Court upholds disallowance of interest payments for non-compliance with TDS, rejects foreign bank's claim for domestic tax rate under India-Netherlands DTAA, but recognizes ATMs as computers for depreciation benefits
In a significant ruling dated September 22, 2026, the Division Bench of the Calcutta High Court delivered its judgment in the case of Royal Bank of Scotland, N.V. (RBS), a Dutch-incorporated foreign bank operating in India through a Permanent Establishment (PE). The Court addressed critical issues concerning the tax treatment of foreign companies' Indian branches under the Income Tax Act, 1961 and the India-Netherlands Double Taxation Avoidance Agreement (DTAA).
The appellant, RBS, challenged an order by the Income Tax Appellate Tribunal (ITAT) for the assessment year 2003-04, contending that its Indian PE should be taxed at the lower rate applicable to domestic companies under the non-discrimination clause of Article 24(2) of the DTAA. Additionally, the bank claimed deductions for interest payments made by its Indian branch to its overseas head office and other foreign branches and sought higher depreciation on Automated Teller Machines (ATMs) by classifying them as computers under the Income Tax Rules.
The Court upheld the Tribunal's decision on multiple fronts. Firstly, it held that RBS, as a foreign company incorporated in the Netherlands, does not qualify as a "domestic company" under Section 2(22A) of the Income Tax Act and is therefore liable to be taxed at the higher rate prescribed for foreign companies. The Court relied on a retrospective amendment to Section 90 by the Finance Act, 2001, which clarified that charging a higher tax rate on foreign companies does not amount to less favourable treatment under the non-discrimination clause. The Court further emphasized that domestic companies are taxed on their global income, while foreign companies like RBS are taxed only on Indian-sourced income, distinguishing their tax circumstances.
Secondly, the Court affirmed the disallowance of interest payments made by the Indian branch to its overseas head office and other foreign branches due to non-compliance with the mandatory Tax Deducted at Source (TDS) provisions under Section 40(a)(i) and Section 195 of the Income Tax Act. The Court rejected RBS's argument that payments to its head office should not attract TDS because the branch and head office are the same legal entity. For tax purposes under Article 7 of the DTAA, the branch and head office are treated as separate and distinct enterprises, and failure to deduct tax at source on such interest payments justifies disallowance.
Thirdly, the Court dismissed the contention that interest income received by the Indian PE from the head office and other foreign branches should be excluded from taxable income. It held that the "separate entity" fiction under Article 7 requires such interest to be treated as taxable business income in India, reinforcing the consistent application of international tax principles.
Finally, in a relief to the bank, the Court ruled that ATMs qualify as "computers" under item 2B of Appendix I to the Income Tax Rules and are entitled to the higher rate of depreciation applicable to computers. The Court observed that ATMs are complex data-processing units equipped with internal processing power, specialized software, and network communication, aligning them functionally with computers rather than mere office equipment.
The appeal was allowed in part, affirming the higher tax rate and disallowance of interest deductions while granting the depreciation benefit on ATMs. The Calcutta High Court directed the Assessing Officer to pass consequential orders reflecting these findings for the assessment year 2003-04.
This judgment clarifies the application of tax rates for foreign companies operating in India under DTAAs, reinforces the importance of compliance with TDS provisions on international transactions, and expands the scope of assets eligible for higher depreciation in the banking sector.
Bottom Line:
Income Tax - India-Netherlands DTAA - Foreign bank's Indian PE not entitled to domestic company tax rate under Article 24(2) non-discrimination clause - Interest paid by Indian branch to overseas head office/branches disallowable for non-deduction of TDS under Section 40(a)(i) - Interest received by PE from head office/foreign branches taxable in India - ATM to be treated as "computer" for higher depreciation.
Statutory provision(s):
Income Tax Act, 1961 Sections 2(22A), 2(23A), 40(a)(i), 90, 195, 260A; Finance Act, 2001 (Explanation to Section 90); Double Taxation Avoidance Agreement between India and Netherlands Articles 7, 24(2); Income Tax Rules Appendix I Item 2B
