Looking for the answer to the question below related to Financial Management ?
_________ is a tax levied on passive income earned by an individua; or corporation of one country within the tax jurisdiction of another country.
|A. Income Tax
B. Withholding Tax
C. Value added tax
D. Poll Tax
The Correct Answer Is:
- B. Withholding Tax
The correct answer is B. Withholding Tax. Withholding tax, also known as retention tax or source tax, is a tax levied on passive income earned by an individual or corporation of one country within the tax jurisdiction of another country. This tax is deducted or withheld at the source of the income and is subsequently remitted to the government.
Let’s explore in detail why this is the correct answer and why the other options are not applicable:
B. Withholding Tax:
1. Passive Income Taxation:
Withholding tax is primarily applied to passive income, which includes various types of income that do not involve active participation, such as interest, dividends, royalties, and some capital gains. When residents of one country earn passive income from sources within another country, the country where the income is sourced often imposes withholding tax on that income.
2. Tax Collection at Source:
Withholding tax operates as a mechanism for tax collection at the source of income. In practical terms, this means that the payer of the income, such as a financial institution or corporation, is responsible for deducting the applicable withholding tax from the income payment before it is disbursed to the non-resident recipient.
The withheld amount is then remitted to the tax authority of the country where the income is sourced.
3. Avoiding Double Taxation:
One of the primary purposes of withholding tax is to prevent double taxation. Many countries have tax treaties or agreements in place to specify the rates of withholding tax to be applied to cross-border income and to avoid the situation where the same income is taxed in both the source country and the recipient’s home country.
Now, let’s briefly explain why the other options are not correct:
A. Income Tax:
Income tax is a broad-based tax imposed on an individual or corporation’s income, including both active and passive income. It is not specifically linked to passive income earned by non-residents from sources in another country. Withholding tax is a specific subset of income tax.
C. Value Added Tax (VAT):
Value Added Tax (VAT) is a consumption tax levied on the value added to goods and services at each stage of production and distribution. It is not directly related to passive income earned by non-residents and does not involve the withholding of tax at the source of income.
D. Poll Tax:
Poll tax is a fixed tax levied on individuals or households, typically with no regard to their income or financial activities. It is unrelated to the taxation of passive income earned across international borders.
In conclusion, withholding tax is a specific type of tax that is levied on passive income earned by individuals or corporations from one country within the tax jurisdiction of another country. It serves as a mechanism for tax collection at the source of income and is essential for preventing double taxation in cross-border transactions.
Understanding withholding tax rates, tax treaties, and compliance requirements is crucial for businesses and individuals engaged in international financial activities to ensure they meet their tax obligations and avoid legal and financial complications.