Seminar on foreign tax credit
Transcript of Seminar on foreign tax credit
Seminar on foreign
tax credit
Ishita Bhaumik and Ramya S Nayak | 04th June 2016
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Agenda
• Introduction
• Types of double taxation
• Methods to eliminate double taxation
• Economic double taxation
• Juridical double taxation
• Draft CBDT circular in claiming FTC
• Issues in claiming FTC
© 2015 Deloitte Haskins & Sells LLP 1
Introduction
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Why does double taxation arise
• Many countries adopt a combination of the above taxation concepts
• Thus, double taxation arises when the same income is taxed twice – once in the
country of residence as well as in the country of source-
‒ “May be taxed” scenarios
‒ Interest taxation- restrictive taxation in the source state
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Scope of taxation
Source based
taxation
Residence based
taxation
Citizen based
taxation
Types of double taxation
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Types of double taxation
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• Same income taxed in the hands
of two different persons
• E.g. – Corporate profit taxed in
the hands of the Company and
dividend out of such profits taxed
in the hands of shareholder
• Same income taxed in the
hands of same person in
two different countries
• E.g. – Royalty income
received from India by a
resident of US
Types of double
taxation
Economic
double taxation
Juridical double
taxation
Methods to eliminate
double taxation
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Overview
Methods to eliminate double taxation
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Types of double
taxation
Economic double
taxation
Juridical double
taxation
Underlying tax
creditUnilateral Bilateral
Exemption
method
Article 23A
Credit method
Article 23B
Economic double taxation
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Underlying tax credit (UTC)
Economic double taxation
• UTC refers to credit that may be given, in Country R, for tax paid on the underlying
profits out of which the dividend is paid by a company in Country S
• E.g. a Company resident in India declares dividend to its foreign shareholder company.
The foreign company receiving dividend then gets credit for corporate tax paid on such
profits by the Indian Company out of which dividend is declared
• There are no provisions in domestic tax laws in India which allow credit for underlying
taxes paid by overseas subsidiaries of Indian Companies
• Thus, application of concept of UTC can arise only if there is a specific provision to that
effect in the tax treaty
• Few countries which allow UTC provisions are - China, Australia, Ireland, Japan,
Malaysia, Mauritius, Singapore, Spain, UK, United Mexican States, USA
• However UTC is available in India only under the DTAAs with Singapore and Mauritius
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Underlying tax credit (UTC)
Economic double taxation
Wordings example: India- Singapore DTAA
Where a resident of India derives income which, in accordance with the provisions of this
Agreement, may be taxed in Singapore, India shall allow as a deduction from the tax on the
income of that resident an amount equal to the Singapore tax paid, whether directly or by
deduction. Where the income is a dividend paid by a company which is a resident of
Singapore to a company which is a resident of India and which owns directly or
indirectly not less than 25 per cent of the share capital of the company paying the
dividend, the deduction shall take into account the Singapore tax paid in respect of
the profits out of which the dividend is paid. Such deduction in either case shall not,
however, exceed that part of the tax (as computed before the deduction is given) which is
attributable to the income which may be taxed in Singapore.
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Underlying tax credit (UTC)
Economic double taxation
Wordings example: India- Mauritius DTAA
In the case of a dividend paid by a company which is a resident of Mauritius to a company
which is a resident of India and which owns at least 10 per cent of the shares of the
company paying the dividend, the credit shall take into account in addition to any Mauritius
tax for which credit may be allowed under the provisions of sub-paragraph (a) of this
paragraph the Mauritius tax payable by the company in respect of the profits out of
which such dividend is paid
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Juridical double taxation
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Unilateral and bilateral tax credit
Juridical double taxation
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• Refers to relief provided to resident tax
payer under its domestic law
• E.g. – Section 91 of Indian Income-tax
Act provides for unilateral relief in
respect of income which has suffered
tax both in India and in country with
which no tax treaty exists
• Where two countries negotiate an
agreement for providing double taxation
relief, such relief is known as bilateral
relief
• These agreements provide for the right
to a country to tax an item of income or a
taxable person and also provide for the
manner, mode and quantum of tax relief
to be allowed to doubly taxed income
Juridical double
taxation
Unilateral Bilateral
Unilateral tax credit
method
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Unilateral tax treaty
Juridical double taxation
1. If any person who is resident in India in any previous year proves that, in respect of his
income which accrued or arose during that previous year outside India (and which is
not deemed to accrue or arise in India), he has paid in any country with which there is
no agreement under section 90 for the relief or avoidance of double taxation, income-
tax, by deduction or otherwise, under the law in force in that country, he shall be
entitled to the 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, whichever is the lower, or at the Indian rate of tax if both the rates are
equal.
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Non-treaty country example- Hong Kong
Unilateral tax treaty
Juridical double taxation
3. If any non-resident person is assessed on his share in the income of a registered firm
assessed as resident in India in any previous year and such share includes any
income accruing or arising outside India during that previous year (and which is not
deemed to accrue or arise in India) in a country with which there is no agreement
under section 90 for the relief or avoidance of double taxation and he proves that he
has paid income-tax by deduction or otherwise under the law in force in that country in
respect of the income so included he shall be entitled to a deduction from the Indian
income-tax payable by him of a sum calculated on such doubly taxed income so
included at the Indian rate of tax or the rate of tax of the said country, whichever is the
lower, or at the Indian rate of tax if both the rates are equal.
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Bilateral tax credit method
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Bilateral tax credit
Juridical double taxation
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• Under this method, foreign
income is exempt from tax in the
country of residence
• Two types of exemption method –
‒ Full exemption
‒ Exemption with Progression
• Country of residence would determine the resident’s
worldwide income (including the foreign sourced
income) and compute the tax liability thereon
• From the tax liability computed above, Country of
residence would grant a deduction in respect of foreign
tax paid on the foreign sourced income
• Types of credit method –
‒ Full Credit
‒ Ordinary Credit
‒ Tax Sparing credit
Bilateral tax
credit
Credit methodExemption
method
Types of exemption & credit method elaborated in coming slides
Bilateral tax credit
Juridical double taxation
Article 23B of OECD-Credit method
• Where a resident of a Contracting State derives income or owns capital which, in accordance with
the provisions of this Convention, may be taxed in the other Contracting State, the first-mentioned
State shall allow:
‒ as a deduction from the tax on the income of that resident, an amount equal to the income
tax paid in that other State;
‒ as a deduction from the tax on the capital of that resident, an amount equal to the capital
tax paid in that other State.
• Such deduction in either case shall not, however, exceed that part of the income tax or capital tax,
as computed before the deduction is given, which is attributable, as the case may be, to the
income or the capital which may be taxed in that other State.
• Where in accordance with any provision of the Convention income derived or capital owned by a
resident of a Contracting State is exempt from tax in that State, such State may nevertheless, in
calculating the amount of tax on the remaining income or capital of such resident, take into account
the exempted income or capital.
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Bilateral tax credit
Juridical double taxation
Article 23A of OECD-Exemption method
• Where a resident of a Contracting State derives income or owns capital which, in accordance with the provisions
of this Convention, may be taxed in the other Contracting State, the first-mentioned State shall, subject to the
provisions of paragraphs 2 and 3, exempt such income or capital from tax.
• Where a resident of a Contracting State derives items of income which, in accordance with the provisions of
Articles 10 and 11, may be taxed in the other Contracting State, the first-mentioned State shall allow as a
deduction from the tax on the income of that resident an amount equal to the tax paid in that other State. Such
deduction shall not, however, exceed that part of the tax, as computed before the deduction is given, which is
attributable to such items of income derived from that other State
• Where in accordance with any provision of the Convention income derived or capital owned by a resident of a
Contracting State is exempt from tax in that State, such State may nevertheless, in calculating the amount of tax
on the remaining income or capital of such resident, take into account the exempted income or capital.
• The provisions of paragraph 1 shall not apply to income derived or capital owned by a resident of a Contracting
State where the other Contracting State applies the provisions of this Convention to exempt such income or
capital from tax or applies the provisions of paragraph 2 of Article 10 or 11 to such income.
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Credit method
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Credit Method – Full credit method
Juridical double taxation
• Country of residence allows deduction of total amount of tax paid in Country of Source
on income which may be taxed in Country Source
• This method ensures that the tax payer gets full credit for the taxes paid in Country of
Source and has to pay only the difference between Country of Residence tax and
Country of Source tax
• Accordingly, total tax liability for the tax payer is the higher of the taxes as per country of
source and taxes as per country of residence
• E.g. India Nambia DTAA
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Credit Method – Full credit method
Juridical double taxation
Wordings example: India- Nambia DTAA
Where a resident of India derives income or capital gains from Namibia, which, in
accordance with the provisions of this Convention may be taxed in Namibia, then India
shall allow as a deduction from the tax on the income of that resident an amount equal to
the tax on income or capital gains paid in Namibia, whether directly or by deduction.
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Credit Method – Full credit method
Juridical double taxation
Illustration
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Particulars No tax credit Full tax credit
Gross income doubly taxed 100,000 100,000
Less: cost attributable to such income 50,000 50,000
Net taxable income 50,000 50,000
Withholding Tax rate in country of source 10% 10%
Taxes withheld on gross income 10,000 10,000
Tax rate in India 30% 30%
Taxes to be paid in India 15,000 5,000
(15,000-10,000)
Total tax cost 25,000 15,000
(in Rs.)
Credit Method – Ordinary credit method
Juridical double taxation
• Under ordinary credit method,
• Total Foreign tax Credit available in country of residence is lower of the =
‒ Taxes paid on such income in the country of residence as per the domestic tax
laws; or
‒ Foreign taxes paid on such income
• In other words, the tax payer does not get refund of excess foreign taxes paid if the
foreign tax exceeds the home tax on the same income
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Credit Method – Ordinary credit method
Juridical double taxation
Illustration
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Particulars No tax
credit
Full tax credit Ordinary credit
method
Gross income doubly taxed 100,000 100,000 100,000
Less: cost attributable to such income 80,000 80,000 80,000
Profit from double taxed income 20,000 20,000 20,000
Other income 30,000 30,000 30,000
Net taxable income 50,000 50,000 50,000
Withholding Tax rate in country of source 10% 10% 10%
Taxes withheld on gross income 10,000 10,000 10,000
Tax rate in India 30% 30% 30%
Taxes to be paid in India 15,000 5,000
(15,000-10,000)
9,000
(15,000-6,000)
Total tax cost 25,000 15,000 19,000
(in Rs.)
Credit Method – Tax sparing method
Juridical double taxation
• Concept of ‘tax sparing credit’ means that if income earned in Country of Source is
exempted under the domestic laws (say, section 10 of the Act), the actual tax payment
in Country of Source may be Nil and yet tax payer would get credit of an amount of tax
which would have been paid in Country of Source had there been no such exemption in
domestic tax laws
• Such method can arise only if there is a specific provision to this effect in the treaty
• Almost all tax treaties which India has signed contain tax sparing provisions. For e.g.
India Japan, India Canada, etc.
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Credit Method – Tax sparing method
Juridical double taxation
Wordings example: India- Japan DTAA
Double taxation shall be avoided in the case of India as follows :
• Where a resident of India derives income which, in accordance with the provisions of this
Convention, may be taxed in Japan, India shall allow as a deduction from the tax on the
income of that resident an amount equal to the Japanese tax paid in Japan, whether directly
or by deduction. Such deduction in either case shall not, however, exceed that part of the
income-tax (as computed before the deduction is given) which is attributable, as the case
may be, to the income which may be taxed in Japan. Further, where such resident is a
company by which surtax is payable in India, the deduction in respect of income-tax paid in
Japan shall be allowed in the first instance from income-tax payable by the company in India
and as to the balance, if any, from surtax payable by it in India.
• Where a resident of India derives income which, in accordance with the provisions of this
Convention, shall be taxable only in Japan, India may include this income in the tax base but
shall allow as a deduction from the income-tax that part of the income-tax which is
attributable, as the case may be, to the income derived from Japan.
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Credit Method – Tax sparing method
Juridical double taxation
Illustration
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Particulars Canada India
Interest Income from Government of
India
200,000 200,000
Tax rate 40% 15% as per DTAA but
exempt under 10(15)(iv)
of the Act
Particulars No tax sparing
method
Tax sparing
method
Taxes payable in Canada 80,000 80,000
Less: Foreign Tax Credit (15%*200,000) - (30,000)
Canadian Tax Payable 80,000 50,000
(in Rs.)
Exemption method
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Exemption Method – Full exemption
Juridical double taxation
• Under full exemption method
• Income taxed in the country of source is not included in taxable income of country of
residence
• India generally does not follow exemption method. Exception - India Brazil DTAA
wherein full exemption method is applied in respect of dividend income
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Exemption Method – Full exemption
Juridical double taxation
Wordings example: India- Brazil DTAA
• Subject to the provisions of paragraphs 3 and 4, where a resident of a Contracting State derives income which, in accordance with the provisions of this Convention may be taxed in the other Contracting State, the first-mentioned State shall allow as a deduction from the tax on the income of that resident an amount equal to the tax paid in that other State.
• Such deduction shall not, however, exceed that part of the tax, as computed before the deduction is given, which is attributable to the income which may taxed in that other State.
• For the deduction mentioned in paragraph 1, the tax paid in that other State shall always be deemed to have been paid at the rate of 25 per cent of the gross amount of interest referred to in paragraph 2 of Article 11 and of royalties referred to in paragraph 2(b) of Article 12, provided however, that the tax so deemed to have been paid shall not exceed the tax leviable on that income in the first-mentioned State.
• Where a company which is a resident of a Contracting State derives dividends which, in accordance with the provisions of paragraph 2 of Article 10 may be taxed in the other Contracting State, the first-mentioned State shall exempt such dividends from tax.
• Where a resident of India derives profits which, in accordance with the provisions of paragraph 5 of Article 10 may be taxed in Brazil, India shall exempt such profits from tax
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Exemption Method – Full exemption
Juridical double taxation
Illustration:
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Particulars Country of
Residence
Country
of
Source
Taxable income 700,000 400,000
Tax rate
If income upto
250,000
- 25%
If income is from
250,001 to
500,000
10% 25%
If income is from
500,001 to
1,000,000
20% 25%
If income is
above
1,000,001
30% 25%
Particulars Amount
Total income (including
foreign income)
1,100,000
Applicable tax rate 20%
Taxes payable in Country of
Residence (700,000*20%)
140,000
Taxes paid in Country of
Source (400,000*25%)
100,000
Total Taxes Paid 240,000
(in Rs.)
Exemption Method – Exemption with progression
Juridical double taxation
• Under this method,
• Country of residence does not impose tax on such foreign income but includes such exempt
income for the purpose of computing the tax rate applicable on other income.
Illustration:
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Particulars Country of
Residence
Country
of Source
Taxable income 700,000 400,000
Tax rate
If income upto
250,000
- 25%
If income is from
250,001 to
500,000
10% 25%
If income is from
500,001 to
1,000,000
20% 25%
If income is above
1,000,001
30% 25%
Particulars Amount
Total income (including
foreign income)
1,100,000
Applicable tax rate 30%
Taxes payable in Country of
Residence (700,000*30%)
210,000
Taxes paid in Country of
Source (300,000*25%)
75,000
Total Taxes Paid 285,000
(in Rs.)
Exemption Method – Issue
Juridical double taxation
• Interest arising in a Contracting State and paid to a resident of the other Contracting
State may be taxed in that other State.
• However, such interest may also be taxed in the Contracting State in which it arises,
and according to the laws of that State, but if the beneficial owner of the interest is a
resident of the other Contracting State, the tax so charged shall not exceed :
‒ 10 per cent of the gross amount of the interest if such interest is paid on a loan
granted by a bank carrying on a bona fide banking business or by a similar
financial institution (including an insurance company) ;
‒ 15 per cent of the gross amount of the interest in all other cases.
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Will exemption method work for income streams like interest wherein the taxing rights are
with both the resident state and source state?
Recent Karnataka HC
judgement and draft
CBDT circular in claiming
foreign taxes credit (FTC)
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Recent Karnataka HC Judgement
• Can FTC be available for set off against income other than the double taxed income?
• There are 2 contrary views on the same -
‒ FTC would be available - Karnataka High Court in the case of Wipro Ltd. held that
as per India USA DTAA, an assessee whose income is taxed in USA but exempt in
India under section 10A is entitled to tax credit in India as the language of the India
USA DTAA does not require that the income should have been taxed in both the
countries
‒ However, with respect to India Canada DTAA the High Court held that in order to
claim credit, income must be taxed in both the Countries. High Court based the
difference in treatment on the method of computing credit. India Canada DTAA
requires credit to be computed on proportionate credit method unlike India USA
DTAA
‒ FTC would not be available - Mumbai Tribunal in the case of Digital Equipment
while analyzing the India USA DTAA held that the foreign tax credit cannot exceed
the income tax leviable in respect of that income in the country of which the
assessee is resident
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Recent CBDT draft circular on computation of FTC
• Credit shall be granted in the year in which income is offered to tax in India
• Foreign tax shall mean –
‒ In case where Tax Treaty exists – the tax covered under the said agreement
‒ In other cases –tax payable under law in force in the foreign country in the nature
of income-tax referred to in section 91 [i.e. any excess profits tax or business
profits tax charged on the profits by the Government of any part of that country or a
local authority in that country]
• Credit for foreign taxes shall be available against he amount of tax, surcharge and cess
payable under the Act but not in respect of any sum payable by way of interest, fee or
penalty
• No credit for foreign taxes shall be available in respect of any amount of foreign tax
which is disputed in any manner by the assessee
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Recent CBDT draft circular on computation of FTC
• Quantum of foreign tax credit would be computed as below:
‒ Amounts of credit shall be computed separately for each source of income arising in source
country
‒ Credit shall be lower of tax payable under the Act and the foreign tax paid on such income
‒ Exchange rate to be applied for conversion of such foreign taxes would be the TT Buying rate
on the date of payment/deduction of foreign taxes
• Documents to be furnished by the assessee for grant of FTC:
‒ Certificate from tax authority of the country of source specifying the nature of income and the
amount of tax deducted therefrom or paid by the assessee
‒ However, in a case where the foreign tax is deducted at source, the assessee may furnish tax
deduction certificate obtained from the payer of such income;
‒ Acknowledgement of online tax payment or bank counter foil or slip or challan for tax payment
where the payment of foreign tax has been made by the assessee; and
‒ Declaration that amount of foreign tax in respect of which credit is being claimed is not under
any dispute
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Is this a prospective Circular or will this apply to the pending appeals as well?
Case studies
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Case Study 1
• Mr. X an Indian ROR has a property in
Australia
• During FY 2015-16 he sold the property to a
Company in Australia for USD 10 million
• Out of the sale proceeds of USD 10 million
he made a charity contribution in Australia
for USD 3 million
• He has paid taxes in Australia for USD 7
million@ 45%
• Question:
‒ What is the amount on which Mr. X will
get a credit for taxes in India?
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India
Australia
Sale of
property for
USD 10 million
Case study 2• Income taxable in 3 countries –
‒ Japan – withholding tax
‒ USA – taxable in the hands of
branch, being resident in USA
‒ India – taxable in the hands of Indian
co., being resident in India global
income would be taxable in India
• Can FTC be available in India for taxes
paid by the US branch in Japan?
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India Co
US
Branch
India
Japan
Customer
Income received
from after
withholding in
Japan
Japan USA India
Income 100 200 500
Profit - 50 100
Tax rate 10% 30% 30%
Tax 10 15 30
Other questions for discussion
• Is FTC claimable on taxes including surcharge and cess?
• Losses in the foreign jurisdiction- Can that also be claimed in India for set-off under the
FTC article?
• What is the exchange rate used for the purpose of FTC credit to be considered?
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44
Questions
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Thank You
Disclaimer
This material is prepared for the purpose of the Course conducted by the Institute of Chartered Accountants of India on 4 June 2016 for
the reference of its members. The information contained herein is meant for general purposes and is also not an exhaustive treatment of
such subject(s) and accordingly is not intended to constitute any kind of professional advice or services The information is not intended to
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