Over the past tens of years, international transactions have been greatly increased and a number of states have concluded a tax treaty in order to improve international transactions through the prevention of double taxation. In the meantime, treaty shopping activities using the loophole of tax treaties have been also greatly increased. Thus, the global community has discussed a solution to this problem and it has become an issue whether or not preventing tax avoidance activities by a domestic tax law in case where a tax treaty does not provide otherwise comes under a treaty override.
Since a tax treaty normally consists of approximately 30 articles, it is actually difficult to resolve all issues related to international transactions by only 30 articles. Accordingly, there has been being discussed a necessity of applying domestic tax laws where a tax treaty itself cannot resolve the related issues.
The position supporting the application of domestic tax law is based on the fact that the purpose of a tax treaty lies in the prevention of double taxation and tax evasion and OECD Model Commentaries allow the application of domestic anti-avoidance rule. On the other hand, the position objecting to the application of domestic tax law is based on the Vienna Convention which provides “Every treaty in force is binding upon the parties to it and must be performed by them in good faith.” and “A party may not invoke the provisions of its internal law as justification for its failure to perform a treaty.”
A contracting state’s unilateral treaty override action results in infringing on the taxing rights of the other contracting state and hampering international transactions. If the global community cannot resolve this important matter on a reasonable basis, the global community will continue to face with tax disputes. Thus, this thesis focuses on analyzing the related issue and seeking out a reasonable solution to the controversial problem.
The problems related to the execution of a tax treaty can be classified into three kinds of pattern as follows: 1) a problem related to the interpretation of terms used in the article of a tax treaty, 2) a problem related to the interpretation of tax treaty provisions, and 3) a problem related to applying a domestic tax law (such as anti-avoidance rule) to what is not provided otherwise in the tax treaty.
First, where a tax issue occurs in relation to the interpretation of terms, it can be resolved by applying the standard provided in Paragraph 2, Article 3 of the OECD Model Tax Convention and the related tax treaty without a treaty override issue.
Paragraph 2, Article 3 of OECD Model Tax Convention provides “As regards the application of the Convention at any time by a Contracting State, any term not defined therein shall, unless the context otherwise requires, have the meaning that it has at that time under the law of that State for the purposes of the taxes to which the Convention applies, any meaning under the applicable tax laws of that State over a meaning given to the term under other laws of that State.”
Second, a problem related to the interpretation of tax treaty provisions can also be resolved without a treaty override issue.
Commentary 3 on Introduction of the 2005 OECD Model Tax Convention emphasizes that “Member countries, when concluding or revising bilateral conventions, should conform to this Model Convention as interpreted by the Commentaries thereon and having regard to the reservation contained therein and their tax authorities should follow these Commentaries, as modified from time to time and subject to their observations thereon, when applying and interpreting the provisions of their bilateral tax conventions that are based on the Model Convention.”
When necessary, competent authorities of contracting states can resolve by mutual agreement any difficulties or doubts arising as to the interpretation or application of a tax treaty and refer to the commentaries of the OECD Model Tax Convention or the technical explanations of the US Model Tax Convention in the case of a tax treaty with the United States.
Third, a problem related to applying a new domestic tax law (such as anti-avoidance rule) to what is not provided otherwise in the tax treaty should be approached in a more careful way.
Commentary 9.2 on Article 1 of the OECD Model Tax Convention states “To the extent these anti-abuse rules are part of the basic domestic rules set by domestic tax laws for determining which facts give rise to a tax liability, they are not addressed in tax treaties and are therefore not affected by them. Thus, a general rule, there will be no conflict between such rules and the provisions of tax conventions.”
Where a contracting state concludes a tax treaty with the other contracting state, two states should respect the concluded tax treaty. In addition to this, two states should, as an OECD member country, resolve related matters by applying the commentaries of the OECD Model Convention which is agreed upon by member countries and respect the recommendation of the OECD. Further, a tax treaty plays a role of coordinating the differences of contracting states’ domestic tax laws which are differently made according to their respective tax policy and determining the taxing rights of two contracting states based on its conclusion contents. In this respect, it can be said that a tax treaty is clearly distinguished from other international laws and a principle suitable to the purpose of a tax treaty is required.
In order to eradicate an unnecessary dispute, it is necessary to establish a clear and reasonable principle to ascertain a true treaty override action. Only where the legislation which comes under a treaty override action unilaterally infringes upon the taxing rights of other contracting state and significantly hampers the legal stability, must it be treated as a treaty override legislation which violates the Vienna Convention. On the other hand, where a newly established domestic tax law is applied in accordance with the purpose of a tax treaty, it must not be treated as a treaty override action.
As there are a number of international laws other than a tax treaty, it is necessary to resolve the related treaty override problems using a practical “field by field approach” rather than a simple theoretical approach.
However, if there is still a necessity of taking a theoretical approach, it is necessary to classify international laws field by field and harmoniously apply both the “later-in-time principle” and the “special law priority principle” in order to secure the harmonious execution of an international law and a domestic law.
If some states adhere to the later-in-time principle to do treaty override legislation and other states respect the treaty priority principle, the global community will continue to face with tax disputes. Therefore, it is necessary to minimize tax disputes by establishing a clear and reasonable principle for the development of the global community.
Available at: http://works.bepress.com/sung_soo_han/1/