REPUBLIC OF ALBANIA
MINISTRY OF FINANCE
GENERAL TAXTION DEPARTMENT
INSTRUCTION
No.6, dated 10/02/2004
ON BILATERAL AGREEMENTS ON AVOIDANCE OF DOUBLE TAXATION
AND PREVENTION OF FISCAL EVASION
Pursuant to Article 102, item 4 of the Constitution of the Republic of Albania, as well as regarding application of the Law No.8560, dated 22.12.1999 “ On Tax Procedures in the Republic of Albania ’’, (Articles 10 and 24), for the application of Bilateral Agreements concluded by the Republic of Albania on avoidance of double taxation and prevention of fiscal evasion (list of agreements attached) which have been signed and effective in accordance with the provisions of Law no.8371, dated 09/07/1998 “On Concluding Agreements and International Treaties”, Minister of Finance,
INSTRUCTS:
1. Legal basis for concluding agreements for elimination of double taxation.
For the application of the Law 8560, dated 22/12/1999 “ On Tax Procedures in the Republic of Albania’’, (Article 10), the General Taxation Department has negotiated a number of international agreements (tax agreements), which have been signed and have become effective according to Law No. 8371, dated 09/07/1998 "On Concluding International Agreements and Treaties". On the basis of Article 24 of the Law “ On Tax Procedures in the Republic of Albania ’’ the General Taxation Department shall also be held responsible for the task of administration and application of provisions of international tax agreements and represent the country for co-operation and solving of tax disputes with tax administrations of other countries.
2. General clarifications with regard to double taxation and tax agreements.
Each country is free to create, adopt and implement a tax system that match to its needs and development. But despite the features that tax systems might have, they, generally, are based on some basic principles which have a long time that are established and have been continuously updated due to world development on tax theory and practice during hundreds of years. In the function of the purpose of this Instruction, below are some clarifications on two crucial principles where most countries’ tax legislation is based:
2.1. The principle of residence. The term “resident”, which in its narrow meaning implies a “permanent resident” that fiscally speaking is used to indicate individuals or companies( juridical persons)that on the basis of criteria defined in the legislation of a state(country), are considered tax entities of that state, fully liable to tax in that State. Thus, in the fiscal meaning, residence of a taxpayer is related to “permanent residency for fiscal effects”, consequently, some states, in order to express tax residence use the term “fiscal domicile”. Generally, for defining the residence of a taxpayer, tax legislations are based on the criteria as follow:
a) For juridical persons( companies):
· A resident of the State where head office or the place of effective management of the company is situated, thus in the territory of the State in which central administration(the board of directors) meet and take business decisions;
· Place of foundation or incorporation, thus the country on the basis of which legislation the company is founded and registered to exercise an activity as a juridical person.
b) For individuals:
· A resident of the state where he has a permanent home available to him;
· The state in which his personal and economic relations are closer(where he has his family and economic interests);
· The state where he physically stays most part of the year (more than 183 days), etc.
On the basis of such criteria is defined the State where the “fiscal residency” or “residence” of a company or individual is situated and consequently its full liability to pay tax in such state.
Law no. 8438, dated 28.12.1998 “On Income Tax”, (amended) considers an individual to be resident in the Republic of Albania, in case he has a permanent home available in the territory of Republic of Albania, or resides in Albania more than 183 days of a taxable period, whether consecutively or not, whereas a juridical person, in case he has a permanent establishment (head office) and has a place of effective management of business in the Republic of Albania
On the basis of “Residency principle”, priority in tax treatment is given to entities and not to the state where incomes are incurred. All entities considered tax residents of a state (that meet the defined criteria by the legislation of that state for such purpose), be individuals or companies, should be taxed in such state for all income that they gain within or outside the territory of that state. Such taxation implies a taxation on world-wide basis or taxation of residents on incomes or profits incurred world-wide.( In the Albanian Law “On Income Tax”, this principle is prescribed in Article 7, paragraph 1 on individuals, and in Article 17, paragraph 1 on companies (juridical persons).
2.2. The principle of source. According to this principle, income or profits created in a state should be taxed in such state notwithstanding if the entity (individual or company) is or is not resident of such state. In the same manner, on the basis of source principle, properties situated in a state (land, buildings, etc) should be taxed in that state, notwithstanding if the owner of such properties is or is not resident of that state. Thus, principle of source gives priority to the state where such incomes are “produced” or they incur, or the state in which such properties are situated, despite the fact that such income are benefited from, or such properties are owned by foreign individuals or companies, that are non-residents of that state. In the Albanian Law “On Income Tax”, this principle is prescribed in Article 7, paragraph 2 on individuals, and in Article 17, paragraph 2 on companies (juridical persons).
2.3.The meaning of double taxation. Tax legislation of most of the countries in the world and that of nearly all developed countries have established both the principle of residence and that of source. Thus, the meaning of the above principles can be expressed:
a) individuals and companies that are considered to be residents of a state according to its legislation, shall be liable to tax in that state on total income realized worldwide, (therefore in that state and elsewhere), (principle of residence), and
b) individuals and companies that are considered to be non-residents of a state according to its legislation, shall be liable to tax in that state only on income realized in that state, (principle of source)
The same conclusion can be arrived from the interpretation of Articles 7 and 17 of the Albanian Law “On income Tax”.
Under such circumstances, individuals or companies, resident of a state and exercising activities and gaining income in another state, for such income are taxed twice, once in the state of residence of taxpayer (individual or company, and, once in the state of the source of income.
Example: To better understand double taxation, let us assume that an individual or company (juridical person), resident of State X, carries on an activity in Albania:
a) in the case of an individual, he may be a specialist, resident adviser of State X, working for an Albanian company for part time, or is an independent expert( lawyer, engineer, physician,, etc.)or sportsman or an artist, that does not meet the criteria to be considered an Albanian resident for tax purposes( he stays in Albania, in total, less than 183 days during a tax year, and/or his vital interests are in State X), therefore he is not an Albanian resident for tax purposes. Therefore, such individual, being a resident of State X, on the basis of tax legislation of that state, he is liable to tax in that state for the total income realized in that state and elsewhere, therefore also for the income realized in Albania. On the other hand, for the proportion of income realized in Albania, on the basis of the Law “On Income Tax (Article 7, paragraph 2), such individual is liable to tax in Albania, on the salaries or remunerations he gains for the work that he carries out in Albania. As it is understood, for the income generated from his work in Albania, such individual is taxed two folds, in Albania and in the State X (once in the country where such income are realized and once in the country in which the taxpayer is a resident). In the same manner, individuals, tax residents of State X, may realize income (interest) from deposits from banks in Albania, or might realize income from dividends from their shares from an Albanian resident company, and in such cases their dividends or interests are taxed twice: once a withholding tax at source in Albania (state where such income are realized), and once in state X (where taxpayer is a resident).
b) In the case of a company, it might be a commercial company of State X, resident of State X according to the tax legislation of that State. Let us assume that this company is “COMERC-X-SA”. Meanwhile, the company “COMERC-X-SA” establishes a branch or a representative office in Albania (that might be a shop for sales, a building site, as sub-contractor for the implementation of the construction or installation project, etc, through which carries on business and earns income in Albania, as well. According to tax legislation of State X, company “COMERC-X-SA is liable to tax in State X for the total income earned in State X and elsewhere in any other state, therefore for the income earned in Albania, as well (principle of residence). On the other side, for the income earned in Albania, according to “Income Tax Law”, Article 17, paragraph 2, such company will be liable to tax (principle of source). Under such circumstances, the proportion of income realized in Albania will be liable to tax twice, in Albania (state where income have their source) and then in State X where the taxpayer (company) is resident for tax purposes. In the same manner, foreign companies may realize income( from interests), from loans that may have given to Albanian companies, or may realize income generated from royalties ( the right to use patents, trade marks, etc. given to Albanian companies, from deposits from banks in Albania, or might realize income from dividends from their shares from an Albanian resident company, and, in all cases, respectively, gains from interests, royalties and dividends and in such cases their dividends, royalties or interests are taxed twice: once a withholding tax at source in Albania ( state where such income are realized), and once in state X( where the beneficiary company( taxpayer )is resident, in State X.
As it may be seen in the two above examples, juridical double taxation, may arise where the same income in the hands of the same person, is taxed twice: once in the state of source and once in the state where taxpayer is resident. Double taxation may occur even in cases where both contracting states claim, on the basis of criteria of their domestic legislations (that may be different), that an individual or a company are considered to be resident of both parties (states), (double residency), and therefore are fully liable to tax in both states. Consequently, under such circumstances, solely the fact that the activity of an individual or a company is extended in both states, make the income generated by individual or company be taxed twice.
2.4. The need for concluding Tax Agreements. Double taxation hampers movement of individuals, companies, capitals and reciprocal investments from one country to another. Bilateral tax agreements on the elimination of double taxation, through provisions designed and negotiated by contracting parties eliminate double taxation by defining the taxing right of each party on certain income of the entity, or by proportioning this right to tax between the contracting states, thus avoiding double taxation of the entity. Convention or Agreement for the elimination of double taxation with regard to tax on income and on capital, which in practice often are titled agreement on double taxation or simply tax agreements, create a full legal basis for individuals or companies that become subject to tax in both countries(states)between which (contracting parties)an agreement is concluded. Such agreements aim, as well, at avoiding fiscal evasion by individuals or companies that carry on activities in both states between which a tax agreement is concluded. Under such circumstances, such Agreements play a substantial role in the complexities of factors that guarantee, favour and promote international relations in the field of economy and trade. The need for concluding tax agreements becomes essential especially now when there is a growth in the number of multinational enterprises that carry on activities, simultaneously, in some countries (approximately 60% of trade on worldwide basis is developed by such multinationals). By exercising activities in some states, multinationals fall under tax jurisdiction of some states, an issue which complicates and makes more difficult collection of taxes in each state. In such cases double taxation may arise, but also the issue of tax evasion makes it a necessity for concluding tax agreements. Continuous growth of movement of individuals that carry on business activities in two or more states, as for example, artistes, sportsmen, layers, physicians, advisers, etc., property owning by various individuals in some countries, etc. make it a growing necessity for concluding agreements on elimination of double taxation and avoidance of fiscal evasion.