International taxation is all about taxation in other countries. It is best regarded as the body of legal provisions of different countries that covers the tax aspects of cross-border transactions. Another thing is that it includes both direct and indirect taxes. In other words, we can say that it is the study of tax beyond the National level as it covers the aspects of international tax provisions and rules enacted by the authority.
We are all aware of the Indian Taxation provisions and rules but now persons also deal in international transactions considering all the International Tax perspective that is why it is more demanding to understand it so.
International taxation is the study or determination of tax on a person or business entity subject to the tax laws of different countries or the international aspects.
Types of International Taxation:-
International tax law is generally found in International Tax Agreements that are Double Taxation Agreements (DTAs) – the most common type of international taxation.
DTAA is also a treaty and the Treaty is also explained in the Vienna Convention on the law of tax treaties 1969. The international tax Perspective encourages DTAA provisions so as to develop the Economy more.
An international taxation agreement is a contract between the states which is governed by international law which can either be in a single instrument or its particular designation.
DTAA is actually an agreement between two or more countries. Accordingly, the tax will be imposed thereon as per agreement. On the other hand Terms and conditions will be strictly followed in this case.
In other words, DTAA is an agreement between the countries for resolving the tax issues of income and this agreement increases transparency and also works on tax evasion.
Significance of DTAA:-
The highlights of DTAA are as follows:-
- Avoidance of double taxation in both countries.
- Tax is recovered if doubled tax is there from the countries.
- Fairly distribute the taxing rights between the countries.
- Increased transparency of tax evasion.
Applicability of DTAA:-
The tax treaty is applicable to both the parties agreed to enter into an agreement. For establishing the applicability you need to understand the concept of residence.
The residence is divided into 2 parts:-
- For individuals:-
An individual is liable to tax according to his residence, Place of incorporation, Place of management but excludes the one who is liable to tax in respect only of income from the source in that particular state.
A person who becomes a resident of two or more states then, he shall be called a dual resident. Such residency is known as dual residency.
But it is the need of the hour that the dual residency needs to be broken and the individual must assign a single residency.
- For legal entities or corporations:-
Residency tests for the legal entities and corporations will be their “Place of Effective management” (POEM) or Place of the incorporation.
The most reliable test to know the place of residency of the business entity is Place of Incorporation or the legal entity as the case may be. The reason Place of Incorporation is considered as Reliable due to Business can’t be changed over time, So it shall be fixed over the lifetime while the place of business can be changed as per the changing time that’s why the place of incorporation is more reliable than a place of business.
Place of effective management is less certain as now business entities change their place of business and this will create problems and confusion.
This is how we determine the residency of the person whether he is of any domicile and once he becomes the resident of one of the states he can apply for the avoidance of double taxation.
General interpretations of principles:-
- Treaty or the agreement shall be made as per the consent of the parties, the terms and conditions must have the permission of both the states.
- If in the agreement there is more than one language then, there is one interpretation that can be understood by both the states.
- Tax treaties must be relieving in addition to that it also must not impose the tax.
- For the language of the agreement, there must be an interpretation of the same.
- It is presumed that words which are not explained in the treaty shall mean as per the domestic law of the state.
- This agreement is made to avoid double taxation and relief from the payment of the tax imposed by the domestic laws of the state.
- If there is ambiguity in the provisions of the treaty then, the interpretation that must be adopted should be harmonious for both the states.
Determination of DTAA:-
There are several models of DTAA are available so, some steps must be followed which DTAA is applicable which are as follows:-
Step 1-Whether the Transactional Income is taxable or not under the Income Tax Act, 1961.
Step2- whether one of the parties is a resident outside India or any Foreign company.
Step 3- residential status must be determined.
Step 4- a treaty between the parties in which one of the parties is an Indian resident and the other is a Foreign company or resident outside India.
Foreign subsidiary Taxation:-
As per the Income Tax Act, 1961 a company is said to be resident in India in any previous year, if:
(i) It is incorporated in India or
(ii) Control and management of its affairs are situated wholly in India that particular Year.
For deciding the residential status of company companies can be classified into two ways:-
- Indian Company- which is incorporated in India and its whole business affairs is in India.
- Foreign Company- it shall be considered resident in India if the control and management of the company is wholly in India during the relevant previous year.
Dividends of foreign subsidiaries when declared are included in its taxable income of the Indian company. Profits that are not distributed by the foreign subsidiary shall not be taxed in the hands of the Indian company. Treaties often provide that lower foreign withholding tax should be levied. The dividend is also in the purview of the International Tax perspective that must be taken care of.
The distribution of liquidation to an Indian company by a foreign subsidiary shall be treated as dividends to the extent it is right to participate in accumulated profits up to the date of liquidation. Liquidation proceeds provisions must comply with the Rules of International Taxation. The balance shall be treated as a return of capital and taken into account in determining the capital gain or loss on the shares held on the liquidation of a foreign company.
Not only DTAA or Dividend income but also Interest Income must be taken into consideration in respect of the International Taxation.
Interest from foreign subsidiaries shall be fully taxable in the hands of the Indian companies. The credit is also allowed for foreign tax withheld or paid, up to the Indian tax on the interest amount.
Royalties and fees for technical or professional services:-
Indian companies and other residents are allowed a deduction equal to 50 percent of the royalties and fees for technical and professional services received which is allowed by the foreign government and any other royalties and fees for technical services are taxable in full.
Either it’s related to trade or other transaction, rules must be followed while keeping in mind the International Tax perspective provisions