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The Special Bench, inter alia, observed as follows:

30. The assessee in this case is the corporate body and its branches are paying interest to its head office and other offshore Branches, i.e., the payment is by one wing of the assessee to its other wing or so to say by one hand to another. The tax is to be deductible under Chapter XVII-B of the Act and in case of a payment to non-resident it is Section 195 of the Income Tax Act. This section provide that "Any person responsible for paying to a non-resident, not being a company, or to a foreign company, any interest or any other sum chargeable under the provisions of this Act not being income chargeable under the head 'Salaries' shall, at the time of credit of such income to the account of the payee or at the time of payment thereof in cash or by the issue of a cheque or draft or by any other mode, whichever is earlier, deduct income-tax thereon at the rates in force." The Branch/PE of the assessee in India is not a person in legal terminology. The person is the Corporate Body-ABN Amro bank NV and not its Branch or the PE. This is also evident from the fact that assessment in this case is made on the Corporate Body-ABN Amro bank NV and not on its Branch or PE. We, therefore, find force in the assessee's contention that the provisions dealing with deduction of tax at source under Section 195 pre-supposes the existence of two distinct and separate entities which is absent in the present case. On both the grounds therefore Section 40(a)(i) does not come into play. Disallowance of interest on this by invoking the provisions of this section would not be justified.

8. As regards the question of impermissibility of artificial disallowances by the virtue of the provisions of Article 7(3), there is no specific finding by the Special Bench. We reproduce below the entire paragraph, on which learned Counsel has placed the reliance, for ready reference:

50. On a close reading of these provisions, we find that Clauses 1, 2, 5, 6 and 7 of Article 7 of the Japanese Double Taxation Avoidance Agreement are similarly worded as Clauses 1, 2, 4, 5 and 6 of Netherlands Double Taxation Avoidance Agreement. Clause 3 of the Japanese Double Taxation Avoidance Agreement merely incorporates the first part of Clause 3(a) of Netherlands Double Taxation Avoidance Agreement and the proviso placing a restriction by the law of the State in which PE is situate are not incorporated. Again, Clause 3(b) of Netherlands Double Taxation Avoidance Agreement which prohibits allowance of certain expenditure is also missing in Japanese Double Taxation Avoidance Agreement. There is no other material difference between the two treaties. As pointed out by the learned Counsel of the assessee; there are no restrictive covenants in Article 7 for allowance of expenses incurred for the purposes of PE either by the prefix of the words "in accordance with the provisions of the law of that State" or by the suffix words "and subject to limitations of taxation laws of that State". This may be one of the other alternate reasons for not invoking the provisions of Section 40(a)(i) of the Income Tax Act for disallowing the payment of interest in computing the income of the assessee through the PE. However, here also, the deeming fiction of treating the PE as a different and separate entity dealing wholly independently with the enterprise in Clause 2 of the Article 7 of Japanese Double Taxation Avoidance Agreement or for the specific purpose of computing the income attributable to the PE and not for any other purposes. Therefore, for the reasons stated above while dealing with the Netherlands Double Taxation Avoidance Agreement, we hold that no tax was required to be deducted under Section 195 of the Act from the payment of interest by the PE to its head office or other offshore branches of the assessee-enterprise, Bank of Tokyo. We, therefore, uphold the order of the Commissioner (Appeals) in vacating the order under Section 201 of the Act by holding that the assessee was not in default in deducting the tax at source.

10. The Canadian Federal court had an occasion to deal with the question whether a tax treaty, when providing that 'in determining the profits of a PE, there shall be allowed as deduction, expenses which are incurred for the purposes of the PE, including executive and general administrative expenses so incurred, whether in the State in which PE is situated or elsewhere' enable the deduction of items not permitted by domestic law, so that non-residents are better off than residents. Even without the aid of a provision similar to one which exists in Article 25(1) of the India-UAE tax treaty, the court answered this question in negative and decided the issue against the taxpayer. In the case of Utah Mines v. The Queen 92 DTC 6194 : (1992) 1 CTC 306, and while dealing with the issue whether in view of the provisions of Article 7(3) of Canadian-US tax treaty, royalties paid by PE of US company to the provincial government, which were not tax deductible under the Canadian domestic tax law, could be allowed as deduction, the court observed:

9. This issue has also been considered by us while adjudicating upon assessee's appeal for the assessment year 1996-97, which was heard alongwith this appeal. Learned representatives have fairly agreed that our decision on the appeal for the assessment year 1996-97 will apply on this year as well. In our decision dated 13-4-2007 on the said appeal, we have, inter alia, observed as follows:

28. It is also important to bear in mind that provisions of a tax treaty, override domestic law in India, by the virtue of specific provision to that effect in the Income Tax Act. Therefore, this superior position of the tax treaties vis-a-vis domestic law is subject to the conditions so laid down in the 'enabling provision set out under Section 90 of the Act. Now, this enabling provision itself clarifies that differential tax rate between a domestic company vis-a-vis foreign company shall not be construed as discrimination against the foreign companies. To that extent, therefore, overriding effect of the tax treaty provisions is nullified, and the provisions of Article 26(2) of India-UAE tax treaty have to be construed in the light of this limitation. Article 26(2) of the India-UAE tax treaty provides that, "the taxation of a permanent establishment which an enterprise of a Contracting State has in the other Contracting State shall not be less favourably be levied in that other State than the taxation levied on enterprise of that other carrying on the same activities in same circumstances or under similar conditions". In our view, the basic mandate of Article 26(2) of India-UAE tax treaty is that a permanent establishment, in one State, of a non-resident enterprise must not be taxed any less favourably that the enterprise of that State. To that extent, we agree with the learned Counsel. However, we do not think that for the purpose of this comparison, it is possible to ignore the form of ownership. A comparison can only be made with comparables. Under Article 3(1)(g), the expression "enterprise of a Contracting State" has been defined "as an enterprise carried on by the resident of that Contracting State". And, on the basis of definition of 'resident' under Article 4(1) and of 'person' under Article 3(1)(e), the expression 'resident* refers to "any individual, a company, and any other entity which is treated as a taxable unit under the taxation laws in force in the respective Contracting States, who, under the laws of that State, is liable to tax therein by the reason of his domicile, residence, place of management, place of incorporation or any other criterion of similar nature". The form of ownership, therefore, becomes relevant. An enterprise cannot be considered in isolation with the person [i.e. individual, company or co-operative society etc.] which carries it on. It is also important to bear in mind that a PE has no distinct form of ownership; the ownership characteristics of a PE have to be the same as that of the enterprise of which it is a PE. Therefore, in a case PE belongs to a banking company formed in UAE, and taxable units of that banking company is "company", such PE can only be compared with a domestic enterprise in India which is assessed as "company" and carries on the same business. In the present case, the assessee before us is admittedly a company incorporated in the UAE, and, therefore, for the purposes of Article 26(2), PE of the assessee can only be compared with a domestic company carrying on the same activities in the same circumstances or similar conditions. The plea of the assessee, therefore, does not meet our approval.