International taxation is a complex and important area of interstate relations. To facilitate tax cooperation between countries, bilateral tax agreements are often formed. However, in this context, a practice known as treaty shopping often arises which can interfere with the original purpose of the agreement.
This article will explain what treaty shopping is, how the mechanism works, and its impact on international taxation.
Basic Definitions and Concepts
Treaty shopping is the practice of abusing bilateral tax agreements in which a company or individual takes advantage of loopholes in agreements to avoid or reduce their tax obligations.
In some cases, entities or individuals that do not have significant ties to a country implementing a particular tax treaty will try to gain significant tax benefits by moving to that country.
A bilateral tax agreement is an agreement formed between two countries to regulate the application of tax laws between the two. The purpose of the agreement is to avoid double tax avoidance, prevent tax evasion, and provide legal certainty to taxpayers. However, treaty shopping takes advantage of loopholes in the agreement to create tax advantages that are inconsistent with its original purpose.
Treaty shopping mechanism
Treaty shopping is carried out through various mechanisms designed to take advantage of loopholes in bilateral tax agreements.
One common method is to set up an entity located in a country with favorable tax treaties, which is then used as a vehicle to transfer income or assets to take advantage of lower tax rates or other tax benefits.
This practice often involves creating complex corporate structures with the aim of maximizing available tax benefits.
Impact of Treaty Shopping
Treaty shopping has a significant negative impact in the context of international taxation.
First, this practice results in a loss of tax revenue for countries that are victims of treaty shopping. These countries are missing potential revenue that should be obtained from companies or individuals who do treaty shopping. This can harm the country’s fiscal balance and hinder the government’s efforts to improve economic development.
In addition, treaty shopping can also undermine the equality and fairness of international taxation. When certain companies or individuals can easily
take advantage of loopholes in tax agreements to obtain benefits they should not get, this creates injustice in the international tax system. This impact can reduce public confidence in tax regulations and affect the image of the countries involved.
Efforts to Control and Prevent Treaty Shopping
To control and prevent treaty shopping, certain steps can be taken by countries. First, the state can increase its stringency in regulating the requirements that must be met to meet the criteria for tax benefits in bilateral agreements. By setting more stringent requirements, countries can reduce the gaps that can be exploited by treaty shopping practices.
In addition, international cooperation is also very important in combating treaty shopping. Countries can work together to strengthen bilateral tax treaties, adopt international standards on the prevention of tax evasion, and share information to identify suspicious treaty shopping practices.
Several countries have taken the initiative to fight treaty shopping through stricter tax policies. They introduced anti-treaty shopping provisions specifically designed to address this problem. This provision aims to capture and prevent the practice of treaty shopping by providing further explanation on the criteria for tax benefits and setting certain limits on this abusive practice.
Controversial Cases and Challenges
There are several controversial cases of treaty shopping in the real world. An example is the case where a multinational corporation uses a series of intermediary entities located in different countries with favorable tax treaties to avoid paying taxes. Cases like these raise complex legal and enforcement challenges in dealing with treaty shopping.
Another challenge is the difference in interpretation and implementation of the provisions of bilateral tax agreements. Different countries may have different interpretations of the provisions relating to treaty shopping, which can complicate concerted efforts to combat this practice. Closer coordination and cooperation between countries is needed to address this challenge.
During the Covid-19 pandemic, a number of investors took advantage of this situation to find safe investment alternatives and avoid the risk of loss. This condition was also followed by a decrease in the price of certain assets that were profitable for investors. As a result, several countries began to look for ways to prevent Treaty Shopping from occurring and close the loopholes used by investors to manipulate interstate tax agreements.
During the Covid-19 pandemic, the Treaty Shopping trend has also changed. Several countries such as Australia and India have begun to tighten rules and strengthen supervision to prevent Treaty Shopping. On the other hand, several countries such as Germany and France have also begun to limit Treaty Shopping by imposing additional taxes on investments made by multinational companies.
Not only investment recipient countries, investment sending countries are also feeling the impact of the Covid-19 pandemic. The occurrence of an economic recession has made several multinational companies experience financial difficulties and are looking for ways to reduce costs. Treaty Shopping is an attractive alternative for these companies to avoid high taxes and reduce operational costs. As a result, investment-sending countries also feel the impact of this Treaty Shopping practice.
Conclusion
Treaty shopping is the practice of abusing bilateral tax agreements which can have a negative impact in the context of international taxation. This practice can lead to loss of tax revenue for victimized countries, as well as undermine tax equity and justice. To overcome treaty shopping, control and prevention efforts are needed which involve increasing the requirements for tax benefits, international cooperation, and stricter tax policies. With joint efforts, it is hoped that treaty shopping can be reduced, and international taxation can become more fair and transparent.
