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Tax Treaty Structuring
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What Tax Treaties are and how they Work
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The problem side of international double (or multiple) taxation occurs when the
tax authorities of two or more countries concurrently impose taxes having the same
bases and incidence, in such a way that a person incurs a heavier tax burden than
if he were subject to one tax jurisdiction only.
The cause of double taxation lies in the fact that the various possible connecting
factors between taxing jurisdictions on the one hand and taxpayers on the other
are not mutually exclusive.
These connecting factors may relate to a quality of the taxpayer (e.g., citizenship,
residence, domicile, place of incorporation, etc.), of the income (real or deemed
source usually constituting the relevant link), or of the property (usually situs,
but sometimes source, being material).
One of the most common cases of overlapping tax jurisdictions is the combination
of residence taxation and source taxation. This would occur, for example, where
a taxpayer who is resident in a country that taxes on worldwide income derives income
from a foreign country that imposes tax on the basis of source. If there were no
Tax Treaty between the two countries nor any unilateral measures in either country
to protect him from having to pay tax twice in respect of the same income, he would
be subject to a double tax burden, which could conceivably even exceed the total
amount of the income in question.
However, it may also occur that more than one jurisdiction regards an individual
or a company as resident for tax purposes.
Just as criteria of residence are not mutually exclusive, so too criteria of source
may not be mutually exclusive.
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Relief Provisions
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Many tax systems provide a measure of unilateral tax relief in cases of double taxation.
Tax Treaty provisions regulating bilateral tax situations often differ in material
respects from the unilateral provisions normally applied by the contracting parties.
Unilateral and treaty provisions normally provide for one of the following types
of relief:
- tax exemption, whereby all or part of the taxpayer’s foreign source income or foreign
situs property is excluded from the taxable base (it is frequently a condition that
such income or property should have been subjected to tax in the foreign country);
- tax credit, whereby foreign tax, paid or payable, is credited against the taxpayer’s
domestic tax bill;
- tax reduction, whereby foreign tax, paid or payable, is deductible from the domestic
taxable base; and
- reduction in the rate of tax, whereby foreign income or assets are taxed domestically
at a lower rate.
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Prev - What Tax Treaties are and how they Work
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