Branch Profits Tax: Compliance and Planning from the Ground...

Branch Profits Tax: Compliance

and Planning from the Ground Up Navigating the Tax Landscape for Foreign Businesses Operating in the U.S.

Today’s faculty features:

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

Please refer to the instructions emailed to the registrant for the dial-in information.

Attendees can still view the presentation slides online. If you have any questions, please

contact Customer Service at 1-800-926-7926 ext. 10.

THURSDAY, MAY 2, 2013

Presenting a live 110-minute teleconference with interactive Q&A

James Sams, Principal, KPMG, McLean, Va.

Robert J. Misey, Jr., Shareholder, Reinhart Boerner Van Deuren, Milwaukee

Douglas Holland, Senior Manager, KPMG, Washington, D.C.

For this program, attendees must listen to the audio over the telephone.

Tips for Optimal Quality

Sound Quality

Call in on the telephone by dialing 1-866-873-1442 and enter your PIN when

prompted.

If you have any difficulties during the call, press *0 for assistance. You may also

send us a chat or e-mail [email protected] immediately so we can address

the problem.

Viewing Quality

To maximize your screen, press the F11 key on your keyboard. To exit full screen,

press the F11 key again.

Continuing Education Credits

Attendees must stay on the line throughout the program, including the Q & A

session, in order to qualify for full continuing education credits. Strafford is

required to monitor attendance.

Record verification codes presented throughout the seminar. If you have not

printed out the “Official Record of Attendance,” please print it now (see

“Handouts” tab in “Conference Materials” box on left-hand side of your computer

screen). To earn Continuing Education credits, you must write down the

verification codes in the corresponding spaces found on the Official Record of

Attendance form.

Please refer to the instructions emailed to the registrant for additional

information. If you have any questions, please contact Customer Service

at 1-800-926-7926 ext. 10.

FOR LIVE EVENT ONLY

Program Materials

If you have not printed the conference materials for this program, please

complete the following steps:

• Click on the + sign next to “Conference Materials” in the middle of the left-

hand column on your screen.

• Click on the tab labeled “Handouts” that appears, and there you will see a

PDF of the slides and the Official Record of Attendance for today's program.

• Double-click on the PDF and a separate page will open.

• Print the slides by clicking on the printer icon.

Branch Profits Tax: Compliance and Planning from the Ground Up

Douglas Holland, KPMG

[email protected]

May. 2, 2013

James Sams, KPMG

[email protected]

Robert J. Misey, Jr., Reinhart Boerner Van Deuren

[email protected]

Today’s Program

Mechanics Of The Branch Profits Tax

[Douglas Holland]

Mechanics Of The Branch Level Interest Tax

[Robert J. Misey, Jr.]

Branch Tax And Tax Treaty Issues

[James Sams]

Slide 8 – Slide 33



Notice

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY

THE SPEAKERS’ FIRMS TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY

OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT

MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR

RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.

You (and your employees, representatives, or agents) may disclose to any and all persons,

without limitation, the tax treatment or tax structure, or both, of any transaction

described in the associated materials we provide to you, including, but not limited to,

any tax opinions, memoranda, or other tax analyses contained in those materials.

The information contained herein is of a general nature and based on authorities that are

subject to change. Applicability of the information to specific situations should be

determined through consultation with your tax adviser.

MECHANICS OF THE BRANCH PROFITS TAX

Douglas Holland, KPMG

© 2013 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent

member firms affiliated with KPMG International Cooperative (―KPMG International‖), a Swiss entity. All rights reserved. 9

Notice

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED

OR WRITTEN BY KPMG TO BE USED, AND CANNOT BE USED,

BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE

PURPOSE OF (i) AVOIDING

PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii)

PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER

PARTY ANY MATTERS ADDRESSED HEREIN.

You (and your employees, representatives, or agents) may disclose to any and all persons, without

limitation, the tax treatment or tax structure, or both, of any transaction described in the associated

materials we provide to you, including, but not limited to, any tax opinions, memoranda, or other tax

analyses contained in those materials.

The information contained herein is of a general nature and based on authorities that are subject to

change. Applicability of the information to specific situations should be determined through

consultation with your tax adviser.



Agenda: Branch Profits Tax

1. Overview

A. Purpose

B. Definitional Rules

C. Examples and Traps

2. Branch Transfers

A. Terminations

B. Liquidations and Reorganizations

C. Incorporations

3. Compliance

Note: References to IRC or Treas. Reg. are to the Internal Revenue Code of 1986, Title 26 of

the United States Code, as amended, or to the Regulations promulgated thereunder, at Title

26 of the Code of Federal Regulations.

Overview And Discussion



Branch Taxes: Purpose

• Purpose: Equal treatment of foreign corporations operating in the

United States through corporation or branch (e.g., generally, 30%

withholding tax on dividends and interest to foreign person)

$ dividend and interest payments

$ dividend and interest payments

Foreign

Parent

U.S. Branch

/LLC US

U.S. Subsidiary

US



Branch Profits Tax (BPT)

•Purpose: Treat U.S. branch as if it were U.S. subsidiary of foreign corporation -- Subject income earned to two levels of tax

•How: Impose 30% tax on income repatriated (or deemed repatriated) to foreign parent (

884(e)(3)) from the U.S. branch

•Tax: 30% BPT on “dividend equivalent amount” (DEA)

• Generally, foreign corporation’s E&P that are effectively connected with U.S. trade or business (

884(b))

• Certain adjustments to DEA

• If earnings are re-invested into U.S. branch assets, DEA is reduced, and BPT is reduced; conversely, removal or lowering of U.S. branch assets treated as deemed remittances to foreign owner of the U.S. branch

• Fluctuations taken into account as changes in ―U.S. net equity‖; increase in U.S. net equity reduces DEA while decrease in U.S. net equity increases DEA (tracking hypothetical distribution of branch assets)



Example: Basic BPT Computation

ECI $ 100

ECEP (at 35% tax rate) (a) 65

12/31/08 U.S. Net Equity 500

1/1/08 U.S. Net Equity 500

Increase in U.S. Net Equity (b) 0

DEA ((a) – (b)) 65

BPT (65 x 30) 19.5

Combined U.S. tax burden on $100

of U.S. profits with full BPT (35 + 19.5) $ 54.5



Branch Profits Tax: Basic Definitions

• DEA is the amount of the foreign corporation’s effectively connected

earnings & profits (“ECEP”) for the taxable year (1) reduced (not below

zero) by any increase in U.S. Net Equity during the year; or (2)

increased by any decrease in U.S. Net Equity during the year.

• ECEP is a foreign corporation’s earnings and profits (“E&P”)

determined under general U.S. tax principles that are attributable to its

ECI.

• U.S. Net Equity (“U.S. Net Equity”) is the excess of a foreign

corporation’s U.S. Assets over its U.S. Liabilities as of the

determination date.



Example: BPT Computation

Year 1 Year 2 Year 3

Reinvestment Repatriation Current Deficit

ECEP (a) $ 100 $ 100 $ (50)

12/31/10 U.S. Net Equity 100 150 50

1/1/10 U.S. Net Equity 0 100 150

Increase/(Decrease) in

U.S. Net Equity (b) 100 50 (100)

Non-previously taxed

Accumulated ECEP 0 100 50

DEA (a) – (b) 0 50 50

BPT DEA x 30% $ 0 $ 15 $ 15



Example: Nimble Dividend Rule

ECEP (a) $ 50

12/31/10 U.S. Net Equity 200



Non-previously taxed accumulated ECEP (150)

DEA ((a) – (b)) 50

BPT DEA x 30% $ 15

This rule provides parity to distributions from a U.S. subsidiary.



Example: ECEP Adjustments

Affecting BPT

ECI $ 0

ECEP (Muni-interest) (a) 50

12/31/10 U.S. Net Equity 200



DEA ((a) – (b)) 50

BPT $ 15

The same principle applies to other items that do not constitute ECI but increase the

foreign corporation’s ECEP.



Branch Profits Tax:

Definition Of U.S. Assets

• In determining U.S. Net Equity, U.S. Assets generally include the foreign corporation’s assets held on the determination date if (1) all income produced by the asset is, or would be, ECI; and (2) all gain from the disposition of the asset would be ECI.

• The amount of a U.S. Asset generally is measured by the adjusted basis used to compute U.S. E&P multiplied by the portion of the asset that is treated as a U.S. asset.

• Note: partnership interests are treated as U.S. Assets in proportion to the percentage of income flowing through that is ECI.

• Difficult issues arise in contexts of current-year losses, shifting asset mixes, and tiered structures.



Branch Profits Tax:

U.S. Real Property Interest

• If USRPI is actually connected or treated as connected with the

conduct of a U.S. trade or business (e.g., if an IRC

882(d) election is

made), the real property is a U.S. Asset.

• If USRPI is not used in a U.S. trade or business, the USRPI is not a

U.S. Asset. But, any gain from the sale of the USRPI is generally

treated as ECI and, therefore, generates ECEP which is generally

subject to BPT unless the termination rules apply.

• Gain on the sale of the stock of a U.S. real property holding company

does not give rise to ECEP despite the fact the gain is taxed as ECI

under IRC

897.



Branch Profits Tax:

Definition Of U.S. Liabilities

•U.S. liabilities based on computation of USCLs under

Reg.

1.882-5, using the foreign corporation’s assets and

liabilities on the relevant determination date (e.g., end of

taxable year).



Change In U.S. Net Equity:

A Trap For The Unwary

A U.S. branch has $100 of ECI, incurs $35 of income tax and reinvests

the $65 of ECEP in U.S. assets. The foreign corporation has elected to

use the 50% fixed ratio to compute its USCLs.

Branch Profits Tax

ECEP $ 65

Increase in USNE (32)

DEA 33

BPT ($33 * 30%) $ 10

1/1/10 12/31/10

E&P Basis in U.S. Assets 1,000 1,065

Less: USCLs (500) (533)

U.S. Net Equity 500 532

Increase in U.S. Net Equity 32

Change in USNE

Slide Intentionally Left Blank

BPT Implications For

Transfers Of Branch Assets



Branch Profits Tax: Terminations

• A foreign corporation is exempt from BPT with respect to its disinvestment

(including all accumulated ECEP) in the year of complete termination of all

business activity in the United States. Temp. Reg.

1.884-2T(a).

• Requirements:

a) As of the end of the year, corporations either has no U.S. assets or

shareholders have adopted an irrevocable resolution to dissolve the company

and terminate the U.S. business;

b) Three-year lock-out period that prohibits the terminating corporation, or a

related corporation, from using any of the former U.S. Assets in the conduct of

a U.S. trade or business;

c) Terminating foreign corporation has no ECI (other than through

864(c)(6) or

(7)) during the three years after the end of the taxable year; and

d) Terminating foreign corporation attaches a waiver (Form 8848) to extend

statute of limitations to six years following complete termination (i.e., three past

the three-year lock-out period).



Branch Profits Tax: Liquidations

And Reorganizations •A foreign corporation may defer its BPT liability when it transfers its U.S. branch operations to another corporation in a

381(a)-eligible corporate liquidation or reorganization; in such a case, termination rules not applicable. Temp. Reg.

1.884-2T(c).

• Foreign-to-Foreign

• Transferee inherits U.S. business, ECEP and non-ECEP carry over as a

381(a) attribute, U.S. net equity of transferee increased to reflect transfer.

• Inbound

• Distributions of inherited E&P by domestic transferee to foreign shareholder(s) can only qualify for treaty benefits to the extent the transferor foreign corporation would have been eligible for a BPT treaty reduction.

• Limitations on selling/cashing out of foreign transferor or domestic transferee by certain large shareholders within 12 months prior to

381(a) transfer. If violated,

exception to branch termination not applicable and deemed withdrawal of all branch equity with corresponding increase to DEA, possibly resulting in BPT exposure.

• Must also execute Form 2045 (contained within Form 8848) to extend statute of limitations on transfer of branch assets for six years after close of year of transfer.



Branch Profits Tax: Incorporation

•A foreign corporation also may defer its BPT liability if it incorporates its

branch into a U.S. subsidiary (e.g., in a

351 transfer). Temp. Reg.

1.884-

2T(d).

• U.S. subsidiary must make an election to increase its E&P by the amount of

ECEP associated with the contributed U.S. assets. Same rule as in prior slide

for limitation on treaty periods.

• Foreign shareholder that contributes the assets must also agree to recognize

as a DEA any gain on a subsequent sale of the U.S. subsidiary’s stock, to the

extent of the transferred earnings that have not yet been subject to U.S. tax

via repatriation to the foreign shareholder.

Procedural Aspects



Section 884 Compliance: Branch

Profits Tax

• Section 884 Branch Profits Tax (BPT) Reported on Form 1120-F, Not

by Section 1441/1442 Withholding.

• Section III, Part I.

• Not subject to estimated tax payments – Treas. Reg.

1.884-1(a).

• Additional Information:

• Section III, Part III—asks if a termination, reorganization or incorporation

event has occurred.

• If 1120-F filer is eligible under a Treaty for a reduced rate of withholding,

then Form 8833 must be used to claim treaty benefits.

• Statutory (IRC section 6712) $10,000 penalty for failure to file this

form.



Section 884 Compliance: Branch

Profits Tax And Tax On Excess Interest

© 2013 KPMG LLP, a Delaware limited liability partnership and

the U.S. member firm of the KPMG network of independent

member firms affiliated with KPMG International Cooperative

(―KPMG International‖), a Swiss entity. All rights reserved.

NDPPS 114294

The KPMG name, logo and ―cutting through complexity‖ are

registered trademarks or trademarks of KPMG International.

MECHANICS OF THE BRANCH LEVEL INTEREST TAX

Robert J. Misey Jr., Reinhart Boerner Van Deuren

Incentive To Move Deductions

To A U.S. Branch

34

ForCo

U.S.

Branch

Book Debt on Books

of U.S. Branch

Debt to 3P Bank Allocate S, G & A

Expenses

Taxation Of Effectively

Connected Income Deductions against effectively connected income of a U.S.

branch

Expenses, losses, and other deductions that are directly

related to effectively connected gross income (e.g., cost of goods sold), as well as a ratable portion of any deductions

that are not definitely related to any specific item of gross

income

35


Connected Income (Cont.) The three-step approach for interest

1. Determine the value of the foreign corporation’s U.S. assets

2. Determine the total amount of the foreign corporation’s U.S. connected liabilities by multiplying the value of the foreign corporation’s U.S. assets by its worldwide debt-to-asset ratio for the year

3. Compare the amount of the foreign corporation’s U.S. connected liabilities to its U.S. booked liabilities

36


Connected Income (Cont.) Comparison

a. If the foreign corporation’s U.S. booked liabilities exceed its U.S. connected liabilities, the foreign corporation’s U.S.

interest expense equals the interest accrued on U.S.

booked liabilities reduced by the percent of U.S.

connected liabilities to U.S. booked liabilities

37


Connected Income (Cont.) Comparison (Cont.):

b. But if the foreign corporation’s U.S. booked liabilities are less than its U.S. connected liabilities, then the foreign

corporation may increase its interest expense deduction

by the excess amount of U.S. connected liabilities

multiplied times the effective interest rate on non U.S.-

booked liabilities

38

Example 1:

Interest Expense

39

ForCo

U.S. Branch

$5 million U.S. assets $1 million U.S. booked

liabilities @ 5%

F

.


liabilities @ 5%

U.S.

foreign

parcel

U.S.

parcel


Connected Income (Cont.)

40

Interest expense: Step 1

The total value of ForCo’s

U.S. assets is $5 million.


Connected Income (Cont.) Interest expense: Step 2

The amount of ForCo’s U.S. connected liabilities is

determined by multiplying $5 million (the value of ForCo's

U.S. assets) by its debt-to-asset ratio. The debt-to-asset ratio is either: (a) the ratio of ForCo’s worldwide liabilities to its

worldwide assets or (b) a fixed rate of 50%. Assuming that

ForCo elects to use the fixed rate of 50%, its U.S. connected

liabilities are $2.5 million

41




Because ForCo’s U.S. connected liabilities ($2.5 million)

exceed its U.S. booked liabilities ($1 million), ForCo has "excess" interest expense of $75,000 (i.e., the $1.5 million

excess of U.S. connected liabilities multiplied by 5%), resulting

in a total interest expense of $125,000 (i.e., $50,000

attributable to the U.S. booked liabilities and $75,000 attributable to the excess U.S. connected liabilities)

42



Branch profits tax

The branch profits tax is designed to equate the tax treatment of U.S. branch and U.S. subsidiary operations by

imposing a tax equal to 30% of a foreign corporation's

Dividend Equivalent Amount for the taxable year

43

Policy Behind The

Branch Interest Taxes

44

ForCo

F

US

F

US

ForCo

USSub

3PF

Bank

3PF

Bank

interest interest

Two Branch Interest Taxes

1. Branch interest withholding tax

2. Excess interest tax

45



Branch interest withholding tax

1. Any interest paid by a foreign corporation's U.S. branch is

treated as if it were paid by a U.S. corporation

2. This rule subjects any interest paid by a U.S. branch to a foreign person to the 30% withholding tax

3. Interest is considered to be "paid by" a U.S. branch if the

underlying liability is booked by the foreign corporation as

a branch liability

46

Example 2:

Branch Interest Withholding Tax

47

ForCo

U.S. Branch

$50,000 interest paid

U.S.

F



Mechanics of the branch interest withholding tax

1. The branch interest withholding tax is not imposed on

interest that qualifies for an exemption from withholding

tax

2. The branch interest withholding tax is reported via

Form 1042 withholding, not on the Form 1120-F

48

Example 3:

Branch Tax On Excess Interest

49

ForCo

U.S. Branch

$125,000 interest deducted $75,000 s.t. branch interest withholding tax

U.S. Branch

U.S.

F

Exemptions From Branch

Interest Tax

1. Bank deposit interest

2. Portfolio interest

3. Reduction due to treaty

54

Example 4:

Interest Expense

55

ForCo

U.S. Branch


liabilities @ 5%

F

.

$5 million U.S. assets

liabilities @ 5%

U.S.

foreign

parcel

U.S.

parcel



56


The total value of ForCo’s U.S.

assets is $5 million


Connected Income (Cont.) Interest expense: Step 2

The amount of ForCo’s U.S. connected liabilities is

determined by multiplying $5 million (the value of ForCo's

U.S. assets) by its debt-to-asset ratio. The debt-to-asset ratio is either: (a) the ratio of ForCo’s worldwide liabilities to its

worldwide assets or (b) a fixed rate of 50%. Assuming that

ForCo elects to use the fixed rate of 50%, its U.S. connected

liabilities are $2.5 million

57




Because ForCo’s U.S. booked liabilities ($50 million) exceed

its U.S. connected liabilities ($2.5 million), ForCo's deductible interest is reduced from $50,000 by half to $25,000; $25,000 is

the branch interest withholding tax and there is not an

excess interest tax

58

BRANCH TAX AND TAX TREATY ISSUES

James Sams, KPMG

© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member fi rms affiliated with

KPMG International Cooperative (―KPMG International‖), a Swiss entity. All rights reserved. Printed in the U.S.A.

FOR INTERNAL USE ONLY. Not for distribution to clients unless the technical and policy review requirements of Tax Services Manual section 23.7 are satisfied.

Notice

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT

INTENDED OR WRITTEN BY KPMG TO BE USED, AND

CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON

OR ENTITY FOR THE PURPOSE OF (i) AVOIDING

PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR

(ii) PROMOTING, MARKETING OR RECOMMENDING TO

ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.

You (and your employees, representatives, or agents) may disclose to any and all persons,

without limitation, the tax treatment or tax structure, or both, of any transaction described in the

associated materials we provide to you, including, but not limited to, any tax opinions,

memoranda, or other tax analyses contained in those materials.

The information contained herein is of a general nature and based on authorities that are subject

to change. Applicability of the information to specific situations should be determined through

consultation with your tax adviser.

© 2013 KPMG LLP, a Delaware limited liability partnership and the US member firm of the KPMG network of independent


Agenda

• Treaty overview

• Tax treaty qualification (principal features)

• In general

• Hybrid entities

• Application to the BPT provisions

Treaty Overview



FOR INTERNAL USE ONLY. Not for distribution to clients unless the technical and policy review requirements of Tax Services Manual section 23.7 are satisfied. 64

Tax Treaties: Overview

Common benefits of income tax treaties

− Reduced withholding taxes on investment income

E.g., rates ranging from 0% to 15% on dividends depending on

level of stock ownership

Reduced rates on BPT/BLIT

− No tax on business profits unless attributable to permanent

establishment

PE is a fixed place of business with exact forms creating PE

defined in treaty

Dependent agent may create PE while independent agent does

not create PE

− Competent authority procedures




Tax Treaties: Overview (Cont.)

Each treaty is unique but contain common provisions

Weight of authority

− Generally same as IRC

− Where conflict exists, ―later in time‖ rule generally applies

Aids to treaty interpretation

− Treasury Department technical explanation

− Senate Foreign Relations Committee Report

− Model treaties and related commentary

2006 U.S. Model Treaty

2005 OECD Model Treaty

Treaty Qualification



FOR INTERNAL USE ONLY. Not for distribution to clients unless the technical and policy review requirements of Tax Services Manual section 23.7 are satisfied. 67 67

Treaty Qualification: General

Requirements

First, qualify under residence article

− Special rules for pass-through entities

Second, satisfy at least one of the tests in the LOB article

− ―Qualified persons‖ entitled to all treaty benefits

resident individuals, governments, publicly traded & subsidiary

of publicly traded corporations

Entities meeting ownership and base erosion tests

− Active Trade or Business Test

− Derivative Benefits Test (not all treaties)

− Headquarters company test (not common)

− Discretionary grant of treaty benefits




LOB Provisions

General Form Of Ownership Tests

For companies, must be either:

− Regularly traded public company in the treaty jurisdiction

− More than 50% of its shares are owned by [5] or fewer companies

described above, or

− More than X% is owned by treaty residents, and X+Y% is owned by

U.S., EU or NAFTA residents

For companies and other persons:

− More than 50% is owned by treaty residents, and

− Base erosion test satisfied (i.e., earnings stripping may preclude

qualification).

No derivative benefits unless explicitly prescribed in the treaty

68




LOB Provisions

General Form Of Business Activities Tests

If fail ownership tests, may still qualify for some or all treaty

benefits if:

− Conduct ―active business‖ in treaty jurisdictions

Substantial in relation to business in other state

Similar or complementary businesses

In some cases, payroll, assets and gross income tests must be

satisfied; or, provided as safe harbors to gauge whether you are

―active‖

69

Treaties And Hybrids




Hybrids

Having qualified under the treaty generally, must clear additional US domestic law hurdle governing payments to hybrid entities

− Applicable to payments to a non-US entity that is fiscally transparent under US and/or non-US law

− Relief available only if the item of income is treated as income of the treaty resident under the law of the treaty jurisdiction

− Special rule for payments to US ―reverse hybrids‖

Affects UK-US inbound financing structure using USGP

− US-UK Treaty Article 1(8) applies similar rules

− Consider payments to a US LLC

Must consider other nuances, special rules

− Proposed legislation may deny treaty benefits to a subsidiary which itself qualifies but whose parent company does not.

71




Treaty Qualification For A DRE

US

Luxembourg

Bermuda

US

Residents

Is a Luxembourg DRE

eligible for the benefits of

the US-Luxembourg

Income Tax Treaty?




Treaty Qualification For A DRE (Cont.)

The explanation to the 2006 U.S. model looks to domestic law:

− ―The determination of residence for treaty purposes looks first to a

person's liability to tax as a resident under the respective taxation

laws of the Contracting States. As a general matter, a person who,

under those laws, is a resident of one Contracting State and not of

the other need look no further. For purposes of the Convention, that

person is a resident of the State in which he is resident under

internal law.‖

The explanation goes on to say US will treat an otherwise fiscally

transparent US entity as a US resident if it is treated as a

corporation for US tax purposes.





Second test: Is the Luxembourg DRE’s income “derived by” a resident of Luxembourg.

Paragraph 6 of Article 1 of 2006 US model provides:

− ―An item of income, profit or gain derived through an entity that is fiscally transparent under the laws of either Contracting State shall be considered to be derived by a resident of a State to the extent that the item is treated for purposes of the taxation law of such Contracting State as the income, profit or gain of a resident.‖

If income is subject to tax in Luxembourg then the income is “derived by” the Luxembourg DRE. US

Luxembourg

Bermuda

US

Residents





Third test: Beneficial owner of the income must be entitled to the benefits of the treaty.

The United States does not view a DRE as a beneficial owner.

Is the Luxembourg DRE denied treaty benefits because Bermuda is the “beneficial owner” of the income?

The commentary to the 2006 US Model states as follows:

− ―In the case of hybrid entities (that is, an entity that is treated as fiscally transparent under the laws of one State and non-fiscally transparent under the laws of the other, or of a third State), it may be that the person who "derives" the income under Article 1(6) is not the same person as the "beneficial owner" under Article 10 (Dividends). This will not prevent a claim for treaty benefits, so long as each of the requirements is met by one or more residents of the other Contracting State.‖

Applications Under The

BPT Provisions




Treaty Qualification And The BPT

Does UK qualify for tax treaty relief in general?

If so, does BPT apply?

If so, at what rate?

US

Luxembourg

UK

Public

US Branch




Treaty Qualification And The BPT (Cont.)

Article 10(7) of the UK Treaty permits the US to impose the BPT:

− A company that is a resident of a Contracting State and that has a

permanent establishment in the other Contracting State, or that is

subject to tax in that other State on a net basis on its income or

gains that may be taxed in that other State under Article 6 (Income

from Real Property) or under paragraph 1 of Article 13 (Gains) of

this Convention, may be subject in that other State to a tax in

addition to any tax that may be imposed by that other State in

accordance with the other provisions of this Convention.

Article 10(8) limits the tax to the dividend withholding tax rate of

5% specified in 10(2). That reduced rate applies to dividends paid

to a “company.”




Treaty Qualification And

The BPT: Redux What if the US Branch qualifies as US

business nexus under the Code, but does NOT constitute a PE under an applicable US tax treaty?

Can the BPT apply? Consider the following language:

− Treas. Reg. section 1.884-1(f)(4), Ex.2: … The ECI is exempt from taxation under section 882(a) by reason of an income tax treaty and section 894(a). The income nevertheless gives rise to ECEP under this paragraph (f).‖

− UK treaty, Art. 10(7): ―…Such tax, however, may be imposed on only the portion of the business profits of the company attributable to the permanent establishment…‖

.

US

Luxembourg

Treaty

Country

Public

US ―Branch‖

[but not = PE]




Treaty Qualification And The BLIT

Does UK qualify for tax treaty relief in general?

Does Spanish Bank qualify for tax treaty relief in general?

Which treaty (and rate) governs for purposes of the BLIT?

US

Luxembourg

UK

Public

US Branch

Spanish Bank

Interest

Excess Interest

(Deemed)




Treaty Benefits For A Foreign

Reverse Hybrid (FRH)

UK

FRH

US Branch

UK

Individual

Saudi

Individual

Can the UK FRH

claim a reduced

rate of BPT under

the UK-US

Income Tax

Treaty?

German

Public Co.

UK Private

Co.




Treaty Benefits For An FRH

Would US grant relief from BPT to FRH to extent of its UK

resident owners?

− Section 884(a) states this is a tax on the foreign corporation in

addition to the tax imposed under section 882.




Treaty Benefits For An FRH (Cont.)

Article 10(7) of the UK Treaty permits the US to impose the BPT:

− A company that is a resident of a Contracting State and that has a

permanent establishment in the other Contracting State, or that is

subject to tax in that other State on a net basis on its income or

gains that may be taxed in that other State under Article 6 (Income

from Real Property) or under paragraph 1 of Article 13 (Gains) of

this Convention, may be subject in that other State to a tax in

addition to any tax that may be imposed by that other State in

accordance with the other provisions of this Convention.

Article 10(8) limits the tax to the dividend withholding tax rate of

5% specified in 10(2). That reduced rate applies to dividends paid

to a “company.”





Article 3 provides:

− The term "company" means any body corporate or any entity that is

treated as a body corporate for tax purposes;

− Any term not defined therein shall, unless the context otherwise

requires, or the competent authorities agree on a common meaning

pursuant to the provisions of Article 26 (Mutual Agreement

Procedure) of this Convention, have the meaning which it has at

that time under the law of that State for the purposes of the taxes to

which this Convention applies, any meaning under the applicable

tax laws of that State prevailing over a meaning given to the term

under other laws of that State.





US views FRH as a corporation and imposes BPT.

FRH is fiscally transparent in the UK.

− Article 1(6) provides that income of FRH is income of a resident to the extent the UK treats it as income of a resident under its tax laws. Thus, partially income of a UK resident.

− Article 1(6) does not answer whether this is income of a UK company or UK resident individual.

− Article 3(2) suggests US law applies to determine whether FRH is a ―company‖ unless . . .

− Does the context otherwise require reference to UK law?

© 2012 KPMG LLP, a Delaware limited liability

partnership and the US member firm of the KPMG

network of independent member firms affiliated with

KPMG International Cooperative (―KPMG

International‖), a Swiss entity. All rights reserved.

NDPPS 134002

The KPMG name, logo and ―cutting through

complexity‖ are registered trademarks or trademarks

of KPMG International.

Branch Profits Tax: Compliance and Planning from the Ground...

Documents

Transcript of Branch Profits Tax: Compliance and Planning from the Ground...