Brief Overview

The Mumbai Bench of the Income-tax Appellate Tribunal (the ‘ITAT’) in Sky High Appeal XLIII Leasing Company Limited^[1] (‘Taxpayer’) delivered a significant ruling in favour of the appellant, Irish aircraft lessors. The ITAT rejected the Tax Authority’s plea to deny India-Ireland Double Taxation Avoidance Agreement (‘DTAA’) benefits by invoking Principal Purpose Test (‘PPT’) provisions under the Multilateral Instrument (‘MLI’).

The ITAT ruled that MLI provisions cannot be enforced without a separate notification being issued Section 90(1) of the Indian Income-tax Act, 1961 (‘Act’) which specifically incorporates MLI modifications into the existing DTAA. Relying heavily on the Hon’ble Supreme Court's ruling in Nestlé SA^[2], the ITAT held that mere ratification or general notification of the MLI does not, by itself, amend India’s bilateral tax treaties. Any MLI-based modification becomes enforceable under domestic law only when the Government separately notifies the amendment to the concerned DTAA under Section 90(1) of the Act.

The MLI aims to prevent base erosion and profit shifting by incorporating anti-abuse measures, particularly the PPT, into existing tax treaties. However, the critical question before the ITAT was whether these provisions could be applied automatically or required separate domestic incorporation through the issue of a notification under Section 90(1).

Facts of the Case

The Taxpayer, an Irish tax resident engaged in aircraft leasing, leased aircraft to IndiGo, an Indian airline. Key facts include:

• The Taxpayer was part of an established Irish aircraft leasing group
• The Ruling observed that Ireland is recognised as the global epicenter of aircraft leasing hosting 19 of the world's 20 largest lessors and accounting for 60% of global leasing activity
• The Taxpayer held a valid Tax Residency Certificate (‘TRC’) from Irish tax authorities, with Irish directors, bankers, and management being undertaken through licensed service providers
• Leasing activities extended to China and Korea, which demonstrated a diversified international business beyond India
• Three separate dry operating lease agreements were executed in February 2019 with IndiGo, well before the MLI became effective in India on 1 April 2020
• The Taxpayer claimed benefit under Articles 8 and 12 of the DTAA, contending that lease rentals were exempt from tax in India.

Tax Authority's contentions

• Automatic Application of MLI: The Tax Authority’s position was that both the DTAA and the MLI had been duly notified under Section 90(1) of the Income-Tax Act. The DTAA was recognised as a "Covered Tax Agreement" within the framework of the MLI. No separate notification was required to enable the operation of Articles 6 and 7 of the DTAA, which contain the PPT provisions. The Tax Authority relied on the “synthesised text” of the DTAA and MLI to argue that the PPT provisions were already incorporated and applicable.
• Principal Purpose Test Application: The primary purpose of the Irish incorporation was to obtain DTAA benefits, pointing to the ultimate parent’s location in the Cayman Islands as indicative of treaty shopping. The Tax Authority highlighted the lack of substantial economic activity in Ireland beyond basic administrative functions, suggesting that the structure in place was not genuine. Further, the presence of directors holding positions across multiple Irish companies was cited as an indication of artificial arrangements lacking real commercial substance.
• Lease Characterisation and PE Issues: It was contended that the lease arrangements should be characterised as finance leases rather than operating leases. It was asserted that the lessor’s retention of “ultimate control” over the aircraft effectively established a fixed place permanent establishment (‘PE’) in India, since the aircraft were located and deployed in Indian territory.
• Article 8 of DTAA: Article 8 was intended to apply to profits from the active operation of aircraft in international traffic by airlines, and that the "rental" component should be considered ancillary to such operations. Since the Taxpayer was a pure lessor without any airline operations of its own, and the leased aircraft were primarily used on domestic Indian routes, the Tax Authority maintained that the lease rentals could not qualify under Article 8. Accordingly, it was contended that the income should be treated either as business profits taxable in India where a PE was found or alternatively as royalty under the Act.

Taxpayer’s contentions

• Challenge to Automatic Application of MLI: While both the DTAA and the MLI were notified under Section 90(1), the provisions of Articles 6 and 7 of the MLI had not been specifically incorporated into the DTAA through a specific notification. Relying on the Hon’ble Supreme Court ruling in Nestlé SA, the Taxpayer contended that the MLI provisions could not be enforced in India without such a notification being issued. The Taxpayer contended that the "synthesised text" was only explanatory in nature and did not have a binding legal effect.
• Commercial Substance and Genuine Operations: The Irish incorporation was driven by legitimate commercial reasons given Ireland’s well-established and globally recognised aircraft leasing ecosystem. The Taxpayer highlighted its Irish resident directors, effective board control, valid TRCs, and the use of licensed service providers, demonstrated substantive operations in Ireland.
• Global Leasing Footprint: The Taxpayer conducted leasing activities across multiple jurisdictions including China and Korea, evidencing diversified operations, countering allegations that the Taxpayer’s structure was designed solely for India-specific DTAA benefits.
• Rebuttal to PE and Income Characterisation: The lease agreements were classical dry operating leases, not finance leases, with provisions clearly indicating that ownership and title to aircraft remained with the lessor. The operational control and deployment of aircraft were with the lessee. It was contended that the Taxpayer’s protective rights, such as inspection and repossession in case of default did not amount to a fixed place PE in India. It was further submitted that under Article 8, aircraft leasing income forms part of “operation of aircraft in international traffic” and is taxable only in Ireland, irrespective of domestic deployment by the lessee. In addition, Article 12 expressly excludes aircraft rentals from the scope of royalty.

The ITAT Ruling

MLI Requires Separate Notification

• Constitutional and Statutory Requirements: The ITAT relied on the Hon’ble Supreme Court ruling in Nestlé SAwhich held that a notification under Section 90(1) of the Income-tax Act is an indispensable and mandatory prerequisite for any court, authority, or tribunal to give effect to a tax treaty or to any protocol that modifies such an agreement. Any subsequent tax treaty-based modification of an existing tax treaty can only be enforced in Indian law if a specific notification under Section 90(1) has been issued to incorporate that modification domestically.
• The Hon’ble Supreme Court had clarified that unless a specific notification is issued, the original tax treaty remains unaltered and subsequent tax treaty provisions, including MLI, cannot be enforced domestically.
• No Section 90(1) notification to give effect to the MLI provisions as applicable to the DTAA: While both the DTAA and the MLI have been notified, the MLI provisions which are applicable to the DTAA have not been separately notified. Therefore, Articles 6 and 7 of the MLI are not enforceable.
• Synthesised Text Inadequacy: The ITAT described the synthesised text as explanatory in nature, prepared only for ease of reference, and having no binding legal sanctity.

Principal Purpose Test Analysis

The ITAT, while ruling that the MLI is inapplicable due to procedural grounds, observed that mere DTAA benefits or tax-efficient structuring does not by itself trigger PPT if genuine commercial objectives exist. It acknowledged Ireland's recognised status as a global aviation hub and affirmed that utilising a country’s tax treaty network for bona fide commercial reasons is not treaty abuse. The ITAT also noted that the ultimate parent entity being based in the Cayman Islands does not establish treaty abuse, referring to the Bombay High Court’s ruling in Bid Services Division^[3]. The ITAT also held that a valid TRC issued by the Irish Tax authorities creates a presumption of residence and legitimacy, which can only be rebutted by clear evidence of fraud or misuse.

Lease Characterisation: Operating vs Finance Lease

The ITAT thoroughly examined the agreements and held that the leases were operating leases: ownership and title to aircraft rested with the lessor, the aircraft had to be redelivered, and repossession rights were consistent with protective covenants. The ITAT contrasted this with finance lease features and relied on Directorate General of Civil Aviation and Reserve Bank of India circulars, which distinguish operating from finance leases. The ITAT also drew support from the Special Bench ruling in InterGlobe Aviation Ltd.^[4] and other international precedents to hold the nature of the lease to be operating.

Permanent Establishment and Article 8 Protection

The ITAT held that the mere physical presence of aircraft in India which are controlled operationally by the lessee, did not amount to a fixed place PE. The ITAT highlighted that Article 8(1) of the DTAA distinctly treats “operation” and “rental” as separate and independent sources of income, which differs from the narrower OECD Model Convention. The ITAT held that the DTAA does not require that the rental activity be merely incidental or ancillary to the enterprise’s own operation of the aircraft in the context of international traffic.

Conclusion and Way Forward

The ITAT has delivered an important ruling on the domestic implementation of the MLI in India. Relying on the Hon’ble Supreme Court’s ruling in Nestlé SA, the ITAT reaffirmed that DTAA modifications, including the PPT, cannot be enforced without a specific notification under Section 90(1). Looking ahead, an appeal by the Tax Authorities cannot be ruled out given the wider implications of this ruling. The ruling provides another instance where an Indian Tribunal has respected DTAA benefits where commercial substance exists.

Sources

[1] [TS-1085-ITAT-2025(Mum)]

[2] Assessing Officer (I.T.) v. Nestlé SA (2023) 458 ITR 756

[3] Bid Services Division (Mauritius) Ltd. v. Authority of Advance Ruling (Income-tax) [2023] 453 ITR 461

[4] InterGlobe Aviation Ltd. [2022] 95 ITR(T) 586 (Delhi–Trib.)(SB)