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Under this approach, services income may be subject to taxation in the source country. irrespective of whether the SP has a PE in that jurisdiction, or of the length of time that the SP is present in the jurisdiction, or how long the services are provided in that jurisdiction, or how much income is earned through the service activities.

A final withholding tax is a reasonably simple tax to administer and is, for this reason, often the preferred approach of developing countries to taxation of non-resident SPs. The compliance burden falls completely, or almost completely, on the resident payer of the income.

However, unrelieved double taxation may result from gross taxation, unless the withholding rate is low enough to ensure that no excessive taxation is imposed, having regard to expenses incurred in deriving the income. A withholding tax may also discourage the commencement of services in a jurisdiction by non-residents, since it applies without any threshold to exclude short-term or preparatory or auxiliary activities.

The source rules under royalty articles or similar provisions may lead to taxation of sendees income in multiple countries, e.g. where the payer of the income is a resident of State A, but the services are physically performed in State B. A service provider may find that his State of residence may not be willing or able to fully relieve the taxes imposed at source.

Only the OECD alternative services PE provision meets all of the desirable conditions for source taxation, i.e. it provides for net taxation of income from services performed in the jurisdiction, but only where a minimum threshold is met. In this way it avoids multiple source issues and precludes excessive taxation, which in turn helps to ensure that double taxation is eliminated. However, once the OECD alternative services PE (or any other services PE) threshold has been met, a significant compliance burden arises and there are administrative difficulties in enforcing tax liabilities on mobile activities of non-resident SPs. While some of the enforcement difficulties can be ameliorated by the imposition of a non-final withholding tax, this increases both the compliance obligations of payers for services of non-resident SPs, and the administrative burden on revenue authorities.

Provisions that permit royalty-type taxation of income from services certainly reduce the compliance and administration burden, but do not meet any of the above conditions. Such provisions may lead to uncertainty as to scope (e.g. if limited to technical services), multiple source taxation, and taxation of income from preliminary, minor or very short-term services. Such provisions may also lead to excessive taxation - and therefore unrelieved double taxation - unless the withholding tax rate set under the treaty is low.

 

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