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Double Tax Avoidance Agreement (DTAA): How it works?

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Published Date: 26 Nov 2024Updated Date: 30 Dec 20246 mins readBy MOFSL

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Introduction

When you are working in a foreign country or choose to invest abroad, tax obligations can become complex, especially when it involves many countries. You might face issues with paying taxes for the earned income in the originating country and your home country. What this does is cause double taxation. To avoid this, India, along with 90 other countries, entered into a Double Tax Avoidance Agreement (DTAA). Learn how DTAA helps avoid tax twice on the same income in this article, along with its benefits.

What is a Double Tax Avoidance Agreement (DTAA)?

A Double Tax Avoidance Agreement (DTAA) is a bilateral agreement between two nations that helps protect individuals and businesses from paying taxes twice on the same income. Without DTAA, you would be required to pay taxes in the country your income originated from and your country of stay. DTTA brings relief from this dual taxation by specifying how the income should be taxed in each country. It applies to various types of income, such as salary, income from house property, dividends and interest, capital gains, royalties, and technical fees.

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Why is Agreement for Avoidance of Double Taxation Important?

In the absence of this agreement, you might face double taxation, which can lead to higher tax liabilities and reduced income. For example, as a Non-Resident Indian (NRI), you may earn income in India and your country of stay. In this case, you can utilise the DTAA provisions to avoid paying tax on the same income in both countries and follow the structured taxation as per the laws in the respective countries and the agreement rules. The DTTA agreements foster smoother international relations. It promotes cross-border trade and investment and reduces the tax burden.

How Does the DTAA Work?

DTAA works by allocating tax rights between the source country and the resident country. Let's take a closer look at how it functions:

· Source and resident-based taxation

DTAA helps establish which country has the primary right to tax the specific income. For example, income from rental property in India will typically get taxed in India, while your foreign country of stay may exempt it under DTAA.

· Tax credits and exceptions

If your income gets taxed in the source country, DTAA might allow you to claim a credit or exemption in your home country as an NRI. This mechanism ensures that you don't get taxed twice.

· Clarification of tax liabilities

DTAA provides clear guidelines on the types of income that should be taxed by each country. This helps you understand and fulfil your tax obligations accurately without facing penalties.

· Eligibility and documentation

To avail of the DTAA benefits, you must verify your residency and income sources with appropriate documentation. Once verified and approved, you can take advantage of the Double Tax Avoidance Agreement.

Benefits of the agreement for double taxation avoidance

The agreement for double taxation avoidance is beneficial to you and the government, as it facilitates tax processes. Here are its primary advantages:

· Eliminates double taxation

The most obvious benefit of DTAA is it prevents you from being subjected to double taxation. This allows you to save significantly on your tax payments.

· Reduces tax rates

You can experience reduced tax rates on specific income types, such as dividends, royalties, and interest with DTAA. It encourages investment between countries.

· Simplifies tax compliance

DTAAs simplify tax compliance for NRIs and foreign investors by clearly outlining tax liabilities in the source and resident countries.

· Boosts trading and investments

Lower tax burdens, thanks to DTAA, promote cross-border trading and investments. This benefits you, as well as, the economies of both countries.

· Improves relations between countries

DTTA strengthens diplomatic ties and economic cooperation between nations. Due to this, a positive international trade environment is created.

Procedure to Claim DTAA Benefits

To claim the DTAA benefits, you need to follow specific steps, which are outlined as follows:

1. Get a Tax Residency Certificate (TRC), which proves your residency in the DTAA partner country.

2. Fill out form 10F to confirm residency details and other relevant information for DTAA.

3. Submit a self-declaration of your income to establish your eligibility for DTAA benefits.

4. Claim tax credits in your country of residence by submitting documentation of tax paid in the source country.

If the complexities of international tax laws and the process of claiming the DTAA benefits seem complicated, you can seek advice from a tax expert. They will ensure legal compliance and maximise the benefits of the agreement.

Conclusion

With a vital tool like the Double Tax Avoidance Agreement (DTAA), you can navigate cross-border tax obligations with ease. DTAA helps promote economic cooperation and simplifies compliance. It clarifies tax liabilities and offers relief from double taxation. It offers an opportunity for you to manage your taxes efficiently as an NRI and retain more of your income instead of paying double taxes.