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TAX CONVENTIONS WITH THE

PHILIPPINES AND FRANCE

mu

HEARING

BEFORE THE

COMMITTEE ON FOR EIGN RELATIO NS 

UNITE D STATES SENATE

NIN ET IE TH CONGRESS

SECOND SESSION

ON

TAX CONVENTION WITH TH E PH ILIPPINE S 

(EXECU TIVE D, 89TH CONGRESS, FIRS T SESSION) 

TAX CONVENTION WITH FRANCE 

(EXECU TIVE N, 90TH CONGRESS, FIRS T SESSION)

AP RIL 30, 1968

Printed for the use of the Committee on Foreign Relations

93-646

U.S. GOVERNME NT PRI NTING OFFICE 

WASHINGTON : 1968
A

CO M M IT TEE ON FO R E IG N R ELA TIO N S 

J. W. FUL BRIGH T, Arkansas, Chairman

JOHN SPA R K M A N , Alabam a 

M IK E M A N SFIE LD , Montana 

W A YN E M ORSE , Oregon 

A L B E R T GORE, Tennessee 

FR A N K J. LA U SC H E, Ohio 

FR A N K CH U RCH , Idaho 

STU ART SYM IN G T O N , Missouri 

TH OM AS J. DODD, Connecticut 

JOSEPH S. C L A R K , Pennsylvania 

CLA IB O R N E P E LL, Rhode Island 

EUG EN E J. M CC ART HY, Minnesota

BO URKE B. H IC K EN LO O PER , Iowa 

GE ORGE D. A IK E N , Vermont 

FR A N K CA RLS ON, Kansas 

JOHN J. W IL LI AM S, Delaware 

K A R L E. M U N DT, South Dakota 

CLIF FO R D P. CA SE , New Jersey 

JOHN SH ER M AN CO OPE R, Kentu cky

C ar l M a r cy, Chief of S ta ff

A rt hu r M . K u h l, Chief Clerk
■ ir w iA O tV R

C O N T E N T S

Statements by— Pa ge

Carroll, Mitchell B., atto rne y at law, New York Ci ty_____________ 53

Scott, Robert T., vice president, National Foreign Tra de Council.

Inc----------------------------------------------------------------------------------- 64

Surrey, Hon. Stanley S., Assistant Secretary of the Tre asury_______ 1

Insertions for the record:

Full statem ent of Assistant Secretary Surrey_____________________ 17

Technical explanation of proposed United States-Franc e Income Tax

Convention_______________________________________________ 23

Technical explanation of proposed United States-Philippines Income

Tax Convention____________________________________________ 37

Statem ent on convention with Fran ce of Mr. Carroll_____________ 55

Memorandum of Treasury Department, including correspondence 

from Mr. W. L. Hearne, vice president-taxes, United States Steel

Corp_____________________________________________________ 61

Statem ent on convention with Fran ce of Mr. Sco tt_______________ 65

Letter to Senator Gore from Mr. W. L. Hearne, August 29, 1965, concerning the Thailand t rea ty (including a letter dated August 5, 1965,

on the Philippine Treaty) ___________________________________ 68

Sta tem ent on convention with the Philippines of Mr. Sc ott ________ 71

(in)

TAX CONVENTIONS WITH THE PHILIP PINES AND 

FRANCE

TUESD A Y , A P R IL 30 , 19 68

United States Senate,

Committee on F oreign Relations,

Washington, D.C.

The committee met, pursuant to notice, at 10:05 a.m. in room 4221, 

New Senate Office Building, Senator J. W. Fulbrigh t (chairman) 

presiding.

Pres ent: Senators Fulbrig ht, Sparkman, Pell, and Carlson.

The Chairman. The committee will come to order.

The Committee on Foreign Relations is meeting this morning to 

receive testimony on the Income Tax Convention with the Philippines 

signed at Washington on October 5, 1904, and the Income Tax Convention with France signed at Paris on July 28, 1907.

Our first witness is the Honorable Stanley S. Surrey, Assistant 

Secretary of the Treasury.

Mr. Surrey, I believe you have a prepared statement.

STATEMENT 0E HON. STANLEY S. SURREY, ASSISTANT SECRETARY 

OF THE TREASURY

Mr. Surrey. Yes, Mr. Chairman.

If it is agreeable to the committee, T could summarize the important 

aspects of this statement and then submit the statement for the record.

The Chairman. Yes. That is quite agreeable. We will put the entire 

statement in the record at the end of your testimony.

Mr. Surrey. Thank you, Mr. Chairman.

We have two conventions before us, one with the Philippines and 

one with France. These conventions are different in nature, and I will 

discuss them separately.

CO N VEN TIO N W IT H T H E P H IL IP P IN E S

First, the convention with the Philippines: The convention with 

the Philippines has pretty much the so-called stand ard clauses in it 

that appear in most of our international treaties. With respect to the 

question of the jurisdiction of the country to tax in which income arises, 

this trea ty with the Philippines adopts the rules which most countries 

have adopted in their internatio nal tax conventions. For example, in 

the case of business by an American company done through branch 

operations in the Philippines, not through a Philippine corporation, 

those operations do not become taxable unless there is sufficient presence of the U.S. corporation throu gh a permanent establishment in the 

Philippines.

(l)
2

In addition, the Philippines state that it will not discriminate under 

their tax system against Americans who are engaged in receiving income from the Philippines, or who own shares of stock in Philippine 

corporations.

The Philippines will give exemption from tax to Americans who are 

temporary sojourners in the Philippines, such as businessmen who go 

there for a short period of time, and teachers or students who go there 

for specified periods of time. The Philippines will give up its tax in 

such cases.

Reciprocally, the I Tiited States does so also.

Many of the rules in the treaty, so far as the United States is concerned, largely confirm what would be our jurisdiction anyway.

The Philippine treaty does not contain clauses that I would characterize as investment clauses, clauses which go to the question of what 

should he the rates of tax in the source country. By the source country I mean the country where the income arises. This is the country 

from which a company pays dividends, pays interest, pays royalties, 

or pays fees to taxpayers in the other country.

W IT 111 IOLD I X« RATES

In many of our treaties, certainly all of our treaties with the industrialized countries, of Western Europe, and Japan and Australia, both 

countries lower their withholding rates on investment income tha t 

leaves the country.

The Philippines did not desire to reduce th eir withholding rates. 

Their withholding rates run between 20 and 30 percent, and they felt 

for the time being that it was not appropriate for them to make 

changes.

This is the first treaty negotiated by the Philippines, and, consequently, one can understand an attitude of moving cautiously and 

seeing what the developments will be. The Philippines were desirous 

of entering into a treaty with the United States, desirous of adopting 

the standard rules which govern international transactions, but not 

desirous at this time of lowering the rate imposed by their tax system 

on dividends, interest or royalties leaving the Philippines and coming 

to the United States.

Of course, most of this traffic is one way. Dividends, interest and 

royalties move from the Philippines to tlie United States—they do 

not move from the United States to the Philippines. We do not have 

the same situation as between industrialized countries—with the traffic 

going both ways—with the interests that are mutual. Consequently, 

you will not find any of the investment clauses in this treaty. Equally, 

on the part of the United States, there is no clause extending the 

investment credit to the Philippines in this treaty. That was in large 

part because of the absence of any desire for investment clauses on 

the part of the Philippine Government. Consequently, both governments took a first step, which both governments feel is constructive, 

to enter into a tax treaty containing the standard clauses and leave 

it for the future course of events to determine whether the treaty 

should be modified to enter into the sphere of investment income.

So, both governments feel there is a constructive step here, and 

both governments would like to see the convention ratified.
3

As I understand, the Philippines are working toward ratification 

this year, and we would urge approval of this convention upon this 

committee.

Let me turn to the convention with France.

The Chairman. I wonder if I could ask you a question or two about 

this one before you leave it ?

Mr. Surrey. Yes; that would be helpful.

D ETERM IN A TIO N OF A PE R M A N E N T PR ES EN CE

The Chairman. What constitutes a presence? You said a permanent 

presence. How do you determine whether a U.S. company has a 

presence there ?

Mr. Surrey. Largely the degree of presence turns on the application 

of the so-called permanent establishment clause.

For example, to take extremes, if an American corporation is selling 

goods into the Philippines, getting orders in the United States, filling 

those orders in the United States and selling goods to the Philippines— 

the fact that its goods are going to the Philippines is not sufficient 

presence there to warrant a tax by the Ph ilippine Government on the 

profit of those sales. That would be the absence of presence.

On the other hand, suppose tha t the American corporation has a 

branch office in the Philippines; they have inventory, employees, salesmen actively engaged in this office in the Philippines, in securing orders 

in the Philippines. That would be a large degree of presence, and 

tha t would w arrant the imposition of a tax by the Philippines on the 

profits of tha t establishment.

The Chairman. But only on that establishment ?

Mr. Surrey. Only on that estab lishm ent; yes, sir.

The Chairman. So if, say, General Motors had an establishment 

there, the tax would not be on all of General Motors sales, just on what 

arises from the sales in that country ?

Mr. Surrey. What arises from the income that is attributable to 

that permanent establishment. The activities of that permanent establishment largely would be the sales there.

The Chairman. I think that would be difficult to determine, would 

it not ? It would depend on the internal bookkeeping of the companies 

as to how they price at their branch office, would it not?

Mr. Surrey. There are difficulties associated with that, and those 

difficulties in international arrangements are handled by the so-called 

arm’s length doctrine. In other words, the treaty provides that the 

relationships between the two shall be judged for tax purposes on an 

arm’s length basis.

'I’lie same problem could arise, for example, if the United States 

corporation had a subsidiary in the Philippines, and the American 

parent sold goods to the subsidiary which, in turn , sold in the Philippines.

The Chairman. Yes.

Mr. Surrey. Tha t price will determine the degree of profit, as you 

have pointed out, in the Philippines. We have an internal provision 

in our law that gives our Commissioner of Internal Revenue authority 

to look at t hat price and see that it is a fa ir price so that at least from 

the standpoint of the United States the goods are not sold at too low a 

price. We can adjust that price, if necessary.
4

Equally the Philippines, in their internal law, would be concerned 

with that, and the treaty, in effect, is an effort to harmonize what may 

be the competing claims of the two governments by their agreeing 

tha t the price should be an arm’s length price. And if there is a dispute 

about that, the authorities of the two Governments should consult with 

each other to see what would be a fair and arm's length price and, 

therefore, giving the appropriate tax to each of the two jurisdictions.

DEDUCTION FOR CONTRIB UTION S TO NO NPRO FIT ORGANIZATIONS

Senator Carlson. Mr. Surrey, I notice in article 18 of this convention th at the treaty would permit U.S. residents to receive a deduction 

for contributions to nonprofit organizations in the Philippines if those 

contributions are used within the Philippines and if the organization is one that has qualified under the Internal Revenue Code as a 

tax-exempt organization.

This is a provision, as I understand it, which is not usually included 

in these treaties. What is the reason ?

Mr. Surrey. It is not usually included, Senator Carlson. It has been 

included, and one can understand tha t I suppose, in the Canadian 

treaty.

It is designed both to facilitate the making of contributions where 

they are ordinarily made in situations of this nature and to indicate 

the general s pirit of encouragement, I would say, on the part of the 

United States for such contributions.

If American organizations which are disposed to carry on charitable activities in the Philippines desire to do so, they can work it out 

under present law. In other words, if an American wants to support 

church activities in the Philippines, he can work out the arrangements 

by having a contribution first made to an American organization, 

and then tha t American organization can spend the contribution in 

the Philippines.

This clause permits the direct contribution by the United States person desirous of giving assistance to the Philippine charitable organization to make it directly to the Philippine charitable organization 

without, in all cases, going through this roundabout way. I t would be 

of assistance to Americans who live in the Philippines and feel they 

have some obligations to support local activities of a charitable, educational or religious nature.

It has not been generally used in conventions before, but various 

Government agencies have told us that it would be a helpful gesture 

by the United States if this were done, but a gesture tha t really would 

not involve the United States in loss of revenue because, as I said, the 

mechanics can be arranged under present law.

This is to make the mechanics easier, and for that reason we have 

included this clause in our recent treaties, especially with the lessdeveloped countries.

Senator Carlson. Mr. Surrey, I certainly do not object to that provision. I was just wondering why, in view of the fact we were doing 

it for the Philippines and for Canada, it would not be to the advantage 

of the promotion of good will tha t we include it in other treaties. T hat 

is my only thought.
5

Mr. S urrey. We do offer this clause now to other governments who 

are interested in having the clause in the treaty. We would make it a 

standard clause in that regard.

Senator Carlson. That is all.

EFF ECT OF A M OST -F A VO RE D- NA TI ON CL AU SE

The Chairman. H ow does a most-favored-nation clause affect this 

treaty? If you give it to the Philippines, would it be considered effective in all other treaties?

Mr. Surrey. The most-favored-nation doctrine does not apply in tax 

treaties.

The Chairman. I see.

Mr. Surrey. The concession made by the United States does not 

necessarily have to be given to any other country. It depends on the 

particu lar treaty arrangement itself.

Now, necessarily one tries for uniformity and consistency of patterns; also one is concerned about the attitude of the other government. 

But we are not bound to have our treaties written the same way.

CR EA TI ON OF TA X -E X EM PT FO UNDATIO NS

The Chairman. Would this trea ty enable American citizens to create personal tax-exempt foundations in the Philippines the way they 

do in this country? It has become sort of customary here that if you 

make money you create a foundation so you do not have to pay taxes 

on it; isn't tha t correct ?

Mr. S urrey. Well, without passing on whether it is customary, it is 

correct that there are sums going into foundations in the United States.

The Chairman. Some. IIow many tax-exempt foundations do we 

have in the United States? Aren ’t there several thousand?

Mr. Surrey. I think more than that.

The Chairman. 15,000,20,000?

Mr. Surrey. I would roughly put it at around 25,000. I would like 

to be able to correct the figure if required, but I think it is around 

25,000.

The Chairman. Have you ever made a study of how much the Government has lost through the creation of tax-exempt foundations?

Mr. Surrey. There is material available and, as you are aware, the 

Treasury Department has submitted to the tax committees of the Congress recommendation in the foundation field to deal with what the 

Treasury feels are the abuses in this area, and should be corrected. This 

would permit the philanthropic activities and other appropriate activities of the foundations to exist, but would correct what it feels 

are serious, very serious, abuses in the foundation area.

Those recommendations have been made by the Treasury, and the 

Treasury would welcome any assistance by the Congress.

I have two gentlemen before me who are on the Finance Committee, 

and the Treasury would welcome any assistance by the Finance Committee in securing it.

The Chairman. I think you have let it get out of hand. You have 

built up such a constituency in their favor tha t I do not believe the 

Congress would be able to do anything about it.

93 -6 46 — 68
6

Mr. Surrey. No, I think you will find it the o ther way. I think you 

would tend to find th at the sound core of America n fou ndations would 

app rov e of the recommen dations th at we made from an opera tional 

sta ndpoint.

Th ere would not he from the real basic str uc ture of the Am eric an 

fou ndations any opposition—the recommen dations are designed to divorce the m ing ling o f business and p hilanthrop y, for exam ple, and o ur 

ma jor , well-run fou ndations do not do that. Th ey are designe d to see 

th at larg e sums a re not accumulated in fou ndations ra th er tha n being 

spent for the ph ila nthrop ic purposes for which the y are c reated, and 

attem pt to bring them b ack to, I think , t he basic reasons why the V.S. 

Governme nt does this, which is the encourage ment of ph ila nth ropy .

But I certain ly agre e with you th at there are serious abuses. I wou ld 

hope that we would have the ability in this Gover nm ent an d the Congress to c orrect those abuses.

The Chairma n. I remember a very slight change th at was suggested in the Fin ance Com mittee not long ago, but there was tre mendous pressure ag ain st doing an ything abou t it.

Mr. Surrey. Yes; I remember th at , too, Senator , and there was a 

change made at th at time , but the resu lt of th at discussion was the 

request t ha t we make a stud y of this area.

The c hange had come up wit hout essent ially any b ack gro und stu dy 

havin g been made, and the differences o f o pin ion at th at tim e led to a 

change in the law, not a ma jor revision, but some change in the law , 

and a request to the Treasury De partm ent th at we m ake a stu dy and 

submit it. Th at stu dy is there, and we would certainl y urg e the tax 

comm ittees to tak e th at study and proceed wi th it, and I would ventur e the guess tha t substantial pro gress would be made.

The C hairm an. It may not be prop er at this time to go into th at 

matter other than to say that it does raise a question in my mind a bou t 

our e xte nding th is pra ctice by tre aty until the question of foundatio ns 

in th is country is u nder control.

GR OW TH OF TAX-E XEM PT FO UND AT IO NS

But I am interested in yo ur estimate as to how much money is toda y 

held in tax -ex em pt fou ndatio ns?

Mr. Surrey. Yes.

The Chairma n. I n dollars.

Mr. S urrey. I do not have the amount at my fingertips .

The C hairman. It is very sub sta nti al. Th e Treasu ry re po rt estimated th at in 1962 fou ndation assets were aro und $16 billion. Is that 

correct ?

Mr. Surrey. Oh, yes; sub stantial. It has not been grow ing relat ive 

to the gro wth of the economy; th at is, if you ask the questio n, have 

fou ndations been able to secure unto them selves a gr ea ter prop ortio n 

of the economic wealth of th e countr y t ha n they h ad 10 or 15 ye ars ago, 

the answer wou ld be no.

The C hairman. You said th at you do not allow them to grow. T 

tho ught T saw in the pa pe r the other day a statem ent th at the Fo rd 

Foundation has about three times as much cap ital tod ay as it did when 

it was founded. Tt is gro wing very su bstan tia lly , is it not?

Mr. Surrey. Yes. W hat I meant was if one looks at the tot al amo unt 

of wea lth th at is in fou ndations in rel ation to the wea lth of the conn-
try, the country hav ing grown in the meantime, the growth of fou nda ­

tion assets is not greater than the growth of assets. For example, if you 

take the shareholdings on the New York Stock Exchange of fou ndations 10 or 15 years ago, tha t proportion of the shareholdings the 

foundations have of stock on the New York Stock Exchange and other 

exchanges would not di tier relatively today.

Now, in absolute terms, there has been an increase. This is la rgely 

due to two reasons, Senator. One, the appreciation in value of assets 

tha t has occurred in the United State s; and, second, in some fou nda ­

tions accumulating their income and not distributing it. It is that 

latter part which we would certainly disagree with.

The Chairman. But they are doing that.

Mr. Surrey. Well, some—it varies. Many foundations have a general practice of distributing their current income, not their increases 

in capital but their current income, and our recommendations, for 

example, if you are interested in the matter, would be that a foun dation should distribute its current income to charity. Tha t is the whole 

purpose. The purpose is to be a conduit for charity; and, second, if 

it invests in stocks whose capital value appreciates and the company 

never pays a dividend, the foundation nevertheless must d istribute at 

a rate that is roughly equivalent to what academic and other ins titu ­

tions of a comparable nature earn on their investment, so that there 

should be no accumulation of these funds.

So, I think, we certainly would come down to the same place you 

do, that there is no sense at all in the accumulation of funds in a 

foundation which was organized to assist charity.

The Chairman. Many of the purposes they serve are very questionable, whether it is charity or not.

Mr. Surrey. Yes, that is-----

The Chairman. We have discussed cases of that kind. T did not 

mean to prolong mv discussion but T did not realize that we had 

begun to extend the concept into foreign countries through treaties. I 

do not know whether this is a good idea or not.

Mr. Surrey. It is not an extension. It could be done today. There 

is nothing that would keep a person from establishing a foundation in 

the United States which would be of assistance to the Philippines—a 

foundation in the United States tha t controlled the direction of the 

activities. There is nothing that prevents that today. This treaty does 

not extend the American law in net effect.

CHARIT ABLE CON TR IB U TI ON PR OV IS IO N IN OTH ER TRE ATI ES

The Chairman. Is this same provision in the proposed treaty with 

Israel?

Mr. Surrey. No; it is not.

The Chairman. Why not?

Mr. Surrey. Israel, the Israeli Government, is not inf crested in it.

The Chairman. Why not?

Mr. Surrey. I think, in large par t, as I said, it is an operational 

matter. Any American can contribute to an organization, the interest 

of which organization includes or consists of charitable activities 

abroad. If it were not for that, for example, a great deal of our 

religious activity abroad could not be supported. So there is no diffi-
8

culty in the funds going abroad. It is a matter of operational convenience from time to time.

In Canada, the way it arose I suppose is tha t large numbers of 

Americans living in Canada, close to the border and associated with 

charitable activities and philanthropic activities in Canada, felt in 

the natural course that they should make their contributions to Canadian institutions, just as Canadians might make them to U.S. activities because of close ties. And so, as a matter of convenience, people 

were permitted to make contributions directly, subject to the limitations of their home country, in our case the 30-percent limit. And in 

the same way in the Philippines—with our ties to the Philippines, it 

seemed a natural extension to let people—many Americans live in the 

Philippines—to make these contributions, or to permit those having 

lived in the Philippines for a long time, and then coming back to the 

United States and having an interest in schools there, or churches or 

the like, to continue that interest. The Philippine Government was 

interested in this. The Israeli Government, I would suppose as a guess,

receiving large funds from the United States in this regard-----

'Phe Chairman. They do now.

Mr. Surrey. I think they do now.

'Pile Chairman. How much, do you know ?

Mr. Surrey. 1 cannot give you the amount. I mean 1 do not have it 

with me.

The Chairman. Can you estimate ? It is substantial ?

Mr. Surrey. I cannot—I will try to get the facts and put them in, if 

you would like.

('Phe information requested is not available liecause under section 

6033(a) of the Internal Revenue Code, religious organizations and 

publicly supported charitable organizations, are not required to file 

information returns containing such data.)

The Chairman. Is it as much as $100 million a year?

Air. Surrey. 1 would doubt that.

'Phe Chairman. If it applies in the Philippines or in Israel, then 

the deduction is taken as against taxes paid to the Government here, is 

it not?

Mr. Surrey. That is right. But I am indicating today if there is an 

organization whose interest is in the Philippines for example, if I contribute funds to an American religious organization to be used in the 

Philippines, I get a deduction for that today.

The Chairman. It is under that law tha t you get a deduction if you 

contribute to one operating in Israel ?

Mr. Surrey. That is right. American organizations may qualify 

whose purpose in organization relates to activities in Israel. I can contribute to this American organization, and get a deduction today 

without a treaty.

The Ci iairman. So, in effect, the taxpayers are subsidizing the gifts, 

are they not, to the extent of the tax deduction ? Is that correct?

Mr. Surrey. Yes, sir; with the same general effect as our charitable 

contribution clause under our income tax laws.

The Chairman. Do the pending treaties with Brazil or Thailand 

have a section similar to the one in the Philippine treaty?

Mr. Surrey. They do.

The Chairman. They do ?
9

Mr. S urrey. Yes.

The Chairman. I s it proposed to have them in all futu re trea ties 

with countries that want them ?

Mr. Surrey. I would think so, from our standpoint up to now.

You see, the organization has to be an organization tha t is charitable 

by our standard s and charitable by their standards. It has to be an 

organization which meets the requirements of philanthropy under both 

laws.

CO NTR OLL IN G CH ARI TA BLE CONTR IB UTI ONS

The Chairman. Mr. Surrey, I have read, and I remember your mentioning before the committee, that a lot of these foundations which 

have qualified as charitable organizations have turned out not to be 

charitable but really for the benefit of the man who founded it. li e 

uses it and continues to use it for his own purposes and for political 

purposes-----

Mr. Surrey. No.

The Chairman. And for personal purposes.

Mr. Surrey. No; organizations of that kind would not qualify u nder 

our law. In other words, some of the m atters which I think have concerned a number of people in this country tha t charitable organizations were going afield in their activities-----

The Chairman. Th at is right.

Mr. Surrey. Propagandist activities, intervening in political 

1 i f e-----

The Chairman. That is right.

Mr. Surrey. Those we feel we have sufficient present authority to 

handle.

The Chairman. You have had great difficulty in dealing with one or 

two that I know of. It takes forever to do anything about it.

Mr. Surrey. Yes, it took a long tim e; let me put it that way.

The Chairman. All right.

Mr. Surrey. I do not thin k it now takes such a longtime.

The Chairman. And you have 25,000 which is an almost impossible 

number for you to handle.

Mr. Surrey. On that I would differ because I remember our discussions on this point.

The Chairman. Yes.

Mr. Surrey. And they were several years ago.

The Chairman. That is right.

Mr. Surrey. At tha t time we were in the course of carefully investiga ting a number of organizations tha t were either suspected or accused or whatever word one wants to use, of activities not consistent 

with philanthropy. There has been an investigation of those, and I 

think most of those have been removed from the list.

The Chairman. You think so ?

Mr. Surrey. Yes, I think so; and I would be willing to check on any 

about which there might be a difference of opinion on in tha t regard.

That is not a matter, Senator, on which, in our report on foundations 

we asked for any new authority. I do not think that is a basic problem 

in this area.

The Chairman. I am only bringing this out to at least clarify in my 

own mind whether or not we should give very serious consideration
10

to whether it is wise or not to expand this practice through treaty 

into every country in the world. I think this could get to the point, if 

encouraged, where there is nobody left to pay any taxes in this country 

but a few hard working men on a salary who cannot form a foundation. Everybody else finds a way to get around it.

Mr. Surrey. I do not think the tre aty provision relates to the foundation area. 1 think this relates to organizations of the kind you would 

typically find aiding the schools, aiding the churches, and aiding the 

charities of these countries.

The Chairman. I won't pursue it any longer.

PR OV ISIO N IN TR EA TI ES W IT H OT HE R CO UNTR IE S

Is this the first treaty besides the one with Canada where this kind 

of provision has been included ? Have any others had this provision ?

Mr. Surrey. Canada was the first, and then, I think, Thailand, the 

Philippines, Br azil; it is not in Israel and it is not in France.

I think you will tend to find this provision, Senator, more in treaties 

with countries in which we have established a tradition, partly growing out of religious activities, partly growing out of the efforts to 

extend assistance in cultural fields; you would find it in treaties of 

tha t nature. I think those would be the countries tha t would be 

interested.

It also tends to be of some use—and you can see the elements of 

fairness involved in this—if you get American citizens living in a 

country and a natural disaster occurs in that country, let us say, an 

earthquake or a flood: there is a natural feeling th at there should be 

assistance to that country, and I think a proper attitude of making a 

contribution, just as one would feel in the United States under similar 

circumstances. An American who was living abroad and feels that 

natural inclination to assist under those terms, should have an ability 

to say that that is a charitable contribution under our law.

It is things of this nature which one had in mind in extending these 

clauses in these countries. It tends, as I say, to come up more in the 

less developed areas. I have not found any industrialized country 

which has interested itself, really, in this clause.

The Chairman. I won't pursue the matter. I did not realize it, but 

actually, this is, in effect, a kind of private foreign aid. We substitute an individual judgment about how to aid a country rather than 

the judgment of our Government. Maybe that will be all that is left.

Mr. Surrey. It is an effort made to counter polarization in institutional activity.

T IM E L IM IT A T IO N FOR SO JO URN ER S

The Chairman. Did you say tha t the students and other sojourners, 

there for a short time, will not be subject to tax in the Philippines? 

What is the time limitation in th at connection?

Mr. Surrey. It is ha rd to say that there is a general practice. My 

recollection is, in the Philippine treaty they draw the line for sojourners, at least for business visitors, at 90 days. That is a shorter 

time than we would prefer. We would prefer something like ISO 

days.
11

So, as I say, these diffe r. In the case of stu dents my recollection is 

it is 2 years.

Th e Chairman. T wo years.

Mr. Surrey. T wo years.

Th e Chair man. Businessmen, 90 days.

Mr. Surrey. Businessmen, 90 da ys ; tea chers , 2 years. In some cases 

stu dents can get up to 5 years.

Th e Chairman. Specially ?

Mr. Surrey. Und er special circ umstan ces. Th e amounts invo lved 

are not lar ge th at they can ea rn in a forei gn country .

Th e Chairma n. I know.

Se na tor S pa rkman , do you have a ny questions?

IN V ESTM EN T TA X CR ED IT PR OV ISIO N IN BR AZ IL TR EA TY

Se na tor Sparkman. I want to dig ress a little an d move to anoth er 

matter which may not be involved. Is inv estme nt tax cred it invo lved 

in this trea ty ?

Mr. Surrey. It is not involve d in this trea ty . Se na tor Spark ma n, 

because of the gen eral disin cli natio n of the Ph ili pp in e Government 

to-----

Se na tor Sparkman. I saw th at . I th in k you said som eth ing about 

th at in y ou r state ment.

Mr. Surrey. Yes; and, there for e, the investment cre dit is not involved in th is trea ty.

Se na tor Sparkman. W e do have anoth er trea ty pend ing befo re us, 

the one wi th Brazil, in whi ch th e investment tax cre dit provision is 

include d an d it is p rovin g to be a problem in ou r c onsid era tion of that 

tre aty. Some of the m embers obje ct to it in its presen t form .

Th e objection has been raised , fo r inst anc e, th at we have control 

over the inv estme nt tax cre dit in this country , an d we exercised th at 

control in 19G6 by s uspending it an d the n pu ttin g it on ag ain—in 19G7, 

I th in k it was. But if we include th at pro vision in a trea ty , we lose 

control of it so fa r as dealing with a pa rti cu la r co un try is concerned. 

Is t here meri t in th at co nte ntion ?

Mr. Surrey. No, Senator , there is not. There is m eri t, I think, in the 

fee ling that, one should not lose control of it. But there is a prov ision 

in the Br az ilian tre aty which exp ressly pro vid es th at , if the re are 

changes in th e cre dit in the United State s, those cha nge s come into 

forc e as respec ts the op era tio n of the cre dit un de r the trea ty itself 

wi tho ut a ny fur th er negotiation w ith Braz il.

So th at , fo r example, if there eve r were an occasion to suspend the 

cred it in the Un ite d Sta tes , then th at very act of suspension in the 

Un ite d St ates wou ld equally be a suspen sion in th e Br azilian tre aty.

Now, th at may trig ge r off ce rta in rea ctions on the Br azilian side, 

and certa in clauses in the Brazilia n trea ty inv olv ing concessions by 

Brazil wou ld be suspended if Br azil desires the m to be suspend ed. 

Bu t i nsofar as keep ing the two credits in t andem, the way t he Br azilian 

clause is w rit ten, th ey are kept in tan dem. I f it were te rm ina ted in the 

Un ite d Sta tes , it would be ter minated for Br az il, and th at would not 

req uire anv fu rther action, either leg islati on or negotiation, by the 

Un ite d Sta tes.

Se na tor Sparkman. Did you testify on the Brazil tre aty?
Mr. Surrey. Yes, sir.

Senator Sparkman. Did you mak e th at po int clear?

Mr. Surrey. Well, I was going to say “ Yes,” but I feel pe rhaps not, 

at this point.

Se nator Sparkman. I do not remember it, but I do know t ha t in the 

discussion in the comm ittee thi s question th at I have ju st posed was 

raised.

Mr. Surrey. Well, then, the answ er is “No,” I did not make it c lear. 

As I say, 1 tho ug ht 1 had. It is in the docum ents.

reservation regarding tax credit provision in brazil treaty

Se nator Sparkman. In fact, there has been proposed a reserv atio n 

with reference to the investment tax credit. Ha ve you seen th at pr oposed reservatio n?

Mr. Surrey. I was recently asked to conside r the technical aspects 

of a form of reserv atio n langua ge. 1 h ave seen th at ; yes.

Se na tor Sparkman. D o you have any comment on the advis ability 

or not o f our addin g the re ser vation in the ev ent we ta ke up the t reaty 

for ratific ation?

Mr. Surrey. I have the feeling , Senator Sp arkm an , it would be 

very he lpf ul for the Un ite d State s to have a trea ty wi th Brazil. I 

th in k it would be in the int ere st of the rela tionship s of o ur tw o c oun ­

trie s, and in the int ere st of the Un ite d State s in maintaining a competitive position in Brazil, which com petitive position is serio usly 

under a tta ck, in a sense, by W est ern Europe and Jap an .

In othe r words, the ind ustriali zed cou ntri es of the world have rec ­

ognized t he p otential of L at in A merica for grow th. Th ey a re engaged 

in n egoti ati ng trea tie s to complement the ir co mmercial an d ot her ac tiv ­

ities, and it would be very much to the intere st of the Un ited States 

and to the intere st of teache rs and students and the like going to 

Br azil to have these arrangeme nts with Brazil. Th ere fore, any steps 

th at wou ld be conducive to conclud ing a negotiatio n with Br azil 

would be very hel pfu l. An y arrangeme nts th at would facilitate the 

concl udi ng of the tre aty wi th Bra zil would be quite useful, even 

thou gh t hat tre aty with Brazil might not have the f ull scope it w ould 

have if it were ratified the way it was presented to you.

W ha t I am say ing is, if we could have a trea ty wi th Brazil th at 

ha s a scope as close as one can come to wh at w ould be the full scope, 

it wou ld be very h elp ful . An d if there are impedi me nts to full imple ­

me ntati on of th at tre aty , the n the suggestion th at I have seen, fro m 

a tech nical sta ndpoint , may offer a way of mo ving forw ard th at 

would pe rmit both Governmen ts to achieve a trea ty.

Se na tor Sparkman. If I un derst and clearly wha t you are say ing, 

if yo u were actin g on it, you would tak e it ju st a s it is presented, and 

not feel tha t th e rese rva tion would be hu rtfu l ?

Mr. Surrey. I th ink i t is a fa ir statement.

Senator Sparkman. Is t hat a fa ir statem ent ?

Mr. Surrey. Yes ; I th in k the trea ty we pre sented, sent to you, is 

a good, sound tre aty. I t would be extrem ely use ful for the Un ite d 

State s to have.

If th at can not be achieved , for one reason or anoth er, the n the 

reservatio n I have seen, I think , will pe rm it us to secure a tre aty 

with Brazil th at we wou ld still app rov e and wou ld be useful.
13

Senator Sparkman. I would say to you. Mr. Surrey. I am not sta ting my own views because actually I am in favor of the treaty.

Mr. Surrey. Yes.

Senator Sparkman. As it is?

Air. Surrey. Yes.

Senator Sparkman. But we have run into opposition in the committee. I was hopeful that the reservation might be helpful in getting the treaty through. It was my plan to present the reservation 

to the treaty when it comes up, because I believe it will be helpful.

Mr. Surrey’. One has to look at these things not only from the 

eyes of the United States, but from the eyes of the other country 

to the treaty. I think the Brazilians would feel about the trea ty we 

presented the same way you feel—it would be the best treaty under 

all circumstances.

Senator Sparkman. Yes.

Mr. Surrey. If one cannot achieve the best trea ty, I think both countries should strive to achieve a treaty.

Senator Sparkman. Than k you very much.

Thank you, Mr. Chairman.

concurrence of committee required

The C hairman. In tha t connection, am I correct that the reservation 

would simply mean that if the investment tax credit is extended here 

in the United States, it is not automatically extended to Brazil but 

that it would take the approval of the committee ?

Mr. Surrey. As 1 recall it, the clause that was indicated to me would 

involve the committee within the traditions of other clauses in present 

treaties that involve the concurrence, in effect, under our procedures, 

of this committee.

The Chairman. That is what I mean.

Mr. Surrey. That is my understanding.

The Chairman. As it presently is the credit must be extended to 

Brazil if it is extended to domestic companies; is that correct?

Mr. Surrey. Yes: as it exists in domestic operations.

The C hairman. Are there any other questions on the treaty with the 

Philippines?

Senator Sparkman. No. I thin k it was a very good presentation on 

the Philippines treaty.

Mr. Surrey. Shall I go ahead?

TR EA TY W IT H HO NDURA S

The Chairman. For the record, I am told Hon duras is another country with which we have a treaty containing that charitable provision, 

is that correct ?

Mr. Surrey. Well, I do not recall, and it may be correct. But in any 

event, we do not have a treaty with Honduras.

The Chairman. We do not?

Mr. Surrey’. Well, we did. But the trea ty with Honduras has been 

terminated.

The Chairman. I see. Proceed, Mr. Surrey.

93-G46 — 6S------ 3
14

CO NVEN TI ON W IT H FR AN CE

Mr. Surrey. The second convention t ha t you have lie fore y ou is of a 

different kind entirely. It is a co nvention w ith Fran ce.

It is a revision of an ex isting co nvention. Our first con ven tion with 

Fran ce was signed in 1939 and took effect in 1945. Th ere have been 

protoco ls since th at tim e to reflect changes in the laws of both countrie s, bu t it was felt by both Fr an ce and the Un ited St ates t ha t there 

should be a complete revision of the Fren ch tre aty, and th at the 

method of proceeding by protoco l and patch ing it up ha d outlived its 

usefulness. So, consequ ently, both cou ntries engag ed in a complete 

reexam ina tion of th is tre aty .

Both cou ntries p roceeded in the lig ht of the so -called OEC D model 

tax convention which is, as th e ter m implies, a model suggested by t he 

OE CD for all its member countrie s, so th at in the negotiations between t hem as much un ifo rm ity as possible can be achieved. The member governments of th e OE CD are a tte mpting to accommodate to th at 

model as f ar as possible.

Th is trea ty with Fr an ce is, the refore , built aro und the OE CD 

trea ty, and would be the model th at we would use insofar as the 

sta nd ar d clauses and the technical aspects and the like are concerned 

in ou r negotiations with othe r Eu ropean cou ntries th at desire th eir 

tre aties brought u p to date.

In pa rt, a large number of the clauses th at ap pe ar in the Fren ch 

trea ty have previously been inc orp ora ted by amend ment in the tr eaties with the Un ite d Kingdom and Germa ny, so th at many of thes e 

clauses have alr ead y been passed upo n by this com mittee in the pr otocols th at were app roved.

W IT H H O LD IN G TA XE S ON DIVIDE ND S AN D IN TE REST

Bu t now in the Fren ch trea ty the re has been a com plete revision. 

Th e trea ty is quite an im po rta nt one because there are a numb er of 

cha nges with resp ect to the investm ent clauses of the tre ati es and , 

as I indicated earlie r, wh ate ver might be the res ult s with less developed countries, the deve loped cou ntries are intere sted in bringing 

dow n the weight of their withh old ing t axe s so as to make for a fre er 

exchan ge o f ca pital.

Now, for exam ple, in th is t reaty with France, the withh old ing tax 

on div ide nds going from a sub sidiary corpo ration to a parent corpo ­

ratio n was fixed before at 15 perc ent. We withheld 15 percen t on a 

div ide nd paid by a U.S . subsidiary to a Fren ch pa rent, and Fran ce 

withh eld 15 percent on div ide nds on a French subsidi ary to the U.S. 

paren t.

Th is tre aty reduces th at to 5 percen t, which will fac ilitate the 

repa tri atio n of earnings from Fran ce to the United States insofar as 

our subsidiaries are concerned.

The rat e of wi thho ldi ng tax on interest has been reduced in this 

tre aty from 15 to 10 perce nt, which again I th in k is more cond ucive 

to investment act ivities------

The Chairman. On inte res t, you said ?

Mr. Surrey. On i nte re st ; yes.
15

WITHHOLDING TAX ON ROYALTIES

On royalties, the change moved in the other direction. The rate 

of withholding on royalties in the previous French treaty had been 

at zero percent. But in this treaty it was raised to 5 percent on, 1 would say, the initiative of the French Government.

The Chairman. Why it that? What was the reason for that?

Mr. Surrey. Well, I think, on the whole, from their standpoint 

they looked upon it in nearly every respect as a revenue matter. There 

are very large industrial royalties that move from France to the United 

States, and very little in the way of royalties, relatively very little, 

moving from the United States to France.

The Chairman. What are these royalties for ?

Mr. Surrey. These would be royalties on patents.

The Chairman. I see.

Mr. Surrey. Patents or trade processes.

The Chairman. Not natural resource royalties?

Mr. Surrey. No. These are so-called industrial royalties.

Senator Carlson. Are motion pictures included ?

Mr. Surrey. No; not motion pictures. It was here the other way 

around. The French position in etfect resulted in a zero rate of tax on 

motion picture royalties, because they agreed that they would regard 

motion picture royalties as so-called industrial or commercial profits. 

There is another clause in the treaty that says that no industrial or 

commercial profits can be taxed by France unless there is a permanent 

establishment in France, and our motion picture companies do not 

have permanent establishments in France. They have no “presence” in 

France within the meaning of the earlier discussion with the chairman. Consequently, under this provision of the treaty, such motion 

picture royalties are not taxed by France. This is a clause the motion 

picture people feel is quite an important precedent and would like to 

see it in all our treaties. We would, too. It is not easy to get other governments to agree, however, but it is appropriate, and in our view, a 

helpful clause.

Cultural royalties are also exempt from withholding tax, copyright 

royalties, and the like. It was on the industrial royalty side, in which 

there has been a very large growth, that the French were concerned.

On our part we felt that the reduction in the rate of withholding tax 

from 15 to 5 percent on dividends was in our interest. All treaties result from negotiation; we think the result here is favorable and, therefore, these clauses fell into shape that way.

BRA NCH PROFITS TAX

I think there are a large number of matters that one could go into, 

but they are set forth in the statement. There is one m atter I might 

mention. France has a so-called branch profits tax. Let us assume an 

American concern has a branch business in France. It is a real business. It is not operated as a subsidiary. It has an office. If has a staff. 

It has employees. It has activities. This branch pays the regular 

French corporate tax, which happens to be 50 percent. In addition, if 

pays a second tax, a so-called branch profits tax, so that the branch 

bears not only the regular corporate tax but it bears another tax on
its profits, somewhat analogous to the tax that France would impose 

on the dividends of a French subsidiary if the activity had been in 

subsidiary form, although the tax is higher than the tax that would 

be imposed on dividends.

We thought the branch profits tax of the French was too high, and 

we did negotiate a considerable reduction in that tax.

In the converse situation, if a French corporation operated in the 

United States in branch form, we would impose our regular 48-percent 

tax. We have no basic additional tax on branch profits in the United 

States. But instead, if a French corporation gets the predominant 

amount of its earnings from a branch in the United States, when it 

distributes those earnings as dividends to shareholders of the French 

corporation, we will impose a tax on that act of distribution. It is the 

wav we, in effect, levy a branch profits tax.

We think it is appropria te for us to levy this tax, which is, in 

a sense, and has acquired the terminology, although not technically 

accurate, a “second dividend tax.” We think that is appropriate to 

have in countries which themselves have a branch profits tax and, 

consequently, you will find in th is treaty tha t second dividend clause 

although you might not find it in other treaties with industrialized 

countries where they do not have a branch profits tax.

But it is an arrangement to enable us to balance off the method 

that the French have of taxing us—this is a method of taxing the 

French doing business in the United States so th at reciprocally we 

come out the same.

If the French would give up their branch profits tax we would give 

up the second dividend tax but they do not do it and, therefore, 

we think we should be reciprocal.

EXCHA NGE OF INFO RM AT IO N ON TAX LAWS

One other matter I think I should mention, and this is a provision 

tha t is new—article 30 of the treaty—is a provision that first obligates 

us to exchange information on changes in our tax laws, so that each 

of us can keep up to date on internal changes that may affect the 

treaty.

Then, in addition, the treaty provides that if as a result of these 

changes that have occurred and the like, it seems advisable to adjust 

some provisions of this convention without affecting its general principles, the necessary adjustments may be agreed upon between the 

contracting states by notes to be exchanged through diplomatic channels or in any other manner in accordance with their respective constitutional procedures.

1 his is to enable us, if there are minor changes in the French law. 

or minor changes in our law, or minor changes in treaty policy or 

interpretations, or difficulties in interpretation, to accommodate* the 

treaty to those problems through an exchange of notes, and the pattern 

we would follow is the pattern that now exists with respect to the 

extension of a treaty to the territories of the two countries.

Under the traditional clauses the treaties generally apply only to 

the geographical or continental aspects of a country. But, by agreement between the two countries, they may be extended to the ter ritories of the countries, and this extension is by an exchange of notes.
17

The extension, if it is made, need not extend the treaty in full but 

could make modifications in the treaty that are appropriate to the 

extension.

Under this practice before any extension we submit the exchange 

of notes to this committee, and await any objections of the committee 

to it. It is that procedure which is contemplated in this treaty and 

would be followed under article 30.

I think article 30 of the treaty would enable us to keep our treaties 

up to date in a rational fashion with respect to minor and technical 

problems tha t arise over time as tax laws change and interpretations 

change.

I think that ends my presentation on this other than to sav the 

French have ratified this treaty, and so the coming into force of the 

treaty now depends upon the United States.

(The full statement of Mr. Surrey and the technical explanations 

submitted by the Treasury D epartm ent follow :)

Sta te m ent on t h e U nit ed Sta te s I nc om e T ax Conven ti ons W it h t h e

P h il ip p in e s an d W it h F rance, Apr il 30, 1908

Mr. C ha irm an an d m em be rs of th e co mm itt ee , I am plea se d to appear be fore 

yo u in su pp or t of tw o inco me ta x co nv en tio ns , one w ith th e Phi lippin es an d th e 

oth er w ith Fra nc e. The co nv en tio n w ith th e Philip pin es w as sig ne d in Octo be r 

1904 an d th e co nv en tio n w ith F ra nce w as sig ne d in Ju ly 1907, an d I prop ose 

to di sc us s th e tw o co nv en tio ns in th e ord er in which th ey w er e signed.

CO NV EN TI ON W IT H T H E P H IL IP P IN E S

In br oa d ou tli ne , th e ta x co nv en tio n w ith th e P hilip pin es is a so m ew ha t tr u n ­

ca te d ve rsion of th e p att ern es ta blish ed in pr ev io us co nv en tio ns . It co nta in s th e 

pe rm an en t es ta bl is hm en t pr in cipl e, under which an ente rp ri se of one co un try 

is no t su bj ec t to ta x in th e oth er on in d u str ia l or co mm er cial prof its un le ss it 

h as a pe rm an en t es ta blish m en t in th a t oth er co un try. An d in th e de te rm in at io n 

of th e bu sine ss pr of its of a per m anent est ab lish m en t, pr ov ision is mad e fo r th e 

allo wan ce of a de du ctio n fo r ex pe ns es , w he re ve r in cu rr ed , which are allo ca ble to 

th e pe rm an en t es ta blish m en t in der iv in g inco me su bje ct to ta x. Th e de fin ition 

of a pe rm an en t est ab li sh m en t in th e tr eaty h as be en th e su bj ec t of som e misunder st an din g which I be lie ve has bee n reso lved to th e sa ti sf acti on of in te re st ed 

grou ps , an d I sh al l re tu rn to th is m att er in a few m om en ts.

N on di sc ri m in at io n

Am on g th e im port an t pr ov isio ns of th e tr eaty is one w hi ch guar ante es ag ai nst 

no nd iscr im in at io n. Und er th e co nv en tio n a ci tize n of one countr y wh o is re side nt 

in th e oth er may no t be su bje ct to hea vi er ta xes in th e countr y in wh ich he re ­

side s th an ci tize ns of th a t co untr y who re si de th er e. Sim ilar ly , a co rp or at io n 

or ga ni ze d un de r th e la w s of on e co un tr y but ow ne d by re si dents of th e oth er 

m us t be tr eate d fo r ta x pu rp os es in th e sa m e w ay th a t a co rp ora tion ow ned by 

ci tize ns of th e ta xin g st ate wou ld be tr eate d. Fin all y, w her e a firm in one 

co unt ry has a br an ch in th e oth er co un try, it may no t be su bje ct to he av ie r ta xes 

th an a si m ilar b us in es s in the l a tt e r s ta te .

R el ate d Par ties

W he re tr ansa cti ons ta k e plac e be tw ee n re la te d p art ie s under co nd iti on s which 

differ fr om th os e th a t wou ld pre vai l be tw ee n unre la te d part ie s, th e co nv en tio n 

pr ov id es th a t th er e m ay be a re adju st m ent of inco me be tw ee n th e tw o en tities 

so th a t th e pr op er am oun t of inc om e will be su bje ct to ta x in th e resp ec tiv e 

st at es . T his prov ision is im pl em en ted by anoth er pr ov isio n in th e tr eaty de aling 

w ith co nsu ltat io ns be tw ee n th e co m pe te nt au th o ri ti es of th e tw o co untr ie s wh ich 

auth ori ze s them to re ac h ag re em en t on th e sa m e al lo ca tion of incom e an d 

ex penses.

In vestm en t In co m e

Typ ical ly , th e co nv en tio ns to which th e U ni ted S ta te s is a p art y c on ta in ar ticl es 

de al in g w ith in ve stm en t inc om e which pr ov id e in var yin g d eg re es f or a redu ction
18

in withholding taxes on such investment income. Some treaties provide for reciprocal exemption at the source of some forms of investment income, such as 

dividends, interest and royalties. Tin* convention with the Philippines is confined 

in this respect to a provision dealing with interest received by the Government 

of one of the contracting state s, or a wholly owned instrumenta lity, from sources 

within the other state. In such cases, the interest is exempt from tax at the 

source.

As a general proposition, the Philippine Government did not favo r incorporating any provisions in the treaty which would reduce the revenue currently derived by the Philippines from taxes on investment income flowing to U.S. residents. The general U.S. attitude with respect to investm ent income was tha t the 

Philippines should consider reducing its taxes on investm ent income in those 

cases where the amount of Philippine tax was in excess of the tax that would he 

imposed in the United States on the same income. In other words, we sought adjustme nts in Philippine tax so as to eliminate excess foreign tax credits to the 

extent that they occurred. Such adjustments would, in our view, have improved 

the tax climate in the Philippines for investment from the United States. Since 

the Philippines did not feel able to make such a djustments in view of their budgetary problems, we on our side did not include other provisions in the convention 

which, in our opinion, would have helped to promote U.S. investm ent in the 

Philippines. I have reference here prim arily to the investm ent credit with which 

this Committee is familiar.

Tax-exem pt Tran sfers

The Philippines did incorporate a provision which should fac ilitate investment 

under which it grants tax exemption to the gain that might be said to accrue to 

an American firm which tra nsfer s property to a Philippine corporation in exchange for stock. Following the transf er, the American firm, together with any 

other persons making similar tran sfers, must own a t least 80 percent of the voting 

stock of the transfere e corporation. A similar exemption is alre ady provided for 

under our internal law but a transactio n of this type would be subject to tax in 

the Philippines. The t rea ty eliminates th is tax.

Income from Personal Services

The convention contains the customary articles dealing with personal service 

income earned by persons who are resident in one country and go to the o ther for 

limited periods of time. An individual who is a resident of one contractin g state 

and temporarily goes to the oth er to perform personal services will be exempt 

from tax in the latte r state if he is present there for less than 90 days and his 

earnings do not exceed $3,000. This rule is subject to some other qualifications 

and corresponds to a provision in our Internal Revenue Code. Teachers who are 

residents of one country and go to the other at the invitation of a university or 

oth er accredited educational institution to teach or engage in research will be 

exem pt from income tax in the host country for a period up to two years.

The convention also contains provisions designed to promote the movement of 

studen ts and trainees between the two countries. Thus, a resident of one state 

who goes to the other for the primary purpose of study or to secure training 

necessary to qualify him in the practice of a profession or to do research as the 

recip ient of a gra nt will he exempt from tax in the host state with respect to 

gifts from abroad, a grant, allowance, or a ward, as well as income from personal 

services performed in the host country provided the amount of income thu s earned 

does not exceed $2,090 a year. In the case of a iierson who must secure specialized 

training to qualify for the practice of a profession, such as a physician for example, he may earn up to $5,000 a year.

Charitable Contributions

The convention also provides that the United States will allow a deduction 

to its citizens and residents for charitable contributions made to nonprofit institutio ns organized in the Philippines, provided those contributions are used within 

the Philippines and provided that the organization qualifies as a tax-exempt 

organization under the United States Inte rnal Revenue Code. The organization 

must also be exempt from tax in the I’hilippines. The amounts which may he 

deducted are limited in the same way as if the contribution were made to a 

United States charitab le institution.

Effective Date and Adm inistrative Provisions

As in other conventions, the treaty with the Philippines will become effective 

on Jan uar y 1 of the year following exchange of instruments of ratification. The
19

co nv en tio n will re m ai n in effect in de fin ite ly but may be te rm in ate d a fe r five 

ye ar s.

The re ar e, fin all y, th e u su al adm nis tr ati ve c oo pe ra tion pr ov isio ns su ch as th os e 

de al in g w ith ex ch an ge s of in fo rm at io n and ass is ta n ce in co lle ctio n in ca se s 

whe re pe rs on s er ro ne ou sly ob ta in ed an ex em pt io n gra nte d by th e tr eaty .

1 sh ou ld lik e now to re vert to th e m att er of th e perm an en t es ta bli sh m ent 

which I men tio ne d ea rl ie r. On th e oc ca sion of th e heari ng he ld on th e inco me 

ta x co nv en tio n w ith T hail and, a re pre se nta ti ve o f th e U ni ted S ta te s Stee l Corpo ­

ra tion, Mr. H ea rn e, ap peare d and ex pr es se d co nc er n ab out som e as pec ts of th e 

de fin ition of a per m an en t est ab li sh m en t co nta in ed in th e T hai tr eaty . The 

lang ua ge he fo un d trou bl es om e w as id en tica l to th a t co nt ai ne d in th e Philip pin e 

tr eaty . As a re su lt of th es e co mmen ts, we m et w ith Mr. H ea rn e to di sc us s his 

in te rp re ta ti o n of th e tr e a ty pr ov isions . The ou tco me w as a le tt e r to Sen at or 

(lor e. C hai rm an of th e Su bc om m itt ee which co nd uc te d th e he ar in g, in which Mr . 

H ea rn e in dic at ed th a t in th e light of our di sc us sion s and th e pr in ci pl es in te nde d 

to be follo wed in our su bs eq ue nt tr eati es, which I co nfirm ed in a le tt er to him, 

th e ob je ct io ns which he had st ate d w er e el im in at ed . The disc us sion s w er e in 

te rm s of th e T hai tr eaty , bu t in re ali ty it w as th e pr ov isio ns in th e Philip pin e 

tr eaty which w er e of in te re st to him. I sh ou ld ad d th a t in our co nv er sa tions 

w ith Mr. H ea rn e, I in dic at ed th a t th e lan gua ge w hich he con side re d to b e t ro uble ­

som e wo uld no t be us ed as a pr ec ed en t fo r oth er tr eati es, su ch as th e tr eaty 

w ith B ra zi l whi ch w as th en under ne go tiat io n. In th is re gar d, it sh ou ld be no ted 

th a t th e B ra zil ia n inco me ta x co nv en tio n, which is pe nd in g be fo re your Comm itte e, do es no t co nt ai n th e la ngua ge whi ch co nc er ne d Mr. H ea rn e.

I w an t to ur ge you r Com m itt ee to ta k e af firm at iv e ac tion on th e pe nd ing 

co nv en tio n w ith th e Phi lipp in es . I th in k it is a use fu l addit io n to th e se ries of 

incom e ta x tr eati es th a t we hav e w ith m an y oth er co untr ie s in th e wor ld, an d 

is lik ely to contr ib ute to b ett er tr a d e an d in ves tm en t re la ti ons be tw ee n th e 

Phi lipp in es a nd t he U ni te d Sta te s.

CONV EN TI ON W IT H FR AN CE

The pe nd ing inc om e ta x co nv en tion w ith F ra n ce is a co mplete ly re vi se d versio n of one of our earl ie st ta x co nv en tion s whi ch w as sign ed in 1939 and took 

effect on Ja n u a ry 1, 1945. T h at do cu men t w as la te r mo difie d th re e tim es to re ­

flec t ch an ge s in polic y bo th in F ra nce and in th e U nited Sta te s. The co nv en ­

tion pr es en tly be fo re yo u is ess en tial ly a ne w co nv en tio n, em bo dy ing a co mpr ehe ns iv e revi sion of man y of th e pr ov is io ns in cl ud ed under th e ex is ting arr a n g e ­

m en ts an d th e in tr oduc tion of som e pro vi si on s no t pre vi ou sly includ ed , and re ­

fle cts th e fa ct th a t bo th p art ie s to th e agre em en t has in trod uc ed m ajo r ta x 

ch an ge s in th e la st decade. In Fra nce , a fis ca l re fo rm of 1959 su bst anti all y 

alt ere d th e Fre nch inc om e ta x str u ctu re , p art ic u la rl y as it af fe cts pe rs on al 

inc om e, an d a 1965 la w in tr oduc ed a p a rt ia l in te gra ti on of th e co rp ora te an d 

per so na l incom e ta x es so th a t p a rt of th e corp ora te ta x is now tr eate d in Fra nce 

as a w ithh ol di ng ta x on th e inc om e of th e sh ar eh old er s. In cl ud ed in th es e re ­

fo rm s ha ve been im port ant ch an ge s in th e ta x es on th e inc om e de rive d fr om 

F ra nce by no nr es id en ts.

On our sid e th e ta x ch an ge s of 1962 and 1964 an d th e For ei gn In ves to rs T ax 

Ac t of 1966 ha ve to be ta ken in to ac co un t in any tr e a ty ar ra ngem en ts . In additio n, th e ex pe rien ce in de ve loping an OE CD d ra ft mo del inco me ta x co nv en tio n 

has prov id ed new in si ghts in to th e pr ob le m s to be reso lved in such co nv en tio ns . 

The pe nd in g co nv en tio n w ith F ra nce is th e fi rs t co mplete co nv en tio n be tw ee n 

th e U ni te d S ta te s and an oth er OE CD co untr y sinc e pub lica tion of th e d ra ft 

mo del and refle cts vari ati ons fe lt ne ce ss ar y by both p art ie s to ac co mmod ate th e 

OE CD p ro vi sion s t o th e i nte ra cti on o f t he tw o inco me ta x s ys tem s.

Some of th e ch an ge s in trod uce d by th e ne w tr e a ty are mor e fo rm al th an su bsta n ti v e ; fo r ex am ple, th e na m es of ta x es co ve re d had to be ch an ge d, al on g 

w ith th e re fe re nc e to A la sk a an d H aw aii as te rr it o ri es, and a ne w art ic le h as 

be en ad de d pr ov id in g fo r pe riod ic ex ch an ge s of te x ts of st atu te s, re gul at io ns and 

ru ling s on ta x m at te rs . O th er m od ificatio ns are in te nded to f acil it ate ad m in is tr ation of th e tr eaty . Sinc e th e ac co m pa ny in g te ch nic al m em or an du m to uc he s on 

ea ch art ic le of th e co nv en tio n, I will ca ll your att enti on on ly to th e mor e 

sign ific an t ch an ge s to be fo un d in th e new co nve ntion : th es e af fe ct th e ta x ati o n 

of in ve st m en t incom e, bu sine ss inc om e an d per so na l se rv ice income.
20

In vest m ent Inc om e

D ividen ds

As a re su lt of a 1985 law , th e Fr en ch inco me ta x str u ctu re has un de rgon e 

ch an ge s of wide dim en sio ns, bo th in te rn al ly an d in th ei r im pa ct on in te rn at io nal 

inve stmen t. Th e Fr en ch co rp or at e ta x has been im posed a t a 59 pe rc en t ra te 

fo r man y ye ar s an d until th e 1985 ch an ge , ha d been ap pl ie d in much th e same 

wa y as ou r co rp or ate ta x. In ord er to im prov e th e do mestic ca pital m ar ket an d 

gen er at e in te re st in Fre nc h se cu rities , th e Fr en ch ta x law w as ch an ge d so th a t 

on e-lia lf of th e co rp or at e ta x is now rega rd ed as ha vi ng been pa id on be ha lf of 

th e do me sti c sh ar eh ol de r in th e comp any. Th is p art of th e co rp or at e ta x is 

tr eate d a s if it were a w ith ho ld in g ta x on th e sh ar eh olde r.

Co nseq ue ntly, re si de nt sh ar eh ol der s in Fr en ch co mpa nies includ e on e-ha lf th e 

co rp or at e ta x in th eir gros s inc om e an d receiv e a ta x cre dit ag ai nst th eir p erso na l ta x lia bilit y eq ua l to one-l ml f of th e ta x pa id by th e co rp or atio n. If th e 

cr ed it exceeds th e sh ar eh old er ’s ta x lia bi lity he is entitled to a refu nd . Thi s 

ta x cr ed it is not av ai la bl e to n on re si de nt sh ar eh ol de rs n or is it gr an te d to Fre nc h 

re si de nt s on divide nd s fro m fo re ig n co rp or atio ns . Und er th e new Fr en ch sy ste m, 

U.S. sh ar eh ol de rs are no t an y worse off, in ab so lu te te rm s, th an be fore it s in tr o ­

du ction, bu t they are a t a dis ad van ta ge re la tive to Fre nc h sh ar eh olde rs, an d it is 

our ex pe ct ation th a t in du e co ur se Fra nc e will ac t to el im in at e or m itig at e th is 

re la tive di sa dv an tage .

Me anwh ile , Fra nce has ag re ed on th e ba sis of reci pr oc ity to low er to 5 pe rc en t 

th e with ho ld ing ta x on di vi de nd s rec eive d by a U.S. co rp or at io n fro m a Fre nc h 

co rp or at io n, of wh ich it ow ns at leas t 10 pe rcen t of th e sh ar es , co mpa red w ith 

15 pe rcen t in th e pre se nt tr eaty an d 25 pe rcen t un de r it s st atu te . Ho we ve r, the 

ra te on po rtf olio divi de nd s pa id to no nr es iden ts re m ai ns 15 pe rc en t as un de r 

th e ex isting tr eaty . Th e inflow of divide nd s to th e United Sta te s from Fra nce 

has been rising in re ce nt years 1

 an d shou ld be fu rt h er st im ula te d by th is re du ctio n in Fr en ch ta x. Th e ra te redu ct io n will in cr ea se th e inflow of divi de nd s by 

mor e th an 11 p er ce nt even w itho ut an y ch an ge in di vi de nd policy, an d th e lo wer ­

ing of th e ov er al l Fr en ch ta x liab ility on Fr en ch so ur ce divide nd s will mak e 

divi de nd s re m itta nc es to th e Un ite d Sta te s mo re a tt ra cti ve.

In te re st

Th e w ith ho ld ing ta x ra te on in te re st pa id to no nr es id en ts is lim ite d by the 

ex is ting tr eaty to 15 pe rc en t, reciproc ally. Un der th e new tr eaty it has been 

redu ce d to 10 jte rce nt (e xc ep t th at in te re st on Fre nc h bonds issu ed be fore 

Ja n u ary 1, 1985 will be ta xed at 12 p er ce nt ). Th e Fr en ch st atu to ry ra te of w it hho lding ta x pa ya bl e by no nr es id en ts is 25 pe rc en t while th e U.S. sta tu to ry ra te 

is 30 pe rcen t.

Roy al ties

Th e mut ua l w ith ho ld in g ta x ex em ption of ro ya ltie s flowin g fro m one co un try 

to an oth er ha s been repl ac ed in the new conv en tio n by a mo re lim ite d prov ision. 

Co py rig ht ro ya ltie s will co nt in ue to enjoy ta x ex em ption a t th e source , bu t a 

5 pe rcen t with ho ld in g ta x will apply to ot he r ro ya ltie s. This co mpa re s w ith 

st atu to ry ra te s of 24 pe rc en t of the net ro ya lty in Fra nc e, an d 30 pe rc en t of 

th e gros s ro ya lty in th e Un ite d States. Th e ne t ro yal ty in Fra nc e is def ine d as 

net of a presum ed ex pe ns e de du cti on of 20 pe rc en t. Co nseq ue ntly, th e effecti ve 

Fre nc h ta x ra te is 19 pe rc en t of gross ro ya ltie s. Alth ou gh the ra te re du ct io n 

on the Fr en ch side is sm al le r th an on th e U.S. sid e, th e ben efit of th is pr ov ision 

is en joye d pr in cipa lly by U.S. re side nts as th e flow of in dust ri al ro yal ties is 

su bs ta nt ia lly one-s ide d. It was on th is gr ou nd th a t th e Fre nc h were in si st ent 

up on te rm in at in g th e ex isting ex em ption fo r such ro ya lti es .

Re al Pro pe rty Ren ta ls

A rti cle a of the new co nv entio n as su re s to U.S. re si den ts wh o de rive inc om e 

fro m re al pr op er ty loca ted in Fr an ce th a t th ey will be su bjec t to Fre nc h ta x on 

the net am ou nt of such inco me, co mpu ted as fo r re si den ts of Fra nc e, ra th er th an 

a ta x on th e gros s am ou nt. A si m ilar guar an te e ap pl ie s to Fr en ch re si den ts w ith 

real pr op er ty in the I ni te d St ates . Thi s tr eatm ent of no n- re side nt s’ r ea l pr op er ty 

inco me co rrespo nd s to the cu rr en t law of bo th co un tries, bu t th e tr eaty pr ov id es 

as su ra nc e th a t it wi ll not be su bj ec t to st atu to ry ch an ge du ri ng th e life of th e 

tr ea ty .

1

 U nited Sta te s re ce ip ts of di re ct In ve stm en t di vi de nd s fro m Fra nc e ro se sh arp ly in 

For 19 63 -66 th e gr os s figures a re : $30 mill ion, $28 million , $50 mill ion an d $52 mi llio n.
21

Bra nc h Pr ofits

In additio n to co rp ora te ta x, fo re ign co rp ora tions opera ti ng in F ra nce th ro ugh 

a bra nc h in th a t co un try a re su bj ec t to an ad dit io nal ta x de sign ed to co m pe ns ate 

fo r th e in ab ility of th e Fre nc h to collect a w ithhold in g ta x on di vi de nd s pai d by 

th e fo re ig n co rp or at io n out of th e prof its ea rn ed in Fra nce. The st atu to ry ba se 

fo r th is br an ch ta x is th e en ti re a m ou nt of br an ch pr of its ne t of t he corp ora te tax , 

and th e sta tu to ry ra te is 25 pe rc en t. Sinc e th e corp ora te ta x ra te is 50 pe rc en t, 

th e co mb ined st atu to ry ta x on bra nch pr of its is 02.5 pe rc en t. Und er th e ex is ting 

I'. S. tr eaty , th e ta x ba se is re du ce d to th re e-f ourt hs of th e bra nch pr of its aft e r 

Fre nch corp ora te ta x, so th a t th e comb ined ra te is re du ce d to 5!) pe rc en t. Und er 

til e new tr eaty , th e ba se fo r th is ta x on Fre nc h bra nch es of U.S . co rp ora tions is 

re du ce d to tw o-t hirds of t he aft er- ta x prof its o f th e bra nch an d th e ra te is redu ce d 

to 15 pe rcen t. A dis tr ib uti on of tw o-t hi rd s of aft er- ta x pro fits appro xim at es th e 

ra te of dis tr ib uti on ty pi ca l of su bs id ia ri es an d th us bri ngs in to lin e th e ta x ba se 

fo r th e tw o ty pe s of bu si nes s org an iz at io n. In ad di tion , th e tr e a ty spe cifies th a t 

th e Fre nc h ta x on ca pit ali zati on of pr of its (d ro it d'a pport m aj ore ) no long er 

ap plies t o br an ch es of U.S. co rp or at io ns . Since th e Fre nch im po se a ta x on b ra nch 

pro fits in anti cip ati on of th e ir dis tr ib uti on as di vi de nd s, it w as in co ns iste nt to 

im po se, as we ll, a ta x ba se d on pr of its th a t were no t d is tr ib u te d an d th e F re nch 

th ere fo re agr ee d to give u p th e l a tt e r ta x o n U.S. br an ch es .

On ou r sid e, th e U.S. ta x on di vi de nd s pa id by a fo re ig n co rp or at io n h as been 

re st ri cte d, so th a t in st ea d of ap pl yin g whe ne ve r th e corp ora tion de rive s 50 per ­

ce nt of its gr os s inc om e th ro ugh a per m an en t es ta bli sh m ent in th e U ni ted Sta te s, 

it w ill ap ply to a Fre nc h co rp ora ti on’s di vi de nd s on ly whe n SO pe rc en t of th e 

co rp ora ti on’s gr os s inco me w as so d eriv ed .

B usi nes s Pro fit s

Pro fits de rive d from F ra nce by a U.S. co mpa ny are ta xable in Fra nce only if 

att ri b u ta b le to a per m an en t est ab li sh m en t which th e co m pa ny m ain ta in s in 

Fra nce , an d co nv ersely fo r a F re nch co mpa ny de rivin g pro fi ts from th e U ni te d 

S ta te s. Alth ou gh th is has al w ays be en a fu ndam enta l post ula te o f incom e ta x co nve ntio ns , it lias been ref ined from tim e to lim e as e xp er ie nc e h as been ga ined . Th e 

new co nv en tio n w ith F ra nce co ntinu es to ap ply th is pr in ci pl e, but it has been 

mo dif ied alon g th e line s of th e de fini tio n of a per m an en t est abli sh m ent wor ke d 

ou t in th e OECD. The re su lt is th a t an Amer ican firm wou ld be ab le to e ng ag e in 

a w id er ra ng e of acti vit ie s in F ra nce w itho ut be ing co ns id er ed to ha ve a perm ane nt est ab lish m en t th ere an d co ns eq ue nt ly w ithout beco ming su bje ct to Fre nc h 

ta x. T he tr eaty also co nta in s a sp ec ia l ru le und er which an A m er ic an firm th a t 

in su re s Fre nc h ri sk s wou ld no t be re gar ded as hav in g ac quir ed a ta xable sta tu s 

in Fra nce if th e in su ra nce is se cu re d th ro ugh a bro ker or gen er al comm iss ion 

ag en t. R ei ns ur an ce p re m iu m s wou ld no t be taxable in a ny ev ent.

The de fin iti on of pro fits in th e ne w tr e a ty no lo ng er in cl ud es all inc om e re ­

ceived by a co rp or at io n wh ich has a perm an en t es ta blish m en t in th e co untr y in 

qu es tio n. To th e exte nt th a t divi de nd s, in te re st , ro ya ltie s, capit al gai ns an d re al 

pro per ty re n ta ls are not “effec tiv ely co nn ec te d” w ith such a per m an en t es ta bli sh ­

m en t, th ey are no t atr ib u te d to it an d qua lify in st ea d under th e sp ec ia l pr ov isio ns 

ap pl ic ab le to th os e item s of incom e. T hi s ne w ap pr oa ch is co nsi st en t w ith th e 

1966 Rev en ue Act. An im port ant in nova tion in th is re sp ec t is th a t film re nta ls 

a re co ns id er ed to he co mm er cial or in d u str ia l prof its , ra th e r th an ro ya ltie s, so 

th a t a fir m in one co un try re ce iv ing film re n ta ls from th e oth er will be su bj ec t 

to ta x in th e so ur ce co un tr y on ly if it has a perm an en t est ab lish m en t th ere and 

th e film re n ta ls are “effec tiv ely co nn ec te d” w ith th e per m anent es ta bl is hm en t. 

Pe rson al Se rv ic e In co m e

Th e ta x tr eatm en t of inc om e from per so na l se rv ices is one of th e im port ant 

im pr ov em en ts in trod uc ed by th e new co nv en tio n. The dis tinct io n in th e pre se nt 

tr e a ty be tw ee n th os e en ga ge d in th e pra ct ic e of a liber al pr of es sion and em ­

plo ye es has been re pl ac ed by a mor e pr ec ise dis tinct io n be tw ee n se lf- em ploy ed 

pe rs on s an d em ploy ees, to th e sign ifi ca nt benefit of self- em ploy ed pe rs on s re si den t 

in one co un tr y wh o ha ve oc casio n to per fo rm se rv ices d uri ng a te m pora ry st ay in 

th e oth er co un try. F or ex am pl e, a U.S . co nsu lt ant wh o per fo rm s se rv ic es in 

F ra nce duri ng a vi si t th ere of no t mor e th a n six m on th s duri ng an y ta x ab le yea r 

will now he fr ee of Fre nc h inc om e ta x liabil it y on th e inc om e earn ed fo r thos e 

service s. A do ct or wh o tr e a ts a pati en t w hile in Fra nce , per hap s to att en d a 

co nv en tio n, or on va ca tion , or to st ud y fi rs th and a new med ical te ch ni qu e, will 

no t becom e liab le to Fr en ch inc om e ta x. (I n bo th th es e ca ses, li ab ility wou ld a tta ch , ho wev er, if th e pe rs on m ain ta in ed a fix ed plac e of bu sine ss (fixed bas e)
22

in Fra nce fo r a t le ast six m on th s duri ng th e ta x year. ) The se an d si m il ar ca se s 

ma y now inv olv e liab ility to ta x, witli th e di sc ou ra gin g eff ect which re su lt s from 

re qu irin g te m po ra ry vi si to rs to lie fa m il ia r w ith and com ply w ith fo re ig n ta x 

law s.

Ano ther specific si tu at io n which has be en im prov ed by th e new co nv en tio n is 

tlie ex ch an ge of te ac he rs , st uden ts an d trai ne es . Und er th e pr es en t co nv en tio n 

a prob lem of in te rp re ta ti on ar os e w ith re sp ec t to te ac he rs , wh o were co ns id er ed 

by th e United S ta te s to lie mem be rs of a “lib er al pr of es sion ” w hi le F ra nce conside red them no t to be enga ge d in a “lib er al pr of es sion ” be ca us e th ey w er e em ­

ployees. Und er th e fir st in te rp re ta ti on a Fre nc h re side nt co uld com e to tlie United 

Sta te s to te ac h fo r tw o yea rs w itho ut in curr in g liab ility fo r U.S. income t a x ; 

un de r th e sec on d he wo uld be ta xab le in tlie United S ta te s as a co ns eq ue nc e of 

st ay in g he re mor e th an six m on th s in a ta xable ye ar. Eve nt ua lly, th e U.S. po sitio n was ch osen as th e pr ef er ab le in te rp re ta ti on. Th e new co nv en tio n se ts ou t 

th e tr eatm ent of te ac her s in a se par at e art ic le , sp ec ify ing ex em pt ion in th e ho st 

co un try fo r a tw o- ye ar pe rio d fo r te ac her s invi ted by an ac cr ed ited in st it uti on of 

th a t co un try. The tr eatm ent of s tu den ts is mor e ge ne rous u nder t he pr op os ed c on ­

ve ntion th an unde r th e pre se nt one be ca us e th e new ru le per m its th em to ea rn 

up to $2,000 a yea r fr ee of U.S. ta x liab ility. A new prov ision dea ling w ith appr en tice s per m its re si de nt s of eit her countr y to ea rn up to $5,000 a y ear se rv ing 

ap pre nt ic es hi ps in th e othe r. In ea ch ca se th e benefit is allowed fo r a st ay fo r a 

lim ite d tim e pe rio d.

A new art ic le prov ides th a t socia l se cu ri ty pa ym en ts sh al l be ta xable only by 

th e pa ying st at e.

N on d i sc rim ina tio n

A no th er im prov em en t in th e new co nv en tio n ex te nds th e pre se nt no nd iscr im in at io n ru le to all ta xes im posed a t all lev els , no t ju st nat io nal incom e taxe s. 

Thi s ex pa nd ed prov isi on is includ ed in th e OE CD d ra ft an d in all re ce nt U.S. 

co nv en tio ns.

E ffec tive D at e

Th e ne w co nv en tio n will ente r in to force one mon th aft e r th e ex ch an ge of 

in st ru m ents of ra tifica tion an d will re m ai n in force unti l eit her st ate giv es six 

m on th s’ no tic e of te rm in at io n be fore th e end of an y cale ndar year a ft e r 1969.

I wou ld lik e, fin ally, to men tio n Arti cle 30 wh ich de als w ith ex ch an ge s of 

official in fo rm at io n. In ou r re ce nt tr eati es we ha ve under ta ken an ob lig ation to 

ex ch an ge w ith ou r tr eaty p art n er one anoth er’s ta x laws. V ar io us arr an gem en ts 

al re ady ex is t fo r ex ch an ge s of in fo rm at io n on trea ties . Such ex ch an ge s wi ll he lp 

us ke ep abre ast of de ve lopm en ts in th e field of do mestic as we ll as in te rn ati onal 

ta x polic y an d to asc er ta in th e exte nt to wh ich ch an ge s in la w s or tr eati es affect 

th e op er at io n an d ob jectives of ou r ta x trea ties . Thi s is a co ns tr uct iv e an d valu ­

ab le ty pe of c oo pe rat ion.

As a co ro llar y to such ex ch an ge s of in fo rm at ion, th e pe nd ing tr eaty also pro ­

vide s th a t th e tw o si gn at or ie s may mak e appro pri at e adju st m ents in th e conve ntio n if. by reas on of ch an ge s in th e ta xati on la w s in eit her co un try, such 

mod ifi ca tio ns in th e co nv en tio n appear ne ce ssary an d are co nsi st en t w ith th e 

ge ne ra l pr in cipl es in co rp or at ed in th e conv entio n. The co nc ep t of ta xati on law s 

is in te nde d to be co ns true d br oa dl y an d to includ e no t only ch an ge s in st atu te s 

or t h e ir inte rp re ta ti on b ut a lso ch an ge s in ta x tre at ie s.

I ca n il lu str ate ho w th is pr ov ision mig ht be ap plied by re fe re nc e to som e of 

ou r re ce nt trea ties . In our co nv en tio ns w ith German y an d th e U ni ted King do m, 

au th o ri ty has been giv en to th e co mpe tent auth ori ti es of th e tw o si gnat ori es to 

re ac h ag re em en t on a un ifor m allo ca tion of inc om e be tw ee n re la te d ente rp ri se s 

an d to giv e effect to such an ag re em en t by ad ju st in g ta xes an d mak in g re fu nds 

w he re ap pr op ri at e. Ref un ds may be mad e eve n if th e st atu te of lim itat io ns o th erwise b ars them . Ma ny of ou r oth er tr eati es em po wer th e co m pe te nt auth ori ti es to 

re ac h ag re em en t on allo ca tion s of incom e bu t th ey do no t au th ori ze a ta x re fu nd 

if th is invo lves an ex tens ion of th e st atu to ry pe rio d fo r re fu nd s. Con sequ en tly , a 

fu ll m ea su re of eq uity ma y no t al w ay s be achie ved. How ev er, if th es e oth er 

tr eati es co ntaine d th e la ng ua ge of A rti cle 30, th e im pl em en ta tion of th e agre em en t on un ifor m allo ca tio n could th en be effectua ted. Th e ef fe ct ua tion wo uld be 

carr ie d ou t by an ex ch an ge of dip lo m at ic c orresp on de nc e as is now used in exte nsio n of ta x tr eati es to de pe nd en t te rr it ori es . In se ve ra l tr eati es th ere is a pr ovisio n per m itting a n ex tens ion of th eir scope to th e ov er se as te rr it o ri es of th e oth er 

co un try with such mod ifi ca tio ns in th e co nv en tio ns as may be ne ce ssary. Su ch 

ex te ns io ns an d mo dific ati on s are unde rt ak en on ly a ft e r su bm iss ion of th e pro ­

po sed ex ch an ge o f c orresp on de nc e t o th is C om mi ttee.
23

In co nc luding m y re m ark s on th e Fre nc h tr eaty , 1 w an t to em ph as ize th a t w hi le 

th e prop osed co nv en tio n is an en tire ly new do cu men t, its ne wne ss co ns ists la rg el y 

in th e m od er ni za tion of var io us pr ov isio ns t o refle ct c ha ng es in th e t ax sy stem s of 

th e tw o p art ie s an d de ve lopm en ts in th e co nc ep ts go ve rning in te rn ati onal ta x 

re la tion sh ip s. The tr e a ty has be ne fitte d from th e co nt in ui ng di sc us sion be tw ee n 

ou rselve s an d ot her countr ie s of th e issu es an d prob lems de al t w ith in such an 

ag reem en t. It is no t a new co nv en tio n in th e co nt ex t of our policy in oth er co nve ntions. F or th e mos t p a rt th is co nv en tio n w ith Fra nce em bo dies th e view s 

develop ed ov er th e years and im plem en ted in th e var io us ag re em en ts we ha ve 

en te re d w ith oth er in d u str ia l co un tries. Rec en tly mo .4 of th es e ag re em en ts ha ve 

bee n part ia l, de sign ed to am en d ra th e r th an to re pl ac e an ex is ting conv en tio n. In 

th e Fre nc h ca se th e m ajo r re vi sion s in Fre nc h incom e ta xes ne ce ss ita te d a 

th or ou gh re dra ft in g. As a co nseq ue nc e th e new co nv en tio n w ith F ra nce will se rv e 

as th e re fe re nc e gu ide in fu tu re neg ot ia tion s w ith Eur op ea n co un trie s. Thu s, a 

new co nv en tio n w ith Be lgium is ne ce ss ar y du e to im port an t re ce nt ch an ge s in 

Belgian ta x law . N eg ot ia tion s are also co nt in ui ng w ith Portugal an d Sp ain . The 

Fre nc h co nv en tio n by v ir tu e of it s co mpl eten es s and re ce nt dat e will be a us ef ul 

st andard fo r th es e ne go tiat io ns , from which vari ati ons appro pri ate to accomm odat e th e tr eati es to d iffe ring n at io nal t ax st ru ctu re s ca n be ma de.

T ec h n ic a l E x pl a n a tio n o f P ro po sed U n it ed Sta tes- F ra nce I nco m e T ax

C o n v e n t io n— A p r il 3 0 , 1 9 6 8

A R TIC LE 1. T A X ES C O VERED

Thi s art ic le de sign at es th e ta xe s of th e re sp ec tive S ta te s wh ich ar e th e su bj ec t 

of th e pr op os ed co nv en tion . W ith re sp ec t to Fra nce , th e ta xe s incl ud ed ar e th e 

Tax on In co m e of Phy si ca l Pe rs on s an d t h e Com pl em en ta ry Tax . Also spec ifically 

in cl ud ed ar e any w ithh ol di ng ta x, pre paym ent (precom pte) or ad va nc e pay m en t 

w ith re sp ec t to su ch ta xe s. T he pro port io nal ta x and th e prog ressive ta x ha ve 

be en re pe al ed and ar e not incl ud ed in th e ta xe s co ve red by th e co nv en tio n. Also 

co ve re d w ith re sp ec t to Fra nce ar e th e C orp ora tion ta x and th e ta x on Stoc k 

Exc ha ng e tr ansa cti ons.

W ith re sp ec t to th e U n it ed Sta te s, th e ta xes in cl ud ed ar e th e U nit ed Sta te s 

Fed er al inco me ta x, in cl ud in g su rt ax , im po se d by Subti tl e A of th e In te rn al 

R ev en ue Co de. The U nit ed S ta te s exc ess pr of its ta x and th e do cu m en ta ry taxe s 

on sal es or tr an sf er s of sh ar es of stoc k or bo nd s, both of wh ich are no long er impo sed, ar e el im in at ed from ta xe s co ve red by th e pr op os ed co nv en tion . How ev er, 

th e co nv en tio n ap plies to any do cu m en ta ry ta xes on sales of sh ar es or c er tifica te s 

of stoc k or b on ds which ar e su bs eq ue nt ly en ac te d.

T he co nv en tio n als o ap pl ie s to taxe s su bst anti all y si m ilar to th os e ta xe s spec ­

ified wh ich ar e su bs eq ue nt ly im po sed in ad ditio n to, or in plac e of, th e ex istin g 

in co m e taxe s. F or pu rp os es of Arti cle 24 (N on di sc rim in at io n) th e co nv en tio n 

ap pl ie s to ta xe s of ev ery kin d whic h are, or m ay be, im po se d by th e resp ec tiv e 

S ta te s, a t th e na tion al , st ate , or loc al level.

A R T IC L E 2. G EN ER A L D E F IN IT IO N S

Thi s ar ticl e se ts out de fin iti on s of ce rtain of th e ba sic te rm s us ed in th e pr opo se d co nv en tio n and pr ov id es th a t an y un de fine d te rm shall, un les s th e co nt ex t 

oth er w is e requ ire s, ha ve th e mea ni ng wh ich it ha s under th e law s of th e Co ntr acti n g S ta te (h er ei na fter a referenc e to a S ta te is to a C ontr acti ng S ta te un les s 

ot he rw is e specified) im po sing th e ta x. Geo gr ap hica l F ra nce is ex tend ed to includ e 

th e ov erse as de par tm en ts , viz. Gua da loup e, G uy an e, M ar tiniq ue, an d Reu ni on . 

The se dep art m ents ar e tr eate d by Fra nc e as p a rt of M et ro polita n Fra nc e an d in 

ge ne ra l th eir ta x sy stem s ar e th e sa m e as th a t of Fra nc e.

A R T IC L E 3. FIS C A L D O M IC IL E

Thi s ar ticl e se ts fo rt h ru le s for de te rm in in g fiscal do micile or reside nc e for 

pu rp os es of th e pr op os ed co nv en tion . Fi sc al do micile or reside nc e is im port ant 

be ca us e in ge ne ral on ly a re si den t of on e of th e S ta te s m ay qu al ify for th e be ne fits 

of th e co nv en tio n. Thi s art ic le is p att ern ed ge ne ra lly aft er th e fiscal do mi cile 

art ic le of th e mod el co nv en tion pr ep ar ed by th e Fiscal C om m itte e of th e Organi za tion for Ec on om ic C oo pe ra tion and D ev el op m en t (h er ei na fter re fe rred to as 

th e O EC D mo del co nv en tion or th e O ECD dra ft ).

A re si de nt of on e of th e S ta te s is a co rp or at io n of th a t S ta te (as defin ed in 

A rti cle 2) or an y pe rson (o th er th an a co rp or atio n) who is a re side nt of th a t
24

State for purposes of its tax. However, in the case of the United State s, a person 

acting as a partner or a fiduciary is a resident only to the extent th at the income 

derived by such person in that capacity is taxed as income of a resident. Under 

United States law, the residence of a partnership or trust is not rele vant for tax 

purposes since a partnership or tru st is ordinarily not taxed as such. Under the 

proposed convention, income received by a partnership or trust will not qualify 

for the benefits of the convention unless such income is subject to tax in the 

United States. Thus, in effect, the s tat us of income which is subject to tax only 

in the hands of the partn ers or beneficiaries will be determined by the residence 

of such partners or beneficiaries. The provision is nonreciprocal because of the 

absence of similar problems under French law which, for example, subjects all 

income of a French partnership to French tax.

An individual who is a resident of both States under th e general rules employed 

by such States for determining residence will be deemed a resident of the Sta te 

in which he has his permanent home, his center of vital interests, or his habitual 

abode. If the issue is not settled by these tests, the competent authorities will 

settle the ma tter by mutual agreem ent. The order in which the tests are applied 

has been alt “red from that found in the OECD model convention and a test of 

nationality has been om itted.

A resolution of the issue of residence under this article will control for all 

purposes of the convention including the savings clause of Article 22(4).

ARTIC LE 4. PER M A N E N T ESTA B LIS H M EN T

This article defines the term “perma nent establishment.” The existence of a 

permanent establishment is, under the terms of the proposed convention, a prerequisite for one State to tax the industrial or commercial profits of a resident of 

the other State. The concept is also significant in determining the applicability 

of other provisions of the convention, such as Articles 9 (Dividends), 19 (In ­

terest), 11 (Royalties), and 12 (Capital Cains).

The definition of “pe rmanent establishm ent” is a modernized version of the 

definition found in the existing convention. The new definition is taken from the 

OECD model convention except as noted below. As modified the term “permanent 

establishment” means “a fixed place of business through which a resident of one 

of the Contracting States engages in industrial or commercial activity.” Illu strations of the concept of a fixed place of business include a seat of management, a 

branch, an office, a factory, a workshop, a warehouse, a place of extraction of 

natural resources, or a building site or construction or assembly project which 

exists for more than 12 months. As a general rule, any fixed facility through which 

industrial or commercial activity is conducted will be treated as a perm anent 

establishment unless it falls within one of th e specific exceptions described below. 

It should be noted that, this convention uses the term “sea t of management” 

where the OECD model convention and prior agreements to which the United 

States is a party used the term “place of m anagement” ; both terms are tran slations of the French term “un siege de direction” and it is believed the translation 

found in this convention is the more accurate. Prior agreements in which the term 

“place of management” appears will be interpreted therefore as if the words 

“seat of management” had been used.

Under the specific exceptions a permanent establishm ent does not include—

(1) Use of facilities for storage, display, or delivery of goods or merchandise 

belonging to the resident;

(2) Maintenance of a stock of goods belonging to the resident for the 

purpose of storage, display, or delivery, or for processing by ano ther person; 

or

(3) The maintenance for a fixed place of business for the purpose of furnishing certain services to the resident. These services include purchase of 

goods and collection of information. Also included are ad vert sing, the supply 

of information, the conduct of scientific research, or any similar activities 

which have a prep aratory or auxiliary character.

These exceptions are cumulative and a site or facility used solely for one or more 

of these purposes will not be considered a perm anent establishment under the 

convention.

Notwithstanding the other provisions of this article, a person will be considered 

to have a permanent establishment if he engages in business through an agent, 

other than our independent agent described below, who has and regularly exercises 

authority to conclude contracts in the name of such person unless the agent only 

exercises such authority to purchase goods or merchandise. In addition, a permanent
25

esta bl is hm en t will be co ns id er ed to ex ist if an ag en t m ai nta in s su bst anti al eq ui pm en t or m ac hi ne ry for a pe rio d of 12 m on th s or mor e. Thi s la tt er ru le is not 

in cl ud ed in th e O ECD mod el c on ve nt io n b u t pa ra lle ls th e ru le th a t a bu ild in g site 

or co ns tr uct io n pr oj ec t which ex ists for more th an 12 m onth s is a per m an en t 

es ta bl is hm en t.

The pr op os ed co nv en tion als o pr ov id es th a t a re si den t of on e S ta te will not be 

de em ed to ha ve a perm anent es ta bl is hm en t in th e oth er S ta te if su ch re si den t is 

en ga ge d in a tr ad e or bu sine ss in su ch oth er S ta te th ro ugh an in dep en dent ag en t 

su ch a s a br ok er or g en eral c om miss ion ag en t, if su ch a ge nt is a ct in g in t he o rd in ar y 

co ur se of its bu sin ess. T he det er m in at io n of w he th er a re si den t of one S ta te ha s a 

perm anent es ta blish m en t in th e oth er S ta te is to be m ad e w ithout re ga rd to an y 

co ntr ol re la tion sh ip be tw ee n su ch re si de nt and a re si den t of th e oth er S ta te or a 

pe rs on wh ich en ga ge s in in dust ri al or co mm er cial acti v it y in th a t oth er S ta te 

(w he th er th ro ugh a perm anent es ta bl is hm en t or ot he rw ise) .

An in su ra nc e co m pa ny will ha ve a per m an en t es ta blish m en t in one S ta te if th e 

co m pan y rece ives pr em iu m s from or insu res ris ks in th a t S ta te . T he ru le does not 

apply if th e bu sine ss is co ndu ct ed th ro ugh an in dep en dent agent of th e ty p e de ­

sc ribe d in th e pr ec ed in g par ag ra ph. Thi s is a cha ng e fro m th e ex istin g co nv en tion 

w hi ch pr ov id es th a t an in su ra nc e co m pa ny of on e S ta te is co ns id er ed as ha vi ng a 

perm anent es ta blish m en t in th e oth er S ta te as soo n as su ch co m pan y receives 

pr em iu m s or in su ra nc e ris ks in th e oth er Sta te . A pr in ci pal co ns eq ue nc e of th e 

ch an ge is th a t th e re ce ip t of re in su ra nc e pr em iu m s in re sp ec t of risk s lo ca te d in a 

S ta te w ill not in and of its elf give rise to a perm an en t es ta blish m en t in th a t Sta te . 

M or eo ve r, ev en if an in su ra nc e co m pa ny which is a re si den t of on e S ta te ha s a 

per m anent es ta blish m en t in th e oth er Sta te , re in su ra nc e pr em iu m s will not be 

ta k en in to ac co un t in de te rm in in g ta xa ble pr of its in th e la tt e r S ta te . See th e exch an ge of le tter s ac co m pa ny in g th e pr op os ed co nv en tion . T he O EC D mo del 

co nv en tion doe s not ex pressly de al w ith th e re ce ip t of in su ra nce pr em iu m s.

A R T IC L E 5. IN C O M E FR OM R EA L P R O P E R T Y

Thi s ar ticl e se ts fo rt h a so urce rule fo r inc om e from real p ro p ert y an d pr ov id es 

an e lection to be ta xe d on a net ba sis w ith res pe ct t o s uc h inco me. T hus, a re si de nt 

of one S ta te may be su bj ec te d to ta x in th e o th er S ta te on inco me fro m real 

pro pert y an d natu ra l reso urce ro ya ltie s if th e p ro pert y or n a tu ra l reso urce is 

lo ca te d in su ch oth er Sta te . H ow ev er , su ch re si den t m ay el ec t fo r any ta xa bl e 

yea r to co m pu te th e ta x on su ch inco me on a n et ba sis. The inco me re fe rred to 

in th is ar ticl e includ es gain fro m th e sale or e xc ha ng e of p ro pert y gen er at in g s uch 

natu ra l resource ro ya ltie s b u t do es not includ e in te re st on m or tg ag es an d sim ilar 

in st ru m ents ; th e la tt e r ty pe of inco me is co ve red by A rti cle 10 (I n te re st) .

'l h e ex istin g co nv en tio n co nt ai ns a sim ilar pr ov ision. H ow ev er , ques tions ha ve 

been raised as to th e sco pe of the n et ba sis elec tio n, th a t is, w heth er su ch elec tio n 

ap plies on ly to incom e de scrib ed in th is ar ticl e or to all inco me from sources 

with in th e U ni te d Sta te s. The pr op os ed co nv en tio n cla rif ies tin* m a tt e r by sp ec ifically pr ov id in g th a t th e ele ction is lim ite d to th e inco me de sc ribe d in th is ar ticl e. 

Thi s ch an ge is ap plicab le fo r ta xab le yea rs be ginn in g aft er Jan u ary 1, 1967, an d 

is mad e w ithout p re ju di ce to p os itio ns ta ke n by ta xpay ers o r th e In te rn a l Rev en ue 

Service as to th e co rrec t in te rp re ta ti on of Arti cle 7 of th e ex is ting co nv en tio n.

Thi s ar ticl e sets fo rth th e same ge ne ra l rul e as th a t fo un d in th e O EC D mo del 

co nv en tion e xc ep t th a t th e mo del co nv en tio n do es not incl ud e a n et ba sis elec tio n. 

A R TIC LE 6. B U S IN E S S P R O F IT S

Thi s ar ticl e co nforms to th e rid e co nt ai ne d in th e ex isting co nv en tion th a t 

in du st ri al or commercial pr of its of a re si de nt of one S ta te ar e ta xab le in th e oth er 

S ta te on ly to the e xte nt such p ro fits a re a tt ri b u ta b le to a p er m anent es ta bli sh m ent 

loca te d in su ch ot her Sta te .

In de te rm in in g th e pro per att ri b u ti o n of in dust ri al or co mm er cial pr of its , th e 

per m anent es ta bl is hm en t is to be tr eate d as an in de pe ndent en ti ty and co ns id er ed 

as realizing th e pr of its wh ich wo uld be re alized if th e perm anent est ab li sh m en t 

de al t w ith th e re side nt of which it is a per m anent est ab lish m en t on an arm ’s 

le ng th ba sis . Ex pe ns es w’her ev er in cu rr ed wh ich ar e re as onab ly co nn ec te d w ith 

pr of its att ri b u ta b le to th e per m anent es ta bl is hm en t, in cl ud in g ex ec ut iv e an d 

ge ne ra l adm in is tr ati ve expenses, will be all ow ed as de du ct io ns by th e S ta te in 

which th e per m anent es ta blish m en t is lo ca te d in co m pu ting th e ta x du e to su ch 

Sta te .

T he me re pu rc ha se of good s or m er ch an di se in a S ta te by th e per m anent 

es ta bl is hm en t, or by th e re si den t of which it is a per m an en t est ab lish m en t, for
26

the account of such resident will not cause a ttribu tion of profits to such perm anent 

establishment. This rule, which has the effect of exempting such income from tax 

in such State, conforms to existing United States sta tut ory law. (See section 

862(a)(6) of the Internal Revenue Code.)

The term “industrial or commercial profits” is defined by setting forth several 

examples of activities which constitute the active conduct of a tra de or business, 

including agricultural activities, the furnishing of personal services, the rental of 

tangible personal prop erty and insurance activities and rents and royalties from 

motion picture films. The term also includes investment income bu t only if the 

right or property giving rise to the income is effectively connected to a perm anent 

establishment. Income received by an individual as compensation for personal 

services eith er as an employee or in an independent capa city is not treate d as 

industrial or commercial profits.

An exchange of lette rs accompanying the proposed convention records the 

understanding th at the notes, minutes, and arrangements relating to income taxes 

which were entered into between the French Government and the United States 

Government in connection with prior tax conventions and protocols are considered abrogated, including in particular those of 1955 relating to United States 

motion picture companies. The motion picture companies will be taxed in accordance with French tax law and the rules of the proposed convention. However, 

it is understood that the abrogatio n of the arran gements will not entail any 

imp ortant tax consequences.

This article is su bstantially similar to the business profits article of the OECD 

model convention except th at the model convention does not contain a definition 

of industrial and commercial profits.

A R TIC LE 7. S H IP P IN G AN D A IR TR A N SP O RT

This article provides that, notw ithstand ing the rules of Article 6 concerning 

industrial or commercial profits, a resident of one Sta te will be exempt from tax 

in the other State on income derived from the operation in international traffic 

of ships or aircraft registered in the former State. This article does not contain t he 

provision of the existing convention exempting shipping profits from the business 

license tax (patent). However, it was agreed in an exchange of letters accompanying 

the proposed convention that the license tax levied in France on behalf of local 

governments would not apply to United States airlines and shipping companies if 

French airlines and shipping companies were not subject to State (as distinct 

from Federal) income taxes in the United States.

A R TIC LE 8. REL ATED PE RSON S

This provision corresponds in purpose and scope to section 482 of the Internal 

Revenue Code of 1951 and confirms the power of each government to reallocate 

income in cases in which a resident of one State is related to a resident of the 

other State if such related persons impose conditions between themselves which 

are different from conditions which would be imposed between independent 

persons. A similar provision is included in the existing convention and in the 

OEC D model convention.

A R TIC LE 9. DIV ID EN D S

The existing convention provides that dividends derived from sources within 

one State by a resident of the other State not having a perm anent establishm ent 

in the former S tate will be subjec t to tax in the fomer Sta te at a rate not in excess 

of 15 percent.

The proposed convention continues the 15-percent ra te w ith respect to dividends 

on portfolio investments but provides a maximum rate of 5 percent with respect 

to intercorporate dividends if the recipient owns 10 percent or more of th e stoc k 

of the paying corporation and, generally, if not more than 25 percent of th e gross 

income of the paying corporation consists of dividends and interest.

The proposed convention abandons the “force of attra ction” concept by 

providing that the reduced ra tes of tax on dividends are denied only if the recipient 

has a permenent establish ment in the State of source and the shares with respect 

to which the dividends are paid are effectively connected with such permanen t 

establishment. In such a case, the dividends may be taxed as industrial and commercial profits under Article 6 of the proposed convention.

The elimination of the force of attrac tion principle will make uniform the rate 

of tax levied on dividend income by a resident of one Sta te from sources with in 

the other State unless such income is effectively connected to a perman ent estab-
27

lishment in the Sta te of source. Income which is so effectively conn ected may be 

taxed at the normal rates applicable to such income in the Sta te of source. The 

policy reflected in the abando nment of the force of att racti on principle is embodied in the Foreign Inv estors Tax Act of 1966 a nd also in the recent revisions 

of the German, Dutch, and United Kingdom conventions.

The proposed convention also sets forth a source rule under which dividends 

paid by a corp oration of one Sta te are tre ate d as from sources with in that Sta te 

and dividends paid by any oth er corporation are tre ate d as from sources outside 

that S tate . However, dividends paid by a corporation foreign to the United States 

are tre ate d as from United States sources if, during the previous 3 years, the 

corporation had a permanen t establish ment in the United States and more 

tha n 80 percen t of such corporatio n’s income was taxable to such permanen t 

establishment. This source rule conforms to United States sta tut ory law except 

that, under sectio n 861 (a)(2)(B) of the Code if more than 50 p ercent of a foreign 

corporatio n’s income is effectively connected with United States business, a 

pro rata share of such corporation ’s dividends are tre ate d as from sources within 

the United States. Thus, the United Sta tes ability to tax is more limited under 

the convention source rule than under the sta tut ory source rule.

In the absence of a conv entio n, France withholds tax at a rate of 25 percent 

on dividends paid to nonresidents of France. In the United States, the corresponding rate is 30 percent. Under a recent revision of French inte rnal law (Law 

No. 65-566, July 12, 1965), a dividend paid by a French corporation to a shareholder resident in Fran ce entitles the shareholder to a tax credit (avoir fiscal) equal to 50 perc ent of the dividend. The tax credit system is based on the assumption th at the profits from which the dividend was paid have borne corporation tax a t the normal r ate of 50 percen t. In th e event t ha t dividends are pa id from 

profits which have been taxed at less than the normal 50-percent rate , French 

law requires th at the corp oration pay to the Fren ch treasury a prepay ment of 

tax (precompte) equal to the amoun t of the tax credit (avoir fiscal) available to the shareholder as a resu lt of his divid end receipt less the corporate tax paid. 

However, a shareholder not resident in France (for example, a sha reholder resident 

in the United States) is n ot entitle d to the tax credit. In view of these facts, the 

proposed conventio n provides that in cases in which the prepay ment (precompte) is levied with respect to dividends paid by a French corp oration to a United 

Sta tes resident, such resident will be entitled to a refund of the prepaymen t. 

It is understoo d that, after agreeme nt with the United States on this matter, 

France unilaterally extended this relief to residents of all countries with which 

France has tax conventions; this is an interim arrang ement pending ame ndment 

of those conventions.

The dividend article of the proposed convention is patterne d generally afte r 

the OECD model convention except as follows: With respe ct to qualification 

for the 5-percent inte rcorporate dividend rate, a 10-percent ownership requirement is sub stituted for the 25-percent ownership requirem ent of the OECD draft. 

The 10-percent rule conforms to the United States concept of d irect investment 

especially as expressed in section 902 of the Internal Revenue Code. The proposed 

convention also limits to 25 perce nt the amoun t of passive income which may be 

derived by a corporation pay ing dividends which qualify for the intercorporate 

dividend rate. This provision, which is included in most conventions to which 

the United States is a party but which is n ot found in the OEC D draft, reflects 

the policy th at the reduced rate should not be made available to dividends paid 

by certain holding companies. Dividends and intere st from 50 percen t or more 

owned subsidiaries are not considered passive income. The OEC D dra ft contains 

a definition of the term “dividends” which has been omitte d from the proposed 

convention and the proposed convention includes a source rule, described above, 

which is not found in the OEC D draft.

A R T IC L E 10. IN T E R E S T

The existing convention provides th at inte rest derived from sources within 

one Sta te by a resident of the oth er State no t having a perm ane nt establish ment 

in the former State will be subject to tax in the former State at a rate no t in excess 

of 15 percent.

The proposed convention reduces the maxim um rate of tax to 10 percen t on 

inte rest on bonds, notes, debentures, or any oth er form of indebtedness from 

sources within one State and paid to a resident of th e other State. A special rule 

permits the French to tax intere st on bonds issued before Jan uar y 1, 1965, at a 

maximum rate of 12 percent.
28

As n ote d a bo ve in co nn ec tio n with th e divide nd ar ticl e, th e pr op os ed co nv en tion 

ab an do ns th e fo rce of att ra cti on p rinc iple. Th us , th e re du ce d ra te s of ta x ap pl ic ab le 

to in te re st ap pl y un les s the recipien t ha s a per m anent es ta bl is hm en t in th e S ta te 

of source an d th e in de bt ed ne ss giv ing rise to th e in te re st is effecti ve ly co nn ec te d 

to such per m an en t es ta bl ishm en t. In such a case, th e in te re st may be ta xed as 

in du st rial an d co mmercial prof its under Ar tic le 6.

I iter es t is defin ed ge ne rally as inc om e fro m any kind of de bt -c la im or any 

inc om e tr eate d as in te re st un de r th e ta x law of th e S ta te of source. In cas es in 

wh ich exc essive in te re st is pa id by reason of a spec ial re la tion sh ip be tw ee n th e 

pa yo r and th e recipien t, th e pro visio ns of th e in te re st ar ticl e do not app ly to th e 

excess p art of th e pay m en ts. Exces s in te re st pay m en ts m ay be ta xe d as di vi de nd s 

un de r Ar tic le 9.

In te re st is fro m sources with in a S ta te wh en th e pay or is t h a t Sta te , a po litica l 

subd ivisi on , a local auth ori ty , or a reside nt of th a t Sta te . How ev er, if th e pay or 

ha s a pe rm an en t es ta bl ishm en t in th e S ta te of so ur ce in co nn ec tio n w ith which 

th e in te re st is p ai d or in cu rred a nd th e in te re st is de du ct ed in co m pu ting t he pro fits 

of such pe rm an en t es ta bl ishm en t, su ch in te re st will be de em ed to be fro m sour ce s 

with in th a t Sta te . The United Sta te s In te rn al Rev en ue Co de als o pr ov id es 

ge ne rally t h a t th e res iden ce of th e pa yor d et er m in es th e so ur ce of in te re st incom e. 

The re is, howe ver, an exce ption to th is ru le in th e case of for eig n co rp or at io ns 

do ing busin ess in th e United Sta te s. How ev er, th is ex ce ption is not ex pr es sly 

re la te d to th e ex ist en ce of a per m an en t es ta bl is hm en t in th e U ni te d S ta b s or t he 

ded uc tibi lity of th e in te re st expense but ra th er on w he th er 50 pe rc en t or mor e of 

th e foreign co rp or at io n- pa yo r’s gross inc om e was eff ectiv ely co nn ec ted w ith its 

U ni te d Sta te s bu sin ess for th e 3- ye ar perio d pr ec ed in g th e yea r of paym ent of th e 

in te re st.

The propo sed co nv en tio n als o pro vide s th a t in te re st rec eive d by one of th e S ta te s 

or an y wh olly ow ned in st ru m en ta lity of th at S ta te (wh ich is n ot su bje ct to inco me 

ta x by such Sta te ) is ex em pt fro m ta x by th e ot he r Sta te .

In th e ab se nc e of a co nv en tio n, Fr an ce w ith ho ld s ta x a t a ra te of 25 per ce nt 

pa id to a no nr es id en t no t ha vi ng a pe rm an en t es ta bl ishm en t in Fr an ce . If a no nre side nt ha s a pe rm an en t es ta bl is hm en t in Fr an ce , in te re st att ri b u ta b le to su ch 

pe rm an en t es ta bl is hm en t is not su bj ec t to with ho ld ing but is su bje ct to ta x in 

Fra nc e at th e ra te s no rm ally ap plic ab le to in du st rial an d co mmercial profits . 

The 25 -perce nt with ho ld ing ra te is a re su lt of a re ce nt rev isi on of Fre nc h law 

(Law No. 65 -997 of N ov em be r 29, 1965, effecti ve Ja nuary 1, 1966). Be fore ad op ­

tion of th e ne w law , in tere st was ta xed a t di fferen t ra te s de pe nd ing on th e natu re 

of th e de bt (in some cases in te re st was ex em pt fro m ta x if pa id to cr ed itor s no t 

re si de nt in Fra nc e) .

The in te re st ar ticl e of th e prop os ed co nv en tion is su bst an tial ly id en tica l to 

th a t fo un d in th e OEC D mo del co nv en tion ex ce pt th a t th e O ECD d ra ft does no t 

co nt ai n an ex em pt io n for in te re st rece ived by th e go ve rn m en ts of th e tw o St at es . 

A R TIC LE 11. RO YA LT IE S

The ex is t'n g co nv en tio n prov ides th a t in dus tria l an d art is tic ro ya ltie s de riv ed 

fro m source s with in one S ta te by a re si den t of th e ot her S ta te n o t ha vi ng a 

per m an en t es ta bl is hm en t in th e fo rm er S ta te ar e ex em pt fro m ta x in th e form er 

Sta te .

The pr op os ed co nv en tio n co ntin ue s th e ex em pt ion for ar tist ic , lite ra ry , an d 

scien tific ro ya lti es but pe rm its ta x to be lev ied a t a max im um ra te of 5 pe rc en t 

on ot he r ro ya lti es . As def ine d in th is ar ticl e, th e term ro ya ltie s includ es kn ow ho w 

an d als o ga ins fro m th e sale or ex ch an ge of th e in ta ng ib le pro pert y b u t on ly if 

pay m en t is co nt in ge nt on pro duct iv ity, use, or disp os iti on of th e pr op er ty . If 

th e pay m ents are not co nt in ge nt , th e ca pital ga ins ar ticl e ap plies.

The pr ov isions of th is ar ticl e do n o t ap ply if th e re ci pi en t of a ro yalt y ha s a 

per m an en t es ta bl is hm en t in th e S ta te of source an d th e ri ght or pro per ty giv ing 

rise to th e ro yal ty is eff ectiv ely co nn ec te d to such perm an en t es ta bl is hm en t. In 

such cas e, th e ro ya lty may be ta xed as in du st rial and co mmercial prof its under 

Ar tic le 6. Th us , th e force of att ra cti o n prin cipl e is als o ab an doned with re sp ec t 

to ro ya lti es .

R oy al ties pa id for th e use , or ri ght to use, pro per ty (as de fin ed in th is artic le) 

in a S ta te (w he ther or not a co nt ra ct in g St at e) are tr eate d as from sources with in 

th a t Sta te . Th is source ru le co rres po nd s to th a t fo un d in se ct ion 86 1(a)(4) of th e 

In te rn al Rev en ue Co de.

If excessive ro ya lti es ar e pa id by reas on of a spec ial re la tionsh ip be tw ee n th e 

pay or and recipien t, th e pr ov isions of th e ro ya ltie s ar tic le do not ap ply to th e
excess part of such payments. Excess royalty paymen ts may be taxed as dividends 

unde r Article 9.

In the absence of a convention, France withholds tax at a rate of 24 perce nt on 

all royalties paid to a nonresident not having a per man ent e stablishm ent in France. 

The withholding tax is imposed on the net royalty after the allowance of a deduction for expenses (generally, the allowance is equal to 20 percent of the gross 

royalty). If a nonresident has a permanen t establish ment in France, royalties 

att rib utable to such permanen t esta blishment are not subject to withholding bu t 

are subje ct to tax in Franc e a t the rate s normally applicable to industrial a nd commercial profits.

Royalties paid directly to the inventor are exem pt from turn ove r tax in accordance with the term s of an agreement (proces-verbal') date d August 4, 1955. 

Since this agreem ent does not relate to income taxes, it is not considered term inated 

by the exchange of letters accom panying the proposed convention and discussed 

under Article 6 above.

This article is sub stantially identical to the royalties article of the OECD 

model convention except tha t the OECD draft contain s an exemption for royalties 

whereas the proposed conventio n exempts only literary , artistic, and scientific 

royalties and provides for a reduced rate of 5 percent for o ther royalties. Moreover, 

the exemption provided for royalties by the OECD dra ft would extend to film 

royalties whereas much the same result is reached und er the proposed convention 

by treatin g such royalties as industrial and commercial profits under the proposed 

convention. See the explana tion of Article 6. T he OECD dra ft does not contain a 

source rule for royalties.

ARTICLE 12. CAPI TAL GAINS

The existing convention provides th at gains derived in one Sta te from the 

sale or exchange of stock, securities, or commodities by a resident of the other 

Sta te not having a per manen t establishment in the former State are exempt 

from tax in the former State.

The proposed convention broadens the exemption by extending the preferential tre atm ent to gain from the sale or exchange of any capital asset. However, the exemption does n ot a pply if (1) the gain arises ou t of the sale or exchange 

of property described in Article 5 (Income from real property) or of shares in 

a real prop erty cooperative or a corporation the principal assets of which are 

real property; (2) the recip ient has a permanen t establish ment to which the 

property giving rise to the gain is effectively connected; (3) the recipient is 

an individual who maintain s a fixed base to which the pro per ty giving rise to 

the gain is effectively connected; or (4) the recip ient is an individual present in 

the Sta te from which the gain is derived for a period or periods in excess of 183 

days during the taxable year. Gains which are effectively connected to a permanent 

establishme nt may be taxed as industrial and commercial profits under Article 6. 

Gains on real property are sub ject to the provisions of Article 5 which perm its 

tax ation of such gains by the Sta te in which the real pro per ty is situa ted.

The French do not tax cap ital gains of individuals on the casual sale of nonbusiness assets, including real property. However, in 1963, in order to discourage 

speculation in French real esta te, a regime was ado pted und er which gains by 

individuals (including nonresidents) from the sale of real property held less than 

5 years are subject to tax at a 50-percent rate . In view of its purpose, the French 

are not disposed to gra nt relief from this tax in double tax ation conventions. 

Business enterprises are subject to tax on gain from the sale of business assets 

held for over two years (long-term gain) at a rat e of 10%. On distribution of such 

gains as dividends an additional 40% tax is payable. Oth er gains (short-term 

gains) are taxable at the regular 50% rate which may be paid over a five year 

period.

Although different in form, this artic le produces the same result as the capital 

gains article of the OECD model co nvention w ith the exception th at the proposed 

conventio n adds the fixed base and 183-day rules as a qualification for exemption 

of capita l gains.

ARTICLE 13. BRANCH PROFITS

The existing convention provides th at the French may impose a branch profits 

tax on permanen t establish ments maintained by United States corporations in 

France. Un der French law the measure of the tax is the total afte r-tax profits 

actually derived by such establish ments and the rate of tax is 25 percent. Thus, 

the effective rate of the bran ch profits tax is 12.5 perc ent of t ota l profits. Under

93 -6 46 — 68-
30

the prese nt convention the base is lowered to thre e-fo urth of after-tax profits, so 

th at the effective rate is 9 percent of to tal pre-tax profits.

Under the proposed convention, the base on which the French branch profits 

tax is imposed is limited to two-thirds of the profits after corporate tax of the 

perman ent establish ment and the rate is limited to 15 percent. Thus, the effective 

rate under the proposed convention is 10 percent of after-tax profits or 5 p erc ent 

of total (pre-tax) profits.

Und er the existing convention, a question had arisen as to whether profits 

realized by a French perm anent estab lishm ent of a United States corporatio n 

and incorporated into its capital were sub ject to a capitalization tax {droit d’apport

majore). The proposed convention makes clear th at capitaliz ation tax does not 

apply in such a case.

The proposed conventio n also provides th at the United States may tax dividends paid by a French corporation to a person who is not a citizen, resid ent, or 

corporation of the United States only if th e French corporation has a permanen t 

estab lishm ent in the United States, and more tha n 80 percent of its income is 

taxable to such perm ane nt establishment, for th e previous 3 years. This provision, 

for which there is no counterpart in the existing convention, preserves the righ t 

of the United States to tax dividends paid by a French corporation most of the 

business of which is connected with the Un ited States. This provision relaxes the 

rule found in the Intern al Revenue Code under which a nonreside nt alien is subject to United Sta tes tax on dividends received from a foreign corporation only 

if more t han 50 percent of such corp oration’s income is connected with its United 

States business for the previous 3 years. See section 861 of th e Intern al Revenue 

Code.

The Un ited Sta tes also reserves the righ t to impose its personal holding company 

tax except in cases in which a French corporation is wholly owned by one or more 

individual residents of France. The United States may not impose its accumulated 

earnin gs tax on a French corporation unless such corporation is engaged in trade 

or business in the United State s through a perman ent establishment at some time 

during the taxable year. The limitations on the right of th e Un ited Sta tes to tax 

in these cases are not subs tantially greater tha n those found in the Internal 

Revenue Code.

ARTICLE 14. INDE PE ND EN T PER SONAL SERV ICES

The existing convention distinguishes between income from the performance of 

personal services and income from the exercise of a liberal profession. The latte r 

is taxable in the S tate of source if the professional activity is exercised th ere from a 

fixed center. On the other hand, personal service income is exempt from tax in 

the State of source only if the individual deriving such income is present in that 

State for not more than 183 days and the services are performed for a resident or 

corporation of, or a perm anent establish ment situ ated in, the other State.

The proposed convention discards the concept of liberal profession but substitutes a distinction between independ ent and dependent personal services. The 

latte r are discussed under Article 15. Generally income from independ ent activities 

may not be taxe d in the State in which such activities are exercised. However, 

such income w ill be subject to tax in th e State of source if the recip ient is present 

in, or main tains a fixed base in, th at State for more tha n 183 days during the 

taxable year.

Inde pendent activities means all activities carried on for his owm account 

independently by a person who recieves the proceeds or bears the losses arising 

from such activities. Commercial, industrial, or agric ultural activities are not 

considered independent activities, and the income therefrom is taxed as industrial 

or commercial profits under Article 6.

This article produces the same result as th e independent activities article of the 

OECD model convention except th at a 183-day rule is adde d as a qualification for 

exemption of personal service income in the State of source.

ARTICLE 15. DE PEND EN T PERSONAL SERV ICES

Generally, income from labor or personal services may be taxed in the Sta te 

in which such labor or personal services are performed. However, such income 

will be exem pt from tax in the Sta te of source if the recip ient (1) is present in 

such Sta te for not more than 183 days, (2) the remuneratio n is paid by an employ er who is not a resident of such State, and (3) the remuneration is not borne 

by a permanen t establish ment which the employer has in such State. Thus, the
31

rul e ap pl ic ab le to la bor or pe rson al serv ice inco me is th e same as th a t co nta in ed 

in th e ex istin g co nv en tion ex ce pt fo r tw o re strict io ns . First, fo r ex am ple, inco me 

from service s pe rf or m ed in Fr an ce fo r a U nite d Sta te s per m an en t est ab li sh m en t 

of a Fre nc h co rp or at io n will no l on ge r be ex em pt fro m ta x in Fr an ce , and seco nd , 

th e re quir em en t th a t th e bur de n of th e co m pe ns at io n m us t no t be bo rne by a 

per m an en t est ab lish m en t of th e S ta te of source ha s be en ad de d.

Th e pr op os ed co nv en tion als o ad ds a ru le th a t inco me fro m pe rs on al se rv ices 

pe rfor med ab oa rd sh ip s or air cra ft re gi ster ed in one S ta te and op er at ed by a 

re side nt of th a t S ta te will not be ta xe d in th e oth er S ta te so lon g as su ch serv ices 

are re nd er ed by a m em be r of th e re gu la r co m pl em en t of the ship or air cr af t.

Thi s ar ticl e of th e pr op os ed co nv en tion is su bst an tial ly id en tica l to th e O EC D 

mo del co nv en tion ex ce pt th a t, in case of serv ice s re nd er ed ab oar d sh ip s or air ­

cr af t, th e co nc ep t of re gis tr at io n and op er at io n ha s be en su bst it ute d for effecti ve 

m an ag em en t. See also Arti cle 7 (S hi pp ing and air tr an sp ort ).

A R T IC L E 16. G O V ER N M EN TA L FU N C TIO N S

The ex isting co nv en tion ex em pt s co m pe ns at io n, in clud ing pe ns ions , pa id by 

one Sta te or a po litica l su bd iv isio n th er eo f to in di vi du al s resid ing in th e oth er 

S ta te (o th er th an ci tize ns of such oth er Sta te ).

The pr op os ed co nv en tion co nt in ue s th e ex em pt io n b u t ad ds a sp ec ifi ca tio n 

th a t th e co m pe ns at io n be pai d in co nn ec tio n w ith th e discha rge of fu nc tion s 

of a go ve rn m en ta l natu re by a nat io nal of th e S ta te mak in g pay m en t. Com pe ns atio n pa id in co nn ec tio n w ith in du st rial or co mmercial acti vit y ca rr ie d on by a 

S ta te or its po litica l su bd iv isio n is tr eate d th e same as co m pe ns atio n pai d by a 

pri vat e em pl oy er ; th e pr ov isio ns of Arti cles 15 (D epen den t pe rs on al service s), 

19 (P ri vat e pe ns io ns and an nui ties ), and 20 (So cia l se cu rity pay m en ts ) ap pl y.

T he prop os ed co nv en tion als o ad ds a sp ec ial ru le de aling with co mpe ns atio n 

pa id in th e di sc ha rg e of gov er nm en ta l fu nc tion s to an in di vi du al who is a nat io nal 

of bo th Sta te s. The sa vi ng s clau se (A rti cle 22(4) ) ap plies to such indi vi du al but 

su ch co m pe ns atio n will be tr eate d as inco me fro m sour ce s with in th e S ta te mak ing 

su ch pa ym en ts. In ge ne ral, th is cla use es ta bl ishe s th e ru le th a t th e go ve rn m en t 

pa ying co m pe ns atio n to its na tion al s ha s th e prim ar y ri ght to ta x such co mpe ns ation even if th e re ci pi en t is als o a na tion al of th e oth er Sta te . Moreo ve r, by reason 

of th e ab ov e- de sc rib ed so ur ce rule, a qu alifyi ng re ci pi en t will be all ow ed a for eig n 

ta x cr ed it ag ai nst th e ta x im po sed by th e S ta te of source .

Thi s ar ticl e of th e pr op os ed co nv en tio n is id en tic al to th e O ECD mod el conve ntio n ex ce pt for th e ad ditio n of th e re qu irem en t th a t th e recipien t of ex em pt 

co m pe ns atio n be a nat io nal of th e S ta te mak in g paym ent and th e ad ditio n of a 

sp ec ia l ru le de aling w ith dual nat io nal ity.

A R T IC L E 17. TE A C H E R S

T he ex istin g co nv en tio n does not co nt ai n a se para te ar ticl e de aling with 

te ac he rs . The U ni te d Sta te s tr eate d mem be rs of th e ac ad em ic pro fessi on as be ing 

en ga ge d in a lib er al professio n an d ex em pt fro m ta x in th e U ni te d Sta te s un les s 

th ey m ai nt ai ne d a fixe d ce nte r in th e U ni ted Sta te s. T he Fr en ch , ho wev er, to ok 

th e p os iti on t h a t no e mploy ee c ou ld b e co nsidered a m em be r of a l ib er al pr ofessio n. 

Sin ce mos t teac he rs ar e em pl oy ed by ed uc at io na l in st itutions , th is po sitio n ha d 

th e effect of de ny in g th e be ne fit s of th e co nv en tion to te ac he rs . In or de r to as su re 

reci pr oc ity , on M ar ch 23, 1964, th e U ni ted Sta te s al te re d its in te rp re ta tion of th e 

lib eral pro fessi on ar ticl e to co nfor m to th e Fr en ch po sitio n an d Fr en ch te ac he rs 

vi siting th e U ni te d S ta te s be ca m e su bj ec t to ta x (R ev en ue Ru lin g 64 -92, C.B. 

196 4-1 (P art 1), 599). Thi s re su lt was una cc ep ta bl e to th e Fr en ch who su gg es ted 

th a t, with re sp ec t to teac he rs, bot h co un tries adopt th e in te rp re ta ti on form erly 

held by th e U ni ted Sta te s. See th e e xc ha ng e of le tt ers ac co m pa ny in g th e pr op os ed 

co nv en tio n. On N ov em be r 28, 1966, th e In te rn al Rev en ue Service pu blishe d a 

rulin g, effecti ve as of M ar ch 23, 1964, th a t re in st at ed th e fo rm er in te rp re ta ti on 

w ith re sp ec t to te ac he rs.

As note d ab ov e, th e pr op os ed co nv en tion di sc ar ds th e co nc ep t of lib er al pro ­

fes sio n. Visi tin g te ac he rs a re tr eate d in a se pa ra te ar ticl e whi ch p ro vi de s a r ec ip ro ­

cal ex em pt io n fro m ta x fo r pe rs on al service income from te ac hin g or rese ar ch . 

Su ch ex ce pt io n ap plies if th e te acher is in vited by th e G ov er nm en t, a uni ve rs ity, 

or o th er a cc re di te d ed uc at io nal i nst it uti on to t ea ch or en ga ge in rese ar ch activ ities, 

or b ot h, a t a un iv er si ty , or o th er ac cr ed ited ed uc at io na l in st it uti on. How ev er, th e 

ex em pt io n do es not appl y to inco me fro m re se ar ch undert aken not in th e pu blic 

in te re st b u t pr im ar ily fo r th e p ri vate be ne fit of a spe cific pe rson or perso ns. If th e
32

visit exceeds a period of 2 years, the exemption applies to the income received by 

the visiting teacher before the expiration of such 2-year period. M

The OECD model convention does n ot contain a separate article dealing with 

teachers.

ARTICLE 18. STUD ENTS AND TRAIN EES

Under the existing convention rem ittances received from within one State by 

studen ts of such State residing in the other State for the purpose of study are 

exempt from tax by the latte r State. The OECD model convention includes a 

similar provision.

The proposed convention expands the exemption available to students b y providing tha t a resident of one State visiting the other S tate for the purpose of studying at a university or other accredited institution , securing training for qualification 

in a profession, or studying or doing research as a recipie nt of a grant, allowance, 

or award, is exemp t from tax in the host State on:

(1) Gifts from abroad for his main tenance or study;

(2) The grant, allowance, or award; and

(3) Income from personal services performed in the host Sta te not in excess 

of $2,000 (or its equivale nt in francs) for any taxable year.

These exemptions continue for such period of time as may be reasonably or 

customarily required to effectuate the purpose of his visit b ut in no ev ent may an 

individual have the benefit of this article and Article 17 (Teachers) for more t han 

a combined total of 5 taxable years.

Furthermore, a resident of one State, employed by or under con trac t with a 

resident of th at State, who visits the other State for the purpose of s tudying or 

acquiring technical, professional, or business experience in exempt from tax in 

the host State on income not in excess of $5,000 (or its equivale nt in francs) from 

personal services rendered in such State. In order to qualify for the exemption, 

the visiting individual must stud y at a university or accredited educational 

institution in the host State, or receive his experience from a person other tha n 

his employer or contractor or a 50-percent or more owned subsidiary of his employer or contractor.

ARTICLE 19. PRIVATE PEN SIONS AND AN NU ITIES

The existing convention provides that priv ate pensions and annuities derived 

from sources within one State by an individual resident of the other State are 

exempt from tax by the former State.

The proposed convention continues the existing rule by providing th at pensions 

and other similar remuneration paid in consideration of past employment and 

annuities received by a resident of a State will be taxable only in tha t State. 

However, pensions arising out of th e performance of governmental functions are 

taxable by the State making paymen t when paid to a national of tha t State. 

The proposed convention also provides that alimony paid to a resident of a Sta te 

will be taxable only in th at State.

The term “ann uities” is defined as a stated sum paid periodically, under an 

obligation to make payments in retu rn for consideration (other tha n services 

rendered) and “pensions” is defined as periodic payments made afte r retirem ent 

in consideration for, or as compensation for injuries received in connection with, 

past employment.

The effect of this provision is the same as tha t of the O ECD model convention.

ARTICLE 20. SOCIAL SECURITY PAYM ENTS

This article provides that social security paym ents paid by one State to an 

individual who is a resident of th e other Contracting State will be taxed, if at all, 

by the payor State. Neither the existing convention nor the OECD model convention contains a comparable provision.

ARTICLE 21. RULES APPLICABLE TO PERSONAL INCOME ARTICLES

This article extends the benefits of the personal services income articles (Articles 14 through 18) to reimbursed travel expenses. However, such reimbursed 

expenses will not be taken into account in computing the maximum amount of 

exemptions specified in Article 18 (Students and trainees). If an individual qualifies for the benefits of more tha n one of the provisions of Articles 14 through 18, 

he may choose the provision most favorable to him, bu t he may not claim the 

benefits of more than one artic le in any one taxable year.
33

ARTICLE 22. GEN ERA L RULES OF TAXATION

The general rules of taxatio n applicable under the proposed convention are 

as follows: Any income from sources within a S tate to which the convention is not expressly applicable will be taxable by th at State in accordance with its own law. For example, because income from prizes or awards is no t covered by the convention, such income will be taxed in accordance with the inte rnal law of the Sta te from which such income is derived. The existing convention does not contain an express statem ent of this general rule. The OEC D model convention differs with respect to this provision and instead provides th at income of a resident which is not expressly mentioned will be taxab le only in the Sta te of residence. Thu s, the OECD dra ft limits jurisdiction to tax such income to the State of residence of the recipient whereas the proposed convention perm its the State of source to 

tax such income. Another general rule of taxation is that a resident of one State may be taxed by the other Sta te only on (1) indu strial or commercial profits attributab le to a perm anent establishment located in tha t other State, and (2) other income sources within th at other State, subject to the limitations of the convention. The juris­ dictional rules of the proposed convention parallel those se t forth in section 872(a) of the Code, rela ting to nonresident alien individuals, and section 882 (b), rela t­ ing to foreign corporations engaged in trad e or business in the United State s, as amen ded by the Foreign Investors Tax Act of 1966. The OECD dra ft does not 

contain a comparable provision. Under the existing convention, as applied by the United States using the principle of the force of attrac tion, all income of a resident of France having a permanen t establishment in the United States was att rib uted to the permanen t esta blishment and subject to tax at ordin ary rates. As a resu lt of the changes in United States sta tutory law made by the Foreign Investo rs Tax Act of 1966 investm ent income from sources within the United States ceased to be taxed at ordinary rates bu t is subjec t to withholding tax a t the sta tutory 30-percent r ate or, if applicable, the reduced r ates of tax provided in the convention. The effect of the proposed convention is to conform the tre aty to the principles introduced into our 

statutory law by th at Act. The proposed convention also continues the general rule of taxation th at the convention does not affect in any manner any exclusion, exemption, deduction, credit, or other allowance now or hereafter accorded by the laws of a State in the determination of tax imposed by th at State, or by any other agreement between the States. Even though the OECD model convention does not contain a com­ para ble provision, this rule reflects the well-established principle that the conven­ tion will not have the effect of increasing the tax burden on residents of the signatory countries. This rule repre sents the position of the United States under all conventions to which it is a par ty. It is understoo d that, und er French law, when an income tax convention recognizes the righ t of France to estab lish a tax which is not levied pur sua nt to French laws, the provisions of the convention may tak e precedence over French internal law. However, it is also understood th at it is not the intent of the French Gov ernm ent to levy taxes on residents of the United States or France which would not have been levied in the absence of the proposed convention. T his understanding is set fo rth in an exchange of le tters accompanying 

the proposed convention. The proposed convention also contains the tradition al savings clause under which the United States reserves the righ t to tax its citizens and residents as if the convention had not come into effect. However, the savings clause does not apply in several cases in which its application would contraven e the policies reflected in the convention. Thus, the savings clause does not affect the benefits relating to social security payments, relief from double taxation, or nondiscrim ination. Moreover, the savings clause will no t deny the benefits of the convention to teachers or studen ts (or the benefits arising under Article 21 from the rules applicable to the personal service articles) unless such persons are citizens of the United States or have immigrant s tatus in the United State s. With respe ct to Articles 16 (Governmenta l functions) and 21 (Rules applicable thereto ), the proposed convention contains a rule, not found in any other con­ vention to w’hich the United States is a par ty, th at the savings clause will not operate to deny the benefits of those articles to (1) an individual who is not a citizen of the United States and does not have immigrant sta tus in the United State s, or (2) an individual who has imm igra nt sta tus in the United States but has elected to claim the benefits of Articles 16 and 21 and has agreed th at the
34

time during which those benefits are available to him will not be counted as a 

period of residence or presence for purposes of naturalization under the immigration and nationality laws of the United States. The purpose of this provision is to 

accommodate certain French citizens who are employed by the French government 

in the United States and who are present in th e United States on im migrant visas. 

The principal reason for denying the benefits of the governmental functions 

article to persons having immigrant sta tus is that it is deemed inap propria te for 

persons to obtain benefits generally limited to foreign natio nals while, at the same 

time, acquiring the right to become naturalize d citizens of the United States. 

See section 247 (b) of the Immigration and Nationality Act (8 U.S.C. 1257(b)). 

Under these circumstances, the waiver of the latte r right eliminates the policy 

objections to granting French citizens the benefits of the governmental functions 

article.

The savings clause is nonreciprocal in form principally because the French 

impose tax on the basis of residence rath er t han citizenship. However, the French 

have reserved the right to tax the personal service income of public entertainers 

which is derived from sources within t he U nited States, even though such income 

might otherwise be exempt from French tax under Article 14 or 15. The French 

will, of course, allow a credit for the United States tax imposed on such income 

under the provisions of Article 23.

Any transaction in stock, securities, or commodities which originates in one 

State and is executed through a stock or commodities exchange in the other 

State will be exem pt (as und er the existing convention) from any stam p or similar 

tax in such other State. The effect of this provision is tha t transactio ns originating 

in the United States will continue to be exempt from the French tax on stock 

exchange transactions. As previously noted under Article 1 (Taxes covered), the 

analogous tax imposed by the United States, the documenta ry stamp tax, has 

been repealed.

A RTIC LE 23. R E L IE F FR OM D O U B LE TA X ATIO N

Und er the existing convention, the United States provides relief from double 

taxation by allowing a credit for French tax in accordance with rules set forth in 

section 131 of the Internal Revenue Code of 1939.

The proposed convention employs the same m ethod of avoiding double taxation 

in providing th at credit will be allowed for French tax paid but no t in excess of the 

portion of United States tax which net income from French sources bears to total 

net income. No specific reference is made to the Intern al Revenue Code. The 

effect of this omission is to make clear th at modifications in United States law 

after the effective date of the convention which concern the foreign tax credit 

will not be barred by the proposed credit article if such modifications do not contravene the general principles of the convention. It will be noted t ha t the proposed 

cred it article employs a per-c ountry limitation. However, this will not affect the 

right of United States taxpayers to elect the overall limitation under section 904 

of the Internal Revenue Code. See Article 22 (3) of the proposed convention and 

the accompanying explanation.

In the case of France, double taxation will generally be avoided by an exemption method. That is, income which is taxable in the United States by reason of 

the convention will be exempt from French tax. However, in cases in which income is taxable in both States, France will allow a resident of France a tax credit 

corresponding to the amount of tax levied in the United States but not in excess 

of the amount of French tax levied on the income. The method of avoiding 

double taxation employed by the French is the exemption-with-progression 

system. Thus, even though income is exempt from, or subject to a reduced rate 

of, French tax, such income m ay be taken into account in determ ining the effective rate of tax applicable to the total income taxable under French law.

Under th e existing convention, the French may apply section 164 of the General 

Tax Code to United States citizens residing in France. Under that provision, such 

persons are taxed on either an amoun t equal to 5 times the rental value of their 

abode or abodes in France or on their actual income from French sources, whichever is greater. The French have agreed to surrender th is r igh t under the proposed 

convention and to forego th e imposition of tax according to an “im puted” income 

based on the rental value of the abode or abodes. Although the provision is 

reciprocal in form, the United States has never imposed such a tax.

A R TIC LE 24. N O N D IS C R IM IN A TIO N

The existing convention provides tha t citizens or corporations of one Sta te will 

not be subjected to more burdensome taxes in the other Sta te than are imposed 

on the citizens or corporations of such other State.
35

The proposed convention substitutes a modernized nondiscrimination article 

which bans discrimination by one State against the citizens of the other State 

or permanent establishments of residents or corporations of the other State. 

However, the nondiscrimination article will not prevent a State from according 

special treatment to its own residents on the basis of civil status or family responsibilities. Nor will the provision prevent the French from imposing a branch 

profits tax, subject to the limitations of Article 13, and the United States from 

imposing a comparable tax burden on the income of permanent establishments 

maintained by residents of France in the United States. At present, the United 

States does not impose a comparable tax burden such as, for example, a branch 

profits tax.

As noted under Article 1 (Taxes Covered) the ban on discrimination extends to 

all taxes without regard to subject matter and whether imposed at the national, 

State, or local level.

This article is substantially similar to the nondiscrimination article of the 

OECD model convention except that the OE CD draft includes a provision concerning stateless persons which has been omitted from the proposed convention. 

Moreover, the OE CD draft article does not specifically deal with branch profits 

taxes.

A R T IC L E 25. M U TU A L A G R E EM EN T PR O C E D U R E

This article modernizes the mutual agreement procedures found in the existing 

convention by adopting the provisions of the recent amendments to our treaties 

with the Netherlands, the United Kingdom, and the Federal Republic of Germany. 

It provides for the administrative review of taxpayer claims. Thus, when a resident of one State considers that action of the other State has resulted, or will 

possibly result, in taxation contrary to the provisions of the convention, such 

resident may present his case to the competent authority of the State of which he 

is a resident. This remedy is in addition to any remedy provided by the national 

laws of either State.

This article also contemplates that the competent authorities of the two States 

will endeavor to settle by mutual agreement any difficulties or doubts arising as to 

the application of the convention. Some particular areas with respect to which the 

competent authorities may consult are the attribution of industrial and commercial profits to a permanent establishment, the allocation of income between a 

resident and a related person under Article 8, and the determination of source of 

particular items of income.

In implementing the provisions of this article, the competent authorities may 

communicate with each other directly and meet together for an exchange of oral 

opinions if such a meeting seems desirable.

In cases in which the competent authorities reach agreement with respect to a 

particular matter, taxes will be imposed and refunds or credits allowed, in accordance with such agreement. This provision permits the issuance of a credit or refund 

notwithstanding procedural barriers otherwise existing under a State’s law, such 

as the statute of limitations. Traditionally, tax conventions have contained mutual 

agreement procedures of the type described above but in some cases such provisions have not removed barriers, such as the statu te of limitations or the finality 

of previous assessments, which might preclude the implementation of any such 

agreement.

The new provision will apply only where agreement has been reached between 

the competent authorities but such provision will apply in the case of any agreement after the convention goes into effect even though the agreement may concern taxable years prior thereto. Similar provisions were included in protocols to 

the German, Dutch, and British conventions which have been approved by the 

Senate and ratified.

A R TIC LE 26. E X C H A N G E OF IN FO R M A T IO N

This article provides for a system of administrative cooperation between the 

competent authorities of the two States and specifies conditions under which 

information may be exchanged to facilitate the administration of the convention 

and to prevent fraud and the avoidance of taxes to which the convention relates.

The mutual exchange of information called for by these provisions is presently 

in effect in most of the conventions to which the United States is a party and is 

substantially similar to the mutual agreement procedure contained in the existing 

convention between the United States and France.
36

ARTIC LE 27. A SS IS TA NCE IN CO LL ECTI ON

This article provides for limited mutual assistance in the collection of taxes 

and is substan tially identical to the comparable provision of the existing convention. The assistance provided for will not be accorded with respect to citizens, 

corporations, or other entities of the State from which assistance is requested.

Each State will assist the othe r in the collection of taxes to which the convention 

relates and also interest, cost, and additions to such taxes and fines not being 

of a penal cha racter according to the laws of the State requested. Hence, revenue 

claims of a Sta te which have been finally determined and the documents establishing such fact will be accepted for enforcement by the other Sta te and 

collected by th at other State in accordance with the laws applicable to the enforcement and collection of its own taxes. In addition, the S tate to which application is made will t ake such measures of conservancy (including measures with 

respect to tran sfer of property of nonresident aliens) as are authorized by its 

laws where the revenue claims prese nted to such State have not been finally 

determined.

A R TIC LE 28. D IP LO M A TIC AND CO NSU LA R O FF IC E R S

This artic le preserves the existing fiscal privileges of diplomatic and consular 

officials under the general rules of internatio nal law or under the provisions of 

special agreements.

A R TIC LE 29. T E R R IT O R IA L E X T E N S IO N

This artic le provides a meth od for extending the convention to overseas territories of the French Republic the taxes of which are substan tially similar to the 

taxes to which the convention applies. Provisions for the termin atio n of any 

such extensions are also specified.

Extension to overseas territories may be accomplished by the States through 

an exchange of notes or in any man ner in accordance with their constitutional 

procedure. Such extension will take effect from the date and be subject to such 

conditions contained therein.

The extension may be terminated with respect to any territo ry by one of t he 

States through written notice given to the other Sta te at any time after the 

expiration of a period of 1 year from the effective date of the extension. The 

termination will take effect on or after the first of Jan uary following the date 

of such notice. In addition, unless otherwise agreed by both States, the termination of t he convention under Article 32 will also term inate the convention with 

respect to any territory to which it was extended und er this article.

A R TIC LE 20. E X C H A N G E O F O FF IC IA L IN FO R M A T IO N

This article specifically provides th at the competent autho rity of each Sta te 

will advise the competent autho rity of the other Sta te of any addition to or 

amendment of tax laws which concern the imposition of taxes which are the 

subject of this convention. It is further provided th at the compete nt autho rity 

of each State will exchange the texts of all published material interpreting the 

present convention und er the laws of the respective States, whether in the form 

of regulations, rulings, or judicial decisions.

In addition, it is provided th at adjustment of some of the provisions of the 

convention may be made without affecting its general principles by an exchange 

of notes or in any other manner in accordance with the constitu tional procedure 

of the respective States. For example, if changes were made in the tax law of 

one of the States which did not affect the general principles of the convention 

but which nonetheless made app ropriate an adjustment of the provisions of the 

convention, such adjus tment could be accomplished by an exchange of notes.

A R TIC LE 31. EN TR Y IN TO FO RCE

This article provides for the ratification of the proposed convention and for 

the exchange of in stru ments of ratification. The convention will e nter into force 

one month after the date of exchange of such instrum ents. However, the provisions of the convention will be effective:

In the case of France:

(1) As respects withholding taxes, to any proceeds payable and tran sactions completed on or after the date on which the convention enters into 

force;

(2) As respects other income taxes, to taxes which are levied for the assessment ye^r 1967; and
37

(3) As respects the tax on stock exchange transactions, the date on which 

the convention enters into force.

In the case of Un ited States:

(1) As respects th e r ate of withholding tax, to a mounts received on or after 

the date on which the convention enters into force; and

(2) As respects other income taxes, to taxable years beginning on or after 

Janu ary 1, 1967.

The entry in to force of the proposed convention will terminate the Conventions of 

July 25, 1939; October 18, 1946; and Jun e 22, 1956, as well as the Protocol of 

May 17, 1948. Moreover, as noted in an exchange of letters with respect to income 

taxes acco mpanying the proposed convention, the entry into force of such convention will also a brogate all notes, minutes, and arrangem ents re lating to income 

taxes entered into between the United States and France in connection with such 

conventions or protocol. See, in particular, the explanation of Articles 6 (Business 

Profits) and 11 (Royalties).

A R TIC LE 32. T E R M IN A TIO N

The convention will continue in effect indefinitely, bu t may be terminated by 

either Sta te at any time af ter the ye ar 1969. A S tate seeking to terminate the convention must give notice at least 6 months before the end of the calen dar year.

If the convention is term inated, such termin atio n will be effective:

In the case of France:

(1) As respects withholding taxes, on Jan uary 1 of the yea r following the 

year in which notice is given;

(2) As respects other income taxes, for any year of assessment beginning 

on or after January 1 of the yea r next following the year in which notice is 

given; and

(3) As respects the tax on stock exchange transactions, for any tran sactions 

occurring on or after Jan uar y 1 of the year following th e year in which notice 

is given.

In the case of the U nited States:

(1) As respects withholding taxes, on Jan uary 1 of the year following the 

year in which notice is given;

(2) As respects other income taxes, for any taxable yea r beginning on or 

after January 1 of the year following the year in which notice is given; and

(3) As respects taxes referred to in paragraph (2) of Article 1, for any t ra ns ­

actions occurring on or after January 1 of the y ear following the year in w hich 

notice is given.

T ec h n ic a l E x pla n a tio n of P ro po se d U n it ed Sta tes- P h il ip p in e s I nc om e

T ax C o n v en tio n— A p r il 30, 1968 

A R TIC LE 1. T A X ES CO V ER ED

Article 1 designates the taxes of th e respective States which are the subject of 

the convention. Generally, the provisions of the convention concern only the 

United States Federal income tax, including surtax, imposed by Subtitle A of 

the Inte rnal Revenue Code (but not including the ac cum ulated profits tax or the 

personal holding company tax) and the Ph ilippine income tax imposed by Title II 

of the National Intern al Revenue Code (but not including their accumulated 

profits tax or their personal holding company tax). The convention also applies 

to taxes substan tially similar to those taxes specified which are subse quently 

imposed in addition to, or in place of, the existing income taxes. For purposes of 

the nondiscrimination provisions of Article 6, however, the convention applies to 

taxes of every kind which are, or may be, imposed by the respective States, whether 

imposed at the national, sta te, or local level.

A R TIC LE 2. G EN E R A L D E F IN IT IO N S

This article sets out definitions of certain of the basic terms used in the convention and provides th at a ny term not otherwise defined will, unless the context 

requires otherwise, have the meaning which it has under the laws of the Sta te 

imposing the tax.
38

ARTIC LE 3. G E N E R A L R U L E S O F TA X ATIO N

The general rules of taxation applicable under the convention are as follows:

(a) A resident or corporation of one of the States will be taxable by the other 

State only on income derived from sources within th at other Sta te and only in 

accordance with any limitations set forth in the convention. In determining the 

source of income for this purpose, each State will apply the rules of source contained in the laws of tha t State, except th at rules on the source of income from 

the performance and furnishing of personal services are set forth in Article 5.

(b) Income from sources within a State to which the provisions of the convention are not expressly applicable will be taxed by such Sta te in accordance 

with its own law. Thus, for example, because prizes and awards are not expressly 

covered by the convention, some income will be taxe d by the Sta te from which 

such income is derived in accordance with the internal law of such State.

(c) No provision of the convention will be construed so as to restrict in any 

manner any exclusion, exemption, deduction, credit, or other allowance presently 

or subsequently accorded (1) by the laws of one of th e States in determ ining the 

tax imposed by that S tate or (2) by any other agreement between the two States 

This provision reflects the policy of the United States under all conventions to 

which it is a party.

(d) With specified exceptions, both States reserve the righ t to tax income of 

their individual citizens or residents or domestic corporations as if the convention 

had not come into effect. A “savings clause” of th is nature is a standard feature 

of the income tax conventions to which the United States is a party and applies 

in the case of an individual citizen or resident or a corporation of the taxin g 

Sta te even though such individual or corporation may also be considered a resident or corporation of th e other State. The exceptions to this reservation of authority preserve certain benefits allowed by each Sta te which are specifically inten ded 

to apply to persons who are individual citizens or residents or domestic corporations of tha t State. Thus, the “savings clause” does not ap ply to deny an individual 

citizen or resident or a domestic corporation of a State th e benefit of th e tax credit 

provisions of Article 4 or the nondiscrimination provisions of Article 6. In the case 

of the United States, the “savings clause” does not affect the right of an individual 

citizen or resident or a domestic corporation to dedu ct charitable contributions 

made to Philippine organizations pursuant to the terms of Article 18. In the case 

of both States, the “savings clause” does not apply to deny the benefits of Article 

14 (relating to visiting teach ers), Article 15 (relating to visiting stud ents or 

train ees), Article 16 (relating to governmental paym ents), or Article 17 (relating 

to rules of application concerning the previous Articles) to qualified individuals 

unless such qualified individual is a citizen of, or has imm igrant status in, the S tate 

which is obligated to give the tax benefit.

A R TIC LE 4. R E L IE F FR OM D O U B LE TA X ATIO N

This article provides that each Sta te will allow a tax credit for the appropriate 

amoun t of income taxes paid to the other State although the Philippines is required 

to allow the credit only to its residents and corporations. Both the United States 

Intern al Revenue Code and the Philippine Natio nal Int ern al Revenue Code 

contain similar provisions allowing citizens, residents, and domestic corporations 

(and, in the case of the United States, nonresident alien individuals and foreign 

corporations on income effectively connected with a trade or business in the 

United States) a tax credit for foreign income taxes paid.

The amount of the credit allowed by the United States is based upon the full 

amoun t of income taxes paid to the Philippines and is computed under sections 

901 through 906 of the Internal Revenue Code. In applying such sections of th e 

Code, the tax imposed by Title II of the National Intern al Revenue Code of the 

Philippines, not including the tax on improperly accu mulated earnings or the 

personal holding company tax, will be considered to be an income tax.

Similarly, a resident or corporation of the Philippines will be allowed a credit 

against the Philippine income tax imposed by Title II of the Natio nal Internal 

Revenue Code (except the tax on improperly accumulated earnings or the personal 

holding company tax) for the appropriate amount of income taxes paid to the 

United States. Such credit is based on the full amount of th e income tax paid by 

such persons to the United State s, and is to be computed under the provisions 

of th e National Intern al Revenue Code. In applying those provisions, the United 

States income tax, including surtax, imposed by su btitle A of the Internal Revenue 

Code (other tha n the tax on improperly accumulated earnings and the personal
39

holding company tax) will be treate d as an income tax and the similar credit 

requirement of section 30(c)(3) of the Philippines Natio nal Intern al Revenue 

Code will be deemed satisfied with respect to taxes paid to the United States.

ARTICLE 5. SOURCE OF INCOME

This artic le provides th at for purposes of Article 3 (relating to the general rules 

of taxation) and Article 4 (relating to the allowance of a foreign tax credit) the 

following rules of source apply to income from personal services. Income from the 

performance of personal services (including private pensions and an nuities paid in 

respect of such services) or the furnishing of personal services will be tre ated as 

income from sources within the Sta te in which such services are performed. Incom e 

earned by a member of the regular complement of a ship or aircraft from the p erformance of personal services abo ard a ship or airc raft operated by a resident or 

corporation of the Philippines will be considered income from Philippine sources. 

Income earned by such a person from the perform ance of personal services aboard 

a ship or airc raft registered in the United States and operated by a resident or 

corporation of the United States will be considered income from United States 

sources.

Each S tate will ap ply its internal law in determining th e source of other item s of 

income.

It should also be noted th at the source rules do not exten d the benefits of this 

tre aty to persons o ther tha n residents or corporations of the two States. Generally, 

the rules are applicable only to residents or corporations of eith er State, and, 

therefore, are not applicable in determ ining the source of personal services income 

of residents of other States.

ARTICLE 6. NONDISC RIMINAT ION

This artic le provides th at the United States and the Philippines will not discriminate in their taxes aga inst their residents who are citizens of the other Sta te 

nor against p erm ane nt establish ments within their jurisdiction owned by citizens 

or corporations of the oth er State. This does not preven t either State from imposing 

whatever tax it desires on citizens of the other State, resident within its border, so 

long as the taxes imposed on such residents are no more burdensome th an the taxes 

imposed on resid ent citizens of the Sta te imposing the tax. Furthermore, this article 

does no t require a Sta te which grants personal allowances or deductions only to its 

residents to gra nt such allowances or deduction s to nonresidents who are citizens 

of the other State.

A corporation of one State, the stock of which is completely or partly owned 

by citizens or corporations of the other State, may not be subjected to more 

burdensome taxes tha n a corporation owned wholly by citizens or corporations 

of the former State.

The provisions of this article apply to sta te and local as well as national taxes. 

ARTICLE 7. BU SINE SS PROFITS

This article provides th at a resident or corporation of one State will not be 

subject to tax in the other Sta te on industrial or commercial profits derived from 

sources within such other State unless such resident or corporation has a permanent establishm ent, as defined in Article 8, in such other State. The term “industrial or commercial profits” is defined to mean income derived from the active 

conduct of a trade or business, including profits from manufacturing, mercantile, 

agric ultural, fishing and mining activities, and income from the furnishing of 

personal services. Such ter m does not include income from the performance of 

personal services by an individual, dividends, interest, royalties, income from the 

rental of personal property, income from real property, insurance premiums, or 

gains derived from the sale or exchange of ca pita l assets.

Where a resident or corporation of one Sta te is engaged in a trade or business 

in the other State and maintains a permanen t establishme nt in such other State, 

such other State is to allow as deductions in computing the income subject to tax 

all ordinary and necessary expenses, wherever incurred, which are allocable, to 

the reasonable satisfaction of the competent autho rity of such other State, to 

income from sources within th at State. For purposes of th is article no profits are 

to be deemed to be derived from sources within a Sta te merely by reason of the 

purchase of goods or merchandise.

The general effect of this article is to replace the engaged-in-trade-or-business 

tes t with the perman ent establishme nt test in both the United States and the
Philippine s in th e process of determining whether indu strial or commercial profits 

(as defined in the convention) derived by nonreside nt alien individuals resident 

in the o ther St ate and foreign corporations created or organized in the other Sta te 

are to be subjec t to tax.

A R TIC LE 8. D E F IN IT IO N O F PE R M A N E N T E STA B LIS H M E N T

This article defines the term “permanent establishm ent” . The existence of a 

perm anen t establish ment is, under the term s of the convention, a necessary prerequisite to one State’s authority to tax the indu strial or commercial profits (as 

defined in the convention) of a resident or corporation of the other State.

The term “perm anent establish ment” means “a fixed place of business through 

which a resident or corporation of one of the Contracting States engages in trade 

or business” . The convention illustrates the concept of a fixed place of business 

with the following examples: a branch; an office; a store or other sales outlet; a 

workshop; a factory ; a warehouse; a mine, qua rry, or other place of extractio n 

of natural resources; or a building site, or construction or insta llation site, which 

exists for more tha n 3 months. As a general rule, any fixed facility through which 

business is conducted will be treate d as a perman ent establishment unless it falls 

within one of the specific exceptions described below.

The specific exception para graph provides th at a perm anen t establish ment 

does not include one or more of the following:

Subpara graph (a) provides th at facilities used by a resident or corporation 

of one Sta te in the other Sta te for the purpose of storing, displaying, or 

delivering goods or merchandise belonging to such resident or corporation 

will not constitute a perm anent establish ment. This permits a resident or 

corporation of one State to own or lease storage facilities or facilities for the 

display or delivery of its goods so long as the facilities are not used by the 

resident or corporation for storing, displaying, or delivering goods of another 

person.

Subpara graph (b) provides that the main tenance of a stock of goods or 

merchandise does not constitute a perman ent establishm ent so long as the 

goods or merchandise belong to the resident or corporation of the other 

State and are stocked for purposes of storage, display, delivery, or any combination of those purposes. Thus, a resident or corporation of one State is 

permitted to main tain in the other Sta te a stock of goods, and also have 

facilities for, storing, displaying, or delivering such goods without having 

a permanen t estab lishm ent in th at other State.

Subpara grap h (c) provides th at the maintenance of a stock of goods or 

merchandise in one Sta te by a resident or corporation of the other State 

will not be considered a perman ent establishm ent of such person if the stock 

of goods or merchandise is maintained for the purpose of being processed 

by ano ther person.

Subparagraph (d) provides th at if a resident or corporation of one State 

maintains a fixed place of business in the other State for the purpose of 

purchasing goods or merchandise, and /or the collection of information, for 

itself, the fixed place of business will not be considered a perman ent establishm ent.

Subparagraph (e) provides th at a resident or corporation of one State is 

not to be considered to have a perm anent establish ment in the other State 

if such person has a fixed place of business in such other S tate which is maintain ed for the purpose of advertising, for the supply of information, for 

scientific research, or for similar activ ities which have a prep aratory or 

auxiliary character in the business of such person.

These exceptions are cumulative and, for example, a facility used solely for one, 

several, or all of these purposes generally will not be considered a perm anen t 

establishme nt under the convention.

A resident or corporation of one State is considered to have a permanent esta blishment in the other Sta te if such resident or corporation engages in business in 

the other State through an age nt who either: (1) has autho rity to conclude contra cts in the name of his principal and regularly exercises th at authority in the 

other State, unless the exercise of the authority is limited to th e purchase of goods 

or merchandise; or (2) regularly secures orders in the other State for the resident 

or corporation; or (3) maintains in the other State a stock of goods or merchandise 

belonging to his principal from which he regularly makes deliveries or fills orders. 

However, these rules will n ot apply where a resident or corporation of one State 

carries on its business in the other State through an agent who is a bona fide
41

br ok er , ge ne ral co mm iss ion ag en t, fo rw ar di ng ag en t, in de nt or , or oth er agent of 

in dep en dent st atu s ac ting in th e ord in ar y co urse of its bu sin ess. F or th is pu rp os e, 

an agen t wh o acts exclu siv ely (or al m os t exclu siv ely ) for th e re si den t or copro ra ­

tio n or fo r th a t re si den t or co rp or at io n an d an y oth er pe rson co nt ro llin g, co ntrol le d by , or under comm on co nt ro l w ith su ch re si de nt or co rp or at io n, will n o t 

be co ns id er ed to be an ag en t of in dep en de nt st atu s.

W het he r a co rp or at io n of one S ta te ha s a per m an en t es ta blish m en t in th e 

ot her S ta te w ill be de te rm in ed w ithout re ga rd to a ny co ntro l re la tion sh ip be tw ee n 

it and an y co rp or at io n orga nize d or enga ge d in tr ade or bu sin ess in th e oth er 

Sta te . The refo re , a Philip pi ne su bs id ia ry of a U nited Sta te s co rp or atio n may be 

co nsidered an in de pe nde nt ag en t of th e U nited Sta te s co rp or at io n and no t its 

perm an en t es ta bl is hm en t if it othe rw ise quali fie s as an ag en t of in dep en den t 

st atu s ac ting in th e ord in ar y cours e of its busin ess.

A re side nt or co rp or at io n of one S ta te is de em ed to ha ve a pe rm an en t est ablish m en t in th e oth er S ta te if th e re si den t or co rp or at io n pr ov ides th e se rv ice s 

of pu blic ente rt ain ers (referred to in Ar tic le 13(3)) in th e la tt e r Sta te . Thu s, 

for ex am ple, a U nited S ta te s co rp or at io n or re side nt wh o em ploy s, or othe rw ise 

pr ov ides th e se rv ice s of, an ente rt ain er and fu rn ishe s th e service s of th a t en ­

te rt ain er in th e Ph ili pp in es will be co ns idered to ha ve a per m an en t es ta blish m en t 

in th e Ph ili pp ines.

If a re si de nt or co rp ora tion of one S ta te m ai nta in s a per m an en t es ta blish m en t 

in th e oth er S ta te a t an y tim e du ring th e ta xab le ye ar, th e per m anent est ablish m en t is co ns idered to ha ve ex ist ed fo r th e en tire ta xab le ye ar .

A R TIC LE 9. R EL A T ED P E R SO N S

Th is pr ov ision co rres po nd s in pu rp os e and scop e to se ct io n 482 of th e In te rn al 

Re ve nu e Co de of 1954 an d confi rm s th e po wer of each go ve rn m en t to re al lo ca te 

inc om e in cases in which a re si de nt of one S ta te is r el at ed to a re side nt of th e oth er 

S ta te if su ch re la te d pe rson s im po se co nd iti on s be tw ee n th em se lv es wh ich ar e 

differen t fro m co nd iti on s wh ich wo uld be im po sed be tw ee n in dep en den t pe rson s.

Ar tic le 19 pr ov id es fo r co ns ul ta tion be tw ee n th e co m pe te nt auth ori ties of th e 

tw o Sta te s for th e pu rp os e of effecti ng a un ifor m allo ca tio n of inco me in ac co rd ­

an ce w ith th e pu rp os e of th is artic le.

A R TIC LE 10. IN T E R E S T

Th is ar tic le pr ov ides th a t in te re st rece ived by th e G ov er nm en t of on e Sta te , 

includ ing an y ag en cy or in st ru m enta li ty wh olly ow ne d by su ch G ov er nm en t, is 

to be ex em pt fro m ta x in th e ot he r Sta te . The co nv en tion does not othe rw ise 

lim it th e ta x wh ich may be im po sed by ei th er S ta te on in te re st de rive d fro m 

sources with in it.

A R TIC LE 11. IN COM E FR OM R EA L P R O PE R T Y

This ar ticl e pr ov ides th a t a re side nt or co rp or at io n of one S ta te su bje ct to tax 

in th e ot he r S ta te on inco me fro m th e re nta l of bu ild ings or from real pro per ty 

which is im pr ov ed w ith bu ild ings , includ ing ga ins de rive d from th e sal e or exch an ge of such pro pe rt y, or on ro ya ltie s in re sp ec t of th e op er at io n of mines , 

qu ar ries , or ot he r natu ra l reso urce s, may elec t for an y ta xab le ye ar to co m pu te 

th e ta x on such income on a net basis. A sim ilar pr ov ision ap pe ar s in m an y ta x 

co nv en tio ns t o wh ich t he U nited S ta te s is a p art y a nd , un der th e F oreign In ves to rs 

Tax Ac t of 1966, ha s be en m ad e p art of U nited Sta te s in te rn al law .

Thi s ar tic le ap plie s on a re cipr oc al basis and pe rm its , for exam ple , a re side nt 

or co rp or atio n of th e U nite d Sta te s de riving inco me fro m th e specified ac tivitie s 

in th e Ph ili pp ines to elec t to be ta xed on such inc om e as th ou gh such re si de nt 

or co rp or atio n we re en ga ge d in bu sin ess in th e Ph ili pp ines.

A RTIC LE 12. G A IN S U PO N TR A N SFER S TO CONTROLLE D C O RPO RA TIO NS

Thi s ar ticl e pr ov ides th a t a re si den t or co rp or at io n of on e S ta te will no t rec og ­

niz e an y taxa bl e ga in in th e oth er S ta te fro m a tr an sa ct io n invo lving th e tr ansf er 

of pro pert y to a co rp or at io n in ex ch an ge for stoc k in such co rp or atio n. In or de r 

to qu alify for th is no nr ec og ni tio n tr eatm ent, th e re side nt or co rp or at e tran sf er or , 

or su ch pe rson to get her w ith an y oth er pe rson s mak in g sim ila r tran sf er s as part 

of th e sa m e tr an sa ct io n, m us t ow n im m ed ia tely aft er su ch tr an sa cti on st oc k in 

th e tran sf er ee co rp or atio n possessin g a t le as t 80 pe rc en t of th e to ta l co mbine d 

vot in g po wer of all classes of st oc k in such co rp or atio n and at leas t 80 per ce nt
42

of the total number of all other shares. In addition, where the transferee corporation is a Philippine corporation, the transferred property must be recorded on 

the books of account of such corporation at a value not exceeding the value at 

which such property was recorded on the books of account of th e transferor. The 

definition of the term “property ” for purposes of this article is to be made under 

the laws of the respective States.

Article 12 is similar in purpose to section 351 of the U.S. Interna l Revenue Code 

which permits tax-free transfers to controlled corporations (including a controlled 

foreign corporation if a prior ruling is obtained from the Intern al Revenue Service.)

However, under Philippine tax law, if the transfers are considered to take place 

in the Philippines, the gain is presently subject to Philippine tax. Thus, in the 

absence of the Convention, while the incorporation of a Philippine branch of a 

United States company could be accomplished tax free under United States tax 

law, it is taxable in the Philippines. The combination of section 351 and Article 

12 could eliminate b oth United S tates and Philippine tax in such cases.

A R TIC LE 13. IN C O M E FR OM PER SO N A L SE R V IC E S

This article provides that an individual resident of one State is exempt from tax 

by the other State with respect to income from personal services performed in 

such other State if—

(1) Such person is physically present in such other Sta te for not more than 90 

days, in the aggregate, during the taxable y ear for which the exemption is claimed;

(2) Such income from personal services is not deductible in computing the 

profits of a perm anent establishment of a resident or corporation of the former 

Sta te subject to tax in the latte r State;

(3) In the case of employment income, the services are rendered as an employee 

of a resident or corporation of the former State; and

(4) The aggregate income received during the taxable yea r does not exceed 

$3,000 (or its equivalent in Philippine pesos).

For purposes of this provision the term “income from personal services” includes 

emplo yment income and income earned by an individual from the performance of 

personal services in an independ ent capacity. Employment income, for purposes 

of the test described in (3) above, includes income from services preformed by 

officers and directors of corporations. Income from personal services performed 

by partners for third persons generally will be treate d as income from the performance of services in an indepe nden t capacity b ut a salary or other fixed amoun t 

paid by a partnership to an activ e partner, if similar paymen ts are not made to 

inactive partners, will be considered to be income from e mployment by the partn ership, and therefore subject to the test in (3) above.

In the case of visiting public entertainers, such as musicians, actors, or professional athletes, deriving personal services income from the ir activ ities in the 

host State as such the host Sta te may nevertheless tax such income if it exceeds 

$100 (or its equivalent in pesos) for each day the individual is present in the host 

Sta te (or the tota l amount of $3,000).

A special rule is also provided for income from personal services derived by 

individuals who are employed on board ships or airc raft. In the case of a ship or 

aircraft operated by a Philippine resident or corporation, any individual employed 

on such ship or airc raft as a member of the regu lar complement of such ship or 

aircraft, is not subject to United States income tax on his income from the services rendered on such ship or aircraft unless he is a citizen or resident of the 

United States. In the case of a ship or airc raft registered in the United States 

and operated by a resident or corporation of the United States the income derived from the perform ance of personal services thereon by any individual who 

is a member of the regular complement of such ship or aircraft will be exempt 

from the Philippine income tax unless such individual is a citizen or resident of 

the Philippines. For example, a sailor working on a vessel opera ted by a resident 

or corporation of the Philippines, who is a citizen and resident of Spain, will be 

exempt from United States tax with respect to the compensation he receives 

for his services as a sailor.

A R TIC LE 14. TE A C H ER S

This article provides a reciprocal exemption from tax for personal service 

income of visiting teachers. It applies only if the teache r is invited by the Government, a university or other accre dited educational institu tion to teac h or engage 

in research activities, or both, at a university or other accredited educational 

institution. The exemption applies only to income received by the visiting teache r 

as compensation for such teaching or research activities. If the visit exceeds a
43

pe riod of 2 ye ars, th is e xe m pt io n ap plie s on ly to th e inco me rece iv ed by th e vis iting te ac her before th e ex pi ra tion of su ch 2- ye ar pe rio d.

A R TIC LE 15. S TU D E N T S AN D T R A IN E E S

r

Thi s ar ticl e pr ov id es th a t a re si de nt of one S ta te vi si ting th e oth er S ta te fo_ 

th e pu rp os e of st ud yin g a t a uni ve rs ity or oth er ac cr ed ited ed uca tion al in st it u 

tion , se cu ring tr ai nin g for qu alific atio n in a prof essio n or pr of es sion al sp ecia lt y’ 

or st udyin g or do ing rese ar ch as a re ci pi en t of a gra nt, all ow an ce , or a w ar d (fr om 

a go ve rn m en ta l, rel igious, ch ar itab le , scien tific, li te ra ry , or ed uca tiona l org ani za tion ) is ex em pt from ta x in th e hos t S ta te on :

(1) Gift s from ab ro ad for his m ai nte na nce or st udy;

(2) T he gra nt, all ow ance, or a w a rd ; and

(3) In co m e from pe rson al service s pe rfor m ed in th e hos t S ta te not in excess of 

$2 ,000 (or its e qui va le nt in pesos) for any t axable yea r. Thi s ex em pt ion is increased 

to $5,00 0 (or its eq ui val en t in pesos) if th e st u d en t is tr ain in g for qu alificatio n in 

a med ical prof essio n or med ical sp ec ia lty, in clud ing any ph ys ic ian, med ica l 

te ch nol og is t, nu rs e, ph ar m ac is t or oth er pe rson s un de r th e Exc ha ng e \ i sit ors 

Pro gra m .

Thes e ex em pt io ns co nt in ue for su ch pe riod of tim e as m ay be re as ona bly or 

cu st om ari ly re qu ir ed to e ffec tu at e th e pu rp os e of his visit b u t in no ev en t for mo re 

th a n 5 ta xa bl e ye ar s.

F urt herm ore , a re si de nt of one Sta te , em pl oy ed by or under contr act w ith a 

re si dent or co rp or at io n of th a t Sta te , wh o visits th e ot her S ta te for a pe rio d no t in 

excess of one year for th e pu rp os e of st udyin g or ac qu irin g tech ni ca l, professio na l, 

or bu sine ss ex pe rie nc e, is ex em pt fro m ta x in su ch oth er S ta te on inc om e from pe rso na l serv ice s re nde re d th er e no t in excess of $5 ,00 0 (or its eq uiv al en t in pesos ). 

In or der to qu al ify fo r th e ex em pt ion, th e vi si ting in di vi du al m ust st u d y a t a 

univ er si ty or ac cr ed ited ed uc at io na l in st it uti on in th e ho st Sta te , or rece ive his 

ex pe rie nc e fro m a pe rson ot he r th an th e re si den t or co rp or at io n by whic h he is 

em pl oy ed or under co ntr ac t.

A re si den t of on e S ta te wh o visits th e ot he r S ta te for a pe rio d not in exces s of 

on e y ear as a part ic ip ant in a pr og ra m sp on so red by th e G ove rn m en t of th e ho st 

Sta te fo r th e pr im ar y pu rp os e of trai ni ng , re se ar ch , or s tu dy s ha ll be ex em pt fro m 

ta x in th e h ost S ta te on inco me no t in exc ess of $10,0 00 (or its equ iv al en t in pesos ) 

eceiv ed fo r pe rs on al service s pe rformed in th e host S ta te in re sp ec t of su ch tr ail ing, rese ar ch , or st udy.

A R TIC LE 16. G O V ER N M EN TA L SA L A R IE S

Th is art ic le ex em pt s from ta x in one S ta te any wa ges , salarie s, an d sim ilar 

co m pe ns atio n, and pe nsions, an nu itie s, or si m ilar be ne fit s if: (1) Su ch am ounts 

ar e pa id by or di re ct ly out of pu blic fu nd s of, th e oth er S ta te or a po lit ic al su bdiv ision th ere of; (2) su ch am oun ts ar e pa id to an in di vi du al who is a nat io nal of 

su ch ot he r S ta te ; (3) su ch am ounts ar e pa id fo r serv ices re nd er ed to su ch oth er 

S ta te or to an y of its po litica l su bd iv isio ns in th e disc ha rg e of go ve rn m en ta l fu nc ­

ti ons; an d (4) su ch in di vid ual is no t a cit izen of, or hav e im m ig ra nt st atu s in, th e 

fo rm er Sta te .

A R T IC L E 17. R U L E S A PP L IC A B L E TO PER SO N A L S E R V IC E A R TIC LES

This ar ticl e pr ov id es th a t fo r pu rp os es of det er m in in g th e ap pl ic ab ility of 

th e ex em pt ion fr om t a x re la ti ng t o p erso na l service inco me co nt ai ne d in Arti cle 13 

(inc om e from pe rs on al se rv ice) , Ar tic le 14 (tea ch er s), Ar tic le 15 (s tu den ts an d 

trai ne es ), and A rti cle 16 (g ov er nm en ta l salarie s) re im burs ed tr av el ex penses 

will be co ns idered inco me from pe rson al service s b u t will no t be ta ken in to ac ­

count in de te rm in in g th e m ax im um inc om e ex em pt io ns in Arti cle 13 and 15. If 

a n indi vidu al qu alifi es for th e be ne fit s of more th an one of th e prov isions of 

Arti cle 13, 14, or 15 he m ay choo se th e pr ov ision m os t fa vo ra bl e to him b u t he 

m ay not claim th e be ne fit of mor e th an one su ch ar ticl e in an y one ta xab le year.

A R TIC LE 18. D ED U C T IO N FO R C H A R IT A B LE C O N T R IB U T IO N S

Thi s artic le pr ovi de s th a t a U nit ed Sta te s cit izen , re si den t, or co rp or at io n may 

deduct for U ni te d S ta te s ta x pu rp os es co ntr ib ution s mad e to ch ar itab le org an iza tions in th e Phi lipp in es if th e follo wing co nd iti on s ar e m et :

(1) Th e Philip pin e org an iz at io n has qu alifi ed as a nonp ro fit org an iz at io n 

un der secti on 27 (e) of th e N at io nal In te rn al Rev en ue Co de of th e P hil ip ­

pi ne s;
44

(2) The co nt ribu tion s are used en tire ly with in th e Ph ilip pi ne s; an d

(3) The Phi lip pi ne or ga ni za tio n ha s qu alifi ed as a ta x- ex em pt or ga ni za tio n 

un de r section 501(c )(3 ) of th e In te rn al Rev en ue Co de;

If th es e co nd iti on s are met , th e contr ib ut io n will be tr eate d as a ch ar itab le 

co nt ri bu tion as defin ed in section 170(c) an d will be de du ctib le su bje ct to th e 

lim itat io ns co nt ai ne d in section 170 of th e In te rn al Rev en ue Co de.

A R TIC LE 19. C O N SU LTA TIO N AN D TA X PA Y ER CLA IM S

Th is ar ticl e pr ov ides th a t th e co m pet en t au th ori ties of th e tw o S ta te s are 

au th or iz ed to : (1) Se ttl e by m ut ua l ag re em en t all qu es tion s of in te rp re ta ti on or 

ap pl ic atio n of th e co nv en tio n; (2) reso lve an y m att ers co nc erning th e re la tion of 

th is co nv en tio n to an y co nv en tio n co nc lude d by ei th er S ta te w ith th ir d co un ­

trie s; (3) co ns ul t on am en dm en ts to ex pa nd th e pre se nt co nv en tion ; (4) co ns ul t 

w ith a vie w to reac hing a fa ir an d eq uitab le ap port io nm en t of in dust ri al or commercia l pr of its be tw ee n a re si den t or co rp ora tion of one S ta te an d it s per m an en t 

es ta bl is hm en t in th e ot he r S ta te ; an d (5) co ns ul t on th e m att er of th e pro pe r 

alloca tio n of inc om e be tw ee n a re si den t or co rp or at io n an d a re la te d pe rson as 

pr ov id ed in Ar tic le 9, includ ing ad option of a ppro pri at e pr oc ed ur es for effec tu at in g 

an y su ch ap port io nm en t or allo ca tio n ag re ed up on .

When a cit ize n, re side nt , or co rp or at io n of one of th e S ta te s co ns iders th a t 

th e ac tion of th e ot he r S ta te ha s re su lte d, or will po ssibl y re su lt, in ta xat io n 

co nt ra ry to th e prov isions of th e co nv en tio n, su ch citiz en , re side nt , or co rp or atio n may pr es en t his case to th e co m pet en t auth ori ty of th e S ta te of wh ich he is 

a cit ize n, re side nt , or co rp or at io n. If th e co m pet en t auth ori ty co ns iders th e cla im 

mer ito rio us , it will a tt e m p t to come to an ag re em en t w ith th e co m pet en t au th ­

or ity of th e ot he r S ta te w ith a vie w to av oida nc e of ta xati on contr ar y to th e 

te rm s of th e co nv en tio n.

A R TIC LE 20. E X C H A N G E OF IN FO R M A T IO N

A rti cle 20 prov ides for a sy st em of ad m in is trat iv e co op er at io n be tw ee n th e 

co m pe te nt au th orities of th e tw o S ta te s an d specifies co nd iti on s un de r wh ich 

in fo rm at io n may be ex ch an ge d to fa ci lita te th e ad m in is trat io n of th e co nv en tio n. 

Und er th is prov isi on th e co m pet en t au th ori ties of th e tw o Sta te s shall ex ch an ge 

su ch in fo rm at io n as is ne ce ssary fo r th e ca rrying out of th e co nv en tio n an d of 

th e do mes tic law s of th e Sta te s co nc erning th e taxe s co ve red in th e co nv en tio n 

inso fa r as th e ta xa tion th er eu nde r is in ac co rdan ce w ith th e co nv en tio n. A simila r 

pr ov isio n is includ ed in m os t of th e co nv en tio ns to wh ich th e U ni te d Sta te s is 

a p art y .

A R TIC LE 21. ASS IS TA NCE IN CO LL ECTI O N

Thi s ar ticl e wh ich co rrespo nd s to ar tic les in ou r ex istin g trea ties , pr ov ides 

th a t each Sta te will as sist th e oth er in th e collection of ta xe s im po sed by su ch 

oth er S ta te to th e ex te nt ne ce ssary to insure th a t an y ex em pt ion gra nte d under 

th e co nv en tio n by th e oth er S ta te will no t be en joye d by pe rson s not en titled to 

such benefits. Ho we ve r, ne ithe r S ta te is requ ired to ta ke mea su res a t var ia nc e 

w ith its ad m in is trat iv e pr ac tice or wh ich wo uld be co ntr ar y to its so ve re ig nt y, 

se cu rity , or publi c policy. N or is ei th er Sta te requ ire d to en force th e ta x claims 

of th e ot he r or ente rt ain su its on su ch claims in its court/?.

A R T IC L E 22. E X C H A N G E OF LE GAL IN FO R M A T IO N

Thi s artic le specifically pr ov id es th a t th e co m pe te nt au th o ri ty of each S ta te 

will a dv ise th e co m pe te nt a u th o ri ty of t he o th er S ta te of a ny a dd itio n to or am en dm en t of tax law s which co nc ern th e im po sitio n of taxe s wh ich are th e su bje ct 

of th is co nv en tio n. The te xt of an y per ti nen t new st atu te s or am en dm en ts of 

ex istin g st atu te s are to be ex ch an ge d a t leas t onc e a ye ar . It is fu rt her pr ov id ed 

th a t th e c om pe te nt a uth ori ty of eac h S ta te w ill ex ch an ge t h e t ex ts of all pu blishe d 

m at er ia l in te rp re ting th e pre se nt co nv en tio n un de r th e law s of th e re sp ec tiv e 

Sta te s, w he ther in th e form of regu la tio ns , rul ing s, or j ud ic ia l decis ion s.

A R TIC LE 23. E F F E C T IV E D ATES AN D R A T IF IC A T IO N

Thi s ar tic le pr ov ides th a t th e co nv en tio n will be ra tified an d th e in st ru m en ts 

of ra tif icatio n ex ch an ge d a t M an ila as soo n as possible.

The co nv en tio n w ill be effecti ve fo r tax ab le ye ars be gi nn in g on or a ft er J an u ary 1 

of th e ye ar im m ed iately follow ing th e dat e of ex ch an ge of th e in st ru m en ts of
45

ratification. After the convention comes into effect it will continue in effect indefinitely. Either Sta te may term inate the convention afte r the expiration of 5 years from the date the convention first becomes effective hilt 6 months’ prior 

notice of termination is required. If the convention is so term inated, it will cease to be effective with respect to taxable years beginning on or after the first dav 

o f Jan uary immediately following the expiration of the 6-month notice period. 

The Chairman. Senator Carlson, do yon have any questions?

EXTE NSI ON OF FR E N C H TR EA TY

Senator Carlson. Jus t one thought on the last statement you made 

about how you can extend these treaties to territories controlled or 

owned by a' nation such as France. This is done through diplomatic 

channels, is th at correct ?

Mr. Surrey. That is correct. That is an exchange of notes thro ugh 

diplomatic channels.

Senator Carlson. I would assume that is all right.

Mr. Surrey. It has been going on for a great many years.

The Chairman. You mean it is applied to their possessions?

Mr. Surrey. Yes; possessions and the like. I n other words, it may 

become, as a particular possession may become industrialized or have 

a great deal of activity. Those having activities in that possession 

may desire th at the treaty be extended to the possession of that treaty 

country. We can then, by an exchange of notes between that country 

and the United States make an appropriate extension. In the I nited 

States that could occur from time to time also.

The Chairman. Yes.

Senator Sparkman.

O BJE C TIO N S TO TRE ATI ES ?

Senator Sparkman. Two very brief questions: I)o you know of any 

objections to any of these treaties ?

Mr. Surrey. I have had none presented to me. Senator. There were, 

as my statement indicates, initially some problems that arose out of 

the definition or the words of the permanent establishment clause with 

the Philippines. This was 2 or 3 years ago, and I think in major p art 

it was a misunderstanding as to how we interpreted tha t clause, and 

whether, in view of the difficulties of interpretation that did arise, 

whether we would continue to use the language in future treaties.

We have not used the language in future treaties because of these 

difficulties of interpretation, and it was correspondence on this point 

between Senator Gore and those who had the problem, and I think I 

could submit that correspondence for the record because I think it 

would be helpful. (The correspondence referred to appears on 

p. G2.) I think it clarifies the interpretation we had in mind, and I 

think it removes all problems with the Philippines.

With respect to France. 1 personally have heard no objections. 

Quite the contrary, I think most organizations have written to us 

urging as prompt a ratification as possible of the French treaty in 

view of the reduction by France of its withholding rate from 15 to 

5 percent.

That reduction is quite favorable to connect on with the re patriation 

of earnings from French subsidiaries to the United States in the context of our recent regulations with respect to direct investment abroad.
46

Those reg ula tions put a stress upon increased rep atria tio n. So in that 

regard ratificatio n of the tre aty would l>e of assistance to Am eric an 

corporation s ope ratin g in F rance.

EFFECT OF TREATIES ON U.S . DOMESTIC TAXES

Senator Sparkman. Do the prov isions of eit he r one of these convenventions have any effect whatsoever on Un ite d Sta tes , State , or local 

taxes?

Mr. Surrey. No, s ir; they do not. They do not affect State or local 

taxes.

Senator Sparkman. Tha t is all. Mr. ('ha irm an .

Mr. Surrey. Excep t for the nondisc rim ina tion clause. The nondiscrimination clause does apply—we do ap ply the non discriminat ion 

clause. Insofar as the reduction of rates, state and local taxes are not 

affected.

Senator Sparkman. Tha t is all.

The ( 'hairman. Sen ato r Pell.

Senator P ell. Th ank you, Mr. ('h airm an .

Mr. Surrey, with reg ard to the Fre nch convention, I thi nk it is excellent and I intend to sup port it. W ith reg ard to the Ph ilipp ine one, 

as I understand it, the investme nt tax c redit provision is not included.

Mr. Surrey. Th at is correct.

Senator P ell. I intend to s upport that.

DISCIAIKUItE OF ASSETS--- BRAZIL TREATY

I would like to revert for a moment to the Brazilian tax co nvention 

and raise one question here which has not been rais ed before. I would 

like your comm ent on it.

As you know. I have had reserv atio ns with reg ard to the investm ent 

tax credit. The point I wanted to raise, though , has come up in a 

mem oran dum that was sent to me by a New York banker. 1 would 

like to read it into the record and then get you r comment.

Lat in American s ha ve a lw ay s been afr aid o f t ax tr ea ti es wi th tlie United Sta te s 

wh ich wo uld dis clo se to th eir go ve rn m en ts th eir as se ts in th is co un try. In the 

pa st, we have been ab le to as su re them of ba nk ing sec rec y as fa r as th eir gover nm en ts were concern ed. Ho we ver, th is si tu at io n now see ms ab ou t to change.

Some tim e ago , I was tol d by a w ea lth y Bra zilian citize n, po lit ically pr om ine nt in th a t co un try, th at a ta x conv en tio n was being consid ere d. I looked into it 

an d saw th a t th e pro posed Bra zilian T ax Convention in its A rtic le 25 prov ides 

fo r an ex ch an ge of info rm ation be tw een th e co nt ra ct in g co un tri es. I unde rs ta nd 

th e le tte r of Sub mitt al, in its re fe re nc e to Arti cle 25, sim ply st ate s th a t th is is a 

cu stom ar y ex ch an ge of info rm ation prov isi on to pr ev en t fr au d or fiscal evasi on.

Lately, I ha ve receiv ed ot he r qu er ie s on th is m at te r fro m c iti ze ns of o th er Latin 

Ame ric an co un trie s who are afr aid tr eati es with th ei r co un tries wi ll follow the 

tr eaty with Bra zil. All are un an im ou s in sa ying the y will ha ve to move th ei r 

pr op er ty to a co un try whe re th er e will be no risk of d isc losure. The reas on given, 

wh ich I can ea sily un de rs ta nd , is th a t a ta x co nv entio n could qu ickl y beco me an 

eff ectiv e po lit ical too l fo r op pressio n an d confi scati on o f p ro pe rty ,

I do not believ e such a ta x co nv en tio n is in our best in te re st , since, as a rule, 

only in di vi du al s wh o fa vo r th e U.S. keep th eir pr op er ty here. The rea son thes e 

in di vi du al s nee d sec rec y fo r th ei r pro pe rty ab ro ad is not to av oid th e us ua lly 

sm all ta xes Latin co un trie s as se ss th eir citiz en s, bu t to mak e su re they ha ve a 

source of income to fa ll ba ck on eit her wh en they ar e forced to ta ke po litica l 

IM)sitions ag ai ns t st ro ng go ve rn m en ts or di ct at or sh ip s, or as pr ot ec tio n ag ai ns t 

anoth er Cu ba. Such co nv en tio ns ha ve gre at merit, bu t they are defin ite ly pre ­

m at ure w ith Latin Am erica. If th e re al concern of the B ra zi lian go ve rnment is to
47

prevent tax evasion, there are many measures it can take at home which will be 

more effective. In short, I believe the present military government of Brazil 

hopes to use this convention to threaten or silence some members of their opposition ami to force support from influential individuals.

As successive governments in Latin America tend to oscillate like a pendulum 

in their political ideologies, I think it would better serve this country’s interests 

not to alienate individuals who, by being men of property, are our staun chest 

friends.

Whether this convention will be approved or not is being closely watched by 

many Latin Americans. If approved, the majority will have to move their property 

elsewhere.

I recognize this memorandum overstates a certain viewpoint. but 

it seems to me to be of p articu lar merit at this time when we are worried about our balance of payments. I wondered if you had any comments upon it.

EXCHANGE OF INFORMATION IS TRADITIONAL

Mr. Surrey. Well, I think it certainly overstates the attitudes of a 

foreign government. If tha t were the motivation of foreign governments they would be knocking on our doors for tax treaties, and I do 

not find that. I find a very cautious attitude with respect to entering 

into tax treaties, and I think that general cautiousness is clearly contrary to the thrust of the whole letter. And of course the letter completely overlooks the real advantages of tax treaties to the countries 

involved.

Now, the exchange of information is traditional in tax treaties. It 

exists even with countries that, I suppose, have citizens who might 

have the same concern, who would like to keep capital abroad.

I think if you talk to the French, you would find it is one of the 

problems tha t the French Government has always had. But we have 

traditionally had an exchange of information with France, and no one 

has ever complained about it.

We have an exchange of information clause with all treaty countries. The exchange of information is designed to facilitate the legitimate revenue activities of countries. In other words, we like to know 

which of our American citizens have income abroad. Any government 

would like to know that. It is proper and in the interests of avoiding 

worldwide tax avoidance.

The exchange of information proceeds largely in a sense on an automatic basis, where the information is available.

In connection with the French treaty, we would automatically give 

information to France on the payments leaving the United States to 

French addressees, dividends, interest, royalties, and the like; we automatically send them that information and they automatically send 

that information to us. We do not supply such information on U.S. 

citizens; just, on money going to persons with a French address who 

are not U.S. citizens.

Now, beyond that, if France wanted special information from us we 

would want to know why they wanted special information. They 

would have to give us the reason.

If the French or any government would say to us, “Will you please 

give us the tax return of John Jones and tell us what is in his tax return,’' we would say, “No.”

Senator Bell. I would hope so.
4S

Mr. Surrey. We would say, “W hy are you intere ste d in th at tax 

return ?”

Now, they may go on to say t ha t Jo hn Jon es ha s claim ed th at he has 

paid a certain amount, or som ething of th at natur e, and, “W ha t can 

you tell us ab out w hether he has pa id a certa in am ount.’’

We are very carefu l. Fo r mo st c ountries we get no more, I would say, 

than two or thr ee requ ests a ye ar fo r th at kind of inf orma tio n.

FOREIGN INVE STME NT IN TH E UN ITED STATES

Could I just add a word on bala nce of paym ents? Th e I 'n ited States 

is not actively seeking investment fro m less developed countries in the 

Un ited Sta tes . W e do not make it a goal of national policy th at Bra zilians invest in the Un ite d State s, an d you can well un de rstand and 

sym pat hize with our position.

So th at, conseque ntly, if, even if, a trea ty were to res ult in some 

capit al leavin g from the Un ite d State s, th at wou ld be ju st o ne of the 

bypro ducts of a reg ula r policy, jus t as, w hen t he Congress removed th e 

exemption from intere st on ban k deposits in the Un ite d Sta tes . The 

Ways and Means Com mittee thou gh t th at the re sho uld be a rat ional 

tax ation o f bank deposits and if th at resulted in less dep osits from 

less developed countries, th at was all rig ht.

I th ink, in the n atu re of things , Se nator , these pro vision s do not dis ­

courage any investme nts. You tend to find the investment gets ch an ­

neled to th e Un ited State s, but it comes in a different way. It may come 

throug h Sw itz erl and ra th er th an dir ectly f rom a f ore ign c ountry.

Se na tor P ell. But all thing s bein g equa l, and agree ing wi th you 

that we do not want to enc ourage Brazilians to invest in dev eloped nations, if they are going t o have their money outside of Brazil, 

we wou ld just as soon it be in the Un ite d State s as in Sw itz erl and, 

would we not ?

Mr. Surrey. Yes ; but what I am say ing is if it is in the Un ite d 

States it may remain h ere by way o f a third country.

Fo r example, let me ill us tra te in anoth er way, since you are in te rested in the point. We gran ted by tre aty very fav ora ble tre atm en t to 

income goi ng to the Ne the rlands Antilles. The Ne therlan ds A nti lles is 

a tax haven country or was a tax haven country fo r the res t of the 

wo rld , and Latin Americ ans, people from other natio ns, who des ired 

to invest in the Un ited States inve sted throug h the Ne therl ands A ntill es because it was the cheapest way taxwise.

We had lowered our rates of tax to 15 percent for div ide nd incom e 

going to a Ne the rlands An tilles address. Th ere were Ne therl ands A ntilles addresses but they were just makew eights for investments in the 

Un ited State s by Latin Am eric ans and oth ers th ro ug h the Nethe rlan ds Antilles .

We tho ught th at was im proper and in a protocol wi th the Nethe rlan ds we said we will not pro vid e our lowered rat es o f tax, exc ept to 

people who are reside nts of the Ne the rla nds or the Ne the rla nds Antille s. There was a lot of ta lk th at th is would res ult in a great disin ­

vestment in the Un ite d St ates an d the like. The protocol was ap pro ved 

and th ere was no dis inv estment in the U nited States.
49

BRAZI LIA N FUNDS IN T H E U N IT E D STAT ES

Senator P ell. I would like to continue more specifically on the point 

I am raising with respect to article 25 of the Brazilian Tax Convention.

Do you have any estimate of the amount of Brazilian funds in the 

United States, or if you cannot tell me now. will you supply that for 

the record ?

Mr. Surrey. I cannot estimate the amout of funds in the United 

States if those Brazilian fu nds are held in Swiss hanks.

Senator P ell. I see, coming in through Switzerland ?

Mr. Surrey. My best estimate is that a large part may be so invested 

and if so I cannot estimate that. All we would know is they are Swiss 

addresses.

In other words, there are two questions. What do people want? Most 

of all I think they would like to have their money in the United States. 

You can earn a lot on investments in the United States, and you always 

cannot earn it so well in the rest of the world. So, consequently, they 

want their money in the United States for investment and safety, and 

then they want secrecy, too. Both can be accomplished today.

We would not want to give them preferred rates of tax. and if they 

openly have Brazilian addresses, we think that Brazil, as a country desiring to stabilize its revenue system, is entitled to information.

TA X CO N VEN TIO N W IT H SW IT ZE RL AN D

Senator Pell. We do not have any tax convention of this sort with 

Switzerland and Liechtenstein ?

Mr. Surrey. We have with Switzerland, yes.

Senator P ell. With a provision for the exchange of information like 

article 25?

Mr. Surrey. Yes. Now, the information might not be the most informative. In other words, all we may know is that dividends have 

been paid to such and such a Swiss bank.

Senator P ell. You mean a numbered Swiss account under international law, because under international law the convention would 

prevail, and they would be obligated to furnish you this information ? 

Certainly not.

Mr. Surrey. Switzerland, if it pays income to an American addressee, we can get that informat ion.

Senator Pell. What ?

Mr. Surrey. That is right. I will check that and make sure of it, but 

that is my understanding.

Senator P ell. Excuse me, would you repeat that so that I may 

understand it?

Mr. Surrey. I think it would work this w ay: I f a Swiss corporation 

makes a direct payment to an American stockholder, we would get 

that information. If a payment of interest on a Swiss bond to an 

American holder were made we would get that information. If there 

were a payment of capital out of a Swiss bank account we would not 

get that information. We would not get information on a payment of 

income to a Swiss bank account.
50

Senator Peel. Let me be. perhaps, more practical. I f some securities 

were held in the name of a numbered Swiss account, and they received a dividend, would you receive tha t information?

Mr. Surrey. Not of a Swiss bank account, no, we could not.

Senator Pell. That is the point I'm driving at. But under th is kind 

of a convention, if you had this kind of agreement with Switzerland, 

you would receive the information if you asked for it ?

Mr. Surrey. No. I do not think so, because the income payment has 

been made to a Swiss numbered account. After that then it is a payment—in other words, let me put it this way: Let us suppose you have 

an account with a U.S. bank, and you have asked that bank to act as 

a custodian for you, and that U.S. bank has received dividends from 

abroad.

Now, we get information that dividends have gone to the Chase 

Manhattan Bank, if that is the account you use. The British would tell 

us that, the Swiss would tell us that.

But what happens thereafter when that payment is made by Chase 

to somebody else that is not a payment of income, that is just a payment out of the account.

EFFECT OF ARTICLE 2 5 OF BRAZIL TREA TY

Senator Pell. Let me try to rephrase my question. If the Brazil 

treaty is approved, what change in information procedures will come 

into effect under article 25 from the viewpoint of the United States 

vis-a-vis the Brazilian authorities?

Mr. Surrey. If payment is made by an American corporation to a 

Brazilian address, and it is not to a U.S. citizen, we would send that 

information to Brazil the way we send it to any other country.

Senator Pell. But if the Brazilian Government, under this treaty, 

asked for information concerning General So and So on what dividends have gone into his account in a certain bank, wouldn't you, 

under this treaty, be obligated to reply ?

Mr. Surrey. No. We probably would not even know it. In other 

words, let us assume that General So and So had a Swiss bank account.

Senator P ell. No; let's say he has a regular account in, for instance, 

the Chase Manhattan Bank.

Mr. Surrey. Who is the addressee?

Senator P ell. The addressee is the Brazilian General.

Mr. Surrey. If he has an account in his own name-----

Senator Pell. In his own name in the Chase Manhattan Bank 

that he stashed away in case the government changed abruptly, would 

you have to report it ?

Mr. Surrey. Not if stashed away.

Senator Pell. No, but stashed away dividends coming in.

Mr. Surrey. If interest is paid.

Senator Pell. Rig ht: if interest or dividends are paid.

Mr. Surrey. Yes; if interest or dividends are paid by the Chase 

Bank to a Brazilian address and it is not to a U.S. citizen.

Senator Pell. I think this is like becoming a bit of an international 

“Big Brother,” is it not '?

Mr. Surrey. Well, let me give you the title of a tax convention. 

All our conventions are approved by this committee, and the treaty 

generally starts “A Convention between the United States of Amer-
51

ica” and the foreign country “for the avoidance of double taxation 

and the prevention of fiscal evasion.” This is one of the purposes of 

all our conventions, whether or not all have the same title. The treaty 

world works both ways. It says we shall, the two governments shall, 

get together to relieve their citizens of double taxation and the two 

governments shall get together to prevent fiscal evasion.

I think tha t is appropria te, so that I would say from the very 

start of this whole thing these treaties have had this double-barreled 

purpose, which has been recognized throughout.

Now, there are a great many benefits t hat flow from these treaties 

to taxpayers who want to conduct their commercial relations, their 

industrial relations, th eir business relations in other parts of the world, 

and they get many benefits.

The counterpart is those who want to avoid the laws of their 

countries do not get benefits.

Senator Pell. Tha nk you.

The Chairman. Is there anything further on the French treaty 

you wish to say ?

Mr. Surrey. I do not think so, Senator.

W IT H H O L D IN G RA TE S UNDE R FR E N C H TR EA TY

The Chairman. I wanted to ask one question, although I do not 

know tha t it is very significant. You said the treaty would reduce the 

amount withheld by the French on a payment by a French subsidiary 

of an American corporation. IIow does that compare to the withholding 

of a payment by a French corporation to a private American stockholder? Supposing I own a share of stock in a French company, do 

they withhold, and if so. how much?

Mr. Surrey. Their normal withholding rate is 25 percent. Under 

this treaty, and as under the past treaty, the rate is 15 percent.

The Chairman. 15 percent. When a French subsidiary pays to an 

American parent it is now reduced to 5 percent ?

Mr. Surrey. It is now reduced to 5. In all these treaties generally 

you will find tha t in many cases the rate of tax between the parent 

and subsidiary is lower than the so-called rate of tax on portfolio 

investment.

The Chairman. That is normal.

Mr. Surrey. Yes; th at is normal.

There is still another tax to be paid when the American corporation 

distributes to its shareholders.

RU LE S GO VE RN IN G IN SU R A N C E COM PA NIE S IN FREN CH TR EA TY

The Chairman. There is one other question. There are special rules 

for determining when an insurance company will be considered as 

having a permanent establishment in a country. W hat are these rules 

and who proposed their inclusion in the French treaty ?

Mr. Surrey. As I recall, the treaty with France deals with the difficult question of activities by American insurance companies reinsuring French risks, and the treaty indicates that such American insurance companies will not be subject to tax in France.

The Chairman. Not be subject ?

Mr. Surrey. Not be subject.
The Ciiairman. That is the purpose of it ?

Mr. Surrey. That is the purpose of it.

The Chairman. And that was inspired by the American Government ?

Mr. Surrey. It is a clause which we think is appropriate, and the 

French, already having extended that clause in a treaty with another 

country, we thought it appropriate to extend it to the U.S., and the 

French had no objections.

PROB LEMS W IT H U.S. DOMESTIC TAXES

The Chairman. I believe there have been problems with the French 

regarding the taxing of French airlines or shipping companies by 

individual states in the United States, is that correct? I think the 

notes accompanying the treaty indicate that.

Mr. Surrey. The French thought that there conceivably might be 

problems in that regard.

The Chairman. I thought there already had been. Haven’t there 

already been problems of tha t kind ?

Mr. Surrey. I am advised that as far as we know, we did not have 

them, there may have been problems tha t arose at one time with some 

other countries, but we do not recall those problems with the French. 

The French delegation, maybe they had experienced some problems, 

and they asked that the tre aty extend directly to state and local taxes.

We had said that in most cases, most of our state and local governments really do not intend to extend their jurisdiction and, consequently, the matter would be discussed if it ever did arise, and it was 

unnecessary to put a direct limitation on the state and local governments within the treaty.

So that, consequently, I think, I suppose it would be f air to say, we 

persuaded the French not to be overly concerned on tha t matter and 

not to include a direct clause in the treaty.

The Chairman. I see. So you are not worried about that ?

Mr. Surrey. Not so far yet. We do not have any particular concern. 

RA TIF ICA TIO N OF TREATIE S URGED

The Chairman. Do you have anything else to say ?

Mr. Surrey. No; except other than to urge that this treaty be ra tified as soon as possible, since having been ratified by the French Government, and since the tre aty is in our interests, it would be helpful if 

it could come into effect. In a rough sense we are losing a very small 

amount of revenue, the longer it takes to ratify this treaty.

The Chairman. II as the Philippine Treaty been ratified by the Philippines ?

Mr. Surrey. No. I think they are in the same position as we are of 

urging the ratification at this session of their legislature.

The Chairman. I see.

Mr. S urrey. The President of the Philippines said he would do so.

The Chairman. I see.

Thank you very much, Mr. Surrey.

The next witness is Mitchell B. Carroll of Xew York City.
53

STATEMENT OF MITCHELL B. CARROLL, ATTORNEY AT LAW, 

NE W YORK CITY

Mr. Carroll. Mr. Chairman and Senator Sparkman, I am Mitchell 

B. Carroll, an attorney in New York City. It has been very interesting 

to me to hear Mr. Surrey speak about the tre aty with France because 

back in 1930 we had the negotiation of our first treaty with France, 

and 1 happen to have been one of the negotiators. It is appropriate to 

bring it up at the present time, not with regard to anything that 

France is doing at the present time that is contrary to what has happened in the past, but because in this treaty with France there is a 

clause that has apparently been used as a model in arriving at a reciprocal clause in the treaty with Brazil in which Senator Sparkman 

is interested.

TA XIN G JU R IS D IC TIO N

The reason I am bringing it up is because, as we read the treaty with 

Brazil, the United States is to share with the Brazilian Government 

its jurisdiction in collecting taxes from dividends paid by American 

corporations.

In other words, under the treaty with Brazil, if an American corporation has a permanent establishment in Brazil, and derives 85 percent 

of its income from sources in Brazil, Brazil is given the right, so it 

appears, to collect a tax on the dividends distributed in the United 

States to American shareholders.

Now, the very purpose of our first treaty with France was to prevent 

an incursion into our tax jurisdiction in the United States by France. 

The French dividend tax tha t had been designed to reach foreign 

corporations with branches in France had been extended to apply to 

foreign corporations with subsidiaries in France. The French officials 

applied it on such a large scale th at the amounts became considerable, 

so considerable, that pressure was brought upon the Treasury and the 

State Department to sent representatives to France to solve the problem. I happened to have been one of those who was sent to France, and 

we solved it by gettin g the French to agree to withdraw their fiscal 

arm from the United States and apply their taxes only on a territorial 

basis.

In the case of an American corporation with a subsidiary in France 

they would apply the tax on dividends distributed by the French 

company, and on any amount they could prove had been diverted 

from the French subsidiary to the American parent. I do not know 

of any case where that has been done.

In the case of an American corporation with a branch in France 

there was, first, the profit tax, and then the dividend tax on presumed 

dividends equal to three-fourths of the profits realized by the branch.

In this treaty of 1967 those same basic ideas are preserved: that is to 

say, France does not reach out to tax a parent company in the United 

States either on dividends that it distributes or on profits or anything 

of the kind. It limits its jurisdiction territorially.

TAXIN G A U TH O RIT Y UNDE R BR AZ IL TR EA TY

Now, we do not understand, Mr. Chairman, why Brazil should be 

authorized under the proposed treaty to impose a tax on dividends dis-
54

tributed in the United States by American corporations to their American shareholders in this country. I think that in the interest of sound 

international tax law th at should be abandoned for two reasons, very 

important reasons.

The Chairman. Would you illustrate specifically how that works? 

How does Brazil impose a tax on an American corporation distrib uting income to its American shareholders having no connection with or 

being in Brazil ?

Mr. Carroll. Well, it is in the treaty. In the first place, article 5(b) 

says, in substance, that dividends paid by a U.S. corporation shall be 

treated as income from Brazil if the American corporation has a permanent establishment in Brazil and derives more than 85 percent of 

its gross income from sources in Brazil.

The Chairman. I see.

Mr. Carroll. Then you turn over to a later article-----

The Chairman. What is the difference between that and taxin g the 

permanent establishment in Brazil the same amount ?

Mr. Carroll. Under the Brazilian law today, the ta x administration 

of that country first subjects a branch or a permanent establishment in 

Brazil of an American company to a profits tax, and then to a dividend tax on the part of the profits earned in Brazil that are credited to 

a head office in the United States.

Now, the language of this treaty apparently says tha t dividends 

distributed by the American company itself in the United States shall 

be treated as income from sources in Brazil. Then you turn over to 

another article, and it seems to indicate that Brazil will have a right 

to collect taxes on that distribution in the United States. In other 

words, under Brazilian law as it is today, the levy is purely territo rial, 

imposed by Brazil on dividends distributed in Brazil or profits of a 

branch in Brazil of an American corporation.

But apparently under the trea ty they would give the jurisdiction 

to Brazil to impose the tax in the United States.

EXTR ATERRITORIAL PRO VISION IN FR EN CH TREATY

The Chairman. Mr. Carroll, were you primarily to testify against 

the Brazilian treaty or were you interested in the Philippine treaty?

Mr. Carroll. No. I was going to speak about the French treaty, 

but I got into the subject of the treaty with Brazil because of the way 

in which the French treaty unilaterally recognizes the right of the 

United States to collect a tax on dividends distributed in France by 

French companies, and the power to tax is being applied reciprocally 

in the treaty with Brazil.

As far as the treaty with France is concerned, except for this extraterritorial provision which provides this dangerous precedent for the 

treaty with Brazil, we think it should be ratified and approved.

The Chairman. I)o you have a reservation to propose?

Mr. Carroll. Yes. The reservation would be to eliminate these 

extraterritorial provisions to which I have alluded.

The Chairman. Have you a specific proposal to submit for the 

record ?

Mr. Carroll. Yes. Here is a document, if I may submit it for flic 

record.
The Chairman. That will be printed in the record. 

(The prepared statement of Mr. Carroll follows:)

Sta teme nt on th e I ncome T ax Conven tion Wit h F rance of J uly 28, 1967, 

P resent ed by Mitch el l B. Carroll*

Am er ic an co rp ora tions w ith Fre nch su bsi dia ri es wo uld we lco me th e pr om pt 

ra tifi ca tion of th e Inco me T ax Con ve ntio n w ith Fra nc e, sign ed Ju ly 28, 1967, 

in ord er th a t th ey may be ne fit fr om th e re du ct io n from 15 per ce nt to 5 pe rcen t 

in th e Fre nch ta x w ithhe ld from div id en ds (A rt. 9 ( 2 ) ( b ) ) an d also from oth er 

pr ov isions .

By way of ex ce pt ion, ho wev er, th e att enti on of th e Com m itt ee is dr aw n to 

cert ain pr ov is io ns which depart fr om th e ge ne ra lly ac ce pted pr in ci pl e of te rrito ri ali ty of ju ri sd ic ti on ov er inco me from so ur ce s in on e co un try de riv ed by 

ta xpayers re si dent in th e oth er . T his pr in ci pl e has been sc ru pu lo us ly obser ved 

by th e U ni te d S ta te s sin ce it w as e mbo died in th e firs t tr eaty w ith Fra nc e, sig ned 

A pr il 27, 1932, as we ll as in th e tw en ty -o ne oth er ge ne ra l inc om e ta x co nv en tio ns 

to which th e U ni te d S ta te s is a P a rt y and th e re ce nt ly ra tifi ed lim ite d tr eaty 

w ith T ri nid ad and To bago.

The pr ovi si on s ba nni ng th e e x tr a te rri to ri a l ap pl ic at io n of th e Fr en ch ta x on 

di vi de nd s dis tr ib ute d by Amer ican co rp or at io ns to U.S. sh ar eh old er s, wh ich we re 

ad op te d in 1932, w er e co nt in ue d in th e second co nv en tio n sign ed Ju ly 25, 193!). 

Thi s co nv en tio n, as am en de d, is st il l in fo rc e but it will be su pe rs ed ed by the 

1967 co nv en tio n if i t is ra tified .

The ob je ct io na bl e pr ov isio ns in th e 1967 co nv en tio n are art ic le s 9 (4 ) (b ) an d 

13 (1 ) (a ) which pr ov id e fo r th e ac ce pt an ce by F ra nce of th e U.S. defin ition 

of so ur ce to in cl ud e di vi de nd s dis tr ib ute d by a Fre nch co mpa ny to Fre nc h re si ­

de nt s an d co rp or at io ns, pr ov id in g th a t th e Fre nc h co mpa ny de rive s 80 pe rcen t 

of it s gr os s income th ro ugh a pe rm an en t es ta blish m en t in th e United Sta te s 

duri ng a pr es cr ib ed 3- ye ar pe rio d. The sco pe of IR C 861 (a ) (2 ) (B ) is th us 

narr ow ed but th e in here nt e x tr a te rri to ri a l ex er ci se of ju ri sd ic ti on is th e sam e.

Thi s m ay see m to be unim port ant be ca us e th e ex tr a te rri to ri a l ta x is th e U.S. 

ta x on di vi de nd s pa id by a Fre nc h co rp ora tion to re si den ts of Fra nce . It is not 

kn ow n w heth er th e Fre nc h go ve rn m en t has bee n aw are of th is in cu rs io n into its 

ju ri sd ic ti on. Th e tr e a ty nar ro w s th e sco pe of th e liab ility th a t co uld ha ve been 

ass ert ed under Se cti on 861 (a ) (2 ) (B ) itse lf. How ev er, th e pri m ar y reas on fo r 

us to ob je ct is th a t th is unil ate ra l conc essio n by F ra nce has been broa de ne d into 

bil ate ra l co nc es sion s to allo w one co un tr y to co lle ct ta xes in th e te rr it ory of 

th e oth er in th e tr eaty w ith B ra zi l of M arch 13. 1967. Thi s mea ns th a t Bra zil is 

th u s auth ori zed by tr eaty , under cert ain co nd iti on s, to ta x di vi de nd s dis trib ute d 

by a U ni te d S ta te s co rp or at io n to U.S . sh ar eh ol de rs .

Th e tr e a ty w ith B ra zi l w as th e su bje ct of a hear in g be fo re th is Co mmittee 

on Octo be r 5, 1967, bu t has no t ye t be en a pp rove d. It is re por te d th a t th e T re as ury 

ex pe ct s to us e it as a mo del fo r tr eati es w ith A rg en tina an d oth er les s develop ed 

co un trie s. Rec og nitio n by tr eaty of th e ju ri sd ic ti on of fo re ig n go ve rn m en ts to 

lev y a di vi de nd ta x on pr of its be fore or aft e r dis tr ib uti on by a U.S. pare nt com ­

pa ny w ith a su bsi dia ry or bra nc h in th e ta xin g st ate wo uld te nd to disc ou ra ge 

th e pr om ot io n abro ad of American ex port s or oth er ty pe s of bu sine ss.

Hen ce, it is ur ge d th a t th e Se na te de lete by mea ns of a re se rv at io n, th es e pr ovision s fo r e x tr a te rri to ri a l ta xati on, na mely. A rtic les 9 (4 ) (b ) and 13 (1 ) (a ) 

of th e pe nd in g tr e a ty w ith Fra nc e. F o r si m il ar re as on s it sh ou ld de lete A rti cles 

5 (1 ) (b ) and 12 (6 ) of th e tr eaty w ith Brazil.

extr aterrit oria l pro vision s in french treaty

More sp ec ifica lly , under th e In te rn al Re ve nu e Code, th e U ni ted S ta te s reac he s 

in to th e te rr it o ry of F ra nce to ta x di vi de nd s dis tr ib ute d in F ra nce to re side nt 

ta xpayers , by a Fre nch co rp or at io n which de riv es 50 pe rc en t or mor e of it s gros s 

incom e ov er a pr es cr ib ed 3-ye ar pe riod fro m U.S. so ur ce s (I R C Sec. 861 (a ) 

(2 ) (B ). T his pr ov isio n in th e Code is na rr ow ed so m ew ha t by th e Fr en ch 

tr eaty in A rtic le 9 (4 ) (b ) which de em s divi de nd s pa id by a Fre nc h co mpa ny to 

be fr om U.S . sour ce s if such co mpa ny ha d a per m an en t es ta blish m en t in th e 

U ni ted S ta te s to which mor e th an 80 per ce nt of it s gr os s inco me w as ta xab le 

duri ng th e pr es cr ib ed 3- ye ar perio d. D iv iden ds “fr om U.S. so ur ce s” (tho ug h dis ­

tr ib ute d by a Fre nc h co rp ora tion) whi ch are p ai d to a re si den t of F ra nce a re sub-

•Counsel, Coudert Brothers, New York.
56

je ct to w ith ho ld in g of ta x by th e co rp ora tion which dis tr ib ute s them . T his ta x 

is lim ited by th e tr eaty to th e ra te of 15 pe rc en t in ge ne ra l, or of 5 pe rc en t if th e 

re ci pi en t is a Fr en ch co rp or at io n ow ning a t le as t 10 pe rc en t of th e vo tin g sto ck 

of th e pa yi ng co rp or at io n and if cert ain oth er re qui re m en ts are met. The United 

Sta te s wou ld lev y th is ta x, in additio n to th e Fed er al co rp or at io n ta x of up to 

48 pe rc en t on th e incom e of th e fo re ig n co rp or at io n ta xab le a t th e per m an en t 

es ta blish m en t in the U nited St at es . It is do ub tful th a t th is li ab ility to U.S. ta xes 

un de r th e tr eaty wo uld pr ec lu de th e co lle cti on by Fra nce of its ta xes on th e dis ­

tr ib ute d incom e of a Fre nc h co mp an y.

The liab ility of th e re ci pi en t in F ra nce of di vi de nd s from a Fre nc h comp an y 

is confirm ed in Arti cle 13 (1 ) (a ) whi ch sa ys th a t di vi de nd s pai d by a Fre nc h 

co rp ora tion to a pe rson ot he r th an a citiz en , re side nt , or c or po ra tion of th e United 

S ta te s— whic h obvio usly en visa ge s a citiz en , re si de nt or co rp ora tion of Fra nce — 

sh al l be ex em pt fro m ta x by th e U ni te d S ta te s un less su ch Fre nch co rp or at io n 

ha d a pe rm an en t es ta blish m en t in th e U ni ted S ta te s to which more th an 80 per ­

ce nt of its gros s incom e w as ta xable f or th e p re sc ribe d 3- ye ar pe rio d.

In oth er wo rds , th e U.S. co lle cts ta x ex tr ate rr it o ri all y on di vi de nd s dis tr ib ute d 

by a Fre nc h co mp any be ca us e th ey are de em ed to be from U.S. sources.

EXTRATERRITORIAL TAXA TION UNDER TH E TREATY W IT H BRAZIL

Befor e th e 1967 tr eaty w ith F ra nce w as co mp let ed , ne gotiat io ns were be gu n 

w ith Br az il. Th e pr ov isions auth ori zin g th e U ni ted S ta te s to ta x divi de nd s pai d 

in Fra nce by a Fre nc h co mpa ny se rv ed as a mo del fo r a re ci pr oc al pr ov ision in 

th e tr eaty betw een Bra zi l an d th e U ni te d Sta te s, in A rtic le s 5(1 ) (b ) an d 12(6 ). 

Con sequ en tly , divi de nd s dis tr ib ute d by an American cor po ra tion to U.S. ci tize ns 

an d co rp or at io ns m ay be tr eate d a s inc om e f ro m sour ce s in B ra zi l (A rt. 5(1 ) (b ) ). 

A pp ar en tly they ma y be ta xe d by B ra zi l if th e U.S. co rp ora tion has a pe rm an en t 

es ta bl is hm en t in Bra zi l an d de rive s more th an 85 pe rc en t of i ts g ro ss inco me f ro m 

so ur ce s w ith in th a t co un try duri ng th e pr es cr ib ed 3-.vear pe rio d. (A rt. 1 2 (6 )) . 

Lia bi lity also ex is ts if th e re ci pi en t of th e divi de nd has a pe rm an en t est abli sh ­

men t in Brazil w ith which th e divi de nd s are eff ectiv ely co nn ected . (A rt. 1 2 (6 )) . 

T his co ncept was ev id en tly ad ded a ft e r th e en ac tm en t of th e Fo re ig n In ves to rs 

T ax Act on No vemb er 13,196 6.

The with ho ld in g ta x of 28 pe rc en t colle cte d by B ra zi l is lim ited by th e tr eaty 

to 20 pe rc en t i f cert ain c on ditio ns a re m et. (A rt. 1 2 (3 )).

If th is auth ori za tion is gra nte d in a fo rm al tr eaty , an d if th is tr eaty is to serv e 

as a mod el fo r tr eati es w ith oth er les s de velop ed co untr ie s— it may be difficult, 

if no t im possible , tech ni ca lly to ob ject ag ain st th e lev y by a fo reign co un try of 

it s ta xes in tin* United S ta te s on incom e dis tr ib ute d by a U.S. co rp or at io n beca us e of deem ing th e incom e to be fro m so ur ce s in th e ta xin g st at e.

Hence , it is ur ge d th at th is Co mmitt ee de lete th es e pr ov isio ns on e x tr a te rrito ri al ta xat io n fro m th e tr e a ty w ith Fra nce a nd B ra zi l by m ea ns o f a re se rv at io n 

or othe rw ise an d de no un ce th e in co rp or at io n of such pr ov isio ns in fu tu re conve ntions .

EXTRATERRITORIAL TAXATION BANNED IN 17 U.S. TREATIES

In resp on se to th e ob jections of C an ad a in 1942, th e U ni ted S ta te s has ex ­

pr es sly reno un ce d th e ta x ati o n of divi de nd s dis tr ib ute d by C an ad ia n co mpa nies 

to re si de nt s of Ca na da .

I t ha s lik ew ise ex pr es sly reno un ce d su ch ta xati on in 16 su bs eq ue nt co nv ention s w ith th e United King do m, N et her la nd s, New Zea land , Be lgi um , Ir el an d, 

Norwa y, Gre ece , Sw itz er land , Fin la nd , A ust ra lia, German y, It aly , A ust ri a, P ak ­

is ta n, Lu xe mbo urg, an d th e la te st w ith T ri nid ad and Tobago. Th e la st men tio ne d 

w as ra tified la st De cemb er while th e tr eati es w ith F ra nce a nd Bra zi l wer e be fore 

th e Co mm itte e. Such wide ac ce pt an ce m ak es it a ba sic pr in cipl e of in te rn ati onal 

ta x law .

Fur th er m ore , ex tr ate rr it o ri al ta xati on by fo re ign go ve rn m en ts of U.S. citize ns 

and co rp or at io ns com es w ithi n th e pu rv ie w of Sec. 891 I.R .C., which auth ori ze s 

th e Pre si de nt , when he fin ds th a t su ch ta x ati o n ex is ts, to re ta li ate by do ub lin g 

th e ra te o f ta x on inc om e from U.S. so ur ce s flowing to th e tax payers o f th e offend ­

ing c ou nt ry , su bj ec t to a max im um r a te of 80 p erce nt.

To re ca pitula te , in 1932, th e U ni te d S ta te s pre va iled up on Fra nce to re fr ain 

from ex te nd in g its fis cal ar m in to th e U ni te d S ta te s an d ta xin g divi de nd s dis ­

tr ib ute d by Amer ican co rp or at io ns to it s A m er ic an sh ar eh ol de rs . In st ea d, 

Fra nce ag re ed to su bje ct to di vi de nd ta x only pro fits dis trib ute d or pr ov ed to
d i

have been diverted by a French subsidiary to its American parent, and a proportion of profits realized by a bran ch th at w as deemed to have been distrib uted to 

the American corporation.

In 1942 the United Sta tes responded to the pro test of Canada and formally 

renounced in its treaty with th at country the tax ation of dividends and intere st 

paid by Canadian corporations to residents of Canada. This form al restriction 

on its power to tax has been repeated in 16 out of the 22 tax treaties to which 

the United State s is a party.

In 1967, while requiring France to continue to levy its dividend tax te rritoria lly, i.e. only on actual or deemed distrib utions in France, the United States 

prevailed upon France to permit it to tax under cer tain conditions dividends 

distrib uted by French companies to residents of Fran ce. Also in 1967, while requiring Brazil to let it tax under certain conditions dividends distributed in 

Brazil, it agrees to let Bra zil reach into the United States and tax dividends 

distrib uted by American corp orations to American shareholders even though it 

taxes them itself.

As this treaty w ith Brazil is said to set th e T rea sur y’s patte rn fo r tr eatie s w ith 

less developed countries, does thi s Committee intend to share the jurisdictio n of 

the United States over taxes on U.S. citizens and corpo rations deriving dividends 

from American corp orations wfith an increasing number of foreig n tax administrations?

DISCRIM INATORY TAXATION

A United States corp oration with a branch in France is subject there to tax on 

its profits at th e ra te of 50 percent, and then to the dividend tax a t the rate of 15 

perc ent on % of wh at remains. On the con trary, the U.S. corporation would be 

subject to withholding of only 5 perce nt from dividends distrib uted by a French 

subsidiary, say to the extent of % of w hat remains after paym ent of the French 

company tax of 50% (Art. 13(2) ( a ) ).

This discrimination in rate again st branches of U.S. corporations has not 

been explained. The fact th at it is discriminatory is acknowledged in Article 24, 

which first prohibits discrim ination against U.S. residents in par. (1), and in 

par. (2) aga inst a permanen t e stab lishmen t in France of a U.S. resident. It then 

says th at t his p ara gra ph must not be co nstrued to prevent Fra nce from taxing a 

branch of a U.S. re sident as provided in Art. 13(2) (a ), nor to preve nt the United 

Sta tes from imposing a comparable burden on the income of a perm anent establishmen t in the United States belonging to a re sident of France.

In oth er words, Fra nce may contin ue to discriminate and the United States 

may disc riminate in re tu rn ! It is hard to believe th at the United States would 

condone the violation of a tre aty clause aga inst discrimination by authorizing 

the United States to re sor t to com parable discrim ination !

It is recommended th at the discrimination be removed by making the reduced 

rate of 5 percent for dividends from a subsidiary applicable also to the net 

income of a branch which is deemed to be distrib uted to the U.S. parent (Art. 

13(2) (a )) and (5). The fac t that this can be done is shown in the convention 

with Trinidad and Tobago, signed December 22, 1966, which reduces the rat e 

of 30 perce nt to 5 percent for both.

In any case, it is urged that a way be found to make these desirable changes 

so th at the treaties will conform to the general principle s embodied in the 21 

income tax tre ati es concluded by the United States with other governments and 

in those between other pairs of states. Presumably, this could be done by the 

adoption of an app rop riate reservation so as not to delay the approval of all 

the desirable articles in the convention, such as th at reducing the rate of tax 

with held from dividends p aid by a French subsidiary to a U.S. paren t corporation 

to 5 percen t (Art. 9(2) ( b )).

DIS CRIMINA TORY PROVISION IN FR EN CH TRE ATY

The Chairman. O ther than tha t you favor the French treaty?

Mr. Carroll. Yes. I would ju st like to comment on one discriminatory provision which is rather strange, and tha t is this: When we 

negotiated the Treaty of 1932 with France we provided for equality 

in treatment as between a branch of an American company there and 

a French subsidiary. The branch was to be treated as an independent
58

entity, and subjected to the same taxes as the subsidiary would be subjected to, although the tax on dividends would be measured on an 

arbitrary basis of a presumed distribution of three-fourths of the 

profits.

In the present treaty the same pattern is evidently followed except 

that the presumed distribution of the branch is to be two-thirds instead 

of three-fourths. The discriminatory element is found in the rate to 

be applied to the profits of the branch, which is to be 15 percent instead 

of 5 percent, the rate applicable to dividends distributed to an American parent by a French subsidiary corporation.

Apparently this difference in rate has led to a very anomalous 

provision in article 24 of the treaty which, in the first place, prohibits discrimination, and then says that, nevertheless, despite the 

clause against discrimination tha t France can apply a discriminatory 

rate against branches in France of American companies, and the 

United States may, in turn , apply a comparable discriminatory tax 

against branches in the United States of French companies.

It seems to us tha t it is contrary to the history of treaty-m aking 

to provide for such a strange exception to the concept of nondiscrimination. While we would not want the treaty with France to be held 

up for tha t reason, we do feel that, nevertheless, such a distortion of 

the concept of discrimination should be avoided in future treaties.

The Chairman. But you do not think it is serious enough to hold 

up the treaty?

Mr. Carroll. No. I would not hold the treaty up for that.

No, I think that the present treaty should certainly be ratified as 

soon as possible because a lot of corporations are exceedingly anxious 

to get the benefit of the reduced rate of 5 percent on upstream dividends from France.

The C hairman. Yes.

Mr. Carroll. But I thought it important at this juncture to bring 

out these other aspects because we have a treaty pending with Brazil, 

and the treaty with Brazil was supposed to serve as a model for 

treaties with other less developed countries. We felt it important tha t 

the somewhat serious deviations from sound principles should not be 

repeated in future negotiations.

The Chairman. Yes.

CONCEPT OF PERM ANENT ESTABLISHMENT— PH IL IPPINE TREATY

I )o you have anything to say about the Philippine treaty ?

Mr. Carroll. Yes, sir. Because of my general interest in sound 

principles of taxation, I would like to call your attention to many 

things that were said in the hearing on the trea ty with Thailand regarding the concept of permanent establishment that relate as well to 

the treaty with the Philippines.

As you know, the ITiited States has been participating first in the 

work of the League of Nations and then in the OECD in the development of sound principles of taxation. One of the most fundamental 

and important principles is the common concept of what constitutes 

a permanent establishment.

In other words, the two countries tha t are parties to treaties will 

not go chasing after the profit of every business relationship between
59

pers ons in th ei r respec tive cou ntries, bu t will tr y to rea ch the fo reig ner only when he has som eth ing permanent in the co un try th at 

pro vides a so und ba sis f or taxatio n.

I reg ret very mu ch to note in th is trea ty wi th the Ph ili pp ines t hat 

the re are two pro vis ion s in the re whi ch we th in k are dangero us de ­

pa rtu res fro m this dra ft c onv ention of the O EC D th at M r. Su rre y has 

alluded to wi th such respect. Th ey are the pro visions which wou ld 

pe rm it the Ph ili pp in es to pursu e the Am erican corporati on which 

is merely sec uri ng o rders regu larly t hrou gh a commission agent in the 

Ph ilipp ines or who has an agent of ind epe ndent sta tus who happens 

to act exclusively or almost e xclu sively for the Am erican c orp orati on.

We feel th at such a relatio ns hip ce rta inly is not enoug h substance in 

a country to co nstitute a permanent establ ishme nt. Pu rsui ng profit 

fro m such activ ities would be co ntrary to the basic concept of a pe rma nent estab lishm ent th at is fou nd in hu nd reds of tre aties between 

othe r countrie s as well as in tre ati es hither to adopted by the Un ite d 

Sta tes .

It would be very unw ise to appro ve such a de pa rtu re, and th at was 

thorou gh ly br ou gh t out in the heari ngs on the trea ty with Th ailand 

th at some kind of an u nd erstan ding w as rea ched and it would be well 

to reite rate th at un de rstand ing in connection wi th the Ph ili pp ine 

trea ty th at is now aw aitin g ratification.

DISTINCTIO N BETWEEN BRANCH AND COMMISSION AGENT

Th e Chairm an. Th e disti nc tio n there between a branch and commission a gent who acts exclus ively o r a lmo st e xclusively fo r an A merican corporati on is r at he r difficult to delineate precisely , is it not ? IIow 

would you p ropose to do it ?

Mr. Carroll. Goodness only knows, sir. Doubtless Mr. Su rre y could 

ex plain th at to you. Bu t th at is one of the rea sons why we did not 

feel th at any such vague concept sho uld be rega rd ed as a permanent 

establish men t; we feel th at in o rder to have such an establ ishme nt you 

should have some bri cks a nd m ortar, a n office, a pl ace of business whe re 

books are kept, and not just almo st an exclusive ag en t who might get 

an occasional o rder which he passes on to the Am eri can firm.

I rem emb er when th at he aring took plac e before th is committee in 

rega rd to the t re aty with T ha ila nd , a rep resentati ve o f one of o ur b ig 

co rporati on s said if all the countrie s to which th ey had age nts, who 

merely soli cite d orders and passed them on to the com pan y, star ted 

tryin g to tax this l arge A me rican corp orati on on the bas is of the pro fit 

presum ed to be derived on th at meager activ ity , wh y, the y wou ld ju st 

have to q uit doin g busine ss in those countries .

You will find all th at in the record o f the h ea rin gs o f the Th ailand 

tre aty.

Bu t in the inter est of dev elopment of sou nd in tern ationa l tax laws, 

I th in k the exceptions th at were expressed at th at tim e sho uld be reite rated at this time in the tre at y wi th the Ph ilipp ines.

Th e C hairman. An y questio ns, Senator S pa rk man ?

Se na tor Sparkman. Was there any modification or an y res erv ation 

made in th at t reaty?

Mr. Carroll. The T ha ila nd trea ty was not r atified.

Se na tor Sparkman. It w as n ot ratified.
60

Mr. Carroll. No.

Se nator Sparkman. Was ther e a s ugges tion th at there be a form of 

modific ation of th e tre aty or re servation or u nd ersta nd ing to it?

Mr. Carroll. I do not know. Mr. Su rre y can tell you. I un de rst an d 

th at the objections raised were influential because the definition on permanen t establishment in the trea ty with Bra zil was more alo ng the 

lines of t he OEC I) defin ition . Th is att em pt to broaden the concept of 

perm anent establ ishment, whi ch reache s alm ost an ything , was abandoned.

The Chair man. Wh en I asked M r. Su rre y a m ome nt ago, I d id not 

pursue it perha ps as long as I should have—how a d ist incti on is mad e 

between a branc h a nd an a gen t.

Mr. Carroll. Yes.

The Chairman. W ha t he did say led me to believe th at by a pe rma nent establ ishment he me ant som eth ing wi th an inv entor y and a 

showroom , and so forth . I did not think of pu rsu ing where the d ividin gl in e would be.

You say th at a rep res entat ive even witho ut any plac e of business 

would be covered un der the tre aty. Correct ?

Mr. Carroll. We ll, it says here, an agent of ind ependent sta tus , if 

he acts as an age nt exclusively or a lmost exclusively fo r an A merica n 

concern.

W ha t it mean s is alm ost impossible to imagine . You can not see it, 

you can not feel it. I t is too elusive a concept.

OECD D E FIN IT IO N OF PER M A N E N T E STA BLIS H M EN T

Th is question of where tax l iab ilitie s shall begin is one o f t he oldest 

and most studie d point s in internationa l tax law. 1 can recall in the 

early days they used to go af te r tra ve lin g salesmen, and I know one 

co un try th at even wen t af te r mail ord ers, tri ed to rea ch the profits o f 

a forei gn concern th at was selling in the c ountr y th ro ug h advertisin g 

in magaz ines and collecting orders in th at way fro m pers ons in the 

cou ntry.

Well, obviously , th at was utte rly impra ctical .

So in treaties, on the basis of rec iproci ty, cou ntries have given up 

tryi ng to pursue thes e evanescent and elusive bases o f tax ation. They 

mutua lly and rec iproca lly agree to tax the en ter prise of the othe r 

coun try only on som ething tang ible like an office o r shop or fac tory 

or som eth ing th at is th ere an d permanent and can be seen, a nd provides 

a basis for perm anent opera tio ns and for kee ping acco unts so th at 

you can determ ine a basis o f tax ati on. The OE CD , which is composed 

of the lead ing co untrie s o f t he w orld, inc lud ing th e Un ite d State s and 

Ca nada, have deve loped a very soun d definition of wh at con stitute s 

a perm anent estab lish men t. Th e Treasury h as been, in gen eral, follow ­

ing th at definitio n in rec ent tre ati es, and why they depa rte d fro m it 

in conn ection wi th Tha ila nd and the Ph ilipp ines I do not know.

But in the int ere st of a dev elopment of sound princ iples of in te rna tio na l tax law, we res pectf ull y urge t hat you re tu rn to the OE CD 

definition .

Th e C hairman. Tha nk you very much, M r. C arr oll .

Air. Carroll. Tha nk you, sir.
61

The Chairman. I think we will ask the Treasury to comment on 

your testimony and see if we can work out something.

(Comments submitted by the Treasury Department follo w:)

Mem or an du m Subm it te d by T re asu ry D ep artm en t in R es po nse to R eq ues t

by Ch a ir m a n F ulb rig ht Concernin g t h e P er m a nent E sta b lis h m en t an d

B ra nc h P rofi ts P rovis io ns of t h e P ropos ed T ax Conv en ti ons W it h F ra nc e

an d t h e P h il ip p in e s

PER M A N EN T E S TA B LIS H M E N T

As ex pl ai ne d in th e st ate m ent of A ss is ta nt Sec re ta ry Su rrey , a qu es tion ar os e 

co nc er ni ng th e appro pri ate in te rp re ta ti on of th e per m an en t es ta bl is hm en t art ic le 

of th e ta x co nv en tio n w ith T hai la nd a t th e tim e th a t he ar in gs were he ld on th a t 

co nv en tio n. Mr. H ea rn e, a re pre se nta ti ve of th e U.S. Stee l Cor po ratio n, ra is ed 

th es e qu es tio ns , but in re ali ty his in te re st w as w ith re sp ec t to th e Phi lipp in e 

tr eaty ra th e r th an th e T hail and tr eaty . W hile oth er part ie s did ex pr es s som e 

co nc ern , th eir co nc ern w as su bst an tial ly id en tica l to th a t of Mr. H ea rn e. A m ee ting w as su bs eq ue nt ly hel d be tw ee n Mr. H ea rn e an d re pre se nta tives o f th e T re asury wh ich re su lted in a le tt e r from Mr. H ear ne to Sen at or Go re, C ha irm an of the 

Su bc om m itt ee th a t co nd uc ted th e hea ri ng and also a le tt er fro m A ss is ta nt Se creta ry Sur re y to Mr. H earn e co nfirm ing T re asu ry ’s co nc ur re nc e in th e in te rp re ta ­

tio n of th e per m an en t es ta blish m en t art ic le as ex pr es se d in Mr. H earn e’s letter . 

A copy of th is co rres po nd en ce is a ttac hed .

Mr. H ea rn e in di ca te d a t th e m ee tin g an d in his le tt er th a t in ligh t of th e ex ­

pla nat io ns an d th e princ ip le s inte nd ed to be follo wed in su bs eq ue nt tr ea ti es, th e 

ob ject ions w hich h e h ad st ate d were elim in ated .

The lang ua ge which co nc erne d Mr. H ea rn e is in p ara gra phs 4(b ) an d 5 of the 

conv en tio n. P ara g ra p h 4 (b ) prov id ed th a t a co mpa ny sh al l be deem ed to ha ve a 

perm an en t es ta blish m en t if it en ga ge s in tr ad e or bu sine ss in th e oth er co un try 

th ro ug h an ag en t wh o re gu la rl y secu res or de rs in th e l a tt e r s ta te f or a re si den t of 

th e oth er co un try. P ara g ra p h 4 (b ) has been e lim in at ed f ro m th e prop osed B ra zilia n co nv en tio n and su bs eq ue nt d ra ft co nv en tio ns under disc us sion w ith oth er 

co un tries.

Furt her m ore , neit her th e B ra zil ia n co nv en tio n no r su bs eq ue nt d ra ft s co nt ai n 

th e la ng ua ge in para gra ph 5 of t he Phi lipp in e co nv en tio n pr ov id in g th a t an ag en t 

sh al l no t be co ns id ered in de pe nd en t (a nd if no t inde pe nd en t, po ssibly a per m anen t es ta bl is hm en t) if it acts ex clus ively or al m os t ex clus ively fo r a re la te d 

par ty . Mr. H ea rn e’s le tt er re flec ts his sa tisf ac tion w ith our in te rp re ta ti on of th e 

pr ov isions re la ti ng to a su bsi dia ry of a U.S. co mpa ny in th e co nt ex t of t he P hil ip ­

pi ne conv en tio n. How ev er, el im in at io n of th e ab ov e-men tio ne d lang ua ge in su bs equ en t tr eati es wou ld al le via te an y re m ai ni ng b as is f or Mr. H earn e’s co nc ern as to 

whe n a su bs id ia ry of a U.S. co mpa ny wo uld be co ns id er ed to be a per m an en t 

es ta bl is hm en t of i ts p ar en t.

W hile we ha ve an d will co nt in ue to us e th e OE CD mo del co nv en tio n as a gu ide 

in th e ne go tiat io n of ta x co nv en tio ns , it w as no t pre par ed w ith a vie w to w ar d its 

us e in co nn ec tio n w ith co nv en tio ns be tw ee n develop ed an d de ve loping co un tries. 

The United Natio ns Ec onom ic and So cia l Co uncil (E CO SO C) is pr es en tly st udying th e prob lem of ta x co nv en tio ns be tw ee n su ch co un tries. We are co op er at in g 

w ith ECOSOC in th is effo rt. In th e m ea nt im e, we b eli eve th a t man y of th e st an d ­

a rd OE CD pr ov isions ca n be ap pl ie d in su bs ta nc e to bo th de velop ed an d de ve loping co un tr ie s an d ou r tr eati es to date h av e been ne go tiat ed o n th a t ba sis .

BRANCH PR OFI TS

M an y co un tries, in cl ud in g F ra nce an d B ra zi l (b u t no t th e U ni ted S ta te s or 

th e P hil ip pin es ), ha ve a bra nch pr of its ta x, th a t is, a ta x on fo re ig n co rp or at io ns 

en ga ge d in bu sine ss in th e co unt ry , in ad di tion to th e re gula r co rp or at e ta x im ­

po sed on b oth fo re ig n and do mes tic co rp or atio ns . The u su al pu rp os e of t his t ax is 

to eq ua liz e th e ta x tr eatm en t of fo re ig ner s wh o do bu sine ss in a co un try th ro ugh 

a br an ch op er at io n w ith th os e who do bu sine ss th ro ugh a do mes tic co rp or at io n 

of th e ta x in g c ou nt ry . In th e ca se of a do mestic co rp or at io n a w ithh ol di ng t a x is 

us ua lly im po sed on th e pa ym en t of di vi de nd s to no nre si den t fo re ig ne rs . In lie u 

of im po sing su ch a w ith hol di ng ta x on th e divi de nd s pai d by a fo re ig n co rp ora ­

tio n, a ta x is im po sed on th e pr of its of th e br an ch as th ey are ea rn ed , in an ti cipat io n of th eir dis tr ib uti on as di vi de nd s by th e fo re ign co rp or at io n op er at in g 

th e br an ch .
62

The U ni ted S ta te s do es no t im po se a bra nch pr of its ta x. How ev er, und er th e 

In te rn al Re ve nu e Code a ta x is im po sed b.v the U ni ted S ta te s on d ivid en ds p ai d by 

fo re ign co rp or at io ns enga ge d in tr ad e or bu sine ss in th e U ni ted S ta te s th a t ear n 

50 pe rc en t or m ore of t h eir p ro fits h ere. Th e ta x i s im po sed a t eit her th e st atu to ry 

30% ra te or th e appro pri ate tr e a ty ra te , but only on a p ro ra ta sh are of th e div ide nd s paid.

The re fo re , th e ta x im po sed by th e U ni te d S ta te s on di vi de nd s pai d by fo re ig n 

co rp or at io ns w ith su bst anti al U ni te d S ta te s bu sine ss is to som e ex te nt th e eq ui vale nt of th e ta x im po sed by oth er co un trie s, e.g., Fra nce , on th e pr of its of such 

fo re ig n co rp or at io ns as th ey a re ea rn ed . Th e prop os ed co nv en tio n w ith F ra nce 

re du ce s th e Fre nc h bra nch pr of its ta x to an effecti ve ra te of 10 per ce nt on pr of its 

a ft e r co rp or at e ta x. Th e pre se nt co nv en tio n w ith F ra nce pr ov id es fo r a ra te of 

18.75 pe rcen t. W hile th e ra te under th e pr op os ed co nv en tio n is hi gher th a n th e 

in te rc orp ora te divi de nd ra te of 5 pe rc en t th a t ap pl ie s under th e t re aty , it is lower 

th an th e tr eaty po rtfo lio ra te of 15 pe rcen t.

Th e tr eaty w ith F ra nce pr ov id es fo r a li m itat io n on th e Fre nch br an ch pr of its 

ta x an d also pr ov id es fo r th e im po sitio n of a U ni ted S ta te s ta x on divi de nd s pa id 

by Fre nc h co rp or at io ns su bst anti all y all of who se bu si ne ss is done in th e U ni ted 

Sta te s. Thu s a fo rm of re ci pr oc ity is achiev ed . Thi s is also tr u e un de r th e ex is ting 

tr eaty w ith F ra nce which perm it s th e U.S. to ta x al l di vi de nd s ha vi ng a so ur ce in 

th e United S ta te s a nd F ra nce to levy a t ax on b ra nc h prof its . (T he B ra zi lian t re aty 

pr ov id es th is re ci pr oc ity in a diffe re nt fo rm by perm it ti ng bo th co un trie s to im ­

po se either a br an ch prof its ta x or a divi de nd ta x. B ra zil im po ses a br an ch pr of its 

ta x an d no t a di vi de nd ta x, and under o ur do mestic la w we im pose a divi de nd ta x 

but no t a br an ch pr of its ta x. If one co un try w er e to im po se bo th fo rm s of ta x, it 

wo uld re su lt in dis cr im in at ory ta xati on whi ch th e tr e a ty pr oh ib its. Co ns eq ue ntly 

under t he p re se nt B ra zil ia n t a x sy ste m, which incl ud es a bra nch p rofit s ta x, im po ­

sitio n of an a ddit io nal t ax in th e fo rm of a t ax on di vi de nd s pai d by a U.S. c or po ra ­

tio n wo uld be in c ont ra ven tion of th e c on ve ntion.)

United States Steel Corp.,

New York, N.Y., April Jt, 1966.

Sen at or Albert Gore,

Chairman of the Subcommittee on Tax Conventions,

Senate Committee on Foreign Relations,

Washington, D.C.

My Dear Sen at or: You may re ca ll th a t I ap pe ar ed be fo re yo ur Su bc om mitt ee 

on Aug us t 25, 19155 an d testified, part ic ula rl y co nc er ni ng th e defin ition of “p erm an en t es ta blish m en t” in th e prop os ed Inco me T ax Co nv en tio n w ith Tha ilan d. 

A t th a t tim e I st ate d th a t w hile we di d no t ha ve an y p art ic u la r prob lem in 

T hail and itse lf, I w as te st if yin g w ith re sp ec t to th e princ ip le which Mr. Sur re y 

had st ate d in his testim on y w as be ing es ta bl is he d fo r ex tens ion to oth er und evelop ed co un tr ie s such a s th e Phi lipp in es an d In di a. Mr. Sur re y has re ce nt ly 

w ri tt en to me su gg es tin g a discus sio n of th e po in ts ra is ed in my te stim on y 

seek ing to reso lve th es e issu es p re para to ry to c on du ct in g ne go tiatio ns w ith B ra zil 

whe re , in co n tr ast to th e si tu at io n in T ha ilan d, we an d ma ny oth er U ni te d 

S ta te s co rp or at io ns d o hav e su bst an ti al in te re st s. I n a disc us sion w ith Mr . Surr ey 

in hi s office on F ebru ary 9tli, Mr. Sur re y sa id th a t his in te rp re ta ti on of th re e 

of th e bo ther so me fe atu re s of A rtic le 3 of th e pr op os ed Thai la nd T re aty is a s 

fo ll ow s:

Par agra ph (4 ) (b ) pr ov id es th a t a re si den t or co rp or at io n of one of th e Co ntr acti ng S ta te s sh al l be deem ed to ha ve a per m an en t es ta bl is hm en t in anoth er 

S ta te if suc h enti ty en ga ge s in tr ad e or bu sine ss in th a t S ta te th ro ug h an 

ag en t * * * wh o “r egula rl y se cu re s ord er s in th e la tt e r Sta te fo r th a t re si den t 

or co rp or at io n. ” Mr. Sur re y in te rp re ts th is to mea n th a t it m us t be th e in te nt 

of th e United S ta te s co rp ora tion th a t th e ag en t sh al l re gula rl y an d co nsi st en tly 

re pr es en t th e U ni ted S ta te s en tity an d it m us t be th e in te nt th at he sh all se cu re 

or der s on a pe rm an en t ba sis an d no t on a te m pora ry or sp or ad ic ba sis. We re ­

main in di sa gr ee m en t as to w heth er P ara gra ph (4 ) (b ) sho uld be in clud ed even 

thou gh it do es no t now affect us in Tha ilan d. How ev er, Mr. Sur re y st at ed th a t 

if P ara gra ph (4) (b ) is in clud ed as a p a rt of th e T hail and T re aty it will no t be 

co ns idered as an y so rt of a pr ec ed en t fo r inclus ion in an y oth er ta x tr eaty . Mr. 

Sur re y sa id he wo uld ha ve no ob jections t o such a st ate m ent be ing includ ed in th e 

re port of yo ur Com mittee on th e T hai la nd T re at y an d I re sp ec tful ly re qu es t th a t 

it be so sp elled o ut in your r ep or t, if P ara gra ph (4 ) (b ) is ret ai ne d.
C3

Con side ring P ara g ra p h (4 ) (b ) in co nn ec tio n w ith P ara g ra p h (5 ), it is Mr. 

Surr ey’s in te rp re ta ti on th a t a su bsi dia ry in a fo re ig n co un try wou ld no t be conside re d an ex clus iv e or al m os t ex clus ive agen t fo r a U ni ted S ta te s co rp or at io n 

fo r which it so lici ts ord er s if it had su b sta n ti al oth er ac tivitie s w ithi n th e tr eaty 

mak in g co un try su ch as sa le s on it s ow n beh al f, or heat tr eatm en t of stee l, fo r 

ex am ple.

Furt herm ore , w ith re sp ec t to P ara g ra p h (5 ), part ic ula rl y th e pare nth eti cal 

clau se near th e en d th er eo f which in dic at es th a t an ag en t of in de pe nd en t sta tu s 

wh o op er at es ex clus iv el y or alm os t ex clus ively fo r th e United S ta te s co rp or at io n 

wo uld al so be co ns id er ed to cre at e a per m anent es ta bl is hm en t fo r affil iated co rpo ra tion s, Mr. Surr ey sa id th a t th e scop e of affil iatio n wo uld no t ex te nd to an y 

affil iated co mpa ny whi ch w as no t dir ec tly se llin g in to th e tr eaty co un try th ro ugh 

th e same ag en t. P u t in anoth er way , th is att ri b u ti o n of “p er m an en t est abli sh ­

m en t” wou ld no t exis t fo r an y affil iate wh o sold to a su dsi dia ry co mpa ny which 

la tt e r co mpa ny w as se llin g in th e fo re ig n tr eaty co un try. Thu s, in our in st an ce 

whe re U ni te d S ta te s St ee l C or po ra tion pro duct s are sold in fo re ig n tr ad e by a 

su bsi di ar y en ga ge d in fo re ig n tr ade, no ne of th e pr of its of stee l m ak in g or an cilla ry pr oc es se s wou ld be su bj ec t to th e ju ri sd ic ti on of th e fo re ig n co un try or a ttr ib uta ble to th e sa le s m ad e th er ei n un le ss th e m an ufa ctu ri ng co mpa nies wer e 

also direc tly se llin g in to th e fo re ig n co unt ry by m ea ns of th e ag en t loca te d in th e 

fo re ig n co un try.

Fin al ly , w ith re sp ec t to P ara g ra p h (8 ) of A rtic le 3 wh ich says, in eff ect, th a t 

if a re si den t or co rp ora tion of one of th e C ontrac ting S ta te s lia s a per m an en t 

es ta bl is hm en t in th e o th er a t an y tim e duri ng th e ta xable ye ar , it sh al l be conside re d to ha ve a perm anent es ta blish m en t th ere fo r th e en tire yea r— Mr. Sur re y 

in te rp re ts th is to mea n th a t we co uld no t in advert entl y ha ve a per m an en t est ab ­

lish m en t th ro ugh th e acti vit ie s of an in de pe nd en t agen t who, w ithout our kn ow ledge and in te nt , be ca me our sole re pre se nta tive, no r co uld we ha ve a pe rm an en t 

es ta bl is hm en t if one of our ow n em ploy ees m ig ht be in th e co un try on oth er bu sine ss a nd in ci de nt al ly e ng ag ed in som e sa le s effo rts .

W ith re sp ec t to th e B ra zil ia n T re aty , Mr. Sur re y sa id it w as th e in te nt io n 

of th e T re asu ry to m ak e ev er y ef fo rt to se cu re a tr e a ty w ith de fin iti on s of 

“p er m an en t es ta bli sh m ent” si m il ar to th os e in th e tr eaty w ith Is ra el . Tin* 

de fin iti on of “p erm an en t est abli sh m ent” in th e tr eaty w ith Is ra el are of th e 

ty pe su gg es ted by th e O.E .C.D. which I in di ca te d w as our pr ef er en ce in my 

te st im on y be fore yo ur hon or ab le Co mm ittee. How ev er, if by un ha pp y ci rc um ­

st an ce s, it shou ld be nec es sa ry to ha ve som e fe atu re s of t he prop os ed tr eaty w ith 

T hail and re sp ec ting per m an en t es ta bl is hm en t ne go tiat ed as p art of th e B ra zi l 

T re aty , Mr. Sur re y in dic at ed th a t no t only fo r T hai la nd but fo r Brazil, or w her ­

ev er used , th e T re asu ry wou ld in co rp or at e th e abov e in te rp re ta ti ons in th e 

R eg ula tion s an d wou ld be w illing to ha ve them in co rp ora te d in yo ur Com m itt ee 's 

Rep or t.

Mr. Sur re y h as sa id th a t he will w ri te me co nfirm ing his ag re em en t to th e 

m att ers of pr in ci pl e and in te rp re ta ti o n co nc erni ng th e T hai la nd T re aty an d 

fu tu re tr eati es. Up on su ch ag re em en t, we be lie ve ou r ob jections to th e Thai la nd 

T re aty w ou ld be s ubst anti all y e lim in at ed .

Res pe ct fu lly su bm itt ed .

W. L. H ea rne, Vice President-Taxes.

April 8,19 66 .

Mr. W. L. Hearne,

Vice President, Taxes, United States Steel Corp.,

New York, N.Y.

Dear Mr. H earne : T his is to ac kn ow ledg e re ce ip t of a cop y of yo ur le tt er of 

A pr il 4, 1966 to Sen at or Go re co nc er ni ng se ve ra l pr ov isions in A rti cle 3 of th e 

pe nd in g inc om e ta x tr e a ty be tw ee n th e U ni te d S ta te s an d T hail and re la ting to 

th e d efin iti on o f a pe rm an en t e st ab lish m en t.

I am in ag re em en t w ith th e view s th a t yo ur le tt er att ri b u te s to me an d I am 

gl ad to no te th a t as a co nseq ue nc e th is , in effect, el im in at es your ob jections to 

th e t ax t re a ty w ith T ha ilan d.

Sinc erely yo ur s,

Stanley S. Surre y.
64

The Chairman. Mr. Robert T. Scott of the National Foreign Trade 

Council, Inc. is the next witness.

Mr. Scott, I understand you have two statements.

STATEMENT OF ROBERT T. SCOTT, VICE PRESIDENT, NATIONAL 

FOREIGN TRADE COUNCIL, INC.

Mr. Scott. Yes; I do, Mr. Chairman.

The Chairman. Could you put them in the record and then summarize them for us?

Mr. Scott. Surely; yes, sir.

For the record, my name is Robert T. Scott. I am vice president of 

the National Foreign Trade Council, and we will present testimony 

with respect to both the French and the Philippine treaties, and in 

both instances we recommend that the Senate give its advice and consent to the treaty as written.

The National Foreign Trade Council would like to urge this committee to give its advice and consent to the treaty with France.

ADVANTAGES IN FREN CH TREATY TO U.S. COMPANIES

In addition to the basic advantages contained in income tax treaties, 

the French treaty provides at least four specific advantages for companies operating in France :

1. One would be the adoption of the OECD permanent establishment definition contained in article 4.

2. Would be the abandonment of the “force of attraction’’ principle, 

which is also standard in the OECD model convention.

3. The treaty provides for reduced rate of withholding on interest 

from 15 to 10 percent. And, finally, the treaty provides for the establishment of a mutual agreement procedure whereby competent authorities of both countries can attempt to reach an agreement on such 

questions as the uniform location of income and the source of income.

Most significantly, the proposed United States-France treaty reduces the rate of withholding on intercorporate dividends from the 

existing 15 percent under the existing treaty to 5 percent.

In addition to eliminating double taxation that might otherwise 

result, the reduced 5 percent of withholding on intercorporate dividends will appreciably augment the Administration's action program 

to reduce the U.S. balance of payments deficit.

The Foreign Direct Investment Regulations, published by the Commerce Department on Janu ary 3 of this year, 33 Federal Register 49, 

are an integral part of this program, and these regulations require 

mandatory repatriation of current earnings of foreign subsidiaries of 

U.S. companies in varying amounts, depending upon the country 

wherein the subsidiary is located.

Thus, if a U.S. company were to satisfy its mandatory repatriation 

requirements under the Commerce Department regulations, such dividends would be subject to a French withholding tax under the existing 

treaty rate of 15 percent.

Including the French tax on which this dividend is paid, such dividend would be subject to an overall rate of French tax at the rate of 

57.5 percent as compared with an overall effective rate of 52.5 percent 

after the ratification of the proposed treaty.
65

Thus, it reduces the rate of withholding tax on intercorporate dividends flowing to U.S. parent corporations from 15 to 5 percent, and 

will not only result in more dollars flowing into the United States but 

will also reduce excess foreign tax credits for many U.S. corporations.

Accordingly, the National Foreign Trade Council strongly urges 

that the Senate give its advice and consent to the ratification of the 

French treaty .

We recommend that this action be taken as soon as possible inasmuch as article 31(a) provides th at the withholding provisions of the 

French treaty will become effective on or after the date that the treaty 

enters into force, and tha t is one month afte r the exchange of instruments of ratification.

Tha t concludes my comments on the French treaty. I f there are no 

questions I will go on to the Philippines treaty.

(The prepared statement of Air. Scott follows:)

Convention Between th e United States of America and th e French

Republic With Respect to Taxes on I ncome

The National Foreign Trade Council, comprised of a broad cross section of 

U.S. companies engaged in all major fields of international trade and investment, has long endorsed the United States income tax treaty program and has 

recognized its constructive force in the promotion and expansion of foreign trade. 

The Council therefore favors early ratification of the proposed United StatesFrance income tax treaty signed July 28, 1967, which, if ratified, will supersede 

the existing income tax convention of July 25, 1939 and will replace those portions of the double taxation convention of October 18, 1946, the supplementary 

protocol of May 17, 1948, and supplementary convention of June 22, 1956 relating 

to taxes on income, capital and stock exchange transactions.

The proposed U.S.-France treaty reflects changes in both French income tax 

law and in U.S. law as a result of the Foreign Investors Tax Act of 1966 as well 

as refinements resulting from the U.S. accommodation to the OECD Draft Double 

Taxation Convention on Income and Capital and is consistent with more recent 

U.S. income tax treaties with the developed countries.

general treaty advantages

In addition to the basic advantages contained in income tax treaties, such as 

making more certain the limits beyond which tax liabilities cannot he asserted 

by the two countries and the alleviation of double taxation, the proposed French 

trea ty contains several advantageous provisions for U.S. taxpayers doing business in France. These advantages include:

1. Adoption of a permanent establishment definition similar to that contained 

in the OECD Draft Double Taxation Convention. Article 4.

2. Abandonment of the “force of attraction” principle. Treaty exemptions from, 

or reduced rates of, tax will he applicable to income derived from real property 

and natural resources, and dividends, interest, royalties, and capital gains where 

the recipient has a permanent establishment in the other treaty country unless 

the right or property giving rise to such income is effectively connected with 

such permanent establishment. Article 6(5). In addition, industrial and commercial profit earned by a resident of one treaty country will be taxable in the 

other country only if attributa ble to a permanent establishment maintained by 

such resident in the other country. Article 6(1).

3. Reduction of withholding rate s on interest from 15 percent under the existing treaty to 10 percent. Article 10.

4. Establishment of a mutual agreement procedure whereby the competent 

authorities of both countries would seek to reach agreement on various tax problems. These include the uniform allocation of income between related companies 

as well as a uniform determination of the source of particular types of income. 

These provisions authorize both countries to make appropriate refunds when 

necessary. Article 25.
66

REDUCED DIVIDEND WITHH OL DING

Mo st sign ifi ca ntly , th e prop osed U .S .-F ra nc e tr eaty re du ce s th e ra te of w ithho lding ta x on in te rc orp ora te di vi de nd s from 15 per ce nt under th e ex is ting 

tr eaty to 5 pe rc en t. In ad ditio n to elim in at in g do ub le ta xati on th a t m ig ht oth erwise re su lt, th e redu ce d 5 per ce nt r a te o f w ith ho ld in g on in te rc orp ora te divi de nd s 

will ap pr ec ia bl y au gm en t th e A dm in is tr ati on’s a ct io n pr og ra m to re du ce th e U.S. 

ba lanc e of pa ym en ts def icit. Th e For ei gn D irec t In ves tm en t Reg ul at io ns , 33 Fe d. 

Reg. 49, (1968) ar e an in te gra l p a rt of th is pr og ra m , an d re quir e, in te r al ia , 

m an dat ory re patr ia ti ons of th e cu rr en t ea rn in gs of fo re ig n su bsi dia ri es of U.S. 

co rp or at io ns in var yin g am ou nt s, de pe nd in g up on th e co un try w he re in th e su bsi di ar y is located .

If a U.S. co rp or at io n wer e to sa ti sf y it s m an dat ory re p atr ia ti o n re qu irem en ts 

un de r th e Fo reig n D irec t In ves tm en t Reg ul at io ns by a divi de nd dis tr ib uti on 

from it s Fre nc h su bs id ia ry , such di vi de nd wou ld be su bj ec t to a Fre nc h w it hho lding ta x, un de r th e ex is ting U .S .-F renc h tr eaty , a t a ra te of 15 pe rcen t. 

In cl ud in g th e Fre nc h ta x on pr of its fr om wh ich pa id, su ch di vi de nd wou ld be 

su bj ec t to an ov erall effecti ve ra te of Fr en ch ta x of 57.5 pe rc en t, as co mpa red 

w ith an ov er al l effecti ve ra te of 52.5 pe rc en t aft e r ra tifi ca tion of th e prop os ed 

tr eaty . Thu s, re du cing th e ra te of w ith ho ld in g ta x on in te rc orp ora te divi de nd s 

flowing to U.S. par en t co rp ora tions from 15 pe rc en t to 5 per ce nt will no t only 

re su lt in more dol la rs flo wing in to th e U.S., bu t will also re du ce ex ce ss fo re ig n 

ta x cr ed its.

RA TIFICA TIO N RECOMMENDED

Ac co rdingly, th e N at io nal For ei gn T ra de Co uncil stro ng ly urg es t h a t th e U ni ted 

S ta te s Sen at e giv e it s ad vice an d co ns en t to ra tifica tion of th e prop osed U.S.- 

F ra nce inc om e ta x tr eaty . The Co un cil reco mmen ds th a t th is ac tion be ta ken 

as soo n as possibl e in as m uc h as A rtic le 3 1 (a ) (i ) of th e pr op os ed tr eaty pr ov id es 

th a t th e pr ov isions de al in g w ith Fre nc h w ith ho ld in g ta xes sh al l be effecti ve 

on or a ft e r th e date th a t th e tr e a ty ente rs in to force, th a t is, one mon th a ft e r 

th e ex ch an ge of the i nst ru m ents o f ra tifica tion .

Th e C hair man. Please proce ed to the P hilip pine tre aty.

PER M A N EN T EST A B L IS H M EN T CL AU SE IN P H IL IP P IN E TR EA TY

Mr. Scott. W ith r eg ard to the P hi lip pine T reaty, the Council again 

urg es th at the Senate give its advice and consent to rati fication. We 

wo uld like to point out the problem s which Mr. Ca rro ll, a previo us 

witn ess, has ju st alluded to, th at is, the section of the perm anent 

establ ishme nt clause in artic le 8, w hich wou ld pro vid e th at the securing of ord ers in the Ph ili pp ines th ro ug h an agent would constitu te 

a permanent estab lishm ent as well as th at po rtion of article 8, par agr ap h 5, which wou ld hold th at an oth erw ise indepe ndent age nt who 

solicits ord ers exclusively or alm ost exclusively fo r a U.S. com pan y 

would also co nstitute a perm anent es tablish ment.

Th e Chairman. I) o you agre e wi th JMr. Ca rro ll on th at ?

Mr. Scott. We do not. We agre e with Mr. Ca rro ll ins ofar as we 

would ra ise it and s tate th at this is objectionable.

We do not, however, s uggest th at this wou ld be a sufficient objec tion 

to withh old ra tifi cat ion o f the tre aty .

Th e Chairman. Zf it is wrong som eth ing ought to be done about 

it. It sets a preced ent , and the way thes e things ope rate, it may 

be picked up in a dozen or more treati es to come. W hy s hould n't ther e 

be a reserv atio n or some change p ut on it ? Th is is a first treaty. T her e 

is no grea t urgency abou t it.

Mr. Scott. The only op positi on is, as I hav e ju st stated.

How ever, I th ink it is im porta nt to note th at the corre spondin g 

artic le of the Brazil trea ty , which is pu rp or ted to serve as a proto type
67

for less developed countries, does not contain this particu lar provision, 

so it would seem-----

The Chairman. Why do you think they p ut it in here ? What is your 

explanation ?

Mr. Scott. I have no idea, sir.

The Chairman. Haven't you talked to anybody in Treasury about 

it ?

Mr. Scott. No, we have not, sir. Some testimony, as you know, was 

elicited under the Thailand treaty, but tha t was before my association with the Council.

The Chairman. I must say 1 though t Mr. C arroll made a very persuasive case that this is a vague concept.

Mr. Scott. There is no question about it being vague.

For example, presumably if you hire one independent agent and 

he himself had a helper then, and he solicited orders, presumably th at 

would not run afoul of the permanent establishment concept in article 

8(5).

But if, for some reason, this chap, whom you never heard of in the 

United States, severs his association with your agent, and then the 

agent only worked for you, presumably then unbeknownst to the 

United States, you would then have a permanent establishment. This 

type of argument has been brought forth in the Thailand treaty hearings and there is no question about it but it is elusive, and no one knows 

what it means in practice.

We do not for a moment recommend it be put forward in other 

treaties. But my only point is tha t the Treasury, from what Mr. 

Surrey says, is aware of the problem and it is not a precedent.

The Chairman. It might be very helpful if you would give us a 

version of this definition of a permanent establishment which would 

be satisfactory. I expect it is rather difficult to draw, is it not ?

Mr. Scott. I do not think so.

The Chairman. You do not ? Well, have you got one ?

Mr. Scott. I would merely suggest tha t we eliminate those provisions of article 8(4) (b), 1 think it is, which provide th at soliciting 

orders would constitute a permanent establishment. Correspondingly, 

I would suggest tha t we could drop down to article 8(5) and eliminate 

that portion of the Philippine treaty which states tha t even though 

you used an independent agent, if he works exclusively for you, you 

will be considered a permanent establishment. These provisions are not 

contained in other treaties, and we could eliminate this problem merely 

by reverting to a normal permanent establishment definition.

LE TT ER ON TH A IL A N D TR EA TY

The Chairman. In view of this, I think the letter from Mr. AY L. 

Hearne on this subject, which was received in connection with the 

hearing on the Thai treaty, should be put in the record so it will be 

available. It contains comments on the same subject.

Mr. Scott. Yes. I believe there are other organizations or interested 

citizens who have also submitted memoranda on the Thai treaty which 

dealt with this partic ular point.

The Chairman. Yes.

(The letter referred to follows:)
68

United Stat es Steel Corp.,

New Yo rk , N .Y ., A ugust 29,19 65.

Re prop osed tr e a ty w ith Tha ilan d.

Sen at or Albert Gore,

Se na te Office Bui ld in g,

W as hing ton, D.C.

Dear Senator Gore : Yon ha ve st at ed th a t a pu blic heari ng is to be he ld on th e 

prop osed tr e a ty w ith T hai la nd on W ed ne sd ay , Aug us t 25. G ov er nm en t w itn es se s 

on th is t re aty h av e ap pe ar ed o ve r t he la st few d ay s.

A ss is ta nt Sec re ta ry of th e T re asu ry Sta nl ey S. Surr ey te stifie d be fo re yo ur 

subc om mitt ee th a t th e tr eaty w ith T hail and wou ld “indic at e th e ge ne ra l pr oce du re and st andard s be ing follo wed w ith re sp ec t to th e neg ot ia tion of ta x 

tr eati es w ith less develo ped co un tr ie s.”

We had be en und er th e im pr es sion th a t th e prop os ed tr eaty w ith th e P hilip ­

pine s w as to be th e first of th is ty pe of tr e a ty to com e be fo re you r subc om mitt ee 

an d we se nt yo u a pro te st date d A ug us t 5 again st cert ain fe atu re s of th e pro ­

posed Philip pi ne tr e a ty de al in g w ith “p er m an en t es ta blish m en ts .” Th e same 

ob jectiona bl e fe atu re s are co nt ai ne d in art ic le 3 of th e prop os ed tr eaty w ith 

Tha ilan d. We ob ject p art ic u la rl y to art ic le 3, para gra ph ( 4 ) (b ), (c ) an d th e 

la st se nt en ce of par agra ph (5 ). Our re as ons are ex pl ai ne d in cop y of our le tt er 

of A ug us t 5, at ta ch ed , which as ab ov e in di ca te d we se nt to yo u w ith re sp ec t to 

th e Phi lippi ne t re aty .1

W hile th e p art ic u la r tr e a ty w ith T hail and does no t both er us su bst an tial ly , we 

do ob je ct st re nu ou sl y to th e fu rt h e r pro life ra tion of th is princ ip le w ith ot her 

un de ve lope d co un trie s as p ropo se d b y Mr. Su rrey .

We re sp ec tfully re qu es t th a t ou r pro te st be mad e a p a rt of th e re co rd of th e 

he ar in gs .

Res pe ct fu lly su bm itted.

W. L. H ea rne,

Vice Pre side nt , Ta xe s.

Unite d States Steel Corp.,

New Yo rk , N.Y ., A ugust 5, 1965.

Re prop os ed incom e ta x tr eaty w ith Ph ili pp in es .

Hon . J. W. F ulbrigh t,

Cha irm an an d the Hon orab le Mem be rs of th e Sen ate Fo re ign R el at io ns Com m ittee , Se na te Office B uild in g, W as hi ng to n, D.C.

Dear Sir : We wish to ra is e se ri ou s qu es tio n as to th e effect on American busi ­

ne ss of p art s of art ic le 8 of th e pr op os ed inc om e ta x tr eaty w ith th e Phi lippin es 

whi ch has been neg ot ia te d by our Gov ernm en t an d has com e be fo re y ou r co m m itte e and th e Sen at e fo r ap pr ov al . The p art ic u la r pr ov isio ns th a t co nc ern us are 

art ic le 8, par agra ph (4 )(b ) and (c ), th e la st se nt en ce of para gra ph (5 ), an d 

p ara g ra p h (8 ). The se pr ov isio ns sa y, in effect, th a t if a U.S . co rp or at io n has 

an a gent in th e P hi lippi ne s wh o “e xc lusive ly o r al m os t e xc lu sive ly ” sec ur es o rd er s 

in th e Phi lipp in es fo r th e U.S. co rp or at io n, th e U.S . co rp ora tion an d all affil iated 

co rp ora tions sh al l be deem ed to ha ve a per m an en t es ta blish m en t in th e P hil ip ­

pine s. Th ey sh al l be de em ed to ha ve per m an en t es ta blish m en t fo r th e enti re 

y ear if th er e is su ch a perm an en t es ta blish m en t a t an y tim e duri ng th e ye ar . Thi s 

pr ov isio n wou ld a llo w th e Philip pi ne s to ta x a ny U .S. c orp ora tion a nd it s affilia tes 

if any one of th em em ploy ed su ch an in de pe nd en t ag en t or ha d a selli ng su bsi dia ry in th e Ph ilip pi ne s.

Mr. St an le y Sur re y, A ss is ta nt Sec re ta ry of th e T re asu ry , in hi s speech of

Sep tem be r 21, 1964, be fo re a m ee ting o f th e Tax Exe cu tive s In sti tu te in M on trea l, 

is qu oted on pa ge 24 of th e T re asu ry re le as e of th is speech as sa yi ng re sp ec ting 

“p erm an en t es ta blish m en ts

“* * * in a si tu ati on in whi ch a less de velop ed co un try feels th a t th es e is su es 

a re im po rt an t, w her e oth er w is e appro pri ate we ha ve ex pl or ed ad di ng to th e 

de finitio n of ‘perm an en t es ta bli sh m ent’ su ch fa ct ors as an ag en t wh o re gula rl y 

se cu re s or de rs in th e les s de ve lope d co un try, or m ai nta in s a stoc k of goods from 

whi ch he re gula rl y mak es del iv er ie s. Also , th e use of an ag en t of in de pe nd en t 

sta tu s could const itute a perm anent es ta blish m en t if th e ag en t ac te d al m os t

1

 P ho toco py w ith en clos ure se nt to th e Hon or ab le J. W. F ulb ri ght, ch ai rm an , an d th e 

ho no ra bl e me mb ers of th e Sen at e For ei gn R el at io ns Co mmittee.
69

exclusively for the exp orter and engaged in these activities. In addition, it may 

not always be app rop riate to elim inate the force of att rac tio n principle .”

The wr ite r has been in correspondence with and has talked to Mr. Surrey 

about this speech and about the Philippine treaty and if we in terpre t Mr. Surrey’s 

las t letter correctly, he claims th at the “treaty * * * with the Philippines does 

not expand the tax ing jurisdiction of either country * * This may be so 

because many countries have what migh t be called a global tax ation orbit and 

they are limited in wh at they will tax only by wh at they can lay their han ds 

upon, but it seems to the writer that two things can be said about the answer 

of the Treas ury Departm ent. In the first place, if it is not necessary to expand 

the taxing jurisdiction of the Philippines, then why do we put it in the treaty , 

and why does Mr. Surrey refer to it in his speech as “adding to the definition 

of perm anent establishment” ?

Secondly, and more importantly, the fac t is th at so fa r as we can determine 

none of the less developed coun tries a t the prese nt time exerts a power to tax a n 

independent age nt acting for a U.S. corporation based upon the profits of the 

U.S. corporation, nor do they seek to tax the U.S. corporation or its affiliates 

on account of the activities of such an independent agent.

Thus, if the objec tionable provisions in thi s tre aty are enacted it gives complete sanction to the Philippines to tax U.S. corpo rations in accordance with the 

term s of the treaty . Mr. Sur rey’s speech, above referred to, indicates th at the 

United States will cooperate with other countries in enforcing the ir tax laws.

For corporations with sub sta ntial assets the proposal of the trea ty with respect 

to perm anen t establishments is a most serious matt er and would be a major 

deterren t to any effort to make sales in countries th at have such a tre aty with 

the United State s.

It should be mentioned th at the proposed definition of a “perm anent establishment” is con trary to th at proposed by the OECD. In their dr aft tre aty in pa ragraphs 5 and 6 on page 44 of article 5 on perm anent establish ments the OECD 

specifically reje cts any idea th at a subsidiary or an agent can give rise to the 

claim th at such subsidiary or agent is a permanen t establish ment of the parent 

or seller.

The Congress has provided in Public Law 86-272 that States may not impose 

an income tax upon a corp oration which has employees or agen ts within a State 

if the only activity of the corp oration is to solicit orde rs in such State. This is 

so even though the selling personnel live in the State. (Sm ith, Kline and French

Laboratories v. State Ta x Commission, Oregon Supreme Court, Jun e 16, 1965, 

Commerce Clearing House Oregon Tax Service, pars. 201-591.) Nevertheless, the 

Philippine Tre aty provides th at the Philippines may tax a U.S. corporation and 

all affiliated corp orations if one of them has an “exclusive or almost exclusive” 

age nt who “regularly secures orders in the * * * State (the Philippines) for the 

(U.S.) corporation.” (Par. (4 )( b). ) Thus, the Senate is by this tre aty called 

upon to approve for foreign countries the tax ation which the Congress has for ­

bidden to each of our own United States. It is submitted th at the same reasons 

which caused the enactment of Public Law 86-272 are present with respe ct to 

foreign nation taxation of U.S. business.

Several additional problems arise in connection with this new approach in the 

Philippine Treaty. Incidentally, we understand this same problem is in the proposed tre aty with Thailand and is urgently desired by other countries. In the 

manner of foreig n tra de it is necessary for selling agen ts to ass ert great efforts 

to break into any new territory . Fo r a long time the selling efforts do not ret urn 

sufficient income to adeq uate ly compensate a selling agent. Either the selling 

agent must be subsidized irres pective of commissions, or a subsidiary of the 

paren t must be established with sufficient funds to pay its salesmen over the 

early lean years. It seems clea r from the proposed treaty , and Mr. Surrey agrees, 

th at a subs idiary company would stand in the same l ight as an independent agent 

under article 8 of the proposed tre aty and thus if the subsidiary acted “exclusively or almost exclusively” for the U.S. paren t it would subject the U.S. paren t 

and all affiliates to tax in the Philippines. Thus the provisions of arti cle 8 of the 

tre aty would limit any effort to sell U.S. goods merely to such efforts as could be 

put for th by an agent who had sub stantial other activ ities. We do not believe it 

is in the best inte rests of selling U.S. goods to limit the scope of the sales activities abroad.

Secondly, we do not believe thi s principle can be limited to selling agents or 

subsidiaries but would quickly be demanded by underdeveloped coun tries for 

application to all other subsidiaries such as raw ma terial producers and any 

manufacturing subsidiaries th at use goods produced by the parent.
70

Qu estio n ca n be ra is ed as to w ha t ex ac tly const itute s “a n ag en t ac ting ex cl usiv ely or al m os t ex clus ively” fo r th e U.S. co rp or atio n. F or in st an ce , if an indepe nd en t ag en t ha d tw o emplo yees, one of wh om sp en t all of his tim e selli ng fo r 

th e U.S. co rp or at io n, pr es um ab ly th e agen t wo uld no t be op er at in g ex clu siv ely or 

alm os t ex clu siv ely. But if one pe rson alon e w as an in de pe nd en t ag en t an d ha d no 

em plo yee s, an d he sp en t all of his tim e selli ng fo r th e same U.S . co rp or atio n, 

he wo uld be deem ed an ex clus ive ag en t und er art ic le 8, para gra ph (4 ). Th en it 

ca n be im ag ined th a t a U.S. co rp or at io n th ou gh t it had an ag en t th a t w as no t 

de vo tin g su bst anti illy all of it s tim e to se llin g fo r th a t co rp or at io n, bu t be ca use 

bu sine ss fo r th a t co rp or atio n in cr ea se d or be ca us e th e ag en t lo st som e ot her 

ac co un ts he mig ht become th e ex clus ive ag en t fo r th e U.S. co rp or at io n w ith ou t 

an y kn ow led ge of th e U.S. co rp or at io n an d th us unw ittingly su bj ec t th e U.S . 

co rp or at io n to su bst anti al taxe s.

Such a pr op os al wo uld su bj ec t a co rp or at io n such as ours to trem en do us an d 

pe rh ap s ov erwhe lm ing co sts of adm in is tr ati on in sa tisf yin g fo re ig n go ve rnmen t 

as to it s ta xab le inco me. How is ta xable incom e to be de te rm in ed ? Cer ta in ly 

it is to be de term in ed unde r th e la w s of th e un de rdev elop ed co un try. Th ese 

co un trie s ha ve differ en t la w s fro m th os e of th e United S ta te s so th a t an en tire ly 

differ en t ta x re tu rn m us t be pre par ed an d filed. W hat incom e and w hat pe rc en tag e of th a t incom e sh all be deem ed ea rn ed in th e les s de velop ed co un trie s? Sh al l 

it be on ly on th e pr od uc ts which a re sold? No such br ea kd ow n of pr of its is now 

comp iled or re qu ired un de r U.S. ta x la w s and ca n a t be st on ly be ap pr ox im at ed . 

Is th e inc om e from ot he r pr od uc ts and oth er bu sin ess, an d di vi de nd s and in te re st 

to be lumpe d to ge th er am i su bj ec ted to a pe rc en ta ge al lo ca tion ? W hat if such 

ot he r inc om e has al re ad y been ta xed a ft e r ha vi ng bee n ea rn ed by br an ch es or 

affil iated co rp or at io ns in oth er ju ri sd ic ti ons? If , fo r ex am pl e, we sel l pu mps 

th ro ug h an ag en t in th e Phi lipp in es , is our ste el bu sine ss or our ore min ing busi ­

ne ss to be also ta xed th ere ? Ho w ca n th es e m att ers be au dit ed re as on ab ly ? Our 

U.S. ta x re tu rn is a la rg e book of hund re ds of pa ges. The la w s of mos t fo reign 

co un trie s re qu ir e th a t all books and re co rd s be prod uc ed in th e fo re ign ju ri sd ic ­

tio n. Some un de rdev elop ed co un trie s, fo r ex am ple Ven ezue la, re quir e th e au d it 

an d ve rific ation of all inv oices be fo re an y de du ctio n fo r co st of goo ds sol d, or 

ex pe ns es is all ow ed. Some fo re ig n ju ri sd ic tions also im po se seve re pe na lties, 

up to 200 pe rc en t, fo r an y disa llow an ce s wh ich th e ta xpayer has no t pr es en ted 

be fore au di t.

Th e T re as ury has c ited th e In dia T ax T re at y of 1959 as pre ce de nt fo r th is c on ­

ce pt of pe rm an en t es ta bl ishm en t. Ho we ver, th e T re asu ry as su re d th e Se na te th e 

tr e a ty w ith In di a wo uld no t be used as a prec ed en t. (H eari ngs of Se na te Comm itte e on Fo re ig n R el at io ns on In di a T ax Co nv entio n, 86 th Cong. 2d ses s., pp. 

27- 29, 43-4 5, Ju ne 28 ,19 60 .)

The ad m in is tr ati ve prob lem an d co sts inv olv ed wou ld be sufficie nt to sh ut off 

al l our sa les eff ort in th e Phi lipp in es as soon as th is tr eaty is ap pr ov ed an d th is 

wo uld ap ply to ev ery ot he r co un try whe re a si m il ar pr ov ision is ne go tia ted. We 

su gg es t th is wo uld no t be in th e in te re st of th e U.S. ba lanc e of pa ym en ts nor U.S. 

em ploy men t an d we re sp ec tful ly su gg es t th a t th e tr eaty be revi se d to el im in at e 

para gra ph (4 ), th e la st senten ce of para gra ph (5 ), and all of para gra ph (8 ), 

of a rt ic le 8.

Res pe ctfu lly su bm itt ed .

W. L. H ear ne,

V ic e P re s id e n t, T a x e s .

DETE RM IN ATIO N OF SOURCE OF IN COM E

Th e C hairman. Is there an ything else ?

Mr. Scott. No. I wou ld just point out th at thes e two provisions 

whi ch we are talk ing about raise this jur isd iction al issue which has 

been spoken of before, and raise the question of the source of the 

income—the Un ite d State s and the Ph ilipp ines may have differen t 

concents of the source of income in these pa rticul ar sales.

So if I could jus t conclude then , we would suggest th at t his p ar ticu ­

la r problem be handled by way of a p rotocol to the Ph ili pp ine tre aty 

and if this protocol is n ot possible, if it cannot be obtained, we would 

then suggest th at a protocol be neg otiated which would clarify the
71

allocation of business profits. There should be some reliable assurance 

that this allocation will be given efi'ect in the determination of the 

source of income for the purposes of the U.S.' foreign taxpayer.

In conclusion then I would simply say that the National Foreign 

Trade Council urges that the Senate give its advice and consent to the 

ratification of both the Philippines and France.

(The prepared statement of Mr. Scott follows:)

Con ven tion Bet w een t h e U nit ed Sta te s of A me rica an d t h e R ep ubli c of t h e

P h il ip p in e s for t h e Avoida nce of Dou bl e T axa tion W it h R es pe ct to T ax es

on I nc om e

Th e N at io na l For ei gn T ra de Co un cil , co mpr ised of a br oa d cros s secti on of U.S. 

co mpa nies en ga ge d in al l m aj or fie lds of in te rn ati onal tr ad e an d in ve stm en t, has 

lon g en do rsed th e U ni te d S ta te s inc om e ta x tr eaty pro gr am an d h as rec og nize d 

it s co ns truc tive fo rc e in th e pr om otio n an d ex pa ns io n of f or eign tr ad e. Th e Cou ncil th er ef ore fa vors earl y ra tifi ca tion of th e prop os ed U nited Sta te s- Philip pin es 

incom e ta x tr eaty .

How ev er th e N at io na l Fo re ig n T ra de Co uncil do es oppose thos e pr ov isions of 

Arti cle 8 of th e Phi lipp in es tr eaty which ex pa nd th e de fin ition of a per m an en t 

es ta blish m en t in co rp or at ed in oth er inc om e ta x tr eati es to which th e United 

S ta te s is a par ty .

Und er A rtic le 8(4 ) (b ) of th e prop os ed Philip pi ne s tr eaty , a U.S. re si den t or 

co rp or at io n will be deem ed to ha ve a Philip pi ne s per m an en t es ta blish m en t whe re 

bu sine ss is carr ie d on th ro ugh an ag en t who re gula rl y se cu re s ord er s th ere in fo r 

such re si den t or co rp or at io n. Moreo ve r, un de r A rtic le 8(5 ) th e se cu ring of such 

or der s th ro ug h an in de pe nd en t ag en t wh o ac ts ex clus ively or alm os t ex clus ively 

fo r such U.S. re si de nt or co rp or at io n will also co nst it ute a Phi lipp in es per m ane nt es ta bl ishm en t.

Sim ilar pr ov isions ar e fo un d in th e pr op os ed U.S. T hai la nd tr eaty , Se na te 

Exe cu tive E, 89tl i Cong., 1st Sess., see also th e prop os ed U.S .-I nd ia tr eaty , Sen ate 

Exe cu tive H, 86 th Cong., 2d Sess., which tr eati es ha ve no t received th e ad vice 

an d co ns en t of th e Se na te. O th er tr eati es to which th e U ni te d Sta te s is a part y 

m er ely pr ov ide th a t th e us e of an in de pe nd en t ag en t sh al l no t be deem ed to 

const itute a pe rm an en t es ta bl is hm en t. No r do such tr eati es pr ov ide th a t th e us e 

of an ag en t to se cu re ord er s in a tr eaty co un try will co nst it ute a pe rm an en t 

es ta bl is hm en t in su ch c ou ntry .

A U ni ted S ta te s re si den t or co rp or at io n hav in g a pe rm an en t es ta blish m en t in 

th e Phi lipp in es du e to an ag en t de sc rib ed in A rtic le 8 (4 ) (b ) an d (5 ) is su bj ec t 

to ta x on in dust ri al or co mmercial pr of its from Phi lippi nes so ur ce s un de r A rtic le 

3 (1 ) and Arti cle 7 (1 ). Sin ce th e tr eaty co nta in s no spe cific so urce ru le s w ith 

re sp ec t to in dust ri al or co mmercial profits , A rtic le 5(2 ) re quir es th a t th e so ur ce 

of suc h incom e be d et er m in ed u nder l ocal law .

Amer ican ex po rter s, in cl ud in g thos e wh o m anufa ctu re th e pro du ct ex po rte d, 

may th u s be e xp ose d to a do ub le ta x ati o n situ at io n. Phi lipp in es auth ori ti es m ig ht 

tr y to impo se a ta x co mpu ted up on th e enti re pr of its as cr ib ed to th e tr an sa ct io n. 

Und er th e same set of fa ct s, th e U ni ted S ta te s mig ht de te rm in e th a t th e tr a n sac tio n did no t pr od uc e inc om e from fo re ig n source s, or th a t on ly a po rtio n of 

such inc om e w as fr om f or eign s ou rces.

A rtic le 8 (4 ) an d (5 ) th er ef ore pre se nt th e ju ri sd ic ti onal issu e of su bj ec ting 

th e U.S. ex port er to Phi lippin es ta x an d ra is e th e qu es tio n of w het her a United 

S ta te s ta x p ay er ma y obt ai n re lief from do ub le ta xati on und er th e fo re ig n ta x 

cr ed it pr ov isio ns of th e In te rn al Rev en ue Code. T hi s const itute s a se riou s object io n to A rtic le 8 (4 ) and (5 ), pr od uc in g an elem en t of uncert ain ty w hich could 

ha ve a dete rr en t effect up on United S ta te s ex po rt s to th e Ph ili pp in es .

Ac co rdingly, th e Co uncil ur ge s th a t par agra ph 4 (b ) an d th a t po rtio n of p a ra ­

gr ap h (5 ) re fe rr ed to ab ov e of A rtic le 8 be de let ed by protoc ol so th a t th e defini tion of a pe rm an en t es ta bl is hm en t co nt ai ne d in th e Phi lippin es tr eaty wi ll co nform w ith th a t co nt ai ne d in oth er tr eati es to whic h th e U ni ted S ta te s is a par ty . 

If such a protoc ol ca nn ot be ne go tiated , a t a minim um , th e si tu ati on shou ld be 

clar ified by a protoc ol de al in g ex pl ic itly w ith th e al lo ca tion of bu si ne ss profits. 

The re shou ld also be re liab le as su ra nce th a t th e allo ca tio n wi ll be giv en effect 

in th e de te rm in at io n of so ur ce fo r pu rp os es of th e fo re ign ta x cr ed it t o be a llo we d 

th e U ni te d S ta te s ta xpay er. Moreover, th e abov e men tio ne d pr ov isio ns of Arti cle 8