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Jul 24 2026
17India's recent amendment to its Double Taxation Avoidance Agreement (DTAA) with Sri Lanka is more than a routine treaty update. According to Deloitte Sri Lanka, it reflects a global shift towards stronger measures to prevent tax avoidance and raises an important question, should Sri Lanka now modernise its own tax treaty framework to keep pace with international developments?
The Protocol amending the India–Sri Lanka DTAA was signed on 16 December 2024 and entered into force on 19 June 2026 after both countries completed their domestic procedures. India notified the Protocol on 16 July 2026, and the amendments will apply in India for fiscal years beginning on or after 1 April 2027.
The Protocol introduces two key changes that make it harder for businesses to use tax treaties purely to reduce their tax liabilities.
· First, it updates the treaty's preamble to clarify that the Convention is intended to eliminate double taxation without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance, including through treaty-shopping arrangements.
· Second, it introduces the Principal Purpose Test (PPT), an internationally recognised rule designed to prevent treaty abuse. In simple terms, if a business structure has been set up mainly to gain a tax advantage, the tax treaty benefits may be denied. Genuine commercial investments remain protected, while arrangements with little real business purpose may no longer qualify for treaty benefits.
These amendments implement the OECD/G20 Base Erosion and Profit Shifting (BEPS) Action 6 minimum standard on preventing treaty abuse. Many of India's treaty partners adopted these standards through the Multilateral Instrument (MLI). Sri Lanka, however, has not joined the MLI, meaning that treaty modernisation can only occur through bilateral negotiations. From Deloitte's perspective, these developments highlight the growing importance of ensuring tax treaties support genuine business activity while preventing their misuse.
The changes also highlight a broader issue for Sri Lanka. As Sri Lanka has not adopted the Multilateral Instrument (MLI), updating its tax treaties requires separate negotiations with each treaty partner. This can slow treaty modernisation and create inconsistencies across Sri Lanka's treaty network until broader reforms are introduced.
Sri Lanka’s domestic rules alone may not always be enough to address treaty abuse because eligibility for treaty benefits is usually determined by the treaty itself. Where a treaty does not contain modern anti-abuse provisions, uncertainty can arise over whether domestic rules alone are enough to prevent treaty abuse. As international tax standards increasingly focus on whether a business has a genuine commercial purpose, rather than simply meeting legal requirements on paper, it becomes even more important for domestic laws and tax treaties to work together.
This approach applies across many types of cross-border transactions. For example, if a company is set up mainly to obtain tax treaty benefits rather than for genuine business reasons, the tax authorities may refuse to grant those treaty benefits. In such cases, the transaction itself is not disallowed, but the business may lose the tax benefit offered by the treaty and become subject to the normal domestic tax rules.
Similarly, the same substance-based approach may also be relevant to certain cross-border intra-group service arrangements. Under many of Sri Lanka's tax treaties, payments for management and other intra-group services are generally not characterised as royalties and, with limited exceptions, may fall outside the scope of source-country withholding tax. Where treaty protection is relied upon, tax authorities are increasingly likely to examine whether the underlying arrangements reflect genuine commercial substance and business purpose, rather than merely the legal form of the transaction.
Commenting on this, Charmaine Tillekeratne, Partner and Head of Tax at Deloitte Sri Lanka and Maldives, said:
“International tax rules are evolving rapidly, and businesses should view these changes as an opportunity to strengthen governance and ensure their cross-border structures are built on genuine commercial purpose. Taking proactive steps today can help organisations manage future regulatory changes with greater confidence.”
Whether the transaction involves holding structures, financing arrangements, licensing, intra-group services, or indirect transfers, the common question increasingly being asked by tax authorities is not simply whether the legal requirements have been met, but whether the arrangement is supported by genuine commercial purpose and economic substance.
Deloitte encourages businesses operating between India and Sri Lanka to look beyond the legal form of their companies and focus on building transparent, well-governed investment structures. Businesses that rely on treaty benefits should review their arrangements to ensure they are supported by genuine commercial purpose and a clear business rationale.
Deloitte believes these developments provide an opportunity for Sri Lanka to modernise its tax treaty network and align it with evolving international standards. A modern treaty framework can help protect the country's tax base while supporting sustainable cross-border investment. Deloitte remains committed to helping organisations navigate these changes and respond confidently to an evolving global tax landscape.
About Deloitte Sri Lanka and Maldives
Deloitte Sri Lanka and Maldives is a multi-disciplinary professional services firm that is part of the Deloitte network. Deloitte offers a range of services, including Audit & Assurance, Tax, Strategy, Risk & Transactions, and Technology & Transformation. Deloitte is among the largest professional services networks globally, with a presence in over 150 countries and more than 450,000 professionals.
