S. 40(a)(i): Disallowance of payment to Non-residents without TDS violates ‘deduction neutrality non-discrimination‘ clause in DTAA as there is no similar bar for residents as per Merilyn Shipping 136 ITD 23 (SB)

The Tribunal had to consider whether, in view of the non-discrimination clause under the tax treaties, the law laid down in Merilyn Shipping 136 ITD 23 (SB) and approved in Vector Shipping (All HC), in the context of s. 40(a)(ia), that the disallowance cannot be made for amounts already paid during the year, applies also to s. 40(a)(i)? HELD by the Tribunal:

(i) In Rajeev Sureshbhai Gajwani 137 TTJ 1 (Ahd)(SB) it was held that differentiation simplicitor is enough to invoke the non-discrimination clause. Consequently, it will be contrary to the deduction neutrality clause in non-discrimination in the tax treaties if the provisions for deduction of payments to non-residents are more onerous than those applicable for payments to residents. The payments made to residents of Ireland, Denmark and Austria are protected by the deduction neutrality clauses and any pre-conditions for deductibility, which are harsher than payments made to the residents are ineffective in law. However, payments to the residents of Belgian, UK, Italy and Spain will not be entitled to the same protection under the omnibus non-discrimination clause of Article 24(1) based on nationality (Herbalife International 103 TTJ 78 (Del) referred);

(ii) On merits, it is a possible view that Merilyn Shipping (which has been suspended by the A. P. High Court & disapproved by the Gujarat High Court in Sikandarkhan & Tanwar 87 DTR 137) has not been approved by the jurisdictional High Court in Vector Shipping Services. However, as the CBDT has itself taken the view in Circular No. 10/DV/2013 dated 16.12. 2013 that the Allahabad High Court has affirmed Merilyn Shipping, the department is bound by it and no disallowance can be made u/s 40(a)(i) for sums paid to non-residents without TDS.