On December 11, 2024, Switzerland announced the suspension of India’s Most Favoured Nation (MFN) status, signaling a significant shift in bilateral relations. This move is expected to have far-reaching consequences for Indian companies operating in Switzerland and Swiss investments in India. The change will take effect from January 1, 2025, potentially increasing tax burdens on both sides.
Switzerland has suspended the MFN clause in the Double Taxation Avoidance Agreement (DTAA) between the two nations, which was originally signed in 1994 and amended in 2010. This suspension will likely lead to higher taxes on Swiss investments in India and impose greater tax liabilities on Indian companies operating in Switzerland.
India’s Supreme Court Ruling
Switzerland’s decision is directly linked to a 2023 ruling by the Indian Supreme Court, which clarified the application of the MFN clause in the context of tax treaties. The Court ruled that the MFN clause does not automatically apply when a country joins the Organisation for Economic Co-operation and Development (OECD), particularly if there is a prior tax treaty in place.
This ruling emerged from a case involving Nestlé, in which the Court determined that the MFN clause in the tax agreement between India and Switzerland did not automatically trigger revised tax rates after Switzerland’s accession to the OECD. The Court’s decision contradicted Switzerland’s prior interpretation, leading to its decision to revoke India’s MFN status.
Switzerland’s Move
From January 1, 2025, Switzerland will increase withholding tax on dividends from 5% to 10% for Indian tax residents and entities. This change will also apply to Swiss tax residents claiming foreign tax credits and Indian taxpayers seeking refunds on Swiss withholding tax.
Switzerland’s Finance Department issued a statement citing the Supreme Court’s ruling as the basis for this move, which suspends the MFN clause in the DTAA between the two nations. This change could significantly alter the tax landscape for both Indian and Swiss companies, creating uncertainty in the bilateral trade relationship.
$100 Billion EFTA Investment
Experts are concerned that Switzerland’s decision may undermine the $100 billion investment commitment made by the European Free Trade Association (EFTA)—comprising Iceland, Liechtenstein, Norway, and Switzerland—under a trade pact signed in March 2024. This long-term investment plan, which spans 15 years, could be jeopardized by the increased tax rates, making India less attractive for Swiss investors.
The suspension of the MFN clause could also deter future Swiss investments in India, especially if the changes result in higher operational costs for Swiss firms. As a result, India may face challenges in meeting its growth targets under the EFTA pact.
Tax Challenges for Indian Companies in Switzerland
The suspension of the MFN clause introduces new tax challenges for Indian companies operating in Switzerland. Sectors like financial services, pharmaceuticals, and IT—which rely on favorable tax rates—will be particularly affected. These companies will now face a higher tax burden, with a 10% withholding tax on dividends and income from Switzerland, up from the previous 5%. This change could impact their profitability and long-term investment strategies in Switzerland.
Expert Views on the Impact
- Higher Withholding Tax on Investment: Starting January 1, 2025, the withholding tax on dividends will increase from 5% to 10%, making India less attractive for Swiss investors. Experts warn that this could lead to a decline in Swiss investments in India.
- Risk to $100 Billion EFTA Investment: The revocation of MFN status could put the $100 billion EFTA investment at risk. The trade pact, signed in March 2024, was a major boost for India, and any disruption could undermine this long-term commitment.
- Tax Burden on Indian Firms in Switzerland: Indian companies, particularly in financial services, pharmaceuticals, and IT, will face higher taxes on their income from Switzerland. The increase in withholding tax could raise operational costs, affecting profitability and strategic planning for Indian businesses in Switzerland.
- Increased Tax Burden: Indian firms will now be subject to a 10% withholding tax on dividends and income from Switzerland, up from the previous 5%. This will increase the tax burden on companies operating in Switzerland and could affect their long-term viability in the Swiss market.
Response from the Ministry of External Affairs (MEA)
- Need for Consistent and Strategic Approach: The Ministry of External Affairs (MEA) has stressed the importance of a consistent and strategic approach to international tax treaties. The revocation of MFN status underscores the need for clear, stable agreements that protect India’s economic interests and foster long-term trade relations.
- Proactive Negotiations to Clarify Treaty Provisions: The MEA has called for proactive negotiations with Switzerland to clarify and harmonize the interpretation of treaty provisions. India must ensure that tax treaties are interpreted consistently to avoid similar disruptions in the future. The MEA highlighted the importance of diplomacy in safeguarding the interests of Indian firms abroad, particularly in key markets like Switzerland.
Conclusion
Switzerland’s decision to revoke India’s MFN status marks a significant shift in the bilateral relationship between the two nations. With increased tax burdens for both Swiss investors in India and Indian firms operating in Switzerland, this move could have long-lasting effects on trade and investment. India’s Ministry of External Affairs must now take a more strategic approach to its international tax agreements to protect its economic interests and ensure stability in future investments.
