A Note on the Taxation of International Capital Income Flows

Seemingly persuasive arguments can be made to suggest that income from foreign-owned capital should be taxed by a small open economy and that it should not be taxed I show that the case for taxing foreign capital income as part of an 'optimal' tax scheme rests on the assumption that tax rates on other forms of income are not set optimally. In particular, if economic profit is not fully taxed, a tax on foreign capital income is desirable. If all tax rates are set optimally, foreign capital income should not be taxed by the capital-importing country.