International Taxation: Concepts, Terms, and Principles
International Taxation Concepts
This document covers key concepts in international taxation.
WWI: World Wide Income
World Wide Income (WWI) refers to the situation where a person or company is legally required to pay income tax in a country. It applies when a company has a subsidiary in another country, and both entities must pay income tax. The sum of both incomes constitutes WWI.
CIT: Corporate Income Tax
Corporate Income Tax (CIT) is the tax imposed on companies.
Types of Tax Residence (Domestic Law)
Tax residence depends on the number of days lived in a country:
- Individuals (persons): Tax paid to the tax authority when working.
- Companies (legal persons): Tax paid to the tax authority when the company is registered in the country. Subsidiaries also pay taxes in the same country as the parent company.
- Domicile (house, building, residence, place of management…): Tax paid to the tax authority for owning property in that country.
Double Taxation
Double taxation is divided into two parts: economic and juridical.
Juridical Double Taxation
- Comparable taxes by two or more tax jurisdictions, SAME taxpayer and same taxable income or capital.
Economic Double Taxation
- Comparable taxes by two or more tax jurisdictions, DIFFERENT taxpayer and same taxable income or capital.
Double taxation may be domestic when a company has a subsidiary and must pay tax in both countries.
- TAX TREATY CASES
OECD model: The agreement (treaty) of the European Union related to fiscal operations.
Withholding Tax
Tax on income imposed at source. A third party deducts the tax from certain payments and remits it to the government. It applies to dividends, interest, royalties, and similar payments.
Subsidiary
A company in which another company (the parent company) holds a substantial participation (typically a controlling interest).
Permanent Establishment
A non-resident’s business presence in a country sufficient to justify that country’s taxation of the attributable profits.
Subsidiary: A company in which another company holds a substantial participation. It is owned, even if located in another country.
Permanent establishment: A non-resident’s business presence in a country sufficient to justify that country’s taxation of the attributable profits. A company does business (sells but does not produce) in another state. It is not registered. It has an establishment in the other country, but it is not owned.
Relief of Double Taxation
- Exemption method: The country of residence exempts income derived from or capital situated in the other country.
- Credit method: Taxes imposed on foreign income may be credited against domestic tax on that income.
1. Exemption method (applies in the country generating the external income, the country of origin). For example, if a company in Germany generates income, it is exempt from taxes in Germany, but you must pay the total income from both sides (Spain and Germany).
2. Foreign tax credit method: (Taxes imposed on foreign income may be credited against). Taxes are paid both abroad and in the country of origin. Example: €100 profit abroad, you pay 20% tax (€20), paid abroad. When paying in Spain, you must add the €20.
Source of Income
The place (typically country) where a particular item of income is deemed to originate – where your income comes from.
Income Exemption vs. Tax Exemption
Income Exemption
Only income from your country is considered. If a company in Spain generates income and also has income from another state, only the income generated in Spain is taxed.
Tax Exemption
It is a progressive tax system. The more you earn, the more you pay.
Tax Avoidance, Evasion, and Havens
Tax Avoidance
The use of legal methods to modify an individual’s financial situation to lower the amount of income tax owed. For example, moving a company to a country with lower taxes (legal).
Tax Evasion
An illegal practice where a person, organization, or corporation intentionally avoids paying their true tax liability.
Tax Haven
A country that offers foreign individuals and businesses little or no tax liability in a politically and economically stable environment. For example, countries where individuals move their money to avoid taxes.
Abuse of Law
Anti-avoidance doctrines under which the legal form of an arrangement or transaction is ignored.
Harmful Tax Competition
Harmful tax competition generally takes the form of special tax regimes or incentives offered by countries to maintain an internationally competitive business environment.
Controlled Foreign Corporation (CFC) Tax
Used to ensure that foreign companies in your country pay taxes and are controlled to avoid tax evasion. If you have an independent company, you do not have to pay this tax.
Transfer Pricing
Setting the price for property (goods) and services sold between controlled (or related) legal entities (associated enterprises). For example, if a subsidiary sells goods to a parent company, the cost of those goods paid by the parent to the subsidiary is the transfer price. It only works when the parent company owns at least 50% of the subsidiary; otherwise, they are two independent companies.
Arm’s Length Principle
In a competitive market, you cannot buy a product cheaply and sell it more expensively. It ensures that both parties in the agreement act in their own interest and are not subject to pressure or coercion from the other party.
- Resale Price Method
International Tax Principles
- Nationality: According to the OECD, a national is any individual with nationality, a contract with the state, papers (a legal person), or a partnership or association with a contract with the state. For a business, it is when you have a corporate seat, registered office, central administration, or principal base of business.
Equal Treatment
Taxes should impose equal sacrifice – there is no discrimination. It is a principle of non-discrimination in EU tax law. It is a general principle of taxes imposed in one country or another to pay the same interest rate in both countries. This means there is no discrimination in the legal area of the EU.
National Treatment
How a national is treated according to the ECT model. National treatment is considered synonymous with or an alternative to not discriminating against a national in national territory. This must be in the EU legal system. If someone comes to your country, they must be treated equally as a national because they are a resident.
There are 2 treaties: the OECD, used for the above (J&EDT), and the ECT, used if there is discrimination, justification, and proportionality.
EC Treaty Freedom – Free Movement
- Discrimination vs. Restriction – Discrimination is when a foreigner comes to Spain, for example, and is treated differently in a comparable situation or treated equally in a non-comparable situation. Restriction is when a national has some restrictions inside their own country.
- Justification: Justification for discrimination and whether it is acceptable.
- Coherence of the tax system: There is no direct link between the favorable part of Spain and the discrimination of the foreigner.
- To avoid tax avoidance
- Public health
- Public security
- Public policy
- Proportionality: A justification must be proportionate, meaning that the measure must be appropriate to the objective in question and must not go beyond what is necessary to achieve that objective.
EU Directives and VAT
Directive
A Directive is addressed to the Member States and requires them to make changes to their domestic legislation to satisfy a provision of one of the EU treaties.
Merger
When two companies become one (company A to company C). This facilitates economic growth.
VAT (IVA)
A value-added tax (VAT) is a type of consumption tax placed on a product whenever value is added at a stage of production and at final sale.