Wednesday, October 10, 2018
Eric M. Zolt (UCLA) presents Tax Treaties and Developing Countries: A Better Deal Post-BEPS? at Michigan as part of its Tax Policy Workshop Series hosted by Reuven Avi-Yonah:
Developing countries face tough choices about whether to enter into bilateral tax treaties with developed countries. Several benefits flow from entering into tax treaties. These include increased foreign direct and portfolio investments that may result if tax treaties reduce double taxation, create greater tax certainty for investors, and provide for a dispute resolution mechanism for tax controversies. But there are real costs for developing countries in entering into tax treaties with developed countries. Treaty provisions invariably result in developing countries yielding taxing rights with respect to economic activity taking place in their country.
Jurisdiction to tax can be assigned to the country of residence of the taxpayer (residencebased taxation) or country where the income is earned (source-based taxation) or both countries can be allowed to tax. Tax treaties are nominally reciprocal. Where capital flows are roughly equal between countries, rules that skew taxing rights towards residencebased taxation away from source-based taxation result in little tax revenue shifting between the countries. Where capital flows are less even, the revenue consequences may be substantial. The existing treaty provisions generally result in greater tax revenues for residence countries (generally capital-exporting developed countries) and less tax revenues for source countries (capital-importing developing countries).
In deciding whether to enter into tax treaties, developing countries must weigh the lost revenue from yielding taxing rights against the potential economic gains from increased foreign investment. For many academic observers and some government officials, the costs outweigh the benefits. They contend that developing countries may be better off not entering into tax treaties with developed countries.
This chapter examines whether the BEPS project and the reforms that may result from these efforts change the calculus about whether developing countries should enter into tax treaties with developed countries. It first reviews why tax treaties with developed countries may be a bad deal for developing countries and then reviews the treaty provisions that are most problematic in terms of lost revenue. It then offers some preliminary observations about how the BEPS project may facilitate developing countries improving their taxation of cross-border transactions. The chapter also highlights what the BEPS project did not do. It concludes by noting that while the traditional focus has been on whether developing countries should enter into tax treaties with developed countries, the better questions may be what form the tax treaties should take, with whom should developing countries enter into treaties, and when should developing countries decide to enter into treaties.