The purpose of double tax treaties varies and has evolved throughout the years. From the initial role of eliminating double taxation to combatting tax avoidance and evasion through exchange of information, eliminating discrimination and providing dispute resolution mechanisms. Depending on whether we are looking at treaties from the source country or the residence country, the rationale behind signing such a treaty continues to change.

Looking at tax treaties from a general perspective, there are few negatives, if any, in signing a double tax treaty. The elimination of double taxation is seen as a way to provide certainty to taxpayers, and therefore investors, which could result in more foreign investors looking to establish a business in that particular country. Combatting tax avoidance and evasion is also a tool which countries would want to have at their disposal, which could also result in additional tax revenues.

When looking at tax treaties from the eyes of a source country, one must understand the details of the specific treaty as most of them, nowadays, typically allocate taxing rights to the residence country. Different treatment could be provided for passive income, where the source country is allocated primary taxing rights, usually by way of withholding taxes, whilst residual rights would be allocated to the residence country. Active income would, in most cases, be exclusively taxable in the residence country unless there is a specific physical presence in the source country.

Apart from all of the above, entering into tax treaties with a number of countries, ideally countries with which trade is high, provides a rubber stamp to that particular country and will increase interest from investors. Double tax treaties give a sense of security that the country is playing in accordance with international tax standards and that, could in turn, lead to an increase in foreign direct investment.

The recently signed Double Tax Treaty between Rwanda and Qatar is definitely a step in the right direction as this will facilitate trade between the two countries. The introduction of Transfer Pricing Rules in Rwanda, as announced earlier this year, will also provide the certainty which is expected by investors before making significant investments in a country or region. These rules could be used by taxpayers to reach advance pricing agreements with tax authorities.

Whilst there are various studies which provide different conclusions on the impact of tax treaties on foreign direct investment, particularly for the matters mentioned above, the perception alone could outweigh any tax forgone by the source country when negotiating treaties. The increase in the desirability, and ultimately actual foreign direct investment, will, in the long run, outweigh any taxing rights lost to residence country jurisdictions.

The writer is a co-founding partner of Seed, an internationally focused research-driven advisory firm based out of Malta, Europe.

www.seedconsultancy.com 

 nicky@seedconsultancy.com