What Is Double Taxation?

Double taxation is a tax principle referring to income taxes paid twice on

the same source of income. It can occur when income is taxed at both the
corporate level and personal level. Double taxation also occurs in
international trade or investment when the same income is taxed in two
different countries.

How Double Taxation Works

Double taxation often occurs because corporations are considered

separate legal entities from their shareholders. As such, corporations pay
taxes on their annual earnings, just like individuals. When corporations pay
out dividends to shareholders, those dividend payments incur income-tax
liabilities for the shareholders who receive them, even though the earnings
that provided the cash to pay the dividends were already taxed at the
corporate level.

Double taxation is often an unintended consequence of tax legislation. It is

generally seen as a negative element of a tax system, and tax authorities
attempt to avoid it whenever possible.

Most tax systems attempt, through the use of varying tax rates and tax
credits, to have an integrated system where income earned by a
corporation and paid out as dividends and income earned directly by an
individual is, in the end, taxed at the same rate. For example, in the U.S.
dividends meeting certain criteria can be classified as "qualified" and as
such, subject to advantaged tax treatment: a tax rate of 0%, 15% or 20%,
depending on the individual's tax bracket. The corporate tax rate is 21%, as
of 2019.

KEY TAKEAWAYS

Double taxation refers to income tax being paid twice on the same source
of income.

Double taxation occurs income is taxed at both the corporate level and
personal level, as in the case of stock dividends.

Double taxation also refers to the same income being taxed by two different
countries.

While critics argue that dividend double taxation is unfair, advocates say
that without it, wealthy stockholders could virtually avoid paying any income
tax.

Debate Over Double Taxation

The concept of double taxation on dividends has prompted significant

debate. While some argue that taxing shareholders on their dividends is
unfair, because these funds were already taxed at the corporate level,
others contend this tax structure is just.

Proponents of double taxation point out that without taxes on dividends,

wealthy individuals could enjoy a good living off the dividends they receive
from owning large amounts of common stock, yet pay essentially zero
taxes on their personal income. Stock ownership could become a tax
shelter, in other words. Supporters of dividend taxation also point out that
dividend payments are voluntary actions by companies and, as such,
companies are not required to have their income "double taxed" unless
they choose to pay dividends to shareholders.

Certain investments with a flow-through or pass-through structure, such as

master limited partnerships, are popular because they avoid the double
taxation syndrome.
International Double Taxation

International businesses are often faced with issues of double taxation.

Income may be taxed in the country where it is earned, and then taxed
again when it is repatriated in the business' home country. In some cases,
the total tax rate is so high, it makes international business too expensive
to pursue.

To avoid these issues, countries around the world have signed hundreds of
treaties for the avoidance of double taxation, often based on models
provided by the Organization for Economic Cooperation and Development
(OECD). In these treaties, signatory nations agree to limit their taxation of
international business in an effort to augment trade between the two
countries and avoid double taxation.