Advanced International Taxation Explained

1. Transfer Pricing

Transfer Pricing refers to the setting of prices for goods, services, and intellectual property transferred between related entities within a multinational corporation. The objective is to ensure that these transactions are conducted at arm's length, meaning the prices are similar to those that would be agreed upon by unrelated parties in comparable circumstances.

Example: A multinational company has a manufacturing subsidiary in Country A and a sales subsidiary in Country B. The manufacturing subsidiary sells goods to the sales subsidiary. Transfer pricing rules require that the price charged for these goods be determined as if the two subsidiaries were unrelated entities, based on comparable market prices.

2. Tax Treaties

Tax Treaties are agreements between two or more countries to avoid double taxation of income earned in one country by a resident of another country. These treaties typically include provisions for the allocation of taxing rights between the countries and may also address issues such as withholding taxes on dividends, interest, and royalties.

Example: A Canadian resident earns income from a business in the United States. The Canada-U.S. Tax Treaty allows the Canadian resident to claim a credit for U.S. taxes paid on the income, thereby avoiding double taxation. The treaty also specifies the conditions under which the U.S. can tax the income and the rate of withholding tax on dividends paid to the Canadian resident.

3. Controlled Foreign Corporations (CFC) Rules

Controlled Foreign Corporations (CFC) Rules are designed to prevent tax avoidance by residents of one country through the use of foreign corporations in low-tax jurisdictions. These rules require residents to include in their taxable income a portion of the undistributed income of a CFC, even if the income has not been repatriated.

Example: A Canadian resident owns 100% of a corporation located in a tax haven. The corporation earns income but does not distribute it to the Canadian resident. Under Canada's CFC rules, the Canadian resident must include a portion of the corporation's undistributed income in their taxable income, effectively subjecting the income to Canadian tax.

4. Permanent Establishment (PE) Concept

The Permanent Establishment (PE) Concept determines whether a foreign enterprise has a taxable presence in a country. If an enterprise has a PE in a country, it is subject to tax on the income attributable to that PE. The concept is defined in tax treaties and domestic tax laws and typically includes criteria such as a fixed place of business, a dependent agent, or a specific duration of activity.

Example: A U.S. company sets up a sales office in Canada. The office meets the criteria for a permanent establishment under the Canada-U.S. Tax Treaty, such as having a fixed place of business and carrying on business activities for more than a specified period. As a result, the U.S. company is subject to Canadian tax on the income attributable to the sales office.