1D AV.V.

\
By — Akhilesh shukla
CA Final
SYNOPSIS
O Introduction
0 Concept of Double Taxation
ODTAA
O Sec 90 & 91 of IT Act 1961,
OWHY DTAA
QO Treaty Override
QO Composition of DTAA
O Methods of elimination of Double Taxation
Q0 Double Non Taxation
O Asseesse’s Approach to DTAA
0 Some Practical issue’s
 Double Taxation
Those who are migrating to other countries to earn a living have to
pay taxes in their country of residence as per prevalent taxes laws
of the country. However, it is quite likely that these people have
certain investments in their home country, India, and they are liable
to pay taxes on gains made from such investments in India. So far
this is fine and surely acceptable to all concerned.

The problem arises when they are told that as per the globally
accepted norms, if a taxpayer is resident in one country but
has a source of income situated in another country, there is a
situation at hand where his income is taxed in both countries, or
Double Taxation occurs
CONCEPT OF DOUBLE TAXATION

O JURISDICTIONAL DOUBLE TAXATION - One and the

same person is taxed on the same income in more than
one state. This may happen for one of the following
reasons:
= Residence in one state and source in another state
* Triangular taxation
0O ECONOMIC DOUBLE TAXATION - Two separate persons
are taxed on the same income in more than one state
* Foreign income taxed in the hand of overseas company
distributing dividend and dividend taxed in the hands of
sharcholder
* Taxation in source country in the hands of a partnership
entity whereas in the residence county, partners of such
partnership are taxable
Hence need for elimination of Double taxation!
DOUBLE TAXATION AVOIDANCE
AGREEMENT

Definition - It is a formally concluded & ratified agreement

between two independent (Bilateral treaty) or more than two
independent (Multilateral treaty) nations on matter concerning
taxation.

These treaties are based on the general principles laid down in

the model draft of the Organisation for Economic
Cooperation and Development (OECD) with suitable
modifications as agreed to by the other contracting countries.
KINDS OF DTAA
There are different models for DTAA are available but
agreement are categorised on the basis of scope

0 Comprehensive agreement : Scope addressed to all sources

of income
Hlustratively : USA,UK

0 Limited agreement : Scope only cover :

Illustratively : Lebanon , Pakistan
® Income from operation of aircrafts & Ships
= FEstates
* Inheritance
* Gifts
 DTAA PROVIDES BILATERAL RELIEF TO THE ASSESSE
UNDER SECTION - 90 OF INCOME TAX ACT, 1961

Sec
- 90

(1) The central govt. may enter into an agreement with the govt. of any
country outside India,-
For the granting of relief or
For the avoidance of double taxation of income
for the prevention of evasion or avoidance of income-tax
for recovery of income-tax

(2) Where the Central Government has entered into an agreement,

under sub-section (1) for granting relief of tax then the provisions of
this Act shall apply to the extent they are more beneficial to that assesse.

WHAT IF THERE IS NO DTAA BETWEEN

TWO COUNTRIES ?
THEN ASSESSE CAN GET UNILATERAL RELIEF
UNDER SECTION - 91 OF INCOME TAX ACT, 1961

Requirements :
0 There is no DTAA with that country:
0 Income has accrued or arisen outside India and is doubly taxed
O Taxes have been paid in the source country
0 Items of Income not covered under DTAA cligible for credit

Reliefs :
Q Deduction from the Indian income-tax payable by him of a sum
calculated on
* such doubly taxed income at the Indian rate of tax,
OR
= the rate of tax of the said country,

O Whichever is the lower, OR

Q The Indian rate of tax if both the rates are equal
UNILATERAL RELIEF - ILLUSTRATION

Income in India 150,000 150,000

Income in foreign country 100,000 100,000

Global income 250,000 250,000

Tax rate in India 30% 30%

Income tax on global income

Indian tax on foreign income

Foreign tax on foreign income

Unilateral tax relief as per the Act — Lower of (B) or (C)

Tax payable in India (A) - (D)
WHY DTAA ?
O Free flow of international trade and investment.
Q Protection against double taxation
0 Prevent discrimination between tax payers
O Mutual exchange of information
QO Legal and fiscal certainty
0 Acceptable basis to share tax revenue between states
0 Encourage transfer of technology
O Encourage settlement of international disputes by arbitration
TREATY OVERRIDE

The DTAA override the provisions of the domestic statute. Moreover,

with the insertion of
Sec.90 (2) in the Indian Income Tax Act,

Assessee can avail benefit of bilateral agreements between

contracting state;
OR
Assessee can choose to be governed by Indian tax laws
IMPORTANT TERMS FOR TREATY

O Contracting State - country which enters into Treaty

0 State of Residence- Country where a person resides
O State of Source- Country where income arises
0 Enterprise of a Contracting State- Any taxable unit
(including individuals of a Contracting State)
0 Permanent Establishment - A fixed base of an enterprise
in the state of
QO Source (usually a branch of a foreign company and in
some cases wholly — owned subsidiaries as well)
Q Income arising in Contracting state - Income arising in a
State of a source
COMPOSITION OF DTAA/TREATY

Content

Scope of the Convention To whom applicable

es covered Specific taxes covered
General definition Persons, company enterprises, international
traffic, competent authority
Resident ‘Residence’ of a contracting state who can
access treaty
Permanent What constitutes P.E.?
Establishment What does not constitute P.
Income from Immovable Immovable property and income there from
Property
Business Profits Determination and taxation of profits
rom business carried on through PE.
Heading Content

Shipping, Inland Place of deemed accrual of profits ari

waterways & Air activities and mode of taxation thereon
Transport
Associated Enterprises Enterprises under common management and
ion of profits owing to close connection
(other than transactions of arm’s length nature )

Dividend Definition and taxation of dividends;

Concessional rate of tax in certain situations
Interest Definition and tion of interest;
Concessional rate of tax in certain situations
Taxation of interest paid in excess of reasonable
rate, on account of special
relationship;
Royalties Definition of Royalties- what it includes and
covers, and its taxation;
Treatment of excessive payment of royalties due
to special relationship;
Country where taxable.
Article | Heading
No
Capital Gains Definition- Taxation aspect;
Concessional rates/exemption from tax if any;
Country where taxable.
Independent Personal Types of services covered;
Services Country where tz
Dependent Personal Definition
Services Country where t
Directors Fees and Definition
Remuneration for Top Mode of Country where taxable.
Level Managerial official
Income earned by Types of activities covered;
entertainer and athlete Mode of Country where tax
Pension and social security Country where taxable.
payments
Remuneration and Types of remuneration and Country where
pensions in respect of able.
government services
Heading Content

Payment received by Taxation / Exemption of payments received by

students and student and apprentices.
apprentices
Other Income Residual Article to cover income not covered
under other ‘Articles’, mode of
taxation and country where taxable
Capital (Tax on wealth) Definition — made — and country where taxable
Method of elimination Exemption Method / Credit Method
Non Discrimination (Equitable) Basis of taxing Nationals and citize
of foreign state
Mutual Agreement Where taxation is not as per provisions of the
Procedure convention, a ‘person’ may
present his case to Competent Authorities of
respective states.Procedure in such cases
xchange of Information Competent Authorities to exchange information
for carrying out provis
of the convention.
Methodology:
[ Heading Content

istance in collection of
taxes
Diplomatic agents and Privileges of this category to remain unaffected
Consular corps (Officers)
Territorial Extension
Entry into force Effective date from which convention comes
into force;
Assessment year from which it comes into force.
Termination Time — Notice period — Mode.
 ELIMINATION DOUBLE TAXATION AS PER DTAA

CIOECD Model Convention —Article 23

Article 23 deals with the Treaty relief from double taxation where the same
income or capital is taxed by more than one state under the Treaty
® As the prior taxing rights remain with the source state, the relief provisions
apply to the residence state only.
® Residence state to clect from the following methods:
= Exemption method (Article 23A) which considers ‘income”
= Credit Method (Article 23B) which considers ‘tax’
* A contracting state may also use a combination of the two methods.

QUN Model Convention — Article 23

* UN Model also specifies ‘Exemption Method’ (Article 23A) and ‘Credit
Method’ (Article 23B) to be adopted by residence state.
* The UN Committee provides for investment incentives through tax sparing
credits.
* Countries, remain free to adopt these investment incentives
 BILATERAL RELIEF - METHODS

-ul exemption
" Exemption
o
with

Ordinary
Credit
EXEMPTION METHOD

O UNDER THIS METHOD, THE RESIDENCE COUNTRY EXEMPTS

THE INCOME
ARISING IN THE SOURCE COUNTRY

0 INCOME WOULD BE CHARGEABLE TO TAX ONLY IN THE SOURCE COUNTRY

0 GENERALLY PREFERRED IN DTAAS BETWEEN A DEVELOPED COUNTRY

AND DEVELOPING COUNTRY, AS THE DEVELOPED COUNTRY WOULD
GENERALLY BE EXPORTING CAPITAL AND TECHNOLOGY TO DEVELOPING
COUNTRY
D EXEMPTION METHOD - CONCERNS

® REDUCES THE TAX SHARE OF RESIDENT STATE

® ENCOURAGES USE OF LOW-TAX COUNTRIES AS SOURCE STATE

® MAY RESULT IN DOUBLE NON-TAXATION (EXPLAINED LATER) WHERE SOURCE COUNTRY

EXEMPTS SUCH INCOME

CREDIT METHOD

D UNDER THIS METHOD, THE RESIDENCE COUNTRY EXEMPTS THE TAXES PAID

IN THE SOURCE COUNTRY

D FOR THE RESIDENCE COUNTRY, THE LOSS OF REVENUE IS GENERALLY LOWER

IN CREDIT METHOD, THEREFORE GENERALLY MOST DTAAS RELIE!

DOUBLE TAXATION ONLY THROUGH CREDIT METHOD

STATE, THE RESIDENT

S CREDIT FOR THE TAXES
Q Four variants
® Full credit — Resident state grants credit for the taxes paid in the
Source State without any restriction
® Ordinary credit — Tax credit is restricted to lower of the taxes to
be paid in the Resident state or the actual taxes discharged in the
Source state
= Tax sparing — Income exempt in the Source state. However such
income is taxable in the Resident state for which the resident state
provides for deemed tax exemption or deemed tax credit
* Underlying tax credit — Mechanism to eliminate a form of
‘economic double taxation”
TAX SPARING METHOD

0 SOURCE COUNTRY OFFERS TAX INCENTIVES TO INVESTORS WITH NIL OR REDUCED

TAX RATE WHICH RESULT IN REDUCED OR NO TAX PAYABLE IN THE SOURCE
COUNTRY.

O A xoTIONAL TAX CREDIT IS GRANTED IN THE RESIDENT COUNTRY FOR THE TAX
NOT PAID UNDER SPECIAL INCENTIVE SCHEMES/ALLOWANCES IN THE SOUR(
COUNTRY.

O GENERALLY ATTACHED TO INCOME LIKE DIVIDEND, INTEREST, ROYALTIES, FOREIGN

BRANCH / PERMANENT ESTABLISHMENT INCOME

D TREATY PRESCRIBES EXACT NATURE OF SUCH TAX FREE INCOME;

® E.G. INDIA-US- SEC 10A INCOME

PARING CLAUSE IN THE TREATIES WOULD RESULT IN THE
OM SOURCE TO RESIDENT STATE WITH NO
< TAX PAYER.
UNDERLYING TAX CREDIT (UTC)
O concepr:
® A FORM OF RELIEF FROM ‘ECONOMICAL DOUBLE TAXATION’.
0 coMpuTATION METHODOLOGY
® CO-RELATION OF DIVIDENDS TO POST TAX PROFITS OF SUBSIDIARY

NTIAL SHAREHOLDING

D ALSO APPLIED UNDER CFC REGULATIONS

D INDIA'S TAX TREATY WITH SINGAPORE AND MAURITIUS PROVIDE FOR UNDERLYING
CREDIT.

O SOME COUNTRIES SPECIFY UP TO HOW MANY LAYERS, UTC CAN BE CLAIMED

Q) UTC UNDER NATIONAL TAX LAW — EG. SINGAPORE, UK, MAURITIUS ETC.
DOUBLE NON-TAXATION
O DOUBLE NON-TAXATION 1S A SITUATION WHERE ON ACCOUNT OF BENEFITS
AVAILABLE UNDER DTAA, A TAX PAYER IS NOT LIABLE TO TAX IN BOTH THE
RESIDENT STATE AS WELL AS SOURCE STATE

a CAPITAL GAINS TAXABILITY UNDER THE INDIA — MAURITIUS TAX TREATY IS A

CLASSIC EXAMPLE OF THE SAME

Capital Gains exempt

in Mauritius as per
Mauritius tax laws
Mauritius

India
Sale of Shares held
shares of
Indian Co

Capital Gains exempt in India for a

Mauritius resident as per DTAA
between India and Mauritius
ASSEESSE’S APPROACH TO DTAA

CHECK IF THE TREATY IS IN EFFECT!

O Extry ivto FORCE — CHECK FOR EACH OF THE COUNTRIES,

D THE DATE OF ENTRY INTO FORCE OF THE CONVENTION

O THE DATE OF EFFECT OF THE CONVENTION

ENSURE THAT THE TREATY HAS NOT TERMINATED!

DTR!-’.‘\T\' REMAINS INTO FORCE TILL TERMINATED

I SOME TREATIES PROVIDE FOR A PERIOD DURING WHICH TREATY CANT BE

TERMINATED

DTI;RMI\A\TIUN REQUIRES NOTICE THROUGH DIPLOMATIC CHANNELS

D SOME TREATIES PROVIDE FOR PERIOD OF NOTICE & SOME DO NOT

DCHI{(II\' IF THE TREATY IS IN FORCE BEFORE APPLYING IT!

SOME PRACTICAL ISSUE’S

0 Dividend Distribution Tax — no credit if there is no underlying tax

credit
Q Different Assessment Period
0 Timing of Tax Filings in both countries
Q Different method of income computation
Q Conversion of Forex
Q Shifting of Residence and Timing Difference
0 Undue advantage merely incorporating subsidiaries in low-tax
jurisdictions and by shifting the profits through legal planning into
these subsidiaries