Tax treaties and double taxation agreements in Canada might be challenging. Still, they are essential for avoiding double taxation and taking advantage of any tax benefits available to businesses and individuals.
When two or more tax obligations are imposed on the same revenue stream, this is known as “double taxation.” Such a situation arises when a company’s profits are taxed at the individual level. In international commerce and investment, double taxation happens when the same income is subject to taxation by more than one country (Kagan, 2022).
Many times, double taxation occurs because of loopholes in the law. It is typically considered an adverse effect on a tax system, and governments strive to prevent it wherever possible (Kagan, 2022).
A tax treaty, also known as a double tax agreement (DTA) or a double tax avoidance agreement (DTAA), is an agreement between two nations to prevent or reduce double taxation. These accords may cover various taxes, such as income, inheritance, value-added, and other taxes (Wikipedia, 2022).
Among the stated objectives for entering into a treaty are:
It is widely acknowledged that tax treaties increase transparency for taxpayers and tax authorities in international transactions (Wikipedia, 2022).
Your Canadian income tax requirements depend on your residency status. You must know your resident status to determine Canadian tax and reporting obligations. All essential factors must be evaluated to resolve your tax residency. These include Canadian residential ties and the length, purpose, intent, and continuity of stays in and out of Canada. Whether you have significant Canadian home ties is the primary factor in determining your income tax residence status. Canadian residential ties include a home, spouse, or dependents (accountants, 2023).
According to Article V of the Canada-United States Tax Treaty, a “fixed place of business through which the business of a resident of a Contracting State is carried on wholly or partly” is considered a permanent establishment. Mining, oil and gas extraction, quarrying, and other similar operations are all included under this umbrella word, as are administrative buildings, satellite offices, factories, and workshops (Pwc, 2023).
The problem of being taxed twice is a common one for multinational corporations. When a company earns money abroad and brings it home, it may be subject to double taxation. It might be prohibitively expensive to conduct foreign business in some countries due to the high combined tax rate.
Many of the hundreds of treaties for the avoidance of double taxation that have been negotiated by countries throughout the world to address these issues have been modelled after models developed by the Organisation for Economic Co-operation and Development (OECD). Countries establish treaties to limit their taxation on foreign business to encourage trade and avoid taxing the same goods twice (Kagan, 2022).
To “treat shop” means to attempt to take advantage of a tax treaty between two jurisdictions in a way that does not require you to be a resident of either. A non-resident of a jurisdiction party to a tax agreement may use various strategies to try to acquire the benefits that residents of that jurisdiction are afforded under the contract.
By claiming treaty benefits in circumstances when these benefits were not meant to be awarded, taxpayers engaging in treaty shopping and other forms of treaty abuse weaken fiscal sovereignty and deprive governments of tax revenues. Abuses include:
The number of involved parties is the most notable distinction when comparing bilateral versus multilateral trade agreements. Agreements between two countries are called “bilateral,” whereas those between three or more countries are called “multilateral.”
These pacts eliminate tariffs and other export restrictions restricting commerce (Exam Prep, 2023).
Countries participate in Double taxation avoidance agreements (“Tax treaties”) to eliminate tax challenges that hinder trade and services and the movement of capital and individuals between the countries concerned, given that there are divergent standards for assessing credit for foreign taxes (Jain, 2023).
The exemption approach provides that the resident jurisdiction does not tax any income that may be subject to taxation in the source (Foreign) jurisdiction. It is further divided into two approaches:
Under the credit method, the residency state taxes a taxpayer’s worldwide income but allows a credit against the residence country’s tax liability for taxes paid to the source state. It is further divided into two approaches:
The MAP clause in Canada’s conventions enables authorized CRA personnel to handle disputes with foreign tax authorities regarding double taxation and non-conventional taxes. Residents of either country can request help to settle a convention issue under the article (Agency, 2023).
Canada has tax treaties with several nations, and the Minister of National Revenue has delegated authority to senior CRA officials to mediate any resulting tax disputes. The competent authority is a group of highly qualified government officials. Most of Canada’s treaty allies follow a similar practice when granting permission (Agency, 2023).
WHT is imposed at a rate of 25% on interest (other than the majority of interest paid to non-arm’s-length non-residents), dividends, rents, royalties, specific management and technical service fees, and similar payments made by a Canadian resident to a non-resident of Canada (pwc, 2023).
Canada’s network of treaties is constantly being updated and expanded, with some having retroactive effect. The rate of domestic Canadian interest withholding tax could be lowered due to a tax treaty; however, the amount of any potential rate reduction differs for each tax treaty (Peters, 2014). One must examine the treaty first for the WHT rate in a given situation.
Although the treaty has been signed, it has yet to be in effect. Without a treaty, Canada taxes dividends, interest, and royalties at a maximum WHT rate of 25% (pwc, 2023).
– Double taxation occurs when the same income is taxed by more than one country.
Exam Prep, B. (2023) Difference between bilateral and multilateral trade. Available at: https://byjusexamprep.com/upsc-exam/difference-between-bilateral-and-multilateral-trade#:~:text=Bilateral%20is%20better%20than%20multilateral,market%20and%20is%20less%20complex.
Wikipedia, F. (2022). Retrieved from https://en.wikipedia.org/wiki/Tax_treaty
Kagan, J. (2022) What double taxation is and how it works. Available at: https://www.investopedia.com/terms/d/double_taxation.asp
Jain, A. (2023). Retrieved from https://sortingtax.com/different-types-and-methods-of-double-taxation-avoidance-agreements-dtaa/#tiea
DePasquale, P., Varley, A., Zurich, B., & Zurich, M. (2022). Retrieved from https://www.itu.int/ITU-D/finance/work-cost-tariffs/events/tariff-seminars/Geneva_Taxation/pdf/DePasquale_Varley-Contribution-e.pdf
Agency, C. R. (2023). Retrieved from https://www.canada.ca/content/dam/cra-arc/serv-info/tax/non-res/map/mp_rprt_2021-en.pdf
pwc, C. (2023). Retrieved from https://taxsummaries.pwc.com/canada/corporate/withholding-taxes
Peters, M. (2014). Retrieved from https://www.mondaq.com/canada/withholding-tax/342134/canadian-tax-fundamentals-withholding-tax-on-cross-border-interest-payments#:~:text=Canada%20levies%20withholding%20tax%20of,is%20%22participating%20debt%20interest%22.
accountants, O. property. (2023). Retrieved from https://www.optimiseaccountants.co.uk/how-to-determine-your-residency-status-for-tax-purposes-in-canada/