTA partner, the following text is added to the synthesised text of the CTA:

“This document was prepared jointly by the Competent Authorities of Country A and Country B and represents their shared understanding of the modifications made to the Agreement by the MLI.”

This does not dilute the fact that the synthesised text is for understanding purpose only and not the legal document. Thus, the legal value of a unilateral or a bilaterally prepared synthesised text remains the same i.e. Nil.

Issues in unilateral synthesised texts of India-Japan CTA

On 23 August 2019, the Japan Ministry of Finance released the unilateral synthesised text of the India- Japan CTA and subsequently, on 4 September 2019, India’s Cen Japan CTA.tral Board of Direct Taxes (CBDT) released their unilateral synthesised text of the India-

Given that India and Japan have prepared separate synthesised texts without consultation with each other, it has resulted in inconsistent interpretation of the compatibility clauses of two provisions by India and Japan. The analysis of the discrepancies is provided below:

1. Discrepancy in Article 12(1) of the MLI

12(1) – Dependent Agent PE [seeking to modify Article 5(7)(a) of the India- Japan CTA]

India has not deleted the text of Article 5(7)(a) of the India – Japan CTA and has stated that Article 12(1) applies to Article 5(7)(a).

Japan has deleted the text of Article 5(7)(a) of the India – Japan CTA and has stated that Article 12(1) replaces Article 5(7)(a).

A combined reading of the compatibility clause of Article 12(1) and Article 12(5) states that the MLI provision shall apply “in place of” the existing clause in the CTA i.e. Article 12(1) shall replace the Dependent Agent PE provision in the CTA

Japan’s interpretation on applicability of Article 12(1) seems to be the correct interpretation of the compatibility clause of Article 12(1) of the MLI provisions.

2. Discrepancy in Article 17(1) of the MLI

17(1) – Corresponding adjustment [seeking to modify Article 9(2) of the India- Japan CTA]

India has deleted the text of Article 9(2) of the India – Japan CTA and has stated that Article 17(1) replaces Article 9(2).

Japan has not deleted the text of Article 9(2) of the India – Japan CTA and has stated that Article 17(1) applies to Article 9(2).

Japan has notified Article 9(2) of the India- Japan CTA to be modified by the MLI whereas India has not notified Article 9(2) of the India- Japan CTA. In such a scenario, as per Article 17(4) of the MLI, Article 17(1) shall apply and supersede the existing Article 9(2) of the India- Japan CTA only to the extent such clause is incompatible with the MLI provision.

In light of the above, India’s interpretation that Article 17(1) shall replace Article 9(2) may not be the correct interpretation. Further, Japan’s interpretation that Article 17(1) applies to Article 9(2) also seems to be incomplete since the synthesised text does not mention that the changes proposed by MLI shall be applicable only to the extent of incompatibility.

One may note that the above discrepancies do not have any legal ramifications in absence of the synthesised text being a binding legal document.

Way forward

With effect from 1 April 2020, the impact of MLI is to be considered in some of India’s key tax treaties - with Singapore, United Kingdom, Japan, Netherlands, France etc. and the list will only increase in the years to come. While the synthesised text captures articles of the CTA and the modification proposed by the articles of the MLI in a single document, one cannot rely on it in the Courts since it is not a legally binding document.

Use of synthesised text can be regarded as akin to looking up a legal query on the Google search engine- while it is good as a reference point, one cannot merely rely on the results produced by the search engine to give a legal opinion.

Similarly, while evaluating the impact of MLI, the synthesised text can be a good starting point but should always be backed up by comprehensive reading of the text of the CTA, the protocol(s) to the CTA, the text of the MLI and the positions adopted by both the Contracting Jurisdictions to arrive at the accurate answer.