QUESTION 5

ANSWERS

The OECD Model Tax Convention is the basis on which all tax treaties are negotiated and
implemented by the OECD countries. It is a model agreement to which an accompanying
Commentary is provided as an aid to interpretation. The draft Model DTAA was first published
by the OECD in 1963 and is updated periodically. The OECD model is generally regarded as
favoring the developed countries, as it gives priority of taxation to the residence state over that of
the state of source. OECD Model is the base on which other Models are built. It has also been
used as a Model for negotiating Treaties between OECD Members and non-member countries. A
major advantage of using the OECD Model is the existence of the well-established and well-
respected Commentary. This provides a valuable tool of interpretation which has widespread
international acceptance amongst states which are not OECD members.

UN Model Double Taxation Convention since the OECD Model was regarded as furthering the
interests of the developed countries, the developing countries prepared their own model in 1979,
which is known as the 1979 UN Model Tax Convention. This was developed / modified further
in 1980, 2001 and 2011 incorporating the changes gained out of the experience. As the OECD
model was the source, both the drafts are largely similar and in fact most Tanzanian DTAAs are
a mix of both the models

The following are the goals of OECD model and UN model convention for double taxation
treaties.

To reduce or eliminate international double taxation impact on taxpayers with foreign income.
This function can be achieved through either exemption of foreign income, provision of foreign
tax credit or both exemption of foreign income and provision of foreign tax credit.

To enable investors to know the income earned in a foreign country, and in fact it facilitates or
encourages foreign trade, labor or international capital flows by eliminating or reducing foreign
tax burden.

Help to prevent tax avoidance or evasion as, in main cases, the double taxation treaties may
include provisions for the exchange of information among contracting countries. This
information may help tax authorities during tax audits to verify taxpayers’ foreign income and
taxes. Also, the provisions for the exchange of information among contracting countries are
important in enforcing domestic tax laws as tax laws based on residential status of taxpayers may
include income earned in foreign countries. In this case, exchange or request of information from
foreign countries is paramount in ensuring that foreign income is taxed accordingly.

Double taxation treaties defend countries’ right to tax economic transactions or income earned in
their tax jurisdictions or by resident taxpayers in foreign countries through contracts.

QUESTION 4

ANSWERS

Exemption method; can be implemented either unilaterally or bilaterally by contracting

countries: Exemption method can be divided into full exemption and exemption with
progression. In the full exemption method, the country of residence omits the foreign income
from its own tax system and taxes only domestic income. On the other hand the exemption with
progression method includes the exempted income when determining the tax rate to apply to
domestic income in case of progressive tax rate systems.

Merits of the Method

 This is the simplest method to administer for both the taxpayer and the tax authorities.
 The method encourages companies to invest in jurisdictions with lower taxation rates.
 It may attract holding companies.
 The exemptions method is advocated by the economists who support the capital import
neutrality (CIN) theory

Demerits of the Method

 It may only be available if at the source country a minimum taxation rate was imposed to
that income
  The tax authority’s don´t have the visibility of where the resident company gets the
income from.

Tax credit method; the second approach to foreign income tax relief is the tax credit method. The
credit method does not exempt the income earned in foreign countries but it taxes it and provides
for foreign tax credit for any foreign tax paid in the foreign countries. Under this method the
country of residence has the subsidiary right to tax the income when the tax rates in the sourced
countries is lower than the tax rates in the residence countries. So in that case, the country of
residence may collect some taxes from the foreign income when the worldwide income is
computed

Merits of the Method

 The credit relief is the recommended method under the capital export neutrality theory
(CEN).
 When the source country has higher taxation rates, then the resident country may allow
carrying forward/back credits.
 It allows including tax losses in the resident companies’ tax base
 The tax authorities can see where companies get the profits from. Good to allocate
auditing resources.

Demerits

 It requires more administration work

Tax Sparing; This happens when in the source country there are tax holidays for certain type of
activities to attract foreign investment, but the resident country credits the taxes that it should
have been paid at source anyway.

 The credit relief is the recommended method under the capital export neutrality theory
(CEN).

 When the source country has higher taxation rates, then the resident country may allow
carrying forward/back credits.
  It allows including tax losses in the resident companies’ tax base

 The tax authorities can see where companies get the profits from. Good to allocate
auditing resources.

QUESTION 6

ANSWERS

Tax planning is the art of arranging cross-border transactions with the knowledge of international
tax principles to achieve a tax effective and lawful routing of business activities and capital
flows. The planning process follows the money flows in cross- border transactions, as they pass
from the host country where they arise to the home country where they eventually end. Tax
planning helps to reduce the cumulative impact of taxation, as compared to the separate tax
incidence in the countries through which the transaction flows.

Its prime objective is to receive the after-tax flows of overseas income lawfully at minimal cost
and risk. Domestic tax planning is concerned primarily with the national rules of tax deductions,
allowances and exemptions, and the different tax rates levied on various sources of income in a
single jurisdiction. International tax planning examines the interrelationship of two or more tax
systems, the impact of juridical and economic double taxation, and the tax compliance rules in
more than one country.

Tax Planning Techniques Employed By Multinational Firms

As the amount of the tax liability is determined by the taxable income multiplied by the tax rate,
the reduction in either of the two factors leads to a reduction in the tax payable. Most planning
techniques used today rely on the following principles:

I. Exemption from the tax. ii. Reduction in the tax rate. iii. Reduction in the tax base. iv.
Deferral of the tax payment. v. Credit or exemption for foreign taxes paid. vi. Treaty shopping.

Example
(a) A State may decide to exempt (i.e. not tax) an income or tax it at a reduced rate for certain tax
policy reasons (e.g., tax incentive). The ability to claim tax exemptions normally constitutes the
best method of tax planning. The related expenses are generally not deductible, (“tax
exemption”).

(b) A reduction of the tax rate may be either a reduced domestic rate or a reduced withholding
tax. To benefit from a reduced tax rate, the taxpayer may re-characterize the income to a lower
rate category, or apply a tax incentive. The lower withholding tax may be achieved again by
recharacterization of the income or capital or under a tax treaty. A tax rate reduction is a tax
incentive. Tax incentives are offered by probably every country with a tax system, (“rate
reduction”).

Tax evasion; is the illegal non-payment or under-payment of taxes, usually by deliberately

making a false declaration or no declaration to tax authorities – such as by declaring less income,
profits or gains than the amounts actually earned, or by overstating deductions. It entails criminal
or civil legal penalties.

Tax avoidance is the legal practice of seeking to minimize a tax bill by taking advantage of a
loophole or exception to the rules, or adopting an unintended interpretation of the tax code. It
usually refers to the practice of seeking to avoid paying tax by adhering to the letter of the law
but opposed to the spirit of the law. Proving intention is difficult; therefore the dividing line
between avoidance and evasion is often unclear.