[JPRT 106-12-99]
[From the U.S. Government Publishing Office]
JCS-12-99
[JOINT COMMITTEE PRINT]
EXPLANATION OF PROPOSED PROTOCOL
TO THE CONVENTION BETWEEN
THE UNITED STATES AND GERMANY
FOR THE AVOIDANCE OF
DOUBLE TAXATION
WITH RESPECT TO TAXES ON ESTATES,
INHERITANCES, AND GIFTS
Scheduled for a Hearing
before the
COMMITTEE ON FOREIGN RELATIONS
UNITED STATES SENATE
ON OCTOBER 13, 1999
__________
Prepared by the Staff
of the
JOINT COMMITTEE ON TAXATION
[GRAPHIC] [TIFF OMITTED]
OCTOBER 8, 1999
JOINT COMMITTEE ON TAXATION
106th Congress, 1st Session
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HOUSE SENATE
BILL ARCHER, Texas, WILLIAM V. ROTH, Jr., Delaware,
Chairman Vice Chairman
PHILIP M. CRANE, Illinois JOHN H. CHAFEE, Rhode Island
WILLIAM M. THOMAS, California CHARLES GRASSLEY, Iowa
CHARLES B. RANGEL, New York DANIEL PATRICK MOYNIHAN, New York
FORTNEY PETE STARK, California MAX BAUCUS, Montana
Lindy L. Paull, Chief of Staff
Bernard A. Schmitt, Deputy Chief of Staff
Mary M. Schmitt, Deputy Chief of Staff
Richard A. Grafmeyer, Deputy Chief of Staff
C O N T E N T S
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Page
Introduction..................................................... 1
I. Summary...........................................................1
II. Explanation of Proposed Protocol..................................3
Article 1................................................ 3
Article 2................................................ 4
Article 3................................................ 4
Article 4................................................ 6
Article 5................................................ 7
INTRODUCTION
This pamphlet, 1 prepared by the staff of the
Joint Committee on Taxation, describes the proposed protocol to
the treaty between the United States and Germany relating to
estate, inheritance, and gift taxes. The proposed protocol was
signed on December 14, 1998. 2 The proposed protocol
would modify the estate, gift, and inheritance tax treaty
between the United States and Germany that was signed on
December 3, 1980. The Senate Committee on Foreign Relations has
scheduled a public hearing on the proposed protocol on October
13, 1999.
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\1\ This pamphlet may be cited as follows: Joint Committee on
Taxation, Explanation of Proposed Protocol to the Convention Between
the United States and Germany for the Avoidance of Double Taxation with
Respect to Taxes on Estates, Inheritances, and Gifts (JCS-12-99),
October 8, 1999.
\2\ For a copy of the proposed protocol, see Senate Treaty Doc.
106-13, September 21, 1999.
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Part I of the pamphlet provides a summary of the proposed
protocol. Part II contains an article-by-article explanation of
the proposed protocol.
I. SUMMARY
In general
An estate, gift, and inheritance tax treaty currently is in
force between the United States and Germany. In the case of the
United States, the treaty applies to the U.S. estate, gift, and
generation-skipping transfer taxes. These taxes apply to the
transfer of property by a decedent's estate or a donor, at
death, during life, or by a generation-skipping transfer.
Generation-skipping transfers generally involve transfers that
skip a generation, as would be the case of a transfer by a
donor to the donor's grandchild. In the case of Germany, the
treaty applies to the inheritance and gift taxes. Generally,
these taxes apply to similar transfers, but are imposed on the
recipient of property from an estate or donor, rather than on
the transferor.
The principal purpose of the existing estate, gift, and
inheritance tax treaty between the United States and Germany is
to reduce or eliminate double taxation on estate, gift, or
inheritance taxes. One of the general principles of the treaty
is that the country in which a donor or decedent was domiciled
may tax the estate or gifts of that individual on a worldwide
basis but must credit tax paid to the other country with
respect to certain types of property located in such other
country. Specifically, immovable property, certain business
assets, and partnership interests attributable to such property
are taxable in the country where such property is situated.
Proposed modifications to the estate, gift, and inheritance
tax treaty
The proposed protocol would make several modifications to
the U.S.-Germany estate, gift, and inheritance tax treaty.
First, the proposed protocol would modify certain tiebreaker
rules in the treaty, that determine which country has the right
to tax on a worldwide basis when a decedent or donor is treated
as domiciled in both the United States and Germany at the time
of death or at the time of making a gift. In this regard, the
proposed protocol would extend from five to ten years the
period of time during which a citizen of one country can be
domiciled in the other country without becoming subject to the
primary taxing jurisdiction of the other country.
Second, the proposed protocol would modify certain
exemptions granted to transfers between spouses. The existing
treaty provides that interspousal transfers of property are
granted a 50-percent exemption. The proposed protocol would
provide that the United States need not provide this exemption
if the decedent or donor was a U.S. citizen, or was a former
U.S. citizen or long-term resident whose loss of such status
had as one of its principal purposes the avoidance of tax.
Third, the proposed protocol would provide a pro rata
unified credit to the estate of an individual domiciled in
Germany (who is not a U.S. citizen) for purposes of computing
the U.S. estate tax. Under this provision, such an individual
domiciled in Germany is entitled to a credit against U.S.
estate tax based on the extent to which the assets of the
estate are situated in the United States.
Fourth, the proposed protocol would provide a limited U.S.
estate tax marital deduction when the surviving spouse is not a
U.S. citizen. This provision would apply in the case of certain
estates of limited value.
Finally, the proposed protocol would expand the saving
clause of the treaty by expanding the types of persons who may
be taxed by the United States. This provision would allow the
United States to apply its estate and gift tax rules to former
U.S. citizens and long-term residents whose loss of such status
had as one of its principal purposes the avoidance of tax.
II. EXPLANATION OF PROPOSED PROTOCOL
A detailed, article-by-article explanation of the proposed
protocol to the estate, gift, and inheritance tax treaty
between the United States and Germany is set forth below.
Article 1
The proposed protocol would modify certain tiebreaker rules
in the treaty which determine an individual's country of
domicile where an individual is treated as domiciled in both
countries. Under these rules, an individual is deemed to be
domiciled in the country in which he or she has a permanent
home. If the individual has a permanent home in both countries
(or in neither country), then the individual's domicile is
deemed to be the country in which his or her personal and
economic relations were closest (i.e., the individual's
``center of vital interests''). If the individual's center of
vital interests cannot be determined, then the individual's
domicile is deemed to be the country in which he or she has an
habitual abode. If the individual has an habitual abode in both
countries (or in neither country), then the individual's
domicile is deemed to be the country of which he or she is a
citizen. If the individual is a citizen of both countries (or
of neither country), then the competent authorities of the
countries will settle the issue of domicile by mutual
agreement.
The existing treaty contains an exception to the tiebreaker
rules described above. This exception applies where an
individual was: (1) a citizen of one, but not the other,
country; (2) domiciled in both countries according to the
domestic laws of those countries; and (3) domiciled in the
country of which he or she was not a citizen for not more than
five years. When these conditions are met, the individual is
deemed to be domiciled in the country in which he or she was a
citizen for purposes of the treaty. This exception to the
tiebreaker rules is based on the notion that a country should
not tax the worldwide estate, gifts, or inheritances with
respect to an individual domiciled therein if that individual
has not been present in the country for a significant period of
time.
The proposed protocol would amend the exception to the
tiebreaker rules to extend from five to ten years the period
during which an individual who otherwise meets the exception
described above may be domiciled in the country of which he was
not a citizen without being treated as domiciled in that
country for purposes of the treaty. Thus, a U.S. citizen who is
domiciled in both the United States and Germany under the laws
of each country and who is domiciled in Germany for not more
than 10 years would be deemed to be domiciled only in the
United States (i.e., his or her country of citizenship) for
purposes of the treaty.
Article 2
The proposed protocol would modify certain exemptions
granted for transfers between spouses under the treaty. Under
the treaty, a country in which a decedent or donor was not
domiciled may tax certain assets situated in that country
(e.g., immovable property, business property of a permanent
establishment in that country, assets pertaining to a fixed
base in that country for the purpose of performing independent
personal services, and certain interests in partnerships). That
country is required to provide certain deductions and
exemptions with respect to the taxation of such property. For
example, under the treaty, a country exercising its rights to
impose a situs-based tax on such property is required to grant
a 50-percent marital exclusion for interspousal transfers of
certain types of non-community property from individuals
domiciled in or citizens of the other country. Under this rule,
interspousal transfers of such property may be included in the
taxable base of the country where the property is located, but
only to the extent that the value of such property exceeds 50
percent of the value of all property that may be taxed in that
country.
The proposed protocol would provide that the 50-percent
exemption described above would not apply if the decedent or
donor was a U.S. citizen domiciled in Germany, or was a former
U.S. citizen or long-term resident of the United States whose
loss of such status had as one of its principal purposes the
avoidance of tax. Thus, the United States would not be
obligated to provide the marital exclusion benefits described
above to the estate of or a gift made by such a person.
According to the Treasury Department's Technical Explanation
(the ``Technical Explanation''), for example, a U.S. citizen
who is domiciled in Germany under German law could, for
purposes of the treaty, be deemed to have his domicile in
Germany under the tiebreaker rules described above. In such a
case, under the proposed protocol, the United States would not
be required to provide the 50-percent marital exclusion with
respect to interspousal transfers from that U.S. citizen to a
spouse who is not a U.S. citizen.
Article 3
Pro rata unified credit
U.S. internal law
In general, under U.S. domestic law, U.S. citizens and
residents are allowed a unified credit of $211,300 in 1999
against their cumulative lifetime U.S. estate and gift tax
liability. The unified credit increases through 2006. The
unified credit effectively exempts from the U.S. estate and
gift tax transfers in the amount of $650,000 in 1999, $675,000
in 2000 and 2001, $700,000 in 2002 and 2003, $850,000 in 2004,
$950,000 in 2005, and $1,000,000 in 2006 and thereafter (also
referred to as the ``applicable exclusion amount'').
In general, the estate of a nonresident who is not a U.S.
citizen is subject to U.S. estate tax only on his or her assets
situated in the United States. Under Code section 2102(c)(1),
the unified credit against the estate tax allowed to such
nonresidents is $13,000.
Proposed treaty modification
The proposed protocol would provide a pro rata unified
credit to the estate of an individual domiciled in Germany (who
is not a U.S. citizen) for purposes of computing the U.S.
estate tax. The unified credit for such persons would be the
greater of (1) a pro rata portion of the unified credit which
is allowed to U.S. citizens and residents, or (2) the unified
credit allowed to the estate of a nonresident who is not a U.S.
citizen under U.S. law (i.e., $13,000). The pro rata portion
would be based upon the ratio that the German resident's gross
estate situated in the United States at the time of his death
bears to his worldwide gross estate. The Technical Explanation
states that, for example, if a non-U.S. citizen domiciled in
Germany died in 1999 and half of his entire gross estate (by
value) were situated in the United States, the U.S. estate
would be entitled to a pro rata unified credit of $105,650.
This credit must be reduced for any gift tax unified credit
previously allowed for any gift made by the decedent. Allowance
of the pro rata unified credit is conditioned upon the taxpayer
providing sufficient documentation to verify the amount of the
credit.
U.S. estate tax marital deduction
Where a surviving spouse is not a U.S. citizen, the
proposed protocol would allow an estate to elect a limited U.S.
estate tax marital deduction for property that would qualify
for the marital deduction if the surviving spouse had been a
U.S. citizen, provided that the following conditions are met:
(1) at the time of the decedent's death, the decedent was
domiciled in either Germany or the United States; (2) the
decedent's surviving spouse was at the time of the decedent's
death domiciled in either Germany or the United States; (3) if
both the decedent and the decedent's surviving spouse were
domiciled in the United States at the time of the decedent's
death, one or both was a citizen of Germany; and (4) the
executor of the decedent's estate irrevocably waives the
benefits of any other estate tax marital deduction that would
be allowed under the Code.
The marital deduction would equal the lesser of (1) the
value of the qualifying property, or (2) the decedent's unified
credit applicable exclusion amount (within the meaning of U.S.
law determined without regard to any gift previously made by
decedent). The Technical Explanation states that qualifying
property must pass to the surviving spouse (within the meaning
of U.S. domestic law) and be property that would have qualified
for the estate tax marital deduction under U.S. domestic law if
the surviving spouse had been a U.S. citizen and all applicable
elections specified by U.S. domestic law had properly been
made. As described above, the applicable exclusion amount for
decedents dying in 1999 is $650,000.
The Technical Explanation provides an example of the
operation of the new pro rata unified credit and the marital
deduction that would be added by the proposed protocol. For
example, assume husband (H) and wife (W) are both citizens and
residents of Germany. H dies in the year 2000, when the unified
credit is $220,550 and the applicable exclusion amount is
$675,000. H has U.S. real property worth $2,000,000, all of
which he bequeaths to W. The remainder of H's estate consists
of $3,000,000 of property situated in Germany. Under the
existing treaty, H's U.S. gross estate equals $1,000,000 (the
amount by which $2,000,000 of U.S. real property bequeathed to
W exceeds 50 percent of the total value of U.S. property
taxable in the United States under the treaty, or $1,000,000).
H's worldwide gross estate equals $4,000,000 ($1,000,000 plus
$3,000,000 of property situated in Germany).
Under the proposed protocol, H's $1,000,000 U.S. gross
estate would be reduced by a $675,000 marital deduction (i.e.,
the lesser of the applicable exclusion amount ($675,000) or the
value of qualifying property transferred to the spouse
($2,000,000 in this case). This would result in a $325,000 U.S.
taxable estate. The tentative tax on the taxable estate would
be $96,300. However, under the proposed protocol, H's estate
would also be entitled to a new pro rata unified credit of
$55,138 (i.e., $220,500 (the full unified credit for 1999)
times $1,000,000/$4,000,000 (the U.S. gross estate over the
worldwide gross estate)). Thus, under the proposed protocol,
the total U.S. estate tax liability would be $96,300 minus
$55,138, or $41,162.
Article 4
The proposed protocol would amend the saving clause of the
existing treaty. Under the existing treaty, the United States
retains the right to tax under U.S. law the estates or gifts of
U.S. citizens. A ``citizen'' for this purpose includes a former
U.S. citizen whose loss of citizenship had as one of its
principal purposes the avoidance of U.S. tax, but only for a
period of 10 years after such loss of citizenship.
The proposed protocol would expand the saving clause to
cover, in the case of the United States, two additional classes
of individuals. First, under the proposed protocol, the United
States generally would retain the right to tax under U.S. law
the estates or gifts of individuals who, at the time of the
transfer, were domiciled (within the meaning of Article 4
(Fiscal Domicile) of the treaty) in the United States. Second,
under the proposed protocol, the United States generally would
retain the right to tax under U.S. law the estates or gifts of
individuals who, at the time of the transfer, were former long-
term residents of the United States whose loss of such status
had as one of its principal purposes the avoidance of tax, but
only for ten years following the loss of such status.
In addition, the proposed protocol would permit Germany to
retain the right to tax in accordance with German law an heir,
donee, or another beneficiary who was domiciled (within the
meaning of Article 4 (Fiscal Domicile) of the treaty) in
Germany at the time of the death of the decedent or the making
of the gift.
The existing treaty provides exceptions to the saving
clause that preserve certain obligations of the countries under
the treaty. The proposed protocol would add to these exceptions
from the saving clause the pro rata unified credit and the U.S.
estate tax marital deduction that would be added under the
proposed protocol. However, these additional exceptions from
the saving clause would not apply to the estates of former U.S.
citizens and long-term residents whose loss of status had as a
principal purpose the avoidance of tax, for a period of ten
years following the loss of such status.
Article 5
The proposed protocol provides that it is subject to
ratification in accordance with the applicable procedures in
the United States and Germany, and that instruments of
ratification will be exchanged as soon as possible. The
proposed protocol generally would enter into force upon the
exchange of instruments of ratification and would have effect
with respect to deaths occurring and gifts made after that
date.
A special effective date rule applies with respect to the
pro rata unified credit and the limited U.S. estate tax marital
deduction (Article 3 of the proposed protocol), as well as the
expansion of the saving clause (Article 4 of the proposed
protocol). The proposed protocol provides that such provisions
would have effect with respect to deaths occurring and gifts
made after November 10, 1988, \3\ notwithstanding any
limitation imposed under the law of a country on the
assessment, reassessment, or refund with respect to a person's
or estate's return, and provided that any return or claim for
refund asserting the benefits of the proposed protocol are
filed within one year of the date on which the proposed
protocol enters into force or within the otherwise applicable
period for filing such claims under domestic law.
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\3\ November 10, 1988, is the effective date of the Technical and
Miscellaneous Revenue Act of 1988 (``TAMRA''). In TAMRA, Congress
passed several significant estate and gift tax changes affecting alien
individuals. First, the marital deduction generally was disallowed on
transfers to non-U.S. citizen spouses. Second, the special tax rates
and credits applicable to the estates of nonresident aliens prior to
TAMRA were repealed.
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