Reviewed by Aug 27, 2020| Updated on
Double taxation refers to the taxation of the same income in two different countries or in the hands of two different persons. In double taxation, there is a double levy of income-tax. The levy may be at the investor level and the payor level or the levy may be residence-based taxation in one country and at the source level in another country.
Understanding Double Taxation
- At an investor and corporate level, the common example of double taxation is the taxation of dividend income. The company paying dividends first pays tax on its total earnings. A portion of the after-tax earnings is then distributed as dividends to shareholders of the company. Thus, the profits distributed as dividend had already suffered tax. The dividend income gets once again taxed in the hands of the shareholders or investors. Thus resulting in double taxation of dividends.
- In case of income earned by a non-resident in India, there is a tax liability in India unless exempted by the tax law. The income is generally subject to a tax deduction at source or TDS. At the same time, the income gets taxed as part of the global income in the country of residence. The incomes suffer a tax twice in two different countries.
- The effects of double taxation get nullified if the recipient of the income gets a tax credit for the tax paid. The TDS is generally eligible for a tax credit in the hands of the income earner. In the case of non-residents, the tax treaties between India and the respective foreign country allows for a tax credit in the country of residence.
- However, in the case of dividends, there is a levy of TDS on dividends which is eligible for a tax credit in the hands of the investors. The TDS levy is at the distribution level and in addition to the tax on net taxable income of the company. The tax on dividends stands on a different footing in comparison to interest paid to borrowers of a company. The interest is the income of the borrowers, eligible for a tax credit for TDS and hence taxed only once.
Double taxation is generally the effect of the legislation and its impact on various incomes at different levels. While certain incomes are taxed only after they get expensed in the books of the payor, certain others like dividend get taxed at two levels. Normally, interest or commission income expensed in the books forms income of the payor and is not subject to double taxation, unlike dividends.