Optimality Properties of Alternative Systems of Taxation of Foreign Capital Income

Foreign source capital income taxes are examined from the point of view of of optimal taxation. In the framework of a simple economy with international real capital flows, a taxonomy of alternative systems of such taxation is first presented, showing how crediting and other tax parameters induce what are called source-based, residence-based and related systems. Next, tax rates are determined that are optimal from a single country's point of view, given those of the others. The achievability of these rates under the various systems is analyzed. Finally, tax rates that are optimal from an international point of view are considered. Again, achievability of an international optimum under that various systems is considered, leading to the main conclusions that (i) a residence based system in ail countries can achieve an international fiscal optimum; (ii) this is not the case with a source system; (iii) the former however cannot be sustained as an equilibrium.