ITAT Allows Abu Dhabi Commercial Bank to Offset PE Losses Against ECB Interest Income, Upholds 5% Tax Rate

Abu Dhabi Commercial Bank (ADCB), a UAE tax resident with Indian branches, advanced External Commercial Borrowing (ECB) loans directly from its UAE head office to Indian clients, earning interest income of ₹138.48 crore. The bank claimed a concessional 5% tax rate under Article 11(2) of the India-UAE Double Taxation Avoidance Agreement (DTAA), after setting off ₹75.32 crore business losses of its Indian Permanent Establishment (PE) against the interest income.

The Dispute Over Set-Off of PE Losses Against Interest Income

The Indian tax authorities rejected the set-off, citing Article 11(2) that taxes “gross” interest income, meaning no deductions or loss adjustments are allowed. They held the entire interest income taxable at 5%, without reducing by PE losses.

Tribunal’s Interpretation of “Gross” Income in Article 11(2) of the India-UAE DTAA

The Income Tax Appellate Tribunal (ITAT), Mumbai Bench, ruled in favor of ADCB, clarifying that the term “gross” restricts only expense deductions, not set-off of losses under the Income Tax Act. The tribunal emphasized that income must first be computed under domestic law, allowing inter-head loss adjustments under Section 71, thereby validating the set-off.

Alternative Claim Under Section 115A and Section 194LC

The tribunal also allowed ADCB’s alternative claim for the 5% concessional tax rate under Section 115A(1)(a)(iiaa), referencing a CBDT press release that waived individual loan approvals if RBI guidelines are met. Since no compliance issues were alleged, the concessional rate was upheld.

Implications for Cross-Border Taxation and Banking Sector

This ruling provides clarity on the interaction between DTAA provisions and domestic tax laws, particularly for multinational banks operating via PEs. It supports the right to set off losses and confirms the applicability of concessional rates on ECB interest income, enhancing certainty for cross-border financial operations.

Conclusion and Key Takeaways

• The term “gross” in tax treaties restricts expense deductions but not loss set-offs.
• Domestic laws governing loss adjustments remain applicable alongside DTAA provisions.
• Concessional tax rates under treaties and domestic provisions like Section 115A can coexist, subject to compliance.
• Multinational banks can benefit from this clarity in managing tax liabilities on ECB interest income.

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