AN OVERVIEW OF THE EFFICACY AND IMPACT OF BILATERAL/DOUBLE TAXATION AGREEMENTS IN TANZANIA
- Overview of existing Bilateral Agreements in Tanzania
- Assessment of the impact of Bilateral Agreements to the economy
A bilateral or Double Taxation Agreement (DTA) is an agreement between two countries that reduces the tax bill for an individual who is a resident of one country but has citizenship in another country. For purposes of identifying a taxpayer, the term “individual” is used in a broader sense to include both natural persons and non-natural/legal persons (entities). By such agreement a taxpayer is relieved from paying tax to both countries. Under the double taxation agreement any tax paid in the country of residence will be exempt in the country in which it arises i.e. the country of source.
Double taxation occurs when the same transaction or income source is subject to two or more taxing authorities. This can occur within a single country, when independent governmental units have the power to tax a single transaction or source of income, or may result when different sovereign states impose separate taxes, in which case it is called International Double Taxation. The source of the double taxation problem is that the taxing jurisdictions do not follow a common principle of taxation. One taxing jurisdiction might tax income at its source or destination, while others will tax income based on the residence or nationality of the recipient.
The consequence of double taxation is to tax certain activities at a higher rate than similar activity that is located solely within a taxing jurisdiction. This leads to unnecessary relocation of economic activity in order to lower the incidence of taxation, or other, more objectionable forms of tax avoidance. Businesses especially have had the most trouble with double taxation, but individuals also might find it uneconomic to work abroad if all of their income is subject to taxation by two authorities, regardless of the origin of the income.
The primary purpose of double taxation agreements is to facilitate the international flow of capital, technology and services by eliminating double taxation of income and other taxes in international transactions through a bilateral (occasionally multi-lateral) resolution of the conflicts between overlapping tax jurisdictions.
The problems that double taxation presents have long been recognized, and with the growing integration of domestic economies into a world economy, countries have undertaken several measures to reduce the problem of double taxation. In Tanzania there are nine existing bilateral treaties on double taxation. This article examines the efficacy of existing agreements in resolving double taxation problems.
The tax department at Breakthrough Attorneys prepared this article to give an insight and assess the efficacy of the bilateral agreements that Tanzania is a party to. The phrases ‘Bilateral Agreements’, ‘Double Taxation Treaty’ and ‘Double Taxation Agreements’ will be used interchangeably throughout this article.
2.0 Bilateral agreements existing in Tanzania
Tanzania has signed DTAs with nine countries. These are Sweden, Canada, Denmark, Finland, Norway, India, Italy, Zambia and South Africa. With an exception of South Africa whose treaty was signed in 2005, most of the agreements are old and signed in the 1960s, 1970s and 1990s. Most of the agreements that exist are very old and do not reflect the changes in the economy of Tanzania or the advancements in e-commerce globally. More importantly, such agreements do not reflect the current main economic partners in terms of investment entities as well as manpower influx who both tend to be taxing points and prone to double taxation incidences. Breakthrough Attorneys wishes to stress on the impact that China has in the African continent and specifically it’s Foreign Direct Investment (FDI) into Tanzania but also on the number of Chinese citizens currently in Tanzania and the tax implication therefrom.
Over the years, a number of African countries have successfully managed to re-negotiate and cancel treaties that did not serve their economic needs. On its part, Tanzania has made attempts to re-negotiate some of its bi-lateral agreements but no conclusions have been made on the same. The last bilateral agreement to be terminated by Tanzania was with Switzerland. The reason for termination was that the agreement was applicable to Tanzania as an extension of a tax treaty signed between Switzerland, the United Kingdom and Ireland in 1954 which has since been terminated as against those principal parties too.
According to the Tanzania Revenue Authority, Tanzania currently regards its DTA treaty template as a combination of the Organization for Economic Co-operation and Development (OECD) and UN models with slight domestic modifications.
Currently, Tanzania is negotiating nine new DTAs with the Netherlands, Mauritius, United Kingdom, United Arab Emirates, Kuwait, Iran and China. A treaty with Oman was concluded in 2011 but has not been signed yet and one with Vietnam was concluded in 2014 but negotiations were re-opened before signing due to changes in Vietnam’s income tax legislation.
3.0 Assessment of the impact of bilateral agreements
Bilateral agreements have often been perceived as an attraction for investors and key drivers in promoting FDI, international trade, and furthering diplomatic missions and relations.
However, some studies have shown that the expectations of bilateral agreements with regards to FDIs are not practical. A study conducted in 2014 by Baker P.L on the “Analysis of Double Taxation treaties and their effects on Foreign Direct Investments” suggests that the perceived and practical impacts of bilateral agreements on attracting FDI are exaggerated.
Most contracting states are often at different economic levels and thus do not have equal ground in terms of benefits. Developing countries like Tanzania are often the source countries and they often surrender their taxing rights to developed countries which are resident countries of multinational companies.
A study by Tanzania Tax Justice Coalition conducted in May 2016 suggests that it has become evident that DTAs are being used as conduits for tax avoidance by multinational companies across tax jurisdictions.
In a recent report by Van de Poel, “In search of a new balance: The impact of Belgian tax treaties on developing countries(2016)”, the loss to developing countries as a result of Belgian tax treaties amounted in approximately USD 38.8 million, with the Democratic Republic of Congo alone losing an estimated USD 8.7 million in 2012.
The estimated revenue foregone by Least Developed Countries (LDCs) to the Netherlands only in 2011, excluding royalties, was USD 854.7 million according to a report by McGauran and Katrin titled “Should the Netherlands Sign Tax Treaties with Developing Countries?”
For the aforesaid reasons, a number of studies such as the IMF (2014), OECD (2014), Tax Justice Network Africa (2015) and SEATINI & Action Aid (2014) have warned developing countries to take caution and consider re-negotiation or cancellation of the existing bilateral agreements that are not in line with their economic needs. Some countries such as Rwanda, Kenya, Malawi, Uganda and Nigeria have terminated bilateral agreements for reasons of re-negotiation strategies. Tanzania may need to consider doing the same.
4.0 Bilateral Agreements in relation to Foreign Direct Investments
Despite the common assertion that DTAs attract foreign direct investments to source countries, studies show that there is a lack of statistical evidence to confirm that increased FDI is a result of DTAs signed between two countries.
A comparative study conducted by the Robert Schuman Centre for Advanced Studies on the numbers and rates of DTAs in East African Community (EAC) and the Southern African Development Community (SADC) countries with their respective FDI flows does not reveal a clear pattern that would support the argument that DTAs attract high FDIs.
Tanzania and Mozambique, for example, have rather high withholding taxes but nearly as much FDI inflow as Zambia, which has many more treaties with lower rates. Burundi and Rwanda have low withholding tax rates but do not seem to attract much less FDI than Zimbabwe which has rather high withholding taxes.
The Tanzania Investment Report by the Bank of Tanzania in 2013 revealed that most of the FDI inflow into Tanzania has originated from ten major countries. These include; United Kingdom, Canada, Australia, Switzerland, United States of America, Luxembourg, South Africa, Brazil, Kenya and Botswana. Only two of these countries have DTAs in place with Tanzania.
Therefore, there is no supporting evidence to show that the existence of DTAs is a major determining factor influencing Multi-national Companies decisions to invest in Tanzania as most countries of investment origin do not have DTAs with Tanzania. However, this does not mean that bilateral agreements are totally irrelevant for attracting FDIs.
Our tax department after the foregoing analysis of the status as well as the applicability of the DTAs have managed to conjure up a list of forward-looking recommendations for DTAs to work positively for Tanzania. Here is the outline:-
5.1 Review of existing DTAs
As submitted above, most DTAs to which Tanzania is a party to were signed decades ago. There is need therefore to review the agreements so that they can meet the current realities of the economy. Thus, Tanzania needs to consider re-negotiation of existing DTAs so that it does not surrender its taxing rights to its treaty counterparts. Current DTAs should be replaced with agreements which permit greater taxation of foreign income and capital by the source country so that tax revenues derived from these incomes are fairly apportioned between Tanzania and its developed tax treaty counterparts. The tax rates should be in line with Tanzania’s revenue collection ambitions without imposing a heavy tax burden and dampening private investment.
5.2 Development of a policy for DTA negotiations
Having a policy in place would help in guiding all ongoing and future negotiations for bilateral agreements. A policy would enable the country to uphold important principles that will minimize the loss on taxes foregone. The policy would also create an inclusive environment for all stakeholders to have an input on the model and terms of the bilateral agreements entered into by the country.
5.3 Fostering parliamentary participation on approval and oversight of all DTAs
The usual practice has been that DTAs are negotiated, presented to Cabinet for approval, signed by the responsible Ministers or diplomatic missions abroad and ratified by Government without ratification by the Parliament.
At Breakthrough Attorneys we took note of, and it is also an undeniable fact, the realization that DTAs are instruments of long-term international commitment, the anticipated benefits and costs of each DTA should be clearly presented, debated and endorsed by Parliament. The Government should also provide regular reports or updates in regards to the benefits accrued from the various DTAs signed and enforced.
Our Breakthrough Attorneys’ tax lawyers reckon that Bilateral agreements can be highly beneficial to developing countries if properly negotiated.
DTAs often provide a tax information exchange arrangement which lowers the administrative costs of taxation. The agreements also to some extent encourage foreign investment to developing countries since there is tax certainty.
However, when the contracting states are at different economic levels there is a risk that the income may flow substantially in one direction (from the developing country to the developed country). It is for this reason that Tanzania should be keen when negotiating for DTAs. Last but not least, Tanzania can also negotiate DTAs which intend to support a specific industry (e.g. agriculture) in line with the country’s vision of industrialization. (The aim being to leverage on specific skills and resources from the counterparty even if temporarily Tanzania will be foregoing most of its taxation rights.)
This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is given as to the accuracy or completeness of the information contained in this publication, and, to the extent permitted by law, Breakthrough Attorneys, its members, employees and agents do not accept or assume any liability, responsibility or duty of care for any consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.