Nondiscrimination In Income Tax Treaties

The principle of non-discrimination, under various descriptions and with a more or less wide scope, was applied international fiscal relations well before the appearance of the classic double taxation conventions at the end of 19th Century. The first appearance of the nondiscrimination provision a tax treaty might be traced to the League of Nations' 1933 model. This paper focuses on describing and comparing nondiscrimination clauses of the OECD and U.S. Model Convention. The nondiscrimination rule with respect to income tax is that a source country, the exercise of its source-based jurisdiction, will not tax nationals(or residents) of its treaty partner more heavily than its own nationals (or residents) the same circumstance. Nondiscrimination clauses of the OECD and U.S. Model Convention specify four criteria which national tax law of a Contracting State is not permitted to use as a basis for tax discrimination: a taxpayer's nationality, a permanent establishment maintained by a foreign person within the domestic territory, payment of interest, royalties and other considerations to a recipient abroad, and the holding by a non-resident of shares a resident enterprise. The income tax treaties concluded by the U.S. generally covers only federal taxes, but Article 24 of the OECD Model Convention also applies to taxes of state and local government. First, the nondiscrimination principle with respect to a taxpayer's nationality provides that the nationals of a Contracting State may not be less favorably treated the other Contracting State than nationals of the latter State the same circumstances. The 1992 revision of the OECD Model Convention added to Article 24(1) the expression in particular with respect to residence while the U.S. Model Convention uses the phrase particularly with respect to taxation on worldwide income. Even though the language is different, it merely indicates that the U.S. taxes U.S. citizens, whether resident or not, on worldwide income, and the underlying concept, however, is essentially the same both Model Conventions. Article 24(2) of the OECD Model Convention provides the ND rule with regard to stateless persons. This provision enables national treatment to be extended both Contracting Sates even to stateless persons residing one of the Contracting States. However, the U.S. Model Convention includes no corresponding rule. Second, the nondiscrimination principle with respect to a permanent establishment provides that a Contracting State may not tax a permanent establishment of an enterprise of the other Contracting State less favorably than an enterprise of that the first-mentioned State is carrying on the same activities. The OECD Model Convention provision only applies to business profits of permanent establishment, while the U.S. Model Convention nondiscrimination clause extends to other types of income which are taxed on a net income basis. The U.S.in 1986 first imposed the branch profits tax (I.R.C. section 884). Branch profits tax involves imposition on a foreign corporation engaged business the U.S. (and not on a U.S. corporation) of a tax addition to the underlying corporate tax. The Treasury Department took the view that branch profits tax is a violation of the nondiscrimination article a tax treaty because a domestic corporation is not subject to such tax, and the Senate Committee respected this view. As a result, I.R.C. section 884(e)(1) was added to provide that branch profits tax shall not be levied if a corresponding taxation conflicts with the provisions of an income tax treaty. Third, the nondiscrimination principle with respect to expense deductions provides that when an enterprise of a Contracting State pays an interest, royalties or other disbursements to a resident of the other Contracting State, the first-mentioned Contracting State must allow a deduction for those payments computing the taxable profits of the enterprise as if the payment had been made under the same conditions to a resident of the first-mentioned Contracting State. However, several countries have adopted thin-capitalization rules and such rules that are specifically directed at payments of interest to non-residents may be a violation of the nondiscrimination provision. Especially, it is controversial whether the earning-stripping rule under I.R.C. section 163(j) violates the nondiscrimination provision. Lasted, the nondiscrimination principle with respect to ownership provides that tax discrimination on an enterprise on the ground of its capital being owned or controlled by residents of the other Contracting State is prohibited. Many countries, such as Sweden, France and the Netherlands, have their tax treaties nondiscrimination clauses while some countries, such as Australia, Canada and New Zealand, either refuse to include nondiscrimination clauses their treaties, or significantly limit the application of such clauses.

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