Business Taxation - M&A Fundamentals
LECTURE 1
- domestic and international taxation
o in most countries, the returns from trade and investment within national border are
subject to income taxation
o the way in which those return are taxed is based upon a country’s domestic tax policy
o international trade and investment are, in principle, no different
o as a country’s trades and commerce become increasingly more internationalized, the
taxation of international transactions becomes even more important
o once an entity extends its arm beyond its national borders, it is most likely to fall within the
ambit of the tax laws of another country
- taxation in a nutshell
o different countries have addressed the issue of who is liable to tax (the taxable subject) in
an international transaction or economic event (which produces the taxable object -
normally income or capital) in different ways over time for various political, cultural and
historic reasons
o however, despite the methodology adopted, if a government wishes to tax transactions
and economic events that occur across its borders, it needs to have some underlying policy
rationale to substantiate its impost
o that justification is based on its “domestic and international tax policy”
- domestic tax
o domestic taxes are taxes chargeable on profits or gains under the laws of the country in
which an entity is established, or a person is a resident
o domestic taxes are classified under “Direct and Indirect Taxes”
- international taxes
o international tax is best regarded as the body of legal provisions of different countries that
covers the tax aspects of cross-border transactions
o international tax, in this sense, is concerned with direct taxes (i.e., income taxes, estate
taxes, gift taxes, wealth taxes, and social security contributions) and indirect taxes (i.e.,
value-added – or goods and services – taxes, sales taxes, and customs duties)
o international tax can also be regarded as a subset of the broader notion of “international
law”
this is particularly relevant in the context of double-tax treaties
- right to tax individuals
o what is the link between an individual and a country?
if individuals are classed as tax residents in a particular country, then that country
usually has the right to tax them on their worldwide income under the residence
principle
however, they may also be taxed in other countries, according to the source
principle, if these individuals have sources of income believed to arise in other
countries
o if this gives rise to double taxation of the same income, how to solve it?
every country has its own detailed rules as to exactly what constitutes tax
residence for an individual
- right to tax individuals
o the most common approaches to determining the tax residence of individuals are tests of
physical presence and examination of individuals’ economic and social
o circumstances
, domicile may also be relevant
o there are three principal approaches to determining individual residents for tax
o purposes:
the amount of time physically spent in a country
the extent of personal connections with the country
and applying a residence concept from another branch or law, for example,
citizenship
o much of the current debate about the inadequacies of residents
- time spent in a particular country
o Most countries determine tax residents according to the number of days spent in a country
in any given or consecutive period. Most countries use the calendar year as the given
but some use a different system
e.g., the UK uses the tax year, which runs from 6 April to the following 5 April
other countries look for a 183-day in any 12 months
o in countries with land borders and a culture of cross-border employment, for example,
Switzerland, and Liechtenstein, a person living in one country and working in another might
be considered a resident in both.
o the mechanical nature of a time-based test tends to lead to unsatisfactory results, which is
why it is often used in conjunction with one of the other approaches to determining
residence
- connections with a particular country
o this approach considers tax residence as a personal attribute
o it is usually enshrined in the case law as it is very difficult to legislate with regard to every
single person
o all the facts relating to a person’s residence status are considered together, with no
criterion being addressed as definitive
the Netherlands places a high reliance on personal and economic ties to determine
the facts and circumstances of taxpayers
o this approach does not lend itself to being laid down in statute law, and decisions are taken
based on case law, precedent and tax authority interpretations and accepted practices
- residence rules adapted for other purposes
o using this approach, a country might determine that anyone with citizenship status, or
perhaps the right to work there, should be considered a tax resident
o this may be simpler than having different rules for different purposes, although, in practice,
the only major economic power to use this type of test is the US
which bases its resin test on US citizenship
o in addition, many countries offer initiatives to attract foreign investment, for example,
citizenship by investment or residents by investment schemes, sometimes referred to as
golden passports
o typically, they provide access to the privileges of citizenship or residence in return for
specified investments
- consequences of tax
o the normal consequence of tax residence is that the country concerned has the right to tax
the individual on his or her worldwide income
o whether a country enforces this right depends in part on the type of double tax relief
system employed
o states may operate a credit system whereby credit is given against tax liabilities in the
residence country foe taxes suffered elsewhere, or they may operate an exemption system
whereby foreign income is not subject tot tax in the residence country
,- right to tax companies
o as noted, a country's jurisdiction to tax is determined largely by a taxpayer's resident status
typically, under the residence principle, a country has the right to tax the
worldwide income of a company that is tax resident
o under common and civil law systems, companies are recognized as artificial legal persons
with proportional life and limited liability
the law on component residence was first developed in the UK and the principles
so developed from the basis for international tax law on company residents
o while most countries consider companies incorporated in their jurisdiction to be tax
residents, additional tests are usually necessary
- approaches to determine tax residence of companies
o There are two basic approaches to determining the residence of companies for tax
purposes
the legal approach and the economic approach
o under the legal approach, tax residence is determined according to the country of
incorporation or registration and the commercial register and is concerned with the legal
form of the incorporation process
o under the economic or commercial connection approach
tax residence is determined according to one or more of these factors
place of management, principal business location, tax residence of
shareholders
o not widely used
- POEM
o the principle of the place of effective management (POEM) is used as a tiebreaker test for
the purposes of applying the provisions of a double tax treaty where the two countries are
party to the treaty, each claim the right to tax the particular company, using different
approaches to company readiness
- legal entities
o for legal entities, the criteria set out in Art 4(3) OECD Model (2017 version):
where by reason of the provisions of paragraph 1 a person other than an individual
is a resident of both Contracting States, the competent authorities of the
Contracting States shall endeavor to determine by mutual agreement the
Contracting State of which such person shall be deemed to be a resident for the
purposes of the Convention, having regard to its place of effective management,
the place where it is incorporated or otherwise constituted and any other relevant
factors
in the absence of such agreement, such person shall not be entitled to any
relief or exemption from tax provided by this Convention except to the
extent and in such manner as may be agreed upon by the competent
authorities of the Contracting States
o OECD Model (2014)
where by reason of the provisions of paragraph 1 a person other than an individual
is a resident of both Contracting States, then it shall be deemed to be a resident
only of the State in which its place of effective management is situated
- OECD Model 2014
o the place of effective management is the place where key management and commercial
decisions that are necessary for the conduct of the entity’s business as a whole are in
substance made
o the idea was that an entity may have more than one place of management, but it can have
only one place of effective management at any one time
, o it is understood that when establishing the “place of effective management”,
circumstances which may, inter alia, be considered are:
the place where a company is managed and controlled
the place where the decision making at the highest level on the important policies
essential for the management od the company takes place
the place that plays a leading part in the management of a company from an
economic and functional point of view and
the place where the most important accounting books are kept
- introduction to international taxation
o objectives of international tax rules
there are generally three primary objectives underlying a country’s incorporation of
international tax rules into its tax legislation
o (1) national wealth maximization
it means that a country tries to ensure that it gets its fair share od revenue from
cross-border transactions to enhance the wellbeing of its citizens, and in doing so
maintains its domestic tax base
o (2) tax equity of fairness
it is all about imposing equal taxes on taxpayers with equal income or equal ability
to pay without reference to the source or type of income and the legal structures
through which the income is derived
o (3) economic efficiency
it is concerned with developing the competitiveness of a country’s domestic
economy, ideally by ensuring that taxation does not drive a wedge into optimal
investment decision-making
- taxation of inward Investment - capital import neutrality
o to achieve the goals of tax equity and economic efficiency, a country should adopt a
strategy of capital import neutrality
the tax regime must be neutral in the way that is taxes income derived by suppliers
of investment capital: that is, a country’s international tax rules need to be
concerned about the way in which foreign investors and local investors,
respectively, who invest in the country are taxed
- taxation of outward investment - capital export neutrality
o capital import neutrality focuses on ensuring that a country imposes the same amount of
tax on the income of foreign investors and local investors from equal investments made in
the country
o but a country's international tax rules also need to be concerned about the way in which it
taxes its investors, which are free to choose between investing at home or abroad
the investment behavior of a country's own investors will be affected by the way in
which their investments are taxed in their home country
o the tax regime must be neutral in the way that it taxes income derived from exported
capital vis-à-vis the way that it taxes income derived from capital that is invested
domestically, i.e., in the local economy of the country
- double taxation problem: basics of international law
o states can levy taxes by virtue of their sovereignty. Tax sovereignty, however, is not
unlimited -> not all situations can be taxed - there must either be a personal or an objective
nexus, or connection, between the taxpayer and the state
with respect to a personal connecting factor, it is sufficient that this exists with
respect to the person concerned
o in international law practice, there are no significant limits on the tax sovereignty of states
LECTURE 1
- domestic and international taxation
o in most countries, the returns from trade and investment within national border are
subject to income taxation
o the way in which those return are taxed is based upon a country’s domestic tax policy
o international trade and investment are, in principle, no different
o as a country’s trades and commerce become increasingly more internationalized, the
taxation of international transactions becomes even more important
o once an entity extends its arm beyond its national borders, it is most likely to fall within the
ambit of the tax laws of another country
- taxation in a nutshell
o different countries have addressed the issue of who is liable to tax (the taxable subject) in
an international transaction or economic event (which produces the taxable object -
normally income or capital) in different ways over time for various political, cultural and
historic reasons
o however, despite the methodology adopted, if a government wishes to tax transactions
and economic events that occur across its borders, it needs to have some underlying policy
rationale to substantiate its impost
o that justification is based on its “domestic and international tax policy”
- domestic tax
o domestic taxes are taxes chargeable on profits or gains under the laws of the country in
which an entity is established, or a person is a resident
o domestic taxes are classified under “Direct and Indirect Taxes”
- international taxes
o international tax is best regarded as the body of legal provisions of different countries that
covers the tax aspects of cross-border transactions
o international tax, in this sense, is concerned with direct taxes (i.e., income taxes, estate
taxes, gift taxes, wealth taxes, and social security contributions) and indirect taxes (i.e.,
value-added – or goods and services – taxes, sales taxes, and customs duties)
o international tax can also be regarded as a subset of the broader notion of “international
law”
this is particularly relevant in the context of double-tax treaties
- right to tax individuals
o what is the link between an individual and a country?
if individuals are classed as tax residents in a particular country, then that country
usually has the right to tax them on their worldwide income under the residence
principle
however, they may also be taxed in other countries, according to the source
principle, if these individuals have sources of income believed to arise in other
countries
o if this gives rise to double taxation of the same income, how to solve it?
every country has its own detailed rules as to exactly what constitutes tax
residence for an individual
- right to tax individuals
o the most common approaches to determining the tax residence of individuals are tests of
physical presence and examination of individuals’ economic and social
o circumstances
, domicile may also be relevant
o there are three principal approaches to determining individual residents for tax
o purposes:
the amount of time physically spent in a country
the extent of personal connections with the country
and applying a residence concept from another branch or law, for example,
citizenship
o much of the current debate about the inadequacies of residents
- time spent in a particular country
o Most countries determine tax residents according to the number of days spent in a country
in any given or consecutive period. Most countries use the calendar year as the given
but some use a different system
e.g., the UK uses the tax year, which runs from 6 April to the following 5 April
other countries look for a 183-day in any 12 months
o in countries with land borders and a culture of cross-border employment, for example,
Switzerland, and Liechtenstein, a person living in one country and working in another might
be considered a resident in both.
o the mechanical nature of a time-based test tends to lead to unsatisfactory results, which is
why it is often used in conjunction with one of the other approaches to determining
residence
- connections with a particular country
o this approach considers tax residence as a personal attribute
o it is usually enshrined in the case law as it is very difficult to legislate with regard to every
single person
o all the facts relating to a person’s residence status are considered together, with no
criterion being addressed as definitive
the Netherlands places a high reliance on personal and economic ties to determine
the facts and circumstances of taxpayers
o this approach does not lend itself to being laid down in statute law, and decisions are taken
based on case law, precedent and tax authority interpretations and accepted practices
- residence rules adapted for other purposes
o using this approach, a country might determine that anyone with citizenship status, or
perhaps the right to work there, should be considered a tax resident
o this may be simpler than having different rules for different purposes, although, in practice,
the only major economic power to use this type of test is the US
which bases its resin test on US citizenship
o in addition, many countries offer initiatives to attract foreign investment, for example,
citizenship by investment or residents by investment schemes, sometimes referred to as
golden passports
o typically, they provide access to the privileges of citizenship or residence in return for
specified investments
- consequences of tax
o the normal consequence of tax residence is that the country concerned has the right to tax
the individual on his or her worldwide income
o whether a country enforces this right depends in part on the type of double tax relief
system employed
o states may operate a credit system whereby credit is given against tax liabilities in the
residence country foe taxes suffered elsewhere, or they may operate an exemption system
whereby foreign income is not subject tot tax in the residence country
,- right to tax companies
o as noted, a country's jurisdiction to tax is determined largely by a taxpayer's resident status
typically, under the residence principle, a country has the right to tax the
worldwide income of a company that is tax resident
o under common and civil law systems, companies are recognized as artificial legal persons
with proportional life and limited liability
the law on component residence was first developed in the UK and the principles
so developed from the basis for international tax law on company residents
o while most countries consider companies incorporated in their jurisdiction to be tax
residents, additional tests are usually necessary
- approaches to determine tax residence of companies
o There are two basic approaches to determining the residence of companies for tax
purposes
the legal approach and the economic approach
o under the legal approach, tax residence is determined according to the country of
incorporation or registration and the commercial register and is concerned with the legal
form of the incorporation process
o under the economic or commercial connection approach
tax residence is determined according to one or more of these factors
place of management, principal business location, tax residence of
shareholders
o not widely used
- POEM
o the principle of the place of effective management (POEM) is used as a tiebreaker test for
the purposes of applying the provisions of a double tax treaty where the two countries are
party to the treaty, each claim the right to tax the particular company, using different
approaches to company readiness
- legal entities
o for legal entities, the criteria set out in Art 4(3) OECD Model (2017 version):
where by reason of the provisions of paragraph 1 a person other than an individual
is a resident of both Contracting States, the competent authorities of the
Contracting States shall endeavor to determine by mutual agreement the
Contracting State of which such person shall be deemed to be a resident for the
purposes of the Convention, having regard to its place of effective management,
the place where it is incorporated or otherwise constituted and any other relevant
factors
in the absence of such agreement, such person shall not be entitled to any
relief or exemption from tax provided by this Convention except to the
extent and in such manner as may be agreed upon by the competent
authorities of the Contracting States
o OECD Model (2014)
where by reason of the provisions of paragraph 1 a person other than an individual
is a resident of both Contracting States, then it shall be deemed to be a resident
only of the State in which its place of effective management is situated
- OECD Model 2014
o the place of effective management is the place where key management and commercial
decisions that are necessary for the conduct of the entity’s business as a whole are in
substance made
o the idea was that an entity may have more than one place of management, but it can have
only one place of effective management at any one time
, o it is understood that when establishing the “place of effective management”,
circumstances which may, inter alia, be considered are:
the place where a company is managed and controlled
the place where the decision making at the highest level on the important policies
essential for the management od the company takes place
the place that plays a leading part in the management of a company from an
economic and functional point of view and
the place where the most important accounting books are kept
- introduction to international taxation
o objectives of international tax rules
there are generally three primary objectives underlying a country’s incorporation of
international tax rules into its tax legislation
o (1) national wealth maximization
it means that a country tries to ensure that it gets its fair share od revenue from
cross-border transactions to enhance the wellbeing of its citizens, and in doing so
maintains its domestic tax base
o (2) tax equity of fairness
it is all about imposing equal taxes on taxpayers with equal income or equal ability
to pay without reference to the source or type of income and the legal structures
through which the income is derived
o (3) economic efficiency
it is concerned with developing the competitiveness of a country’s domestic
economy, ideally by ensuring that taxation does not drive a wedge into optimal
investment decision-making
- taxation of inward Investment - capital import neutrality
o to achieve the goals of tax equity and economic efficiency, a country should adopt a
strategy of capital import neutrality
the tax regime must be neutral in the way that is taxes income derived by suppliers
of investment capital: that is, a country’s international tax rules need to be
concerned about the way in which foreign investors and local investors,
respectively, who invest in the country are taxed
- taxation of outward investment - capital export neutrality
o capital import neutrality focuses on ensuring that a country imposes the same amount of
tax on the income of foreign investors and local investors from equal investments made in
the country
o but a country's international tax rules also need to be concerned about the way in which it
taxes its investors, which are free to choose between investing at home or abroad
the investment behavior of a country's own investors will be affected by the way in
which their investments are taxed in their home country
o the tax regime must be neutral in the way that it taxes income derived from exported
capital vis-à-vis the way that it taxes income derived from capital that is invested
domestically, i.e., in the local economy of the country
- double taxation problem: basics of international law
o states can levy taxes by virtue of their sovereignty. Tax sovereignty, however, is not
unlimited -> not all situations can be taxed - there must either be a personal or an objective
nexus, or connection, between the taxpayer and the state
with respect to a personal connecting factor, it is sufficient that this exists with
respect to the person concerned
o in international law practice, there are no significant limits on the tax sovereignty of states
