Bernard Dumas

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Fall 2008
International Finance Faculty Professor Bernard
Dumas Basic ideas in international taxation
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Types of taxes indirect taxes
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Di-rect (or in-co-me) ta-xes
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Overview many issues that are specific to the
international setting

• Corporate income taxation
• double taxation
• determination of taxable income (Will not be
  covered)
• Taxation and corporate organization (Will not be
  covered)
• Taxation/accounting of foreign exchange gains and
  losses (will not be covered) 

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Double taxation problem for corporate income tax
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Views on taxation of foreign-source income

• Universal rule each country has the right to tax
  income originating within its borders
• Non resident taxpayers taxed on income from
  sources within borders only
• Foreign-source income
• No consolidation taxation triggered by movement
  of cash
• Countries have different philosophies for
  taxation of resident taxpayers on their foreign
  earnings
• Territorial (or source) principle
• Confines tax collection to income earned within
  borders
• World-wide (or residence) principle (U.S.A.)
• Resident taxpayers and corporations are taxed on
  worldwide income

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Solutions to the double taxation problem

• U.S.A. (and many industrialized countries) A
  residents income from all sources should be
  taxed the same way. Otherwise, taxes would
  produce incentive to invest preferentially in one
  place or the other. Principle of tax neutrality
• ? Foreign tax credit system.
• Two types of credits
• Direct credit for tax paid on repatriated cash
  (e.g. withholding tax)
• Indirect credit for "deemed paid" taxes
•  
• How to calculate tax
• compute U.S. tax on grossed up income
• subtract credit. 

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Restrictions

• Limitation of size of credit
• Excess credit vs. Excess limitation
• Pooling of FTCs limited to baskets Passive
  income (e.g., interest, royalties and distributed
  expenses), Financial Service income, Shipping
  income, High-withholding tax interest income,
  Overall basket for normal operating and other
  types of income (e.g., dividends)
• Means to prevent delayed repatriation subpart F
  and "look-through" rules

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Example the case of a U.S. firm with a French
subsidiary

• Assumptions withholding tax rate is 5
• In FranceBefore tax income of the
  subsidiary 158.8Tax _at_ 37
  58.8Income after tax 100Dividend
  distributed 100
• Withholding tax 5

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In the USA
Dividends received 95 Direct credit
5 Indirect credit
58.8 Grossed-up income 158.8 US income tax _at_
34 53.99 Credit (capped by limitation)
53.99 To be paid 0 Distributable
95
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France and Switzerland different principleand
other countries as well Argentina, Netherlands,
Hong Kong, Panama etc..

• Taxes paid serve to "purchase" government
  services
• ?one should be taxed where one operates only.
  Principle of Territoriality.
• Foreign-source dividends, as any dividend,
  received by a corporation are almost entirely tax
  exempt (provided one owns more than 10)
• (but will be taxed upon distribution at the
  personal level)
• This is approximately equivalent to granting
  foreign-tax credit
• equal not to taxes effectively paid abroad but
• equal to taxes that would have been paid at home
  if foreign-source income had been home-source
  income (the credit is equal to the credit
  limitation in the U.S. sense)

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Conclusion

• Double taxation of foreign-source income is
  alleviated by means of some credit system.