Why Switzerland Had to Suspend India's MFN Status: Implications for Indian businesses and exports

In a significant development, Switzerland has suspended India's Most Favored Nation (MFN) status under their Double Taxation Avoidance Agreement (DTAA), effective January 1, 2025. This move comes in response to India's Supreme Court verdict in the 2023 Nestle case, where the company sought more favorable dividend tax rates of 5% instead of 10%, citing that companies from OECD member states (like Lithuania and Colombia) enjoyed such preferential rates. While the Delhi High Court initially supported this interpretation in 2021, the Supreme Court's reversal has triggered this response from Switzerland.

The MFN clause, though varying in treaties with different countries, fundamentally aims to ensure non-discriminatory tax treatment among countries within blocks like the Organisation for Economic Co-operation and Development (OECD) - a forum for standardizing international economic policies. In India's DTAA with Switzerland, the clause appears to mandate automatic extension of the lowest tax rates granted to any OECD member, without specifying conditions about membership timing or agreement dates.

While not considering India as “most-favored” appears to be an offensive stance, there was no other mechanism that the Swiss could have employed to match the tax rates in India.

On the Supreme Court's Interpretation

However, the Supreme Court's interpretation centered on the timing of OECD membership - Lithuania and Colombia joined OECD after their favorable tax treaties with India were signed. While the complete reasoning behind this interpretation remains complex, it highlights how legal interpretations of international tax clauses can vary significantly, even within the same jurisdiction, often influenced by historical precedents.

This development impacts approximately 140 Indian companies operating 180 entities in Switzerland, predominantly in technology (32%) and life sciences (21%). Major players like TCS, Infosys, and Dr. Reddy's Labs could face increased dividend taxation. India's exports to Switzerland, primarily organic chemicals valued at $535 million in 2023, might also face pressure, particularly since many of these exports support Indian pharmaceutical operations in Switzerland.

There's potential for other OECD nations to follow Switzerland's lead, a scenario the government should prepare for. While some experts suggest retaliatory measures such as imposing higher tariffs on imports from Switzerland ($10 billion in April-September FY25) - it's crucial to understand that Switzerland's action is reciprocative rather than initiatory.

Switzerland's Limited Options

Switzerland's MFN suspension was necessary purely from a tax enforcement perspective to match the rates applied to Nestle in India, as no other treaty mechanism existed for such adjustment. While not considering India as “most-favored” appears to be an offensive stance, there was no other mechanism that the Swiss could have employed to match the tax rates in India.

Importantly, this development should not affect the recently signed Free Trade Agreement with EFTA countries, which promises $100 billion in investments over 15 years. This situation underscores the need for India to address the perception of tax discrimination by foreign nations and ensure clarity and consistency in its tax treaties. By proactively engaging with treaty partners and refining treaty language, India can foster a more predictable and welcoming investment environment.

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*Also see https://x.com/swaminathankp/status/1849781037355978928