India–Sri Lanka Tax Treaty Amended: What Every Taxpayer Should Know

Sri Lanka has officially brought into force the Protocol amending the Double Taxation Avoidance Agreement (DTAA) between Sri Lanka and India. The amendment is aimed at preventing the misuse of tax treaty benefits while continuing to promote genuine cross-border trade and investment.

According to the Inland Revenue Department (IRD), the new provisions will apply in Sri Lanka from the Year of Assessment 2027/2028.

What is a Double Taxation Agreement?

A Double Taxation Agreement (DTA) is an agreement between two countries that ensures the same income is not taxed twice. It also provides certainty to businesses and individuals who earn income in both countries.

For example:

• A Sri Lankan company doing business in India.
• An Indian investor receiving income from Sri Lanka.
• An individual working in one country while residing in the other.

The treaty determines which country has the right to tax the income and provides relief from double taxation.

Why Was the Treaty Amended?

Over the years, some taxpayers around the world have used tax treaties to obtain tax benefits that were never intended by the governments. This practice is commonly known as treaty shopping.

To address this issue, many countries, including Sri Lanka and India, are updating their tax treaties in line with international standards developed under the OECD Base Erosion and Profit Shifting (BEPS) Project.

The objective is simple:

Prevent tax avoidance while protecting genuine business transactions.

What Is the Main Change?

The amendment introduces a rule known as the Principal Purpose Test (PPT).

In simple terms, this means:

If it is reasonable to conclude that one of the main purposes of an arrangement or transaction was to obtain a tax benefit under the treaty, that treaty benefit may be denied, unless granting the benefit is consistent with the purpose of the treaty.

A Simple Example

Suppose a company establishes a business structure in Sri Lanka mainly to enjoy tax treaty benefits with India, without carrying out genuine commercial activities in Sri Lanka.

Under the new rules, the tax authorities may refuse to grant the treaty benefits if they conclude that obtaining the tax advantage was one of the principal purposes of that arrangement.

On the other hand, if a company has real business operations, employees, investments, and commercial reasons for its presence, treaty benefits should continue to be available.

Has the Tax Treaty Been Cancelled?

No.

The Sri Lanka–India Double Taxation Agreement continues to remain in force.

The amendment only strengthens the treaty by ensuring that its benefits are available for genuine commercial activities and not for artificial arrangements created solely to reduce taxes.

When Will the Amendment Apply?

The Protocol was:

• Signed on 16 December 2024
• Approved by the Sri Lankan Parliament on 7 March 2025
• Published through Gazette Extraordinary No. 2443/41 dated 2 July 2025

According to the Protocol, the amended provisions apply:

• In Sri Lanka: For taxable years beginning on or after 1 April of the year following the Protocol entering into force, which means from the Year of Assessment 2027/2028.

Who Should Be Concerned?

This amendment is particularly relevant for:

• Sri Lankan businesses investing in India.
• Indian companies operating in Sri Lanka.
• Individuals earning income in both countries.
• Tax consultants and finance professionals handling cross-border transactions.
• Multinational groups with operations in Sri Lanka and India.

Tax Advisor's View

For most genuine taxpayers, there is nothing to worry about.

The amendment does not introduce a new tax or remove the benefits of the Sri Lanka–India tax treaty. Instead, it introduces safeguards to ensure that treaty benefits are available only where there is a genuine commercial purpose behind the transaction.

Businesses engaged in cross-border transactions should review their existing structures and ensure that they have sufficient commercial substance to support any claim for treaty benefits.

Key Takeaways

• The Sri Lanka–India Double Taxation Agreement continues to remain in force.
• A new Principal Purpose Test (PPT) has been introduced to prevent treaty abuse.
• Genuine business transactions will continue to enjoy treaty benefits.
• Artificial arrangements created mainly to obtain tax advantages may no longer qualify.
• The amendment applies in Sri Lanka from the Year of Assessment 2027/2028

 Read More : No. 2443/41-India Sri Lanka Double Taxation Agreement Amendment