Reassessing Tax Sparing Credit in International Tax Law: Treaty Function, Mutual Benefit, and Selective Use

When a country wants to attract foreign investment, it often lowers the tax it charges on those investments. The problem is that the investor’s home country may then take back, through its own tax rules, the very saving the source country intended to give. A tax sparing clause in a tax treaty fixes this by letting the home country treat the spared tax as if it had been paid, so that the benefit of the incentive actually reaches the investor. For decades, this device has been criticised. Stanley S. Surrey and the OECD’s 1998 report called it a disguised form of foreign aid — a gift from the home country that often subsidised investment that would have happened anyway and that was open to abuse. This dissertation argues that this view is too narrow. Tax sparing is better seen as a treaty tool that protects the source country’s right to set its own tax incentives and that, when properly designed, can serve both countries involved — the source country, whose policy reaches the investor it was meant for, and the residence country, whose investors become more competitive abroad. The dissertation develops this argument by examining how tax sparing works in treaty law, by reassessing the traditional critique, and by studying the treaty practice of Singapore and China — two countries that have moved from being mainly capital importers to significant capital exporters. The conclusion is that tax sparing should not be abolished altogether, but neither should it be used without limits. It should be used selectively: only for genuine, time-limited incentives, with safeguards against abuse, and in a way that fits the modern rules introduced by the BEPS project and the Pillar Two global minimum tax. A model clause is offered to put these conditions into practice.