Current income tax treaty developments.

Six new treaties await Senate ratification--with Austria, Luxembourg, South Africa, Switzerland, Thailand and Turkey. The Senate Foreign Relations Committee has indicated that a hearing on these agreements will not be held until late this summer or early fall. All these agreements generally follow the OECD and U.S. models (with some modifications). This article addresses these treaties and highlights important deviations from the models.

Treaties Awaiting Ratification--Highlights

* Austria Withholding rates

[] Dividends: Under the existing treaty, the rate on portfolio dividends is one-half of the statutory rate (15% in the case of the U.S.; 12.5% in the case of Austria); the rate for direct investment dividends is 5%.(39) The 5% rate is available only if: (1) 95% of the payer's voting stock is owned (directly or indirectly) by a corporation; (2) not more than 25% of the payer's gross income was derived from interest and dividends from a nonsubsidiary; and (3) the relationship between the two companies was not arranged or maintained primarily with the intention of securing the reduced rate.

Under the new treaty, the rate on portfolio dividends cannot exceed 15%; this would allow Austria to increase its withholding tax on dividends paid to the U.S. from 12.5% to 15%. The 5% rate for direct investment dividends is retained and applies if the beneficial owner is a company (other than a partnership) that directly holds at least 10% of the payer's voting stock.(40)

In general, under the new treaty, the 15% rate applies when the payer is a U.S. regulated investment company (RIC) or real estate investment trust (REIT). However, the U.S. statutory rate (30%) applies to a U.S.-source dividend paid by a REIT, unless the dividend is beneficially owned by an Austrian individual with a less-than-10% interest in the trust.

The U.S. can apply a maximum 5% branch profits tax to Austrian branches in the U.S.

[] Interest: The exemption for interest is retained. Under the new treaty, interest on debts secured by mortgages are exempt, under the interest article (Art. 11). The existing treaty deals with such income under the article addressing income from immovable property (Art. IX). The exemption does not apply to (1) contingent interest of a type that is not portfolio interest or (2) an excess inclusion with respect to a real estate mortgage investment conduit (REMIC); these are subject to the U.S. statutory rate (30%).(41)

[] Royalties: The exemption for royalties (other than motion picture and broadcasting royalties) is maintained. The rate will be 10% for royalties for the use of (or the right to use) cinematograph films or films, tapes or other means of reproduction used for radio or television broadcasting. For this purpose, royalties include gains from the alienation of intangible property rights contingent on the productivity, use or disposition of such property.(42)

Other provisions

[] Business profits: The new treaty applies to the business profits derived by a "sleeping partner" in a "sleeping partnership" (Stifle Gesellschaft) under Austrian law.(43) A "sleeping partnership" is a contractual arrangement under which an investor (the sleeping partner, with limited liability) contributes money or property to the contracting partner's business in exchange for a share in the business's profits and under the entitlement to obtain specified information about the business's development.(44)

[] Gains: If an enterprise of one contracting state (CS) has a permanent establishment (PE) or fixed base in the other CS, the latter can tax gains from the alienation of personal property forming part of the business property of such PE or fixed base.(45) The first CS may also tax the gain, after the PE or fixed based no longer exists, but must allow a deduction for the gain taxed by the other CS.

[] Limitation on benefits: Similar to provisions in the new treaties with Luxembourg and Switzerland, as well as the existing treaties with France and the Netherlands, treaty benefits will only be allowed to a person that is(46):

1. An individual;

2. A CS, political subdivision or local authority thereof;

3. Engaged in the active conduct of a substantial trade or business in the CS of residence (other than the business of making or managing investments, unless by a bank or insurance company), and deriving income from the other CS in connection with (or incidental to) that business(47);

4. A person who satisfies a 50% ownership and 50% base erosion test(48);

5. A company whose principal class of shares is substantially and regularly traded on a recognized stock exchange, or a company, at least 90% of which is owned (directly or indirectly) by not more than five such publicly traded companies (provided each company in the chain of ownership is a resident of a CS and the owner of any remaining portion of the company is an individual resident in a CS);

6. A tax-exempt, nonprofit organization (including pension funds and private foundations) deemed a resident of a CS, provided that more than half of the beneficiaries, members or participants are entitled to treaty benefits;

7. A recognized headquarters company for a multinational corporate group (a company that meets the same criteria listed below under the Switzerland treaty).

A resident of a CS who does not otherwise qualify for treaty benefits may request that the competent authority of the other CS grant it treaty benefits.

Triangular rule: This rule denies treaty benefits when an Austrian enterprise derives interest or royalties from the U.S., the income is attributable to a PE in a third jurisdiction, and the profits of that PE are subject to an aggregate effective tax rate in Austria and the third jurisdiction that is less than 60% of the general rate of company tax applicable in Austria (i.e., for treaty benefits to apply, the aggregate tax rate must be at least 20.4%, 60% of the Austrian corporate tax rate of 34%).(49) This rule does not apply to: (1) interest derived in connection with (or incidental to) the active conduct of a trade or business carried on by the PE in the third jurisdiction; (2) royalties received as compensation for the use of (or the right to use) intangible property produced or developed by the PE; or (3) income derived by an Austrian enterprise if the U.S. taxes the enterprise's profits under subpart F.

Unlike similar provisions in the treaties with France, the Netherlands and Switzerland, withholding is imposed at the statutory rate on interest and royalties received by an Austrian enterprise failing the 60% test.

[] Pensions: Individuals who render dependent personal services in one CS and contribute to a recognized pension scheme in the other CS can deduct the contributions in determining their taxable income in the first CS; the contributions are treated in the first CS in the same way and subject to the same conditions and limits that ordinarily apply to contributions to the first CS's pension scheme. This rule applies only if (1) the individual was not a resident of the first CS and was contributing to the pension scheme immediately before beginning to work there; and (2) the pension scheme is accepted by the competent authority of that CS as generally corresponding to a pension scheme recognized as such by that CS for tax purposes.(50)

[] Relief from double taxation: With respect to income derived by U.S. citizens, Austria allows a credit for income derived by U.S. citizens only to the extent the U.S. can tax the income under the treaty(51); thus, a U.S. citizen resident in Austria can take a credit against Austrian tax of 15% of the portfolio dividend from U.S. sources, even though the individual is subject to U.S. net income tax because of his citizenship.(52) With respect to interest, however, no Austrian credit is available for the U.S. net income tax, because the rate of tax allowed under the treaty is zero. To the extent necessary to avoid double taxation, the income referred to above that does not qualify for a credit in Austria is Austrian-source income for which the U.S. will allow a credit for Austrian taxes paid.

[] Entry into force: The treaty will enter into force on the first day of the second month following the exchange of instruments of ratification. For withholding taxes, the treaty is effective for payments made on or after the first day of the second month following entry into force. For taxes on other income, the treaty is effective for fiscal periods beginning on or after the January first of the year following entry into force.(53)

Therefore, if instruments of ratification are exchanged in September 1997, the treaty would enter into force on Nov. 1, 1997. For withholding tax purposes, it would be effective for payments made on or after Jan. 1, 1998; for other taxes, it would be effective for fiscal periods beginning on or after Jan 1, 1998. Taxpayers can elect to apply the existing treaty for the first tax year after the new treaty enters into force.

* Luxembourg Withholding rates

[] Dividends: The rate is 15% on portfolio dividends and 5% for direct investment dividends.(54) Under the new treaty, the 5% rate applies only if the beneficial owner of the dividend is a company that owns directly at least 10% of the payer's voting stock.

Under the existing treaty, the rate on portfolio dividends is 50% of the statutory rate (15% in the case of the U.S.; 7.5% in the case of Luxembourg).(55) The 5% rate is available only if: (1) during part of the payer's tax year that preceded the dividend and the whole prior tax year, the payee owned at least 50% of the payer's voting shares, either alone or in association with no more than three other companies of the same CS, provided that each owned at least 10% and (2) no more than 25% of the payer's gross income, other than a company in the principal business of making loans, is derived from interest and dividends from nonsubsidiaries.(56)

Generally, under the new treaty, the 15% rate applies when the payer is a RIC or REIT; however, the U.S. statutory rate (30%) applies when the payer is a REIT, unless the dividend is beneficially owned by an individual with a less-than-10% interest in the REIT.(57) The U.S. can apply its branch profits tax to Luxembourg branches in the U.S. at a maximum 5% rate.(58)

A unique and controversial provision allows Luxembourg companies to pay dividends to U.S. residents free of Luxembourg withholding tax. This exemption applies when: (1) the payer is a Luxembourg resident and the beneficial owner is a U.S. resident; (2) the U.S. resident has directly held at least 25% of the payer's voting stock for at least two uninterrupted years preceding the dividend (substantial holding privilege); (3) the dividend is attributable to the shareholding during the two-year period; and (4) the income distributed is derived from the active conduct of a trade or business in Luxembourg (other than the business of making or managing investments, unless conducted by a bank or insurance company).(59)

The requirement that the dividend be derived from the active income of the Luxembourg company has created quite a stir.(60) As originally released to the public in April 1996, the treaty required only that the payer be engaged in an active business in Luxembourg; it did not require nexus between the dividend and the active business income derived there.(61) The text was changed before the treaty was submitted to the Senate.(62) Had the text not been changed, a significant loophole would have existed--any operating Luxembourg company (other than a holding company) could have been used as a conduit through which dividends from other European Union (KU) countries could flow to the U.S. tax free.

Example: A Corporation, a U S. corporation, has owned all of the stock of B Corporation, a Luxembourg corporation, since B's creation in 1992. In addition to being actively engaged in business in Luxembourg, B has owned all of the stock of C (an Austrian corporation), D (a Belgian corporation), E (a Danish corporation) and F (a Swedish corporation) since 1993. Dividends from C, D, E or F would be exempt from source withholding under EU directives and would not be subject to Luxembourg income tax under the substantial holding privilege Because B is engaged in an active business in Luxembourg, it could pay the dividends to A free of Luxembourg tax. If the dividends E and F were paid directly to A, 5% withholding would have been imposed under the relevant treaties with the source countries.

Finally, the dividend article (Art. 10) applies if the beneficial owner of the dividend holds depository receipts evidencing ownership of the shares (in lieu of the actual shares).(63)

[] Interest: The exemption for interest is retained, and expanded to include interest on debts secured by mortgages.(64) The exemption does not apply to contingent interest or to an excess inclusion with respect to a residual interest in a REMIC.(65)

[] Royalties: The exemption for royalties is retained.(66)

Other provisions

[] Taxes covered: In addition to the income taxes imposed by the Code (except for Social Security taxes), the treaty also applies to the U.S. excise tax on insurance premiums paid to foreign insurers for insurance other than reinsurance only to the extent the risks covered by such premiums are not reinsured with a person not entitled to exemption from such taxes under a treaty that applies to such taxes.(67) This provision exempts Luxembourg companies that directly insure U.S. risks from the tax, subject to an anti-conduit rule that provides that the treaty will not exempt risks reinsured with persons (including Luxembourg residents) not entitled to exemption from the taxes on direct insurance and reinsurance premiums.(68)

[] General definitions: In the case of a partnership or other entity not subject to tax as a body corporate under the laws of the other CS, the persons subject to tax on the income under the laws of that CS are the "beneficial owners" of such income.(69) This provision is intended to apply to income derived by persons "fiscally transparent"(70) under the laws of the CS in which the owners of those persons are resident. This provision is drafted from the perspective of the source CS; thus, the reference to "other CS" is the CS in which the person claiming the benefits is resident.(71)

[] Residence: In conjunction with the definition of "beneficial owner," the residence article (Art. 4) states that income derived by a partnership, estate or trust is income of a resident only to the extent it is subject to tax in that CS as income of a resident, either in its hands or in the hands of its partners, beneficiaries or grantors.(72) Thus, whether income received by a partnership is received by a resident is determined by the residence of its partners (looking through any partnerships which are themselves partners), rather than by the residence of the partnership itself.(73)

[] Dependent personal services: Income in respect of employment exercised aboard a ship or aircraft operated in international traffic by an enterprise of a CS may be taxed in that CS. If that CS does not tax the income, it is taxable in the employee's CS of residence.(74)

[] Artistes and athletes: Host-CS taxation results when the gross receipts derived by an entertainer or athlete exceed US$10,000 or its equivalent in Luxembourg currency.(75) This provision deviates from the U.S. Model, which would exclude the first US$20,000.

[] Students, trainees, teachers and researchers: The exemption for payments received by an apprentice or business trainee is limited to two years. If the visit exceeds two years, the host CS may tax the individual under its national law for the entire period of the visit, unless the competent authorities agree otherwise.(76) Under the existing treaty, the exemption is limited to one year.(77) Like many other U.S. treaties, certain invited teachers and academic researchers are exempt from host-CS taxation; this exemption is also capped at two years and does not apply to the extent payment is made for research carried on for the benefit of any person other than the educational institution that extended the invitation.(78)

[] Limitation on benefits(79): With certain exceptions, treaty benefits are only allowed to "qualified residents."(80) A resident of a CS is a "qualified resident" if: (1) an individual(81); (2) a CS, political subdivision or local authority thereof(82); (3) a person that meets a 50% ownership and 50% base erosion test(83); (4) a company whose principal class of shares is substantially and regularly traded on one or more recognized stock exchanges(84); (5) a company controlled (directly or indirectly) by such a publicly traded company, provided that its payments to persons who are neither qualified residents nor U.S. citizens meet the base erosion test(85); (6) a tax-exempt, nonprofit organization, provided that more than half of its beneficiaries, members or participants are qualified residents.(86)

Active business test: A resident of a CS that is not a qualified resident may be entitled to treaty benefits if directly (or indirectly, through an associated enterprise) engaged in the active conduct of a substantial trade or business in the CS of residence (other than the business of making or managing investments, unless conducted by a bank or insurance company), and the income derived from the other CS is connected with (or incidental to) that business.(87)

Derivative benefits test: Treaty benefits are extended to a resident of a CS whose shareholders reside in certain other countries. A corporation that is a resident of a CS and meets a special base erosion test and does not otherwise qualify for treaty benefits may be entitled to the reduced withholding rates provided in the dividend, branch tax, interest and royalties articles (Arts. 10-13), if 95% of the company's shares are ultimately owned by no more than seven residents of a CS that is: (1) a party to the North America Free Trade Agreement (NAFTA) or (2) a member of the EU and with which the other CS has a comprehensive income tax treaty that provides a rate of tax on such income no greater than the rate provided under this treaty.(88)

Triangular rule: Like the treaties with South Africa and Switzerland, this rule imposes a 15% withholding tax when a resident of one CS derives dividends, interest or royalties from the other CS, the income is attributable to a PE in a third jurisdiction, and the profits of that PE are subject to an aggregate effective tax rate in the CS of residence and the third jurisdiction that is less than 50% of the general rate of company tax applicable in the CS of residence (i.e., for treaty benefits to apply, the aggregate tax rate must be at least 16.64%, 50% of the Luxembourg corporate tax rate of 33.28%). Income other than dividends, interest or royalties is subject to tax in the other CS. The triangular rule does not apply to income derived in connection with (or incidental to) the active conduct of a trade or business carried on by the PE in the third jurisdiction (other than the business of making or managing investments, unless conducted by a bank or insurance company).(89)

Disproportionate class: Treaty benefits are denied for income attributable to a disproportionate class of shares if a majority of the shares are held by persons other than (1) qualified residents or (2) residents of countries that are parties to NAFTA or members of the EU.(90) The shares subject to this rule are entitled to a disproportionate participation in the company's earnings derived from the other CS through particular company assets or activities. The "disproportionate part" of the income is that part of total income that exceeds the income the shareholder would have received absent special terms that give the shareholder a disproportionate entitlement to the income from the source CS.(91) This class of shares may benefit under the treaty up to the point the income becomes excessive.

A resident of a CS that does not otherwise qualify for treaty benefits may request that the competent authority of the other CS grant it treaty benefits. This determination will depend on whether the establishment, acquisition or maintenance of the person seeking treaty benefits, or the conduct of such person's operations, has (or had) as one of its principal purposes the obtaining of treaty benefits.(92)

Exclusion of holding companies: Luxembourg holding companies (as defined in Art. 24(10)) or other companies that enjoy similar special fiscal treatment by virtue of the laws of Luxembourg are not residents and are denied treaty benefits.(93) Investment companies created under the Mar. 30, 1988 Luxembourg law are also denied treaty benefits.(94)

[] Relief from double taxation: Generally, Luxembourg will relieve double taxation through a combination of credits, exemptions and deductions. When a Luxembourg resident derives income or owns capital that may be taxed in the U.S., Luxembourg will exempt such items from tax, but in determining the applicable tax rate, Luxembourg may include those items in income.(95) When a Luxembourg resident derives dividends or interest that may be taxed in the U.S., Luxembourg will allow a deduction from its tax for the tax paid in the U.S., not to exceed that part of the Luxembourg income tax computed before the credit attributable to the income items derived from the U.S.(96) Luxembourg exempts U.S.-source dividends paid to Luxembourg companies, if the recipient has held directly since the beginning of its accounting year at least 10% of the payer's capital, and the payer is subject to U.S. income tax.(97) Special rules are provided for the tax treatment of U.S. citizens who are Luxembourg residents.(98)

[] Entry into force:The treaty enters into force on the date the instruments of ratification are exchanged. For withholding taxes, the treaty is effective for payments made on or after the January first of the year following entry into force; for taxes on other income, the treaty is effective for fiscal periods beginning on or after the January first of the year following entry into force.(99) Taxpayers can elect to apply the existing treaty for the first assessment period or tax year after the new treaty becomes effective.(100)

* South Africa

Withholding rates

[] Dividends: South Africa does not impose withholding on dividends paid to nonresidents after Oct. 1, 1995(101); thus, the treaty provisions only apply to U.S.-source dividends paid to South African beneficial owners. The rate is 5% on dividends paid to a corporation owning directly at least 10% of the payer's voting stock; in all other cases (including if the payer is a U.S. RIC or REIT), the rate is 15%. Dividends paid by a REIT qualify for the 15% rate only if paid to an individual holding a less-than-10% interest in the REIT.(102) An exemption from source-CS tax is provided for dividends paid to either CS (or a political subdivision or local authority thereof) or a CS-operated pension fund that does not control the payer.(103)

A 5% U.S. branch profits tax can be imposed; however, South Africa may impose a branch profits tax at a rate not exceeding the normal corporate tax rate (currently, 35%) plus 5%.(104) The 40% rate (35% + 5%) is consistent with South Africa's newly enacted branch profits tax (which is effective for tax years ending after Mar. 31, 1996).

Interest: Interest is exempt from withholding, with certain exceptions. The exemption does not apply to: (1) contingent interest not qualifying for the U.S. portfolio interest exemption; or (2) an excess inclusion with respect to a residual interest in a REMIC; these are subject to the U.S. statutory rate (30%).(105) A U.S. branch of a South African company is exempt from the U.S. tax on excess interest.

[] Royalties: Royalties are generally exempt from withholding tax, including payments for the use of (or the right to use) copyrights, patents, trademarks, know-how, etc., and gain derived from the alienation of such property if said gain is contingent on productivity, use or disposition of the property.(106)

Other provisions

[] Taxes covered: The treaty applies to U.S. income taxes (excluding Social Security taxes), the U.S. excise tax imposed on private foundations, and the South African normal corporate tax and "secondary tax on companies" (STC). The treaty's application to the STC, when combined with the provision on relief from double taxation (Art. 23), should make clear that the U.S. will allow a foreign tax credit (FTC) for the STC; this had been the subject of some debate.(107)

[] Residence: The treaty is the first to include language from the U.S. Model Treaty with respect to "fiscally transparent" entities.(108) Income derived by a"fiscally transparent" entity (under the laws of either CS) is deemed derived by a resident only to the extent the income item is treated as income of a resident under the laws of that CS.(109)

[] PE: The furnishing of services (including consultancy services) by an enterprise through employees or other personnel engaged by the enterprise for such purposes constitutes a PE if such activities continue in a CS for more than 183 days in any 12-month period.(110) Time spent on the same or a connected project is aggregated. As was discussed under the Kazakstan treaty, the preferred U.S. treaty policy is that such services do not give rise to a PE unless performed through a fixed place of business or by a dependent agent(111); however, the U.S. has agreed to similar provisions in other treaties with developing countries.(112)

[] Business profits: Similar to the Kazakstan treaty, a PE cannot deduct royalties, fees or similar payments made to its head office.[113]

[] Independent personal services: An individual deriving income from independent personal services is taxable only in his CS of residence, unless the services are performed in the other CS and are attributable to a fixed base regularly available to him there for purposes of performing those activities. However, an individual performing services in the other CS for more than 183 days in any 12-month period is deemed to have a fixed base there; income from services performed there are attributable to that fixed base and subject to tax there.(114)

[] Entertainers and athletes: Host-CS taxation results when the gross receipts derived by an entertainer or athlete exceed US$7,500 or its equivalent in South African currency(115); this provision deviates from the U.S. Model Treaty, which would exclude the first US$20,000.(116) Diplomatic notes may increase this amount.(117) Income from performances paid for with public funds are exempt.(118)

[] Pensions and annuities: The U.S. can tax at 15% U.S.-source pension distributions (periodic or lump sum) beneficially owned by a South African resident, unless the payment is an early withdrawal. South African-source distributions beneficially owned by a U.S. resident may be taxed by South Africa if the recipient: (1) has been employed in South Africa for at least two of the 10 years preceding the distribution; and (2) was employed there for at least 10 years overall.(119)

Annuities are generally subject to residence-based tax. However, an annuity purchased in a CS while the person was a resident there will also be subject to tax there.(120)

Deductible alimony paid by a resident of one CS to a resident of the other CS is subject to tax in the CS of the payer's residence. Nondeductible alimony is exempt in both CSs.(121) Nondeductible support for a minor child is also exempt in both CSs.(122)

The treaty is the first to follow the U.S. Model Treaty with respect to retirement plan contributions.(123) These rules provide three primary benefits: (1) deductions at the employee and employer levels for pension plan contributions, (2) exemption from tax on undistributed plan earnings and (3) exemption from tax on plan rollovers.(124)

[] Limitation on benefits: Treaty benefits are allowed only to a resident of a CS that is: (1) an individual; (2) a CS, political subdivision or local authority thereof; (3) a company more than 50% of whose shares (by vote and value) are regularly traded on a recognized stock exchange or a company at least 50% owned (directly or indirectly) by such a publicly traded company (provided each intermediate owner is entitled to treaty benefits); (4) a tax-exempt, nonprofit organization; (5) a tax-exempt pension fund, if more than half of the beneficiaries, members or participants are individuals resident in either CS; (6) a person (other than an individual or trust) that meets a 50% ownership and a 50% base erosion test; (7) a trust that meets a 50% base erosion test and that was at least 80% beneficially owned (directly or indirectly) by persons entitled to benefits under #1-6 above on at least 274 days of the tax year(125); and (8) a person engaged in the active conduct of a substantial trade or business in a CS (other than the business of making or managing investments, unless carried on by a bank or insurance company), and the income derived from the other CS is connected with (or incidental to) that business.(126)

Triangular rule: Like the treaties with Luxembourg and Switzerland, this rule imposes a 15% withholding tax when a resident of South Africa derives interest or royalties from the U.S., the income is attributable to a PE in a third jurisdiction, and the profits of that PE are subject to an aggregate effective tax rate in South Africa and the third jurisdiction that is less than 50% of the general rate of company tax applicable in South Africa (i.e., for treaty benefits to apply, the aggregate tax rate must be at least 17.5%, 50% of the South Africa normal tax rate of 35%). This rule does not apply to (1) interest derived in connection with (or incidental to) the active conduct of a trade or business carried on by the PE in the third jurisdiction (other than the business of making or managing investments, unless carried on by a bank or insurance company); (2) royalties received as compensation for the use of (or the right to use) intangible property produced or developed by the PE; or (3) income derived by a South African enterprise if the U.S. taxes the profits under subpart F.(127)

[] Elimination of double taxation: The treaty provides special rules for U.S. citizens who are South African residents. In general, South Africa allows a credit (South African credit) for the U.S. tax paid on income items covered by the treaty, unless the U.S. tax is imposed under the savings clause.(128) For purposes of U.S. tax on those income items, the U.S. allows a credit (U.S. credit) for the South African tax paid on those items after application of the South African credit; however, the U.S. credit cannot reduce the portion of U.S. tax on which the South African credit is based.(129) Under a special source rule, the income items on which the South African credit is allowed are deemed to arise in South Africa to the extent necessary to avoid double taxation.(130)

U.S. taxes paid by South African residents on income taxable in the U.S. (other than under the savings clause) can be deducted from South African taxes due, according to South African fiscal law; however, the deduction cannot exceed an amount that bears to the total South African tax payable the same ratio as the income concerned bears to the total income taxable in South Africa.(131)

[] Entry into force: The treaty enters into force 30 days after instruments of ratification are exchanged. For withholding taxes, the treaty is effective for payments made on or after January first of the year following entry into force; for taxes on other income, the treaty is effective for tax periods beginning on or after January first of the year following entry into force.(132)

* Switzerland

Withholding rates

[] Dividends: The rate on dividends remains at 15% (for portfolio dividends) or 5% (for direct investment dividends). Under the new treaty,(133) the 5% rate applies if the beneficial owner is a company that directly holds at least 10% of the payer's voting stock. Under the existing treaty, the 5% rate is available only if: (1) 95% of the voting stock is owned (directly or indirectly) by the payee corporation; (2) no more than 25% of the distributing company's gross income is derived from dividends and interest from a nonsubsidiary; and (3) the relationship between the two companies is not arranged or maintained primarily with the intention of securing the reduced rate.(134)

In general, under the new treaty, the 15% rate applies when the payer is a RIC or a REIT. However, the U.S. statutory rate (30%) applies to a U.S.-source dividend paid by a REIT, unless the dividend is beneficially owned by an individual with a less-than-10% interest in the REIT.

No withholding tax is imposed on dividends paid to certain tax-exempt pension funds to the extent the payer is not controlled by the pension fund.(135)

The U.S. can apply its branch profits tax to Swiss branches in the U.S. at a maximum 5% rate.

[] Interest: Under the new treaty, interest is exempt from withholding tax, with certain exceptions.(136) Under the existing treaty,(137) interest is subject to tax at a 5% rate. The exemption in the new treaty does not apply to: (1) contingent interest (e.g., payments based on turnover, income, net earnings ("equity kickers"), cash flow or the financial position of the debtor or a related party); or (2) an excess inclusion with respect to a REMIC; these are subject to the U.S. statutory rate (30%). A U.S. branch of a Swiss company should also be exempt from the U.S. tax on excess interest.(138)

Royalties: The exemption for royalties is maintained.(139)

Other provisions

[] Taxes covered: The treaty applies to the U.S. insurance excise tax to the extent that premiums paid to Swiss insurers are not reinsured with persons not entitled to benefits under this treaty or any other treaty that provides a similar exemption.(140)

[] Resident: Tax-exempt pension funds created in a CS by a resident, as well as tax-exempt, nonprofit organizations, are deemed residents of that CS. Partnerships, trusts and estates are deemed residents only to the extent that the income derived by such entities is subject to tax in that CS as the income of a resident, either in its hands or in the hands of its partners or beneficiaries.(141)

[] Shipping and air transport: The treaty does not include the provision contained in other recent U.S. treaties exempting income from the use or rental of containers (including trailers, barges and related equipment for the transport of containers) in international traffic from source-CS taxation. Therefore, unless the Treasury Technical Explanation provides otherwise, the PE and business profits provisions (Arts. 5 and 7) apply to such income.(142)

[] Gains: Gains from the sale of capital assets generally are taxable in the CS in which located. Gains by a resident of one CS from the disposition of real property situated in the other CS may be taxed in the latter. For this purpose, real property includes: (1) property referred to in Art. 6 (Income From Real Property); (2) shares or other comparable interests in a corporation, partnership, trust or estate that is a resident of the other CS with assets consisting principally of real property located there; and (3) U.S. real property interests (as defined in the Code).(143)

Similar to Art. 14(8) of the Netherlands treaty and Art. XIII(8) of the Canada treaty (as amended by Art. 8 of the Protocol that entered into force on Nov. 9, 1995), subject to certain limits, when a resident of one CS alienates property in a reorganization, and gain or income with respect to such disposition is not recognized or is deferred for tax purposes there, the alienator may request the competent authority of the other CS to agree to defer any tax arising from such transaction to the same extent that such tax would have been deferred had the alienator been a resident of that CS.(144) Because Swiss law currently taxes cross-border stock sales, this provision will have no effect on Swiss residents unless Swiss law on this point is changed; however, it could be beneficial to a U.S. resident that alienates assets in a nonrecognition transaction for U.S. purposes that would otherwise be taxable in Switzerland.

Similar to Art. XIII(7) of the Canada treaty, if an individual is subject to tax in both CSs and one CS deems a taxable disposition of property to have occurred, but the other CS does not find a realization or recognition of income and thus defers (but does not forgive) taxation, the individual may elect in his annual return of income for the year of such disposition to be liable to tax in the latter CS as if he had sold and repurchased the property for its fair market value immediately before the deemed disposition.(145) This provision is helpful for purposes of claiming an FTC.

[] Limitation on benefits: Treaty benefits will only be allowed to a person(146) that is:

1. An individual;

2. A CS, political subdivision, local authority, agency or instrumentality thereof;

3. Engaged in the active conduct of a substantial trade or business in a CS (other than the business of making or managing investments by a person other than a bank or insurance company), and deriving income there in connection with (or incidental to) that business(147);

4. A recognized headquarters company for a multinational group (defined below);

5. A company whose principal class of shares is primarily and regularly traded on a recognized stock exchange or a company, a predominant interest in which is ultimately beneficially owned by such a publicly traded company;

6. A Swiss family foundation, provided that the founder and a majority of the beneficiaries are entitled to treaty benefits and more than 50% of the foundation's income benefits persons entitled to treaty benefits;

7. A company, trust or estate, unless one or more persons who are not entitled to benefits under #1, 2, 4, 5 or 6 above are, in the aggregate, the ultimate beneficial owners of a predominant interest in the form of a participation (or otherwise) in such company, trust or estate; or

8. A pension trust or tax-exempt, nonprofit organization considered a resident of a CS, provided that more than half of the beneficiaries, members or participants are entitled to treaty benefits.

A resident of a CS that does not otherwise qualify for treaty benefits may request that the competent authority of the other CS grant it treaty benefits.

Subsidiaries of publicly traded companies: There has been some controversy over the test set forth in #5 above; on its face, it could be read to allow a subsidiary to qualify for treaty benefits while not requiring its parent corporation(s) to be a resident of either CS. Apparently, the Swiss negotiators thought that was the intended interpretation, but the U.S. has indicated that this is not the case.

Apparently, the confusion lies in the structure of Art. 22; its introductory language requires that a person be a resident of a CS to qualify for treaty benefits. Thus, a publicly traded company must be a resident of a CS to qualify for treaty benefits, so that its subsidiary may only qualify for such benefits if its parent meets the residency test.(145) Although not likely, resolution of this issue may delay the treaty's entry into force.

Derivative benefits test: Treaty benefits will be extended to a resident of a CS if its shareholders reside in certain other countries. A corporation that is a resident of a CS that meets a 50% base erosion test and that does not otherwise qualify for treaty benefits may be entitled to the reduced withholding rates provided in the dividend, interest and royalty articles (Arts. 10, 11 and 12, respectively) if (1) the ultimate beneficial owners of more than 30% of the corporation's voting stock are residents of that CS qualified for treaty benefits; and (2) the ultimate beneficial owners of more than 70% of the voting stock are (a) residents of that CS or (b) residents of a member of the KU, European Economic Area or parties to NAFTA, provided that such persons are entitled to benefits under a double taxation treaty between the CS from which the payment is made and the CS of residence providing a reduced withholding tax similar to (or exceeding) the one applicable under this treaty.(149)

Triangular rule: Like the treaties with Luxembourg and South Africa, this rule imposes a 15% withholding tax when a resident of one CS derives dividends. interest or royalties from the other CS, the income is attributable to a PE in a third jurisdiction, and the profits of that PE are subject to an aggregate effective tax rate in the CS of residence and the third jurisdiction that is less than 60% of the general rate of company tax applicable in the CS of residence. This rule does not apply to: (1) income derived in connection with (or incidental to) the active conduct of a trade or business carried on by the PE in the third jurisdiction; or (2) royalties received as compensation for the use of (or the right to use) intangible property produced or developed by the PE. Income other than dividends, interest or royalties may be taxed in the other CS.(150)

Recognized headquarters company: A person is a recognized headquarters company if it meets all of the following:

1. It provides in its CS of residence a substantial portion of the overall supervision and administration of a group of companies, including (but not principally) group financing.

2. The companies in the group are resident in (and actively engaged in business in) at least five countries and the business activities in each of those countries generate at least 10% of the group's gross income.

3. Other than in its CS of residence, the business activities in any one country do not generate 50% or more of the group's gross

4. No more than 25% of its gross income is derived from the other CS.

5. It has (and exercises) independent discretionary authority to carry out the functions in #1 above.

6. It is subject to generally applicable rules of taxation in its CS of residence.

7. The income derived in the other CS is derived in connection with (or is incidental to) the active business in #2 above.

The required ratios in #2, 3 and 4 above may be fulfilled using the average gross income of the past four years.(151)

[] Relief from double taxation: Unlike the US., Switzerland uses the exemption method to reduce double taxation. However, Switzerland will not exempt a Swiss resident's gains on the sales of U.S. real property interests, unless actual taxation in the U.S. is demonstrated. In addition, income exempt under this provision is included in income for purposes of determining the applicable rate of Swiss tax.

When a Swiss resident derives dividend income subject to U.S. withholding tax, under the dividends article (Art. 10), a credit against Swiss tax will generally be allowed. However, no credit will be allowed for U.S. tax on dividends subject to the 15% tax under the triangular rule in the limitation on benefits article (Art. 22).

When a Swiss resident derives (1) interest or dividends that do not qualify for reduced U.S. withholding under the dividend and interest provisions (Arts. 10 and 11) (i.e., dividends paid to a company by a REIT or contingent interest) or (2) income subject to U.S. tax in accordance with the limitation on benefits (Art. 22) provision (i.e., dividends, interest or royalties under the triangular rule), Switzerland allows the U.S. tax to be deducted from Swiss gross income.

In computing Swiss tax on U.S. Social Security payments, a Swiss resident can deduct the 15% U.S. withholding tax and then exempt from Swiss tax one-third of the remaining net amount of such payments.(152) This provision is similar to Arts. XVIII(1) and XXII(2)(d) of the Swiss treaty with Canada.

[] Mutual agreement procedure: Similar to the treaties with Germany, France and others, binding arbitration is available when the competent authorities cannot reach a compromise; this provision is not effective until procedures are agreed to in a subsequent exchange of diplomatic notes.(153)

[] Exchange of information: The exchange of information provision--which was the subject of significant debate during negotiations--is limited to the exchange of such information as is necessary to carry out the treaty provisions and prevent fraud or tax avoidance in relation to the taxes that are the subject of the treaty. In the case of fraud, the exchange of information is not limited to an official report but will include, on request, authenticated copies of unedited records and documents.(154) Information provided by Switzerland to the IRS will be immediately usable in accordance with U.S. law.

The protocol defines "tax fraud" as fraudulent conduct that causes or is intended to cause an illegal and substantial reduction in the amount of tax paid to a CS. Certain activities, such as use of forged or falsified documents, incorrect financial statements and situations in which the taxpayer uses a scheme of lies ("Lugengebaude"), are assumed to give rise to fraudulent conduct.(155)

[] Entry into force: The treaty enters into force on the date the instruments of ratification are exchanged. For withholding taxes, the treaty is effective for payments made on or after the first day of the second month following entry into force. For taxes on other income, the treaty is effective for tax periods beginning on or after the January first of the year following entry into force.(156)

Therefore, if instruments of ratification are exchanged in December 1997, the treaty will enter into force immediately. For withholding tax purposes, it would be effective for payments made on or after Feb. 1, 1998; for other taxes, for fiscal periods beginning on or after Jan. 1, 1998.

Taxpayers may elect to apply the existing treaty for the first 12 months after the new treaty enters into force.

* Thailand

Withholding rates

[] Dividends:A 10% rate applies to dividends paid to a corporation that controls at least 10% of the payer's voting stock. A 15% rate applies in all other cases, including if the payer is a RIC, REIT, or similar Thai entity; dividends paid by a REIT (or similar Thai entity) are subject to the 15% rate only if the dividend is beneficially owned by an individual owning a less-than-25% interest in the REIT; otherwise, the statutory rate applies. Whether a Thai entity is similar to a U.S. RIC or REIT is to be determined by mutual agreement of the competent authorities.(157)

The U.S. can impose a 10% branch profits tax. A U.S. resident company with a PE in Thailand is subject to taxes on repatriation of profits from Thailand in accordance with Thai law.(158)

[] Interest: Generally, the rate is 15%, but a 10% rate applies to interest beneficially owned by a financial institution (including an insurance company) and interest earned on trade receivables. No withholding is required on interest paid by or to the government of either CS or on obligations guaranteed or insured by either CS. The U S. can impose a 10% tax on excess interest.(159)

Interest is deemed to arise in a CS when the payer is that CS, or a political subdivision, local authority or resident thereof. However, when the payer has a PE or fixed base in the other CS, in connection with which the debt on which the interest is paid was incurred, and such interest is borne by the PE or fixed base, the interest is deemed to arise in the CS in which the PE or fixed base is located.(160)

[] Royalties: A 5% rate applies to copyright royalties, including royalties for the use of (or the right to use) any copyright of literary, artistic or scientific work (including software) and motion pictures and works on film, tape or other means of reproduction for use in connection with radio or television broadcasting.

An 8% rate applies to royalties for the use of equipment, including the use of (or the right to use) industrial, commercial or scientific equipment. A 15% rate applies to patent royalties, including for the use of (or the right to use) patents, trademarks, designs or models, plans, secret formulae or processes or know-how.(161)

Royalties are deemed to arise in a CS when the payer is that CS, a political subdivision, local authority or resident thereof. However, when the payer has a PE or fixed base in the other CS, in connection with which the liability to pay the royalties was incurred and the royalties are borne by the PE or fixed base, the royalties are deemed to arise in the CS in which the PE or fixed base is located. When this rule does not treat royalties as being from sources in one of the two CSs and the royalties are for the use of (or the right to use) any property or right described above in one of the CSs, the royalties are deemed to arise in that CS.(162)

Other provision

[] PE: A PE is defined to include a building site, a construction, assembly or installation project or supervisory activities in connection therewith or an installation or drilling rig or ship used for the exploration or exploitation of natural resources, but only if such site, project or activities continue for a period(s) aggregating more than 120 days in any 12-month period.(163) The 120-day threshold is similar to the period provided in several other U.S. treaties, but is significantly shorter than the common 183 days (or six months) provided in most U.S. treaties with developing countries.(164)

The furnishing of services (including consultancy services) by a resident enterprise through employees or other personnel engaged by the enterprise for such purposes constitutes a PE if such activities continue in that CS at the same or a connected project for more than 90 days in a 12-month period. A PE will not exist for any such year if services are rendered for less than 30 days, although the 30 days will count toward the 90-days-in-12-months threshold,(165)

[] Business profits: As with the Kazakstan treaty, the Thailand treaty includes a limited force of attraction rule providing that sales of goods or merchandise or other business activities carried on by a resident of one CS in the other CS of the same kind as those sold or carried on by a PE in the other CS may be attributed to that PE and taxed in the other CS. However, this rule applies only if it can be shown that the sales or activities were not carried out by the PE to avoid tax in the CS in which the PE is located.(166)

[] Shipping and air transport: Income from the operation of aircraft in international traffic is subject to tax in the CS of residence only. However, income from the operation of ships in international traffic is subject to 50% of the tax that would otherwise be imposed. Treasury has stated that although this is a deviation from the preferred U.S. position on the taxation of shipping profits, it was necessary to accommodate Thailand's long-standing policy on this issue. Because the U.S. does not have a reciprocal shipping agreement with Thailand, the effect of this provision is to reduce the tax under Sec. 887 to 2%. Similarly, the Thai tax on gross receipts charged against foreign companies engaged in international transport is reduced from 3% to 1.5%.(167)

In an Exchange of Notes,Thailand agreed that, if it agrees in a treaty or other agreement with another country to: (1) a tax rate on shipping income lower than the rate specified in Art. 8(2), or (2) more favorable treatment of income from the rental or use of containers than is specified in the business profits article (Art. 7) or Art. 8, it will reopen negotiations with the U.S. on a protocol to extend similar treatment to U.S. residents.

[] Gains: Each CS may tax capital gains in accordance with its domestic law.(168)

[] Independent personal services: An individual is taxable on income from independent personal services only in the CS in which he is a resident, unless he: (1) has a fixed base regularly available to him in the other CS for purposes of performing his activities; (2) stays in the other CS for a period(s) aggregating 90 days or more in the fiscal year; or (3) earns remuneration for his activities in the other CS, paid by a resident of that other CS or borne by a PE or fixed base in that CS, that exceeds $10,000 U.S. (or its equivalent in Thai currency), excluding reimbursed expenses.(169)

[] Limitation on benefits: Treaty benefits are allowed only to a person that is (1) an individual; (2 a CS, political subdivision or local authority thereof; (3) a person that satisfies a 50% ownership and 50% base erosion test; (4) a company whose principal class of shares is substantially and regularly traded on a recognized stock exchange, or a company wholly owned (directly or indirectly) by such a publicly traded company (provided each company in the chain of ownership is a resident of a CS); (5) a tax-exempt, nonprofit organization, provided that more than half of the beneficiaries, members or participants are entitled to treaty benefits; or (6) a person engaged in the active conduct of a substantial trade or business in the CS of residence (other than the business of making or managing investments, unless by a bank or insurance company), and deriving income from the other CS in connection with (or incidental to) that business. A resident of Thailand that is an "international banking facility" (as defined under Thai law) is not entitled to treaty benefits for any income received from the U.S.(170)

[] Relief from double taxation:The U.S. agreed in the Exchange of Notes that if it alters its policy on allowing tax-sparing credits or reaches an agreement on the provision of a tax-sparing credit with any other CS, it will reopen negotiations to complete a protocol to provide a similar tax-sparing credit to Thailand.

[] Exchange of information: Art. 28 contains a very unusual rule requiring Thailand to treat a U.S. taxing interest as a Thai taxing interest in all cases, civil or criminal. This provision is intended to overcome certain limits on the information that the Thai government may provide under Thai law. However, this rule will not be effective until diplomatic notes are provided indicating Thailand's willingness and ability to implement this provision. The treaty will terminate if such diplomatic notes are not provided by June 30 of the fifth year following the treaty's entry into force.(171)

[] Entry into force: The treaty enters into force on the date the instruments of ratification are exchanged. For withholding tax purposes, the treaty is effective for payments made on or after the first day of the sixth month following entry into force. For taxes on other income, the treaty is effective for tax periods beginning on or after the January first of the year following entry into force.(172)

Thus, if instruments of ratification are exchanged in October 1997, the treaty will enter into force immediately. It would be effective for withholding tax purposes for payments made on or after Apr. 1, 1998; for other taxes, for fiscal periods beginning on or after Jan. 1, 1998.

* Turkey

Withholding rates

[] Dividends: A 15% rate applies to dividends paid to a beneficial owner that is a corporation owning at least 10% of the payer's voting stock; the rate is 20% in all other cases (including dividends paid by a U.S. RIC or a Turkish securities investment corporation or fund). Dividends paid by a U.S. REIT or a Turkish real estate investment corporation or fund are also subject to the 20% rate, if the dividend is beneficially owned by an individual owning a less-than-10% interest in the trust; otherwise, the statutory rate applies.(173)

In general,Turkey does not impose withholding on dividends paid to nonresident shareholders; rather, corporations are subject to a multi-level tax. A 25% tax is imposed on corporate profits; a "withholding" tax is imposed on the after-tax profits, without regard to actual dividend distributions. The "withholding" tax rate is 10% for public companies; "it is understood" that the dividend article (Art. 10) applies to this "withholding" tax.(174) Each CS can impose a 15% branch profits tax.(175)

[] Interest: The rate is generally 15%; a 10% rate applies to interest derived from any kind of loan granted by a financial or savings institution or an insurance company.(176) Interest paid to, guaranteed or insured by the government of either CS or paid to the central bank of either CS is exempt.(177) The U.S. can impose a 15% branch tax on excess interest.(178)

A special source rule is provided similar to the one in the Thailand treaty (discussed above). Interest is deemed to arise in a CS when the payer is that CS, a political subdivision, local authority or resident thereof; however, if the payer has a PE or a fixed base in the other CS, the debt on which the interest is paid was incurred in connection with the PE, and the interest is borne by the PE or fixed base, the interest is deemed to arise in the CS in which the PE or fixed base is located.(179) The statutory rate, not the 15% rate, applies to contingent interest and to an excess inclusion with respect to a residual interest in a REMIC.(180)

[] Royalties: The rate is generally 10%; royalties include payments for the use of, the right to use, or the sale (contingent on productivity, use or disposition) of any copyright of literary, artistic or scientific work, including motion pictures and works on film, tape or other means of reproduction for use in connection with radio or television broadcasting; any patent, trademark, design or model, plan, secret formula or process; and information on industrial, commercial or scientific experience. "Other means of reproduction" is intended to cover future technological advances in the field of radio and television broadcasting.

A 5% rate applies to royalties for the use of (or the right to use) industrial, commercial, or scientific equipment.(181) Payments for the use of (or the right to use) computer software will be treated as royalties or business profits based on the facts and circumstances; however, it is "understood" that payments for "shrink-wrap" software are business profits.(182)

A special source rule is provided for royalties, similar to the one in the Thailand treaty (discussed above). Royalties arise in a CS when the payer is that CS, a political subdivision, local authority or resident thereof; however, if the payer has a PE or a fixed base in the other CS, the liability to pay the royalties was incurred in connection with the PE, and the royalties are borne by the PE or fixed base, the royalties are deemed to arise in the country where the PE or fixed base is located. When this rule does not treat royalties as arising in a CS, and the royalties relate to the use of (or the right to use) any property or right described above in a CS, the royalties are deemed to arise in that CS.(183)

Other provisions

[] General definitions: For treaty purposes, "person" includes an individual, a company (i.e., a body corporate) and any other body of persons(184); it is also "understood" to include a partnership, estate or trust.(185)

[] Resident: A pass-through entity (e.g., a partnership, estate or trust) is a resident only to the extent its income is subject to tax in a CS as income of a resident, either in its hands or in the hands of its partners, beneficiaries, members or grantors.(186)

[] PE: A building site, a construction, assembly or installation project is a PE if such site, project or activities continue for more than six months.(187) In addition, an installation or drilling rig or ship used for the exploration or exploitation of natural resources in the other CS is a PE if the enterprise has a PE in that CS other than the installation, drilling rig or ship through which the services or activities are performed, or the services or activities are performed more than 183 days in any 12-month period.(188)

An agent may give rise to a PE even it lacks the authority to conclude contracts on the principal's behalf if: (1) the agent maintains a stock of goods or merchandise from which he regularly delivers goods or merchandise on the enterprise's behalf; (2) in addition to the regular deliveries of goods or merchandise, the agent also undertakes virtually all of the activities connected with the sale, except for the actual conclusion of the contract; and (3) it is proved that this structure was created and maintained to avoid host-CS taxation of the enterprise.(189)

[] Business profits: In general, sales of goods or merchandise or other business activities carried on by a resident of one CS in the other CS are not taxable in the latter unless the resident carries on (or has carried on) a business in the other CS via a PE.(190) However, under a limited force of attraction rule similar to the one in the Thailand treaty, the CS in which the PE is located may tax profits derived directly by the enterprise (not through the PE) if: (1) the profits are derived from sales of goods or merchandise in that CS of the same kind as those sold through the PE (or from the resident's other business activities there, if the activities are the same kind as those performed in the PE); and (2) it is proved that the sale or activities were structured to avoid taxation in the CS in which the PE is located.(191) This rule is similar to (but narrower than) rules found in several other U.S. treaties with developing countries, and in the U.N. Model.(192)

Like the treaties with Kazakstan and South Africa, no deductions are allowed for interest, royalties, commissions or other similar payments to the head office or other PEs, unless the payments are reimbursements of actual expenses incurred for the PE.(193)

[] Gains: Gains derived by a resident of a CS from the alienation of an interest in a partnership, trust or estate may be taxed in the other CS to the extent attributable to real property located in the latter.(194) A CS may tax a resident of the other CS on gains from the alienation of shares or bonds issued by a corporation that is a resident of the former if (1) the shares or bonds are not quoted on a stock exchange in that CS; (2) the shares or bonds are alienated to a resident..of that CS; and (3) the alienator held the securities for one year or less prior to alienation.(195) Although the provision is drafted reciprocally, currently, the U.S. does not have statutory authority to impose tax in these situations.(196)

[] Independent personal services: In general, income from independent personal services is taxable only in the CS of residence unless the resident performs such services or activities in the other CS and has a fixed base regularly available to him there for the purpose of performing those services or activities. However, if the resident performs services in the other CS for more than 183 days in any 12-month period, the income is taxable there. In either case, income is taxable in the other CS only to the extent attributable to the fixed base or derived from services or activities performed while present in the other CS.(197)

A similar rule applies to income derived by an enterprise from professional services or similar activities if the services are performed in the other CS and the enterprise has a PE there through which the services are performed or the services are performed for more than 183 days in any 12-month period. In such case, income is taxable in the other CS only to the extent attributable to the PE or to the services or activities performed while present there, unless the income recipient elects to be taxed on a net basis on such income. Turkey may levy a withholding tax on income taxable under this provision.(198)

[] Artistes and athletes: Host-CS taxation results when the gross receipts derived by an entertainer or athlete exceed US$3,000 or its equivalent in Turkish currency.(199) This provision deviates from the U.S. Model Treaty, which would exclude the first US$20,000.(200) Income from activities substantially supported by nonprofit organizations or public funds are exempt.(201)

[] Limitation on benefits: Generally, a resident of a CS (other than an individual) is not entitled to treaty benefits unless it meets a 50% ownership and 50% base erosion test.(202) However, exceptions are provided to allow treaty benefits to: (1) a person engaged in the active conduct of a trade or business in the other CS (other than the business of making or managing investments, unless carried on by a bank or insurance company), if (a) the income derived from the other CS is in connection with (or incidental to) that business and (b) that business is substantial in relation to the activity carried on in the other CS giving rise to the income in respect of which treaty benefits are being claimed in that other CS(203); (2) a company resident in a CS whose principal class of shares is substantially and regularly traded on a recognized stock exchange; (3) a company wholly owned (directly or indirectly) by a publicly traded company (provided each company in the chain of ownership is a resident of a CS)(204); (4) a CS, political subdivision or local authority thereof(205); and (5) a tax-exempt, nonprofit organization, if more than half of its annual support is expended for the benefit of (or more than half of its annual support is derived from) persons entitled to treaty benefits (other than a person entitled to benefits under #1 above).206 Finally, a person not otherwise qualified for treaty benefits may be granted benefits if the competent authority in the CS in which the income arises so deter mines. (207)

[] Relief from double taxation: Each CS will allow a credit against its tax for taxes paid to the other CS, subject to certain limits.(208) The U.S. has also agreed to allow a credit against the alternative minimum tax (AMT) for taxes paid to Turkey; the credit cannot offset more than 90% of the AMT. FTCs unused because of the 90% limit may be carried forward and backward to be used against other years' AMT liability.(209)

For treaty purposes, the withholding tax under Article 94 of Turkey's Income Tax Law is not considered an income tax; thus, whether that tax is a creditable income tax depends on whether it meets the standards under the Code.(210) Article 94 imposes a gross withholding tax on progress payments made to corporations and business partnerships during a construction contract of longer than one year; the tax offsets the corporate income tax owed on contract completion. Issues exist as to whether Article 94 tax is creditable under Sec. 901 or as a tax"in lieu" of a net income tax under Sec. 903 (because it is a gross-basis tax paid in addition to the corporate income tax).(211)

Income of a resident of one CS taxed by the other CS under the treaty is deemed to arise in the latter in computing the FTC, unless the income item is subject to tax in that CS under the savings clause. However, when this source rule is inconsistent with the Code, the Code source rules will be used to determine the limits for the allowance of a credit under the treaty.(212)

[] Entry into force: The treaty enters into force on the date the instruments of ratification are exchanged. For withholding tax purposes, the treaty is effective for payments made on or after the January first of the year following entry into force; for taxes on other income, the treaty is effective for tax periods beginning on or after the January first of the year following entry into force.(213) Author's note: The author wishes to thank Michael Cooper and Barbara Mangegani, Deloitte & Touche LLP, Washington, D.C. ; Charles Fingal, Deloitte & Touche LLP, Los Angeles, CA; K.C. Goyer, Deloitte & Touche LLP, Atlanta, GA; Andreas Sauer, Exinger GmbH, Vienna, Austria and Jean-Pierre Winandy, Fiduciare Generale de Luxembourg, Luxembourg for their helpful comments and suggestions.

(39) Art. VI, Convention Between the United States of America and the Republic of Austria for the Avoidance of Double Taxation With Respect to Taxes on Income Signed at Washington on October 25, 1956 (herinafter, "Old Austria Treaty"). Before July 1, 1996, the Austrian domestic withholding rate on dividends was 22%; thus, the treaty rate was 11%.

(40) Art. 10(2)(a), Convention Between the Republic of Austria and the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income Signed at Vienna on May 31, 1996 (hereinafter, "New Austria Treaty").

(41) New Austria Treaty Art. 11(2).

(42) New Austria Treaty Art. 12(3).

(43) New Austria Treaty Art. 7(8).

(44) Treasury Technical Explanation of the Convention Between the United States of America and the Republic of Austria for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income Signed at Vienna on May 31, 1996 (hereinafter "Austria Explanation"), re: Art. 7.

(45) New Austria Treaty Art. 13(3).

(46) New Austria Treaty Art. 16(1).

(47) The Memorandum of Understanding Re Interpretation of the Convention, signed with the New Austria Treaty, provides additional information on the active business test, including examples clarifying the term "in connection with, or incidental to"; see re: Art. 16. The examples are similar to those included in the Memoranda of Understanding with Barbados, Germany and Switzerland.

(48) To pass the 50% ownership test, more than 50% of the person must be beneficially owned (directly or indirectly) by U.S. citizens or others entitled to treaty benefits; to pass the 50% base erosion test, no more than 50% of the person's gross income must be used (directly or indirectly) to meet liabilities (including interest or royalties) to persons who are not U.S. citizens or entitled to treaty benefits; see New Austria Treaty Art. 16(1)(d).

(49) New Austria Treaty Art. 16(4).

(50) New Austria Treaty Art. 18(5).

(51) New Austria Treaty Art. 22(1).

(52) Austria Explanation re: Art. 22.

(53) New Austria Treaty Art. 28(2).

(54) Art. 10(2), Convention Between the Government of the Grand Duchy of Luxembourg and the Government of the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income and Capital Signed at Luxembourg on Apr. 3, 1996 (hereinafter, "New Luxembourg Treaty").

(55) Art. IX(1)(a), Convention Between the United States of America and the Grand Duchy of Luxembourg and the Government of the United States of America for the Avoidance of Double Taxation with Respect to Taxes on Income Signed at Washington on Dec. 18, 1962 (hereinafter, "Old Luxembourg Treaty"). Although the statutory rate for Luxembourg withholding on dividends is currently 25%, the treaty rate is tied to the 15% rate in force under Art. 4 of Decree Law of 7 August 1945, as amended by the Law of 27 November 1952.

(56) Old Luxembourg Treaty Art. IX(1)(b).

(57) New Luxembourg Treaty Art. 10(6).

(58) New Luxembourg Treaty Art. 11.

(59) New Luxembourg Treaty Art. 10(2)(b).

(60) See Cohen, Pollack and Molitor, "Last-Minute Changes and Technical Explanation Highlight Latest Developments on Pending U.S.-Luxembourg Income Tax Treaty," 25 Tax Mngmt. Int'l Journal (Dec. 13, 1996).

(61) For the original text, see 96 Tax Notes Today 67-18 (Apr. 3, 1996).

(62) The treaty was submitted to the Senate on Sept. 4, 1996. The change in the text was made without public statement or notice; the revisions were not even reflected in publications announcing the submission of the treaty to the Senate; see, e.g., 96 Tax Notes Int'l 205-19 (Oct. 22, 1996).

(63) New Luxembourg Treaty Art. 10(3)(b).

(64) Compare New Luxembourg Treaty Art. 12(1) with Old Luxembourg Treaty Art. VIII.

(65) New Luxembourg Treaty Art. 12(b).

(66) New Luxembourg Treaty Art. 13.

(67) New Luxembourg Treaty Art. 2(1)(a).

(68) Treasury Department Technical Explanation of the Convention Between the Government of the United States of America and the Government of the Grand Duchy of Luxembourg for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income and Capital Signed at Luxembourg on Apr. 3, 1996 (hereinafter, "Luxembourg Explanation"), re: Art. 2.

(69) New Luxembourg Treaty Art. 3(1)(i).

(70) The concept of "fiscally transparent" entities was introduced in the U.S. Model Income Tax Convention of Sept. 2, 1996 (hereinafter, "U.S. Model Treaty"), Art. 3(1)(c). According to the Treasury Department Technical Explanation of the U.S. Model Income Tax Convention of Sept. 2, 1996 (hereinafter, "U.S. Model Explanation"), entities that are fiscally transparent in the country in which their owners are resident are not residents of a CS (although income derived by such entities may be taxed as the income of a resident, if taxed in the hands of resident partners or other owners). Enterprises carried on by such entities are deemed carried on by a resident of a CS to the extent its partners or other owners are residents; see id., re: Art. 3.

(71) Luxembourg Explanation re: Art. 3.

(72) New Luxembourg Treaty Art. 4(1)(b).

(73) Luxembourg Explanation re: Art. 4.

(74)New Luxembourg Treaty Art. 16(3).

(75) New Luxembourg Treaty Art. 18(1).

(76) New Luxembourg Treaty Art. 21(1).

(77) Old Luxembourg Treaty Art. XIV(1)(b).

(78) New Luxembourg Treaty Art. 21(2) and (3).

(79) For an overview of the limitation on benefits article from a Luxembourg perspective, see Winandy, "Limitation on Benefits in the Proposed U.S.-Luxembourg Income Tax Convention," Tax Planning Int'l Review July 1996), p. 18.

(80) New Luxembourg Treaty Art. 24(1).

(81) New Luxembourg Treaty Art. 24(2)(a).

(82) New Luxembourg Treaty Art. 24(2)(b).

(83) New Luxembourg Treaty Art. 24(2)(c).

(84) New Luxembourg Treaty Art. 24(2)(d). Shares are substantially and regularly traded if the aggregate number of shares of that class traded in such stock exchange(s) during the previous tax year is at least 6% of the average number of shares outstanding in that class during that tax year.

(85) New Luxembourg Treaty Art. 24(2)(e).

(86) New Luxembourg Treaty Art. 24(2) (f).

(87) New Luxembourg Treaty Art. 24(3)(a). The treaty defines a "substantial" trade or business, as well as whether income is derived in connection with (or incidental to) the trade or business conducted in the CS of residence; see New Luxembourg Treaty Art. 24(3)(b), (c) and (d).

(88) New Luxembourg Treaty Art. 24(4). The special base erosion test requires that no more than 50% of deductible amounts paid or accrued by the company during the year are to persons not residents of countries that are parties to NAFTA or members of the EU.

(89) New Luxembourg Treaty Art. 24(5).

(90) New Luxembourg Treaty Art. 24(6).

(91) Luxembourg Explanation re: Art. 24.

(92) Id.; this rule also gives the competent authority the power to unilaterally address certain triangular cases. An example is provided in which the U.S. competent authority would generally allow treaty benefits under a triangular structure in which U.S.-source income is ultimately included in a U.S. shareholder's income under subpart F. (93) New Luxembourg Treaty Art. 24(10).

(94) Exchange of Notes accompanying the New Luxembourg Treaty, [paragraph] III(B).

(95) New Luxembourg Treaty Art. 25(2)(a).

(96) New Luxembourg Treaty Art. 25(2)(b).

(97) New Luxembourg Treaty Art. 25(2)(c).

(98) New Luxembourg Treaty Art. 25(3).

(99) New Luxembourg Treaty Art. 30(1) and (2).

(100) New Luxembourg Treaty Art. 30(3).

(101) Rather than impose a withholding tax against the beneficial owner, South Africa imposes an additional 12.5% secondary tax on companies (STC) on the corporation making the distribution. The STC applies to dividends declared after June 21, 1994. (The STC rate was 25% for dividends declared before Mar. 13, 1996.) The creditability of the STC had been the subject of significant debate; as discussed below, under the treaty, the U.S. will allow a credit for the STC.

(102) Art. 10(2), Convention Between the Republic of South Africa and the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to faxes on Income and Capital Gains (hereinafter, "South Africa Treaty").

(103) South Africa Treaty, Art. 10(8).

(104) South Africa Treaty Art. 10(6).

(105) South Africa Treaty Art. 11(1) and (5).

(106) South Africa Treaty Art. 12(1) and (2).

(107) South Africa Treaty Art. 23(1)(b); see Brewer and Forouhar, "Creditability of the South African Secondary Tax on Companies," 96 Tax Notes Int'l 48-4 (Mar. 11, 1996). Even after publication of the treaty, some continue to question the creditability of the STC; see vanBlerck, "Creditability of South Africa STC Questionable," 97 Tax Notes Int'l 39-17 (Feb. 27, 1997).

(108) See U.S. Model Treaty, Art. 4; Luxembourg Explanation re: art. 3, refers to the "fiscally transparent" concept, although the treaty itself does not use that phrase.

(109) South Africa Treaty Art. 4(1)(d).

(110) South Africa Treaty Art. 5(2)(k).

(111) See Dichter, "Current Income Tax Treaty Developments (Part 1)," 28 The Tax Adviser 218, 221 (April 1997).

(112) See id., n. 29

(113) South Africa Treaty Art. 7(3).

(114) South Africa Treaty Art. 14.

(115) South Africa Treaty Art. 17(1).

(116) U.S. Model Treaty re: Art. 4.

(117) South Africa Treaty Art. 17(4).

(118) South Africa Treaty Art. 17(3).

(119) South Africa Treaty Art. 18(1).

(120) South Africa Treaty Art. 18(3).

(121) South Africa Treaty Art. 18(4).

(122) South Africa Treaty Art. 18(5).

(123) South Africa Treaty Art. 18(6).

(124) U.S. Model Treaty re: Art 18, [paragraph] 6.

(125) South Africa Treaty Art. 22(2).

(126) South Africa Treaty Art. 22(3). Whether a trade or business is substantial is based on the facts and circumstances; a trade or business is deemed substantial if, for the preceding year (or for the average of the three preceding years) the asset value, gross income and payroll expense related to such trade or business are at least 7.5% of the resident's (and any related parties) proportionate share of those items related to the activity that generated the income in the other CS, and the average of the three ratios exceeds 10%.

(127) South Africa Treaty Art. 22(6).

(128) South Africa Treaty Art. 23(2)(a). With certain exceptions, the savings clause a]lows the U.S. to tax its citizens as if the treaty did not exist; see South Africa Treaty Art. 1(4).

(129) South Africa Treaty Art. 23(2)(b).

(130) South Africa Treaty Art. 23(2)(c).

(131) South Africa Treaty Art. 23(3).

(132) South Africa Treaty Art. 28(2).

(133) Art. 10(2), Convention Between the United States of America and the Swiss Confederation for the Avoidance of Double Taxation With Respect to Taxes on Income And Protocol Signed at Washington on October 2, 1996 (hereinafter, respectively, "New Switzerland Treaty" and "Switzerland Protocol")

(134) Art. V1(2), Convention Between the United States of America and the Swiss Confederation for the Avoidance of Double Taxation With Respect to Taxes on Income Signed et Washington on May 24,1951 (hereinafter, "Old Switzerland Treaty").

(135) New Switzed and Treaty Arts. 10(3) and 28(4).

(136) New Switzerland Treaty Art. 11(6).

(137) Old Switzerland Treaty Art. VII(1).

(138) New Switzerland Treaty Art. 11(4). Although not specified in the New Switzerland Treaty, Treasury Technical Explanations to other recent treaties containing a similar exemption for interest have indicated that the exemption also applies to the branch-level interest tax under Sec. 884(f); see, e.g., Austria Explanation re: art. 11.

(139) New Switzerland Treaty Art. 12.

(140) New Switzerland Treaty Art. 2(2).

(141) New Switzerland Treaty Art. 4(c), (d).

(142) New Switzerland Treaty Art. 8.

(143) New Switzerland Treaty Art. 13(1) (2).

(144) New Switzerland Treaty Art. 13(6).

(145) New Switzerland Treaty Art. 13 (7).

(146) New Switzerland Treaty Art. 22(1) (2) and (6).

(147) The Memorandum of Understanding signed with the New Switzerland Treaty provides additional information on the active business test including detailed examples clarifying the interpretation of the term in connection with or incidental to; these examples are similar to those included in the Memoranda of Understanding under the Barbados and Germany treaties and the new Austria treaty.

(148) Crowdus U.S. Switzerland Sign Income Tax Treaty 96 Tax Notes Int'l 242-26 (Dec. 16 1996).

(149) New Switzerland Treaty Art. 22(3).

(150) New Switzerland Treaty Art. 22(4).

(151) New Switzerland Treaty Art. 22(7).

(152) New Switzerland Treaty Art. 23(1).

(153) New Switzerland Treaty Art. 25(6).

(154) New Switzerland Treaty Art 26(1).

(155) Switzerland Protocol item 10.

(156) New Switzerland Treaty Art. 29(3).

(157) Art. 10(2) and (3), Convention Between the Government of the United States of America and the Government of the Kingdom of Thailand for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income Signed at Bangkok on November 26, 1996 (hereinafter, "Thailand Treaty").

(158) Thailand Treaty Art. 14(3) and (4)(a)

(159) Thailand Treaty Arts. 11(2), (3) and 14(2)(b), (4)(b).

(160) Thailand Treaty Art. 11(6).

(161) Thailand Treaty Art. 12(2), (3).

(162) Thailand Treaty Art. 12(5).

(163) Thailand Treaty Art. 5(3) (a).

(164) See, e.g., the U.S. treaties with India, Art. 5(2)(k) and Indonesia, Art. 5(2) (i) (120-day rule); Israel, Art. 5(2)(i) and Portugal, Art. 5(3) (183-day rule).

(165) Thailand Treaty Art. 5(3) (b).

(166) Thailand Treaty Art. 7(1).

(167) Thailand Treaty Art. 8(1), (2).

(168) Thailand Treaty Art. 13(1).

(169) Thailand Treaty Art. 15(1).

(170) Thailand Treaty Art. 18(1), (2), (3).

(171) Thailand Treaty Arts. 28(3) and 31(2).

(172) Thailand Treaty Art. 30(2).

(173) Art. 10(2), Agreement Between the Government of the Republic of Turkey and the Government of the United States of America for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion With Respect to Taxes on Income (hereinafter, "Turkey Treaty"). A Protocol (hereinafter, "Turkey Protocol") was executed simultaneously and forms an integral part of the agreement.

(174) Treasury Department Technical Explanation of the Agreement Between the Government of the United States of America and the Government of the Republic of Turkey for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income Signed at Washington on March 28, 1996 (hereinafter, "Turkey Explanation"), re: Art. 10, [paragraph] 2.

(175) Turkey Treaty Art. 10(4)(b).

(176) Turkey Treaty Art. 11(2).

(177) Turkey Treaty Art. 11(3).

(178) Turkey Treaty Art. 11(4)(b).

(179) Turkey Treaty Art. 11(6).

(180) Turkey Treaty Art. 11(8).

(181) Turkey Treaty Art. 12(2) and (3).

(182) Turkey Explanation re: Art 12, [paragraph] 3.

(183) Turkey Treaty Art. 12(5).

(184) Turkey Treaty Art. 3(1)(c).

(185) Turkey Explanation re: Art 3, [paragraph] 1.

(186) Turkey Treaty Art. 4(1).

(187) Turkey Treaty Art. 5 (2)(g).

(188) Turkey Protocol, Point IV

(189) Turkey Treaty Art. 5(4)(b);see also turkey Explanation re: Art. 5, [paragraph] 14

(190) Turkey Treaty Art. 7(1).

(191) Turkey Protocol Point 11.

(192) Turkey Explanation re: Art. 7, [paragraph] 1.

(193) Turkey Protocol Point III.

(194) Turkey Treaty Art. 13(1)(b).

(195) Turkey Treary Art. 13(5).

(196) Turkey Explanation re: Art 13, [paragraph] 15. (197) Turkey Treaty Art. 14(1)

(198) Turkey Treaty Art. 14(2).

(199) Turkey Treaty Art. 17(1).

(200) U.S. Model Treaty Art. 17(1).

(201) Turkey Treaty Art. 17(3)

(202) Turkey Treaty Art. 22(1)

(203) Turkey Treaty Art. 22(2). 204

(204) Turkey Treaty Art. 22 (3).

(205) Turkey Treaty Art. 22(4).

(206) Turkey Treaty Art. 22(5).

(207) Turkey Treaty Art 22(6).

(208) Turkey Treaty Art. 23(1) and (2).

(209) Turkey Protocol Point VIII.

(210) Turkey Protocol Point IX.

(211) Turkey Explanation re: Art. 23, [paragraph] 1.

(212) Turkey Treaty Art. 23(3);Turkey Explanation re: Art. 23, [paragraph] 1.

(213) Turkey Treaty Art. 28(2).