India-Cyprus double taxation treaty: What is Grandfather clause?

India has successfully completed the negotiation on the Double Taxation Agreement for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to taxes on income with Cyprus on Thursday.

As per the Cyprus Ministry of Finance, it was agreed to provide for source based taxation of capital gains on transfer of shares. However, a grandfathering clause will be provided for investments made prior to April 1, 2017, in respect of which capital gains would be taxed in the country of which taxpayer is a resident. 

"These provisional agreements will now be placed before the Cabinet for its approval, subsequent to which the new tax treaty can be signed by the two countries", said Indian Ministry of Finance in a release.

What is Grandfather Clause?

According to this clause, which exempts persons or entities to continue with operations or transactions that are approved before the implementation of new rules or laws.

According to a Investopedia report, "a grandfather clause only exempts people or entities engaged in specified activities prior to new rules being put in place, while all other parties must abide by the new rules — however, these clauses effectively place two sets of rules or regulations on otherwise similar businesses or circumstances, which can create unfair competitive advantages for grandfathered parties. In these situations, grandfather clauses may only be granted for a set period of time".

Depending on the treaty, the grandfather clauses are implemented for a specified amount of time and with specific limitations. 

Thus, this allows the existing entities to make the necessary changes to comply with new rules and regulations. "Clauses with specific limitations may also be put in place to prevent unfair competition, such as prohibitions on the expansion, remodeling or retooling of an existing facility".

Impact of Grandfather clauses on India-Cyprus DTAA

PwC India Leader (Tax) Gautam Mehra said this will act as another welcome step towards providing certainty in tax.

"The intent to grandfather existing investments, which is in line with a similar change proposed in the tax treaty with Mauritius, should provide comfort to existing investors. Further, the proposal to rescind the notification under section 94A with effect from November 1, 2013 is another positive resolution," Mehra said.

In 2013, India had declared Cyprus as 'Notified Jurisdictional Area' under the I-T Act for refusing to provide information sought by tax authorities under the exchange of information provisions of the bilateral agreement of 1994.

The notification imposed tougher conditions and withholding tax on investments coming from Cyprus.

The revised agreement is expected to contribute to further develop the trade and economic links between Cyprus and India and also with other countries. India and Cyprus have a DTAA since 1994.

(With agencies inputs)