Course description

This course offers an overview of the tax treatment of internationally active enterprises, primarily from a US-American perspective but also with reference to German tax law and to the Germany-USA Double Tax Treaty. Because the USA is a common-law jurisdiction, courts have interpreted the tax code in a manner that adds significantly to its content. Despite that, a comparison of the resulting tax regime with that of Germany reveals many common features. Tax treaties now often displace the unilateral international tax rules of individual nation states. Both the unilateral and treaty aspects of US-American and German tax rules for cross-border business activity will be selectively surveyed.

Course schedule

I. Introduction: How our subject matter fits into the broader study of taxation
We will take for granted all rules governing how income is to be measured. Here it is useful to note that every income tax, despite national variations, is intended to tax only the net results of economic activity. An enterprise can have gross revenue that exceeds its income, gross revenue includes all that the enterprise brings in from profit-seeking activity, including its recovery of costs and expenses without which the activity would not have been possible. The calculation of income subtracts these costs and similar economic burdens, leaving only a net amount. Other courses deal with the fine detail of such deductions more specifically.
II. Basic division of international tax rules: Outbound vs. inbound cross-border activity
National tax systems provide separately outbound and inbound cross-border activity. The former are transactions by residents (or in the case of the US, by residents and non-resident citizens) that bring them income with a nondomestic source (a non-US source, under US tax laws). Inbound transactions involve nonresidents (non-citizens for US rules) in transactions that produce domestic-source income. The same source rules are used for determining whether a transaction is an inbound or outbound cross-border activity. Treaties usually alter only a treaty partner's tax rules for inbound transactions, i.e., those involving nonresidents. Because the USA taxes its citizens on worldwide income, whether they are resident or not, it enters into treaties only on condition that it can continue to do so, and therefore does not agree in its treaties to give different treatment to US citizens that are resident abroad.
III. Legal concepts of international tax policy
1. Unilateral taxation of cross-border transactions and activities
a. Source and residence countries

• The country in which income has its source (often a highly artificial matter) is the "source country"
• The country in which the owner of the income resides is the "residence" country

b. Source rules determine whether the income of a nonresident is taxable at all and whether income that is taxed abroad should be regarded as properly taxed there so that all or part of the tax will be credited by the country where the income's owner resides
2. Exemption and credit methods of taxation
a. Countries often tax trans-border transactions using one of two approaches:

• exemption for income from transactions with nondomestic source or
• taxation of worldwide income of persons within their borders with credit for certain foreign taxes paid
• the US approach applies exemption and credit principles, depending on how closely connected US-source income of a nonresident is to US territory, and it has the further peculiarity of subjecting citizens to income tax on their worldwide income, even if they are not US residents

b. Income and succession taxes must usually be withheld on payments to foreign nonresidents
c. Special tax rules often exist for "alien" (non-citizen) residents with foreign income
IV. How treaties affect national international tax rules
a. On the other hand, a double tax treaty changes the basic orientation of the treaty partners (i.e., the countries who enter into the treaty). With the primary goal of preventing double taxation, treaties significantly alter "defensive" tax rules like the exemption or credit approaches
b. Collectively, current treaties create a roughly unified international tax regime
c. Overall, they divide worldwide taxing jurisdiction between source and residence countries along active/passive lines (but not quite - "permanent establishment" threshold for taxing active businesses)
VI. Underlying policy
a. Capital-export neutrality: domestic tax laws should neither encourage nor discourage outbound capital flows.
b. Capital-import neutrality: domestic tax laws should neither place additional burdens on nor give tax advantages to investments of the taxing country's multi-national corporations in other countries; hence, residence countries may exempt all foreign-source income from domestic tax or adopt other rules that have a similar effect.
c. National "share" equity: each country wants its "fair share" of tax revenues from income derived in transactions linked with its territory.
d. Elimination of distorting and inefficient tax incentives that invite retaliation by other taxing authorities.
VI. Exemption and credit approaches to taxing cross-border transactions
a. Returning for the moment to national income tax rules for cross-border transactions, notice that there are two broad types of solution to the capital-import and capital-export problems, and these solutions may also achieve a kind of nation-equity as well, although that is not their most obvious consequence.
b. "Exemption" systems achieve capital-import neutrality by exempting all foreign-source income from domestic tax, which allows the source country to tax the income as it wishes, but avoids double taxation.
c. Credit systems achieve slightly less perfect capital-import neutrality by taxing resident taxpayers on foreign-source income but allowing them a credit for taxes on that income paid to the source country.
d. Exemption ensures that only one country taxes a given item of income that has a resident owner but a foreign source; credit only for foreign taxes paid ensures that at least one country taxes a given item of income.'
e. Achieving both goals - that an item of income linked to more than one country will be taxed at least and at most once - would fully ensure capital-import neutrality, and treaties are at present our best means of realizing both goals, so that they are a compromise between the features of exemption and credit systems. close