LL.D. MARTIN BERGLUND is a researcher and lecturer at the Faculty of Law, Uppsala University. LL.D. Associate Professor KATIA CEJIE is a researcher and senior lecturer at the Faculty of Law, Uppsala University.
BASICS OF INTERNATIONAL TAXATION
her very first meeting with international tax law. For the purposes of the book, international tax law is divided into three closely interrelated parts: domestic international tax law, tax treaty law and EU tax law. The book focuses on the method used when solving problems of international taxation. Different methods are used in the three different parts of international tax law, but when dealing with a specific situation, all three parts must regularly be considered. It is vital for students as well as for practitioners to understand the methodological approaches when addressing issues of international taxation. No other textbook has taken this very basic and methodological perspective on international tax law. The book is filled with examples that aim at illustrating how the rules, principles and concepts of the legal field are used in practice.
MARTIN BERGLUND KATIA CEJIE
THIS BOOK AIMS AT guiding the reader in his or
MARTIN BERGLUND KATIA CEJIE
BASICS OF INTERNATIONAL TAXATION From a Methodological Point of View
ISBN 978-91-7678-911-7
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Basics of International Taxation
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Basics of International Taxation From a Methodological Point of View
MARTIN BERGLUND & KATIA CEJIE
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© Författarna och Iustus Förlag AB, Uppsala 2014 ISBN 978-91-7678-911-7 Produktion: eddy.se ab, Visby 2014 Omslag: John Persson Tryck: Holmbergs, Malmö 2014 Förlagets adress: Box 1994, 751 49 Uppsala Tfn: 018-65 03 30, fax: 018-69 30 99 Webbadress: www.iustus.se, e-post: kundtjanst@iustus.se
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TABLE OF CONTENTS
PREFACE 9 ABBREVIATIONS 11 1 INTRODUCTION 1.1 Introductory case 1.2 The three essential parts of international tax law 1.3 Purpose, delimitations and formalities 2 BASIC CONCEPTS AND PRINCIPLES OF INTERNATIONAL TAX LAW 2.1 Background – basic principles of taxation 2.2 Jurisdiction to tax 2.2.1 Introduction 2.2.2 Principles for unlimited tax liability 2.2.3 Principles for limited tax liability 2.3 International double taxation 2.4 Unilateral measures for mitigating international double taxation 2.4.1 Three methods to mitigate international double taxation 2.4.2 The application of the three methods – an example
13 13 14 16 18 18 20 20 21 25 27 29 29 31
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3 TAX TREATY LAW
33
3.1 Introduction – the purpose and background of tax treaties 33 3.2 The OECD 35 3.2.1 Background 35 3.2.2 The work of the OECD in tax matters – a few examples 36 3.3 General issues concerning the interpretation and application of tax treaty law 38 3.3.1 Introduction 38 3.3.2 The relationship between tax treaties and domestic tax law 38 42 3.3.3 Interpretation of tax treaties 3.3.3.1 Introduction 42 3.3.3.2 The Vienna Convention on the Law of Treaties 42 3.3.3.3 The OECD Model and its Commentary 43 3.3.3.4 Rules on interpretation in tax treaties 44 3.4 Basic method for applying tax treaties 47 3.4.1 Introduction 47 3.4.2 Background: The structure of tax treaties 47 3.4.3 Application of tax treaties 50 3.4.3.1 Introduction: A step-by-step approach 50 3.4.3.2 Step 1: Identification of facts and potential problems 52 3.4.3.3 Step 2: Personal scope of application 53 3.4.3.4 Step 3: Substantive scope of application 55 3.4.3.5 Step 4: The residence state and the other state 57 3.4.3.6 Step 5: Allocation of taxing rights 60 3.4.3.7 Step 6: Method for mitigating double taxation 66 3.5 Concluding remarks 72
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4 EU TAX LAW
73
4.1 Introduction – the purpose and background of the EU 73 4.2 The EU institutions 75 4.3 General issues concerning the interpretation and application of EU law 77 4.3.1 Introduction 77 4.3.2 Interpretation of EU law 78 4.3.3 Hierarchy of EU law norms 79 4.3.4 Application of EU law in domestic legal orders 80 4.3.5 The relationship between EU law and tax treaties 82 4.4 Basic method for applying the directives concerning 83 direct taxation 4.4.1 Introduction 83 4.4.2 Company tax directives 84 4.4.2.1 Introduction 84 4.4.2.2 Purpose of the directives 84 4.4.2.3 Personal scope of application 85 4.4.2.4 Substantive scope of application 87 4.4.2.5 Granting of exemptions, credits and deferrals 89 4.4.3 Overview of directives on procedural tax issues 91 4.5 Basic method for applying the provisions on free movement in the TFEU in relation to domestic tax law 92 4.5.1 Introduction 92 4.5.2 Scope of application 93 4.5.3 The restriction test 97 4.5.3.1 Introduction 97 4.5.3.2 Fundamentals in the field of direct taxation 97 4.5.3.3 Objectively comparable situations 99 4.5.3.4 Less favorable treatment 104 4.5.4 The justification test 106 4.5.4.1 Introduction 106 7
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Table of Contents
4.5.4.2 4.5.4.3 4.5.4.4 4.5.4.5
Effectiveness of fiscal supervision Anti-avoidance purposes Prevention of double use of losses Balanced allocation of taxing rights between Member States 4.5.4.6 Coherence of national tax systems 4.5.4.7 Fiscal territoriality 4.5.5 Summary 4.6 Concluding remarks 5 CONCLUDING CASE 5.1 5.2 5.3 5.4
The introductory case Domestic international tax law Tax treaty law EU tax law
110 111 114 115 118 120 122 123 126 126 126 127 129
FURTHER READINGS
132
TABLE OF CASES
136
INDEX 139
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PREFACE
When teaching international tax law – which consists of domestic international tax law, tax treaty law and EU tax law – we have found that this legal area is difficult to understand for beginners. This textbook is supposed to guide students in their very first meeting with this field of law. The idea of writing it was first given to us by the former Course Director of the Basic Tax Law Course at the Faculty of Law, Uppsala University, Associate Professor Jan Bjuvberg. We are thankful for this opportunity, and we have had a great time writing the book. The reason why we have chosen the English language is obvious. This is the main language of communication in the field of international taxation. First, most legal sources are written in English. Secondly, like in all international legal areas, the academic debate is almost exclusively conducted in English. In order to understand international taxation, it is necessary to learn the English terminology. The book is a result of the joint efforts of the authors. However, most of the text in Sections 1.2–1.3, Chapter 2, and Sections 4.1– 4.5.3 is written by Martin Berglund, while most of the text in Section 1.1, Chapter 3, and Sections 4.5.4–5.4 is written by Katia Cejie. Even though we have done our best to describe and explain the basics of international taxation, there are most certainly mistakes and sections which should be elaborated. Do not hesitate to contact us with any feedback! You can reach us either in the classroom or by e-mail at the following addresses: martin.berglund@jur.uu.se and katia.cejie@jur.uu.se. Finally, we would like to thank our colleagues and students for giving suggestions for improvements on a draft of the book. We also
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would like to thank the research foundation Uppsala Center for Tax Law for making it possible to have the book proofread. Uppsala in August 2014 Martin Berglund
Katia Cejie
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Chapter 1
INTRODUCTION
1.1 Introductory case Basil Fawlty, who recently met the love of his life, wanted to move from State N to State S, which both are Member States of the EU. At the time he planned to leave State N, he was the sole shareholder of three companies in the hotel business conducted in State N. According to the tax law of State N, the transfer of residence from State N to State S was regarded as a taxable event in relation to the shareholdings. This means that the increase in value of the company holdings was calculated (capital gains) and tax was levied at this time, even though the shares were not sold. If Mr. Fawlty had not moved to State S, the capital gains of the shares would have been taxed when disposed of. The taxation of the unrealized capital gains at the time of the transfer was based on the assumption that this was the last time State N could tax the increases in value of the shares. After the transfer, it would be prevented from this according to the tax treaty with State S. In the preparatory work of State N’s tax legislation, one could find the argument for this exit tax. It said: The exit tax on unrealized capital gains, when a taxpayer ceases to be resident of State N, aims at preserving the allocation of the power to tax between Member States. It is in accordance with the principle of fiscal territoriality, connected with a temporal component, namely residence within N’s territory during the period in which the taxable profit arises, to tax the income that has arisen in the territory of State N. 13
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1. Introduction
Mr. Fawlty, who did not have cash to pay this exit tax – because he did not in fact sell the shares – was prohibited to transfer his residency to State S. Unfortunately, the relationship with the love of his life was therefore put on hold. In this case, three different areas of law are involved: first, the domestic tax law of State N, and secondly, tax treaty law – it seems as if a tax treaty between State N and State S is preventing State N to tax the capital gains in a later stage, i.e., when the shares are sold. Thirdly, EU law must be considered. According to the Treaty on the Functioning of the European Union (TFEU), a vital principle is the free movement within the Union. This principle states that citizens of the Member States are free to move, work, establish businesses, perform services and invest capital within the Union without any restrictions. In the final chapter of this book, we will meet Mr. Fawlty again and see if we can help him in any way so that he can move to State S and continue the relationship. However, before this is done we would like to introduce you further to the three different areas of international tax law.
1.2 The three essential parts of international tax law When studying international tax law, a fundamental question is what characterizes this particular area of tax law. In other words, why should it be considered as a separate area of tax law, and how should it be delimited? The answer to these questions may be found by posing another question, namely “what is ‘international’ about international tax law?” One possible answer to this question is that international tax law concerns the taxation of cross-border activities. Another answer could be that the international aspect relates to the type of legal norms that are applicable. International tax law to a large extent consists of public international law norms, primarily treaties between states. According to the classic understanding of the area of international tax law, it consists of three parts. The first part, domestic international tax law, contains such parts of the countries’ domestic tax law that are concerned with territorially delimiting the taxing jurisdiction. This part of international tax law will be initially described in Section 2.2 14
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1. Introduction
below. The combined effects of two or more states’ domestic international tax law may be that a certain income is taxed more than once. The concept of international double taxation is accordingly introduced in Section 2.3. International double taxation is mostly considered as something that must be avoided. Therefore, in domestic international tax law there are often methods for mitigating international double taxation. Such rules are described in Section 2.4. In order to mitigate international double taxation, countries have also entered international agreements called tax treaties. The main purpose of these treaties is to allocate the taxing rights among the contracting states in order to relieve international double taxation. Tax treaty law, which is introduced in Chapter 3, is considered as the second part of international tax law. Two essential aspects of tax treaty law are how to interpret tax treaties and how to understand the method for their application. These two aspects are the focus of Sections 3.3.3 and 3.4. As we will see in Chapter 3, tax treaty law has an intricate relationship with domestic tax law. First, tax treaties only need to be applied if a tax liability has been established on the basis of domestic tax law in one or more states. Secondly, the relief of double taxation provided in the tax treaties sometimes has a complicated relationship to the domestic methods for relieving double taxation. Within the European Union, a third part of international tax law, EU tax law, has emerged during the past two decades. This part of international tax law concerns how the Treaties of the European Union, primarily the Treaty on the Functioning of the European Union (TFEU), affect the domestic tax laws of the EU Member States. The domestic tax systems and the tax treaties may not be applied if they create obstacles to the free movement of goods, persons, services and capital within the Union. The European Union has also adopted legislation specifically aimed at removing tax obstacles to the free movement. This legislation is primarily focused on company taxation. As will be shown in Chapter 4, there are interesting connections between EU tax law on the one hand, and domestic international tax law and tax treaty law on the other hand.
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1. Introduction
1.3 Purpose, delimitations and formalities At the Law Faculty in Uppsala, international tax law is a part of both the general Law Program and the Master Program in International Tax Law and EU Tax Law. The purpose of this book is to serve as a primer for absolute beginners in the field of international tax law. Therefore, the book primarily deals with how to understand the basic features of the legal area and the working method for solving problems related to international tax law. This means that we do not in detail describe all the rules in domestic international tax law, tax treaty law and EU tax law. Instead, we focus on what a beginner needs to understand regarding the way of thinking when confronted with international taxation. Some important delimitations may be noted. First, the book only deals with direct taxation. Cross-border issues arise also regarding indirect taxation, e.g., in the field of general sales taxes and value added taxes (VAT). Secondly, the field of international tax law is vast even if delimited to direct taxation. In this regard, it may especially be noted that the book does not focus on issues regarding procedure and international tax avoidance. In the book, we generally illustrate the questions with examples. Two scenarios are used throughout the book. We introduce them in Section 2.2.2 as Scenario 1 and 2. Later in the text, examples are usually given in compact text. As expressly stated in the examples, some of them are based on Scenario 1 and 2, while other examples are independent from the basic scenarios. Since the book is introductory, we avoid footnotes as far as possible. Instead, we provide a list with further references at the end of the book. This list primarily includes dissertations and textbooks. Articles are not included in the list. In the area of international taxation, there are several well-established journals. These are often found electronically or in printed editions at law libraries. Concerning international taxation in general, important journals are for example Tax Notes International, Intertax, Bulletin for International Taxation and World Tax Journal. On EU tax law, equally important journals are EC Tax Review and European Taxation.
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1. Introduction
In Chapter 4, we use footnotes to a larger extent than in other parts of the book. The reason is that EU tax law builds on case law. Therefore, it is necessary to refer to case law to some extent. On the other hand, we consider that the body text would be too muddled if case references were included there. All cited cases are also listed at the end of the book. In the field of international taxation, many technical terms are used (e.g., “withholding tax” and “tax credit”). When encountering difficult words or phrases, the reader is advised to consult the IBFD International Tax Glossary. It is available online at the IBFD Tax Research Platform and also in a printed version (IBFD International Tax Glossary, 6th edition, 2009, ISBN 978-90-8722-057-0).
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LL.D. MARTIN BERGLUND is a researcher and lecturer at the Faculty of Law, Uppsala University. LL.D. Associate Professor KATIA CEJIE is a researcher and senior lecturer at the Faculty of Law, Uppsala University.
BASICS OF INTERNATIONAL TAXATION
her very first meeting with international tax law. For the purposes of the book, international tax law is divided into three closely interrelated parts: domestic international tax law, tax treaty law and EU tax law. The book focuses on the method used when solving problems of international taxation. Different methods are used in the three different parts of international tax law, but when dealing with a specific situation, all three parts must regularly be considered. It is vital for students as well as for practitioners to understand the methodological approaches when addressing issues of international taxation. No other textbook has taken this very basic and methodological perspective on international tax law. The book is filled with examples that aim at illustrating how the rules, principles and concepts of the legal field are used in practice.
MARTIN BERGLUND KATIA CEJIE
THIS BOOK AIMS AT guiding the reader in his or
MARTIN BERGLUND KATIA CEJIE
BASICS OF INTERNATIONAL TAXATION From a Methodological Point of View
ISBN 978-91-7678-911-7
Basics_of_International_Taxation_skiss.3.3.indd 1
2014-10-20 10:42