Lara is from London, who owns a beautiful lake house offering bed and breakfast in Spain. She is wondering whether her income from the property is from the income from immovable property (real property) or not. Let’s try to understand what is income from real (immovable property).
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Article 6 of the OECD Model Tax Convention covers taxation on income from immovable property or the real property.
Highlights:
- Which country has the right to tax income on an immovable property?
- Definition of immovable property.
- What is included or excluded in the phrase ‘income from the immovable property’?
- Does Article 6 apply to entities?
- Whether interest received by the mortgagee from the loan on an immovable property be covered by Article 6 or Article 11?
Which country has the right to tax income on an immovable property?
According to Paragraph 1 of Article 6, “Income derived by a resident of a Contracting State from immovable property situated in the other Contracting State may be taxed in that Other State.” Immovable property has a direct economic relationship with the Country of Source, and any income derived from such transaction, is taxed by the Country of Source.
OECD Model Tax Convention has included agriculture and forestry in the term’ immovable property’, but few countries choose to tax them under Article 7. Income from agriculture and forestry is to interpreted broadly, to include any income that is an integral part of the carrying on of agriculture and forest activities.
Article 6 makes it clear that it deal with only the immovable property of the State where the recipient of income is non-resident. It will not include the immovable property located in the State of residence or any other third State.
Note: Many countries choose to use the term ‘real property’ rather than ‘immovable property.’ Example: UK and US Double Tax Avoidance Agreement.
Definition of immovable property
According to Paragraph 2 of Article 6, “Immovable Property” will have the same meaning which it has under the law of the Contracting State in which the property is situated. Hence the domestic legislation will play a pivotal role in determining the taxability of the income from the immovable property.
What is included or excluded in the phrase ‘income from the immovable property’?
Paragraph 2 of Article 6 specifies the property which is covered under Article 6:
- property accessory to immovable property,
- livestock and equipment used in the agriculture and forestry,
- rights to which the provisions of general law respecting landed property apply,
- rights to use or take advantage of the immovable property;
- rights to variable or fixed payments as consideration for the working of, or the right to work, mineral deposits, sources, and other natural resources.
It is imperative to note, Ships and Aircraft are not be regarded as immovable property.
Paragraph 3 of Article 6 states the general rule of taxing the income of the immovable property applies to all situation irrespective of the arrangements or the nomenclatures used.
Does Article 6 apply to entities?
Paragraph 4 of Article 6 expressly states that Paragraphs 1 to 3 of Article 6 will apply to all the enterprise. Hence all the industrial, commercial, or other enterprises would be covered here.
We have to understand that the specific taxation rights specified under Article 6 will empower the Country of Source to tax the income from the immovable property business of the foreign entity even if it does not have Permanent Resident in the Source country. The country of Source has rights to tax income from immovable property, also if entities indirectly derive it.
Whether interest received by the mortgagee from the loan on an immovable property be covered by Article 6 or Article 11?
A mortgagee’s interest derived from the mortgage on immovable property falls under the generic phrase ‘under any other income derived from immovable property’ of Article 6 and the specific term ‘interest’ of Article 11. Hence the particular provision of Article 11 will override the general provision, which leads to the taxation of mortgagee’s interest derived from the loan on immovable property under Article 11.