India added a Principal Purpose Test to the Sri Lanka tax treaty, effective FY28, to block treaty shopping and align with global anti-avoidance standards.
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India amended its tax treaty with Sri Lanka to add a Principal Purpose Test, or PPT. The change lets tax authorities deny treaty benefits when a transaction's main purpose is to secure a tax advantage. It targets treaty shopping, where companies route investments through Sri Lanka to claim lower withholding rates.
The amendment aligns the Double Taxation Avoidance Agreement with global minimum standards set by the OECD. The PPT will apply to income earned from the financial year starting April 2028, which runs from FY28.
Treaty shopping has been a persistent concern for Indian tax authorities, especially in treaties with smaller neighbors where corporate tax rates differ sharply. The new rule gives tax officers the power to examine the economic substance behind cross-border arrangements. If the principal purpose test is failed, the treaty benefits are denied at source, not just after an audit.
The amendment follows similar anti-abuse clauses India has introduced in recent years with countries like Singapore and Mauritius. Those treaties also now include a PPT or a limitation-of-benefits clause. The Sri Lanka update brings the last major South Asian treaty without such a provision into line.
The change is effective for income derived after April 1, 2028. No transitional relief has been announced.
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