Why the Swiss chose to suspend the most favored nation tag for India

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Switzerland has announced the suspension of the unilateral application of the Most Favored Nation (MFN) clause with India under the Double Taxation Avoidance Agreement (DTAA). This decision will come into effect on January 1, 2025 and ends a reduced withholding tax benefit of 5% previously applied to Indian entities operating in Switzerland, returning the rate to 10%.

“In the absence of reciprocity, it therefore waives its unilateral application with effect from January 1, 2025. Accordingly, income accrued on or after January 1, 2025, may be taxed in the source state at the rates provided for in the DTC. IN-CH (India-Switzerland Direct Tax Convention),” the Swiss Federal Department of Finance (DFF) said.

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The suspension of the MFN clause marks a significant change in the India-Switzerland tax framework.

India’s Ministry of External Affairs (MEA) has indicated that the DTAA with Switzerland may need renegotiation in light of recent developments and its trade pact with the European Free Trade Association (EFTA). “With Switzerland, because of EFTA, the double taxation treaty we have; will be renegotiated,” MEA spokesperson Randhir Jaiswal said during a press conference.

Background of the MFN clause in the DTAA

The protocol signed between India and Switzerland on 30 August 2010 provided that if either country provided a lower rate of withholding tax to a third OECD member country, the same rate would be extended to transactions between India and Switzerland. Following India’s agreements with Lithuania and Colombia in 2011, both nations joined the OECD in 2018 and 2020 respectively. This allowed Indian tax residents to claim a reduced 5% withholding tax on dividends under the MFN clause.

Swiss authorities confirmed this benefit in 2021, allowing Indian residents to claim refunds of withholding taxes on dividends accrued from July 2018 and April 2020. However, this benefit was subject to reciprocity between the two countries.

The impact of the Supreme Court decision

In 2023, the Supreme Court set aside a Delhi High Court judgment in favor of Nestle, a Swiss company seeking refunds of withholding tax under the MFN clause. The Supreme Court held that the MFN clause was not directly enforceable without an explicit notification under section 90 of the Income Tax Act. This ruling led the Swiss authorities to withdraw the unilateral reduction, citing the absence of mutual benefits.

EFTA free trade agreement

India and EFTA member states including Switzerland, Norway, Iceland and Liechtenstein finalized a free trade agreement in March. The deal is expected to attract USD 100 billion in investment to India over the next 15 years. However, the trade pact has yet to enter into force and its implications for the DTAA remain to be seen.