What is ‘Double taxation’
Double taxation-a taxation principle referring to income taxes paid twice on the same income source. This can happen when income is taxed at the corporate level and on a personal level. Double taxation arises in international trade when the same income is taxed in two different countries.
Breaking down the ‘double taxation’
Double taxation is often an unintended consequence of tax laws. It is usually seen as a negative element of the tax system and tax authorities in an attempt to avoid it whenever possible.
Double taxation of corporations and shareholders
Double taxation often occurs because corporations are considered separate legal entities from their shareholders. As such, corporations pay taxes on their annual income, as well as people. When corporations pay dividends to shareholders, those dividend payments subject to income tax obligations on the shareholders who receive them, despite the income, which provided funds for the payment of dividends have already been taxed at the corporate level.
The concept of double taxation on dividends paid to shareholders caused considerable debate. Although some argue that the taxation of dividends received by shareholders is unfair double taxation of income, because it was already taxed at the corporate level, while others believe that this tax structure is fair.
The proponents of “double taxation” on dividends point out that without taxes on dividends, wealthy individuals could enjoy the good life from the dividends they received from owning large amounts of common stock, but to pay virtually zero taxes on their personal income. Also, the proponents of taxation of dividends note that the dividend payment is a voluntary action of the company and, therefore, companies do not have to have their income “double taxed” if they want to make payment of dividends to shareholders.
Most of the tax system attempts, through the application of various tax rates and tax perks to having an integrated system where the income of the Corporation and paid out as dividends and income earned directly by the individual, in the end, is taxed at a flat rate.
International Double Taxation
International companies often face issues of double taxation. The income may be taxed in the country where it was earned, and then taxed when it is repatriated to the country. In some cases, the total tax rate is so high, it makes international business too expensive to conduct.
To avoid these problems, the countries signed many agreements on avoidance of double taxation, often based on models proposed by the organization for economic cooperation and development (OECD). In these treaties, state signatories agree to limit their taxation of international business in order to increase trade between the two countries and the avoidance of double taxation.