The convention will settle a dispute which arose when Latvia unilaterally canceled the 1994 convention this June.
With negotiators from both sides reportedly satisfied, the Latvian government approved the convention on Dec. 4 while the Estonian side plans to review it on Dec. 18. It will probably be next year before the two countries' parliaments ratify the treaty, which is expected to take effect retroactively from Jan. 1, 2002, Andrejs Birums, head of the Latvian Finance Ministry's tax convention department told The Baltic Times.
Latvia canceled the previous treaty in response to new corporate tax arrangements Estonia introduced in 2000 under which companies are taxed on payments to shareholders but not on profits.
"When the first tax convention was signed in 1994 both countries' taxation systems were similar so the convention was very liberal," Birums said.
The new convention resembles conventions Latvia has with such countries as Sweden, Finland and Denmark, he added.
It gives Latvia the right to levy taxes on dividends, interest payments and royalties, but allows companies to deduct from tax payments taxes that have been levied in other countries on the same payments.
It also stipulates the maximum tax rate that can be imposed on such payments by the other country.
The country where a company is registered can levy a tax of up to 5 percent on dividends paid to holders of stakes larger than 25 percent. For holders of smaller stakes the taxation rate will be 15 percent.
Interest payments can be subject to up to 10 percent taxation and royalties up to 5 percent taxation if the royalty is for the use of production, commercial or scientific equipment and 10 percent in other cases.
The convention will broaden the rights of both countries to impose taxes on firms which operate in their territory but which are registered in the other country. Taxation can be levied on dividends, interest and royalties at the point of payment.