1. Introduction

As per Art. 7(1) of a tax treaty, the income attributable to a permanent establishment is taxable in the Source State. But, for that purpose, can an enterprise deduct notional expenses in guise of the independent enterprise/ separate enterprise hypothesis embodied in Art. 7(2) of an applicable tax treaty?

The above-mentioned question represents one of the most intricate tax treaty interpretation issues, and has far-reaching implications in a broad variety of scenarios. As examples, consider these scenarios: can an enterprise deduct ‘notional rent’ for a permanent establishment’s use of a construction equipment owned by the enterprise? Can an enterprise amortize ‘notional goodwill’? For determination of the tax liability in the Residence State, can an enterprise deduct ‘notional interest’ on amounts ‘owed’ by the head office to a permanent establishment?

In this article, we would examine the above-mentioned thought-provoking questions with help of a some very interesting court decisions from a Canadian court, and the Supreme Court of the Netherlands (Hoge Raad).