[Senate Executive Report 106-6]
[From the U.S. Government Publishing Office]
106th Congress Exec. Rpt.
SENATE
1st Session 106-6
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TAX CONVENTION WITH VENEZUELA
_______
November 3, 1999.--Ordered to be printed
_______
Mr. Helms, from the Committee on Foreign Relations,
submitted the following
R E P O R T
[To accompany Treaty Doc. 106-3]
The Committee on Foreign Relations, to which was referred
the Convention between the Government of the United States of
America and the Government of the Republic of Venezuela for the
Avoidance of Double Taxation and the Prevention of Fiscal
Evasion with Respect to Taxes on Income and Capital, together
with a Protocol, signed at Caracas on January 25, 1999, having
considered the same, reports favorably thereon, with two
understandings, two declarations, and one proviso, and
recommends that the Senate give its advice and consent to
ratification thereof, as set forth in this report and the
accompanying resolution of ratification.
CONTENTS
Page
I. Purpose..........................................................1
II. Background.......................................................2
III. Summary..........................................................2
IV. Entry Into Force and Termination.................................3
V. Committee Action.................................................3
VI. Committee Comments...............................................3
VII. Budget Impact...................................................15
VIII.Explanation of Proposed Treaty and Proposed Protocol............15
IX. Text of the Resolution of Ratification..........................60
I. Purpose
The principal purposes of the proposed income tax treaty
between the United States and Venezuela are to reduce or
eliminate double taxation of income earned by residents of
either country from sources within the other country and to
prevent avoidance or evasion of the income taxes of the two
countries. The proposed treaty is intended to continue to
promote close economic cooperation and facilitate trade and
investment between the two countries. It also is intended to
enable the two countries to cooperate in preventing avoidance
and evasion of taxes.
II. Background
The proposed treaty was signed on January 25, 1999. No
income tax treaty between the United States and Venezuela is in
force at present.
The proposed treaty was transmitted to the Senate for
advice and consent to its ratification on June 29, 1999 (see
Treaty Doc. 106-3). The Committee on Foreign Relations held a
public hearing on the proposed treaty on October 27, 1999.
III. Summary
The proposed treaty is similar to other recent U.S. income
tax treaties, the 1996 U.S. model income tax treaty (``U.S.
model''), the model income tax treaty of the Organization for
Economic Cooperation and Development (``OECD model''), and the
United Nations Model Double Taxation Convention between
Developed and Developing Countries (the ``U.N. model'').
However, the proposed treaty contains certain substantive
deviations from those treaties and models.
As in other U.S. tax treaties, these objectives principally
are achieved through each country's agreement to limit, in
certain specified situations, its right to tax income derived
from its territory by residents of the other country.
For example, the proposed treaty contains provisions under
which each country generally agrees not to tax business income
derived from sources within that country by residents of the
other country unless the business activities in the taxing
country are substantial enough to constitute a permanent
establishment or fixed base (Articles 7 and 14). Similarly, the
proposed treaty contains ``commercial visitor'' exemptions
under which residents of one country performing personal
services in the other country will not be required to pay tax
in the other country unless their contact with the other
country exceeds specified minimums (Articles 14, 15, 18 and
21). The proposed treaty provides that dividends, interest,
royalties, and certain capital gains derived by a resident of
either country from sources within the other country generally
may be taxed by both countries (Articles 10, 11, 12 and 13);
however, the rate of tax that the source country may impose on
a resident of the other country on dividends, interest, and
royalties generally will be limited by the proposed treaty
(Articles 10, 11, and 12).
In situations where the country of source retains the right
under the proposed treaty to tax income derived by residents of
the other country, the proposed treaty generally provides for
relief from the potential double taxation through the allowance
by the country of residence of a tax credit for certain foreign
taxes paid to the other country, or alternatively, in the case
of Venezuela, an exemption from Venezuelan income tax (Article
24).
The proposed treaty contains the standard provision (the
``saving clause'') included in U.S. tax treaties pursuant to
which each country retains the right to tax its residents and
citizens as if the treaty had not come into effect (Article 1).
In addition, the proposed treaty contains the standard
provision providing that the treaty may not be applied to deny
any taxpayer any benefits the taxpayer would be entitled to
under the domestic law of a country or under any other
agreement between the two countries (Article 1).
The proposed treaty also contains a detailed limitation on
benefits provision to prevent the inappropriate use of the
treaty by third-country residents (Article 17).
IV. Entry Into Force and Termination
A. ENTRY INTO FORCE
The proposed treaty will enter into force on the date on
which the second of the two notifications of the completion of
ratification requirements and accompanying instrument of
ratification has been received. With respect to taxes withheld
at source, the proposed treaty will be effective for amounts
paid or credited on or after the first of January following the
date on which the proposed treaty enters into force. With
respect to other taxes, the proposed treaty will be effective
for taxable periods beginning on or after the first of January
following the date on which the proposed treaty enters into
force.
B. TERMINATION
The proposed treaty will continue in force until terminated
by either country. Either country may terminate the proposed
treaty at any time after the expiration of the five-year period
from the date of its entry into force, provided that at least
six months prior notice of termination has been given through
diplomatic channels. A termination is effective, with respect
to taxes imposed in accordance with Article 10 (Dividends),
Article 11 (Interest), and Article 12 (Royalties) for amounts
paid or credited on or after the first of January following the
date on which notice of expiration is given. In the case of
other taxes, a termination is effective for taxable periods
beginning on or after the first day of January following the
date on which such notice of expiration is given.
V. Committee Action
The Committee on Foreign Relations held a public hearing on
the proposed treaty with Venezuela (Treaty Doc. 106-3), as well
as on other proposed treaties and protocols, on October 27,
1999. The hearing was chaired by Senator Hagel. The Committee
considered these proposed treaties and protocols on November 3,
1999, and ordered the proposed treaty with Venezuela favorably
reported by a voice vote, with the recommendation that the
Senate give its advice and consent to ratification of the
proposed treaty, subject to two understandings, two
declarations, and a proviso.
VI. Committee Comments
On balance, the Committee on Foreign Relations believes
that the proposed treaty with Venezuela is in the interest of
the United States and urges that the Senate act promptly to
give advice and consent to ratification. The Committee has
taken note of certain issues raised by the proposed treaty, and
believes that the following comments may be useful to the
Treasury Department officials in providing guidance on these
matters should they arise in the course of future treaty
negotiations.
A. DEVELOPING COUNTRY CONCESSIONS
The proposed treaty contains a number of developing country
concessions, some of which are found in other U.S. income tax
treaties with developing countries. The most significant of
these concessions are described below.
Definition of permanent establishment
The proposed treaty departs from the U.S. and OECD models
by providing for broader source-basis taxation with respect to
business activities. The proposed treaty's permanent
establishment article, for example, permits the country in
which business activities are carried on to tax the activities
in circumstances where it would not be able to do so under the
U.S. or OECD models. Under the proposed treaty, a building site
or construction or installation project, or an installation or
drilling rig or ship used for the exploration of natural
resources, constitutes a permanent establishment if the site,
project or activities continue in a country for more than 183
days within any 12-month period. For example, under the
proposed treaty, a U.S. enterprise's business profits that are
attributable to a construction project in Venezuela will be
taxable by Venezuela if the project lasts for more than 183
days within a 12-month period. Under the U.S. and OECD models,
such a site or project must last for more than one year in
order to constitute a permanent establishment. Under the U.N.
model and other U.S. treaties with developing countries, the
site or project must last for more than six months in order to
constitute a permanent establishment. Thus, the proposed
treaty's 183-day period for establishing a permanent
establishment is significantly shorter than the corresponding
periods in the U.S. and OECD models but is similar to the six-
month period provided in U.S. treaties with developing
countries.
The proposed treaty contains a provision, not present in
either the U.S. model or the OECD model, which deems a
permanent establishment to exist where an enterprise provides
services through its employees in a country if the activities
continue for a period or periods aggregating more than 183 days
within any 12-month period. The U.N. model contains a similar
rule.
Taxation of certain equipment leasing
The proposed treaty treats as royalties payments for the
use of, or the right to use, industrial, commercial, or
scientific equipment. In most other treaties, these payments
are considered rental income; as such, the payments are subject
to the business profits rules, which generally permit the
source country to tax such amounts only if they are
attributable to a permanent establishment located in that
country, and the payments are taxed, if at all, on a net basis.
By contrast, the proposed treaty permits gross-basis source
country taxation of these payments, at a rate not to exceed 5
percent, if the payments are not attributable to a permanent
establishment situated in that country. If the payments are
attributable to such a permanent establishment, the business
profits article of the proposed treaty is applicable.
Other taxation by source country
The proposed treaty includes additional concessions with
respect to source-based taxation of amounts earned by residents
of the other treaty country.
The proposed treaty allows a maximum rate of source country
tax on royalties of 5 or 10 percent, depending on the type of
property involved. The 5-percent limitation applies to payments
for the use of, or the right to use, industrial, commercial or
scientific equipment. The 10-percent limitation applies to
payments for the use of, or the right to use, any copyright of
literary, artistic or scientific work, including
cinematographic films, tapes and other means of image or sound
reproduction, and payments for the use of, or the right to use,
any patent, trademark, design or model, plan, secret formula or
process, or other like right or property, or for information
concerning industrial, commercial or scientific experience. The
10-percent limitation also applies to gains derived from the
alienation of such right or property to the extent that such
gains are contingent on the productivity, use, or disposition
thereof. By contrast, both the U.S. model and the OECD model
generally would not permit source-country taxation of
royalties.
The proposed treaty generally permits source-country
taxation of artistes and sportsmen if the amount of
compensation derived by the individual in the source country
exceeds $6,000 (including reimbursed expenses) for the taxable
year concerned. By contrast, the U.S. model generally would
permit source country taxation of artistes and sportsmen only
if the gross receipts (including reimbursed expenses) exceed
$20,000.
The proposed treaty permits residence-country taxation
under Article 22 (Other Income) for income of a resident of a
country that is not dealt with in other articles of the
proposed treaty. Under the proposed treaty, such income that
arises in a treaty country may also be taxed by the source
country. By contrast, the U.S. and OECD models generally would
permit only a recipient's country of residence to tax such
other income.
Committee conclusions
One purpose of the proposed treaty is to reduce tax
barriers to direct investment by U.S. firms in Venezuela. The
practical effect of these developing country concessions could
be greater Venezuelan taxation of future activities of U.S.
firms in Venezuela than would be the case under rules that were
comparable to those of either the U.S. model or the OECD model.
There is a risk that the inclusion of these concessions in
the proposed treaty could result in additional pressure on the
United States to include such concessions in future treaties
negotiated with developing countries. However, these precedents
already exist in the U.N. model, and a number of existing U.S.
income tax treaties with developing countries already include
similar concessions. Such concessions arguably are necessary in
order to obtain treaties with developing countries. Tax
treaties with developing countries can be in the interest of
the United States because they provide developing country tax
relief for U.S. investors and a clearer framework within which
the taxation of U.S. investors will take place.
As part of its consideration of the proposed treaty, the
Committee asked the Treasury Department about the
appropriateness of the developing country concessions granted
to Venezuela in the proposed treaty. The relevant portion of
the Treasury Department's October 29, 1999, memorandum \1\
responding to this inquiry is reproduced below:
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\1\ Memorandum from the Treasury Department for Senator Hagel,
October 29, 1999 (``October 29, 1999 Treasury Department memorandum'').
Regarding whether Venezuela is an appropriate recipient
of developing country concessions, it should be noted
that for 1997, Venezuela's gross domestic product (GDP)
was $185 billion and its per capita GDP was $8,300. By
contrast, the United States' 1997 GDP was $8.1 trillion
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and its per capita GDP was $30,200.
The Committee is concerned that developing country
concessions not be viewed as the starting point for future
negotiations with developing countries. The Committee also
questions whether such concessions serve to attract investment
in developing countries. It must be clearly recognized that
several of the rules of the proposed treaty represent
substantial concessions by the United States, and that such
concessions must be met with substantial concessions by the
treaty partner. Thus, future negotiations with developing
countries should not assume, for example, that the definition
of a permanent establishment provided in the treaty necessarily
will be available in every case; rather, such a definition will
only be adopted in the context of an agreement that
satisfactorily addresses the concerns of the United States.
B. TREATY SHOPPING
The proposed treaty, like a number of U.S. income tax
treaties, generally limits treaty benefits for treaty country
residents so that only those residents with a sufficient nexus
to a treaty country will receive treaty benefits. Although the
proposed treaty generally is intended to benefit only residents
of Venezuela and the United States, residents of third
countries sometimes attempt to use a treaty to obtain treaty
benefits. This is known as treaty shopping. Investors from
countries that do not have tax treaties with the United States,
or from countries that have not agreed in their tax treaties
with the United States to limit source country taxation to the
same extent that it is limited in another treaty may, for
example, attempt to reduce the tax on interest on a loan to a
U.S. person by lending money to the U.S. person indirectly
through a country whose treaty with the United States provides
for a lower rate of withholding tax on interest. The third-
country investor may attempt to do this by establishing in that
treaty country a subsidiary, trust, or other entity which then
makes the loan to the U.S. person and claims the treaty
reduction for the interest it receives.
The anti-treaty-shopping provision of the proposed treaty
is similar to anti-treaty-shopping provisions in the Code (as
interpreted by Treasury regulations) and in the U.S. model. The
provision also is similar to the anti-treaty shopping provision
in several recent treaties. The degree of detail included in
these provisions is notable in itself. The proliferation of
detail may reflect, in part, a diminution in the scope afforded
the IRS and the courts to resolve interpretive issues adversely
to a person attempting to claim the benefits of a treaty; this
diminution represents a bilateral commitment, not alterable by
developing internal U.S. tax policies, rules, and procedures,
unless enacted as legislation that would override the treaty.
(In contrast, the IRS generally is not limited under the
proposed treaty in its discretion to allow treaty benefits
under the anti-treaty shopping rules.) The detail in the
proposed treaty does represent added guidance and certainty for
taxpayers that may be absent under treaties that may have
somewhat simpler and more flexible provisions.
One provision of the anti-treaty-shopping article differs
from the comparable rule of some earlier U.S. treaties, but the
effect of the change is not clear. The general test applied by
those treaties to allow benefits to an entity that does not
meet the bright-line ownership and base erosion tests is a
broadly subjective one, looking to whether the acquisition,
maintenance, operation of an entity did not have ``as a
principal purpose obtaining benefits under'' the treaty. By
contrast, the proposed treaty contains a more precise test that
allows denial of benefits only with respect to income not
derived in connection with (or incidental to) the active
conduct of a substantial trade or business. (However, this
active trade or business test does not apply with respect to a
business of making or managing investments carried on by a
person other than a bank or insurance company, so benefits may
be denied with respect to such a business regardless of how
actively it is conducted). In addition, the proposed treaty
(like all recent treaties) gives the competent authority of the
country in which the income arises the authority to determine
that the benefits of the treaty will be granted to a person
even if the specified tests are not satisfied.
The practical difference between the proposed treaty tests
and the corresponding tests in other treaties will depend upon
how they are interpreted and applied. Given the relatively
bright line rules provided in the proposed treaty, the range of
interpretation under it may be fairly narrow.
The Committee believes that limitation on benefits
provisions are important to protect against ``treaty shopping''
by limiting benefits of a treaty to bona fide residents of the
treaty partner. The Committee further believes that the United
States should maintain its policy of limiting treaty shopping
opportunities whenever possible. The Committee continues to
believe further that, in exercising any latitude the Treasury
Department has to adjust the operation of the proposed treaty,
the rules as applied should adequately deter treaty shopping
abuses. The proposed anti-treaty-shopping provision may be
effective in preventing third-country investors from obtaining
treaty benefits by establishing investing entities in Venezuela
because third-country investors may be unwilling to allow more
than 50 percent of such investing entities to be owned by U.S.
or Venezuelan residents or other qualified owners in order to
meet the ownership test of the anti-treaty-shopping provision.
In addition, the base erosion test provides protection from
certain potential abuses of a Venezuelan conduit. On the other
hand, implementation of the tests for treaty shopping set forth
in the treaty may raise factual, administrative, or other
issues that cannot currently be foreseen. The Committee
emphasizes that the proposed anti-treaty-shopping provision
must be implemented so as to serve as an adequate tool for
preventing possible treaty shopping abuses in the future.
C. VENEZUELAN TERRITORIAL TAX SYSTEM
Current territorial tax system
The proposed treaty raises unique issues because Venezuela
currently has a territorial tax system. Under this system,
Venezuela taxes income of residents or nonresidents only with
respect to income from Venezuelan sources. Foreign source
income is not subject to Venezuelan tax.
The Committee believes that it is inappropriate to forego
U.S. tax when, because of the territorial tax system of the
treaty partner, the result would be total elimination of any
tax paid by the foreign investor on U.S. source income. In
general, Venezuela does not tax the foreign source business
income of a Venezuelan resident doing business in the United
States. Under the proposed treaty, a Venezuelan resident
engaged in business in the United States but not at a level
that gives rise to a permanent establishment would not pay U.S.
tax, and would not pay any tax to Venezuela under its
territorial system (assuming that the income was treated as not
being from Venezuelan sources). In the absence of the proposed
treaty, that person likely would be considered to be engaged in
a U.S. trade or business and would be subject to U.S. tax on
such income. Similarly, under the proposed treaty, a Venezuelan
individual performing independent personal services in the
United States would not be taxable in the United States on
income earned from such services if not attributable to a fixed
base. Assuming Venezuela did not tax such income under its
territorial tax system, the result would be a complete
exemption from tax. In addition, under the proposed treaty, the
reduced rates of U.S. withholding tax on certain payments to
Venezuelan persons (e.g., for dividends, interest and
royalties) would provide additional relief for such persons
from taxation by both countries.
One of the principal purposes of a tax treaty is to
eliminate double taxation of income (by both the source country
and residence country). One way this goal is achieved is for
the source country to cede its jurisdiction to tax the income
to the residence country. This concept is less relevant where
the residence country exempts the income from taxation. The
Committee believes that it generally is not appropriate to
enter into a treaty that results in double exemptions from
taxation. In other U.S. treaties with countries that do not tax
certain types of income earned abroad by its taxpayers until
repatriated (i.e., a remittance-based tax system), the United
States has included provisions denying U.S. rate reductions and
exemptions for income which is not remitted to and, thus, not
subject to tax by the treaty partner.\2\ The Committee believes
that a similar limitation is appropriate here, until such time
as Venezuela's new worldwide tax system becomes effective in
replacement of its current territorial tax system. (It is
anticipated that Venezuela's new worldwide tax regime will be
effective for taxable years beginning on or after January 1,
2001). The Committee believes that this concern with double
exemptions of tax can be addressed by including an
understanding to the proposed treaty that the treaty benefits
exempting income from tax under Article 7 (Business Profits) or
Article 14 (Independent Personal Services) would be granted to
a Venezuelan person only when the income to which such treaty
benefits relate is subject to tax in Venezuela.
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\2\ Such provisions are included in the U.S. treaties with Jamaica
and the United Kingdom.
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The Committee recognizes that the proposed treaty generally
would provide relief from potential double taxation for U.S.
persons. A U.S. person is taxable by the United States on
worldwide income. Such income could also be subject to
Venezuelan tax if treated as being from Venezuelan sources
under its territorial tax system. Current Venezuelan sourcing
rules relating to income and deductions may vary and may be
inconsistent with corresponding U.S. sourcing rules. Double
taxation could result in cases where the income earned by such
person is treated as being from U.S. sources under U.S. rules
and from Venezuelan sources under Venezuelan rules. For
example, absent the proposed treaty, Venezuela levies
withholding tax on payments for certain services performed in
the United States. Because the United States would treat this
payment as being from U.S. sources, the U.S. foreign tax credit
limitation in many cases would prevent the U.S. recipient of
such income from claiming a credit against U.S. taxes for the
Venezuelan taxes. The proposed treaty generally would address
such potential cases of double taxation by preventing Venezuela
from imposing tax on income from the performance of services
except when the income is attributable to a fixed base or
permanent establishment in Venezuela. The Committee believes
that the relief from double taxation in such circumstances is
an appropriate function for an income tax treaty.
The proposed treaty also would prevent double taxation that
would result from the calculation of net income under
Venezuela's statutory rules. Because Venezuela currently does
not tax foreign source income, it does not permit foreign
source deductions in calculating taxable income. This would
prohibit a Venezuelan permanent establishment from deducting
its share of the entity's home office expenses incurred for the
benefit of the entire entity. Moreover, Venezuela generally
would not permit its residents to deduct payments to foreign
persons even if such payments would be deductible if paid to a
Venezuelan person. Under the business profits (Article 7) and
non-discrimination (Article 25) articles of the proposed
treaty, these deductions would be permitted.
The exchange of information and mutual agreement provisions
of the proposed treaty will provide additional benefits. These
provisions are useful for purposes of preventing fiscal
evasion, as well as addressing cases of potential double
taxation (not otherwise specifically addressed under the
treaty). In addition, the reduced rates of source country tax
under the proposed treaty would provide U.S. investors with
relief, for example, from Venezuelan statutory withholding
taxes (e.g., on interest and royalties). This would have the
effect of encouraging additional trade with, and investment in,
Venezuela.\3\
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\3\ It should be noted that Venezuela has entered into tax treaties
with the Czech Republic, Germany, Italy, the Netherlands, Portugal,
Switzerland, Trinidad and Tobago, and the United Kingdom. Venezuela
also has entered into a tax treaty with France that covers income taxes
and air and shipping activities.
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New worldwide tax system
Venezuela is in the process of moving from a territorial
tax system to a worldwide tax system. On April 26, 1999, an
enabling law authorized President Chavez to take
``extraordinary economic and financial measures,'' including
reforming Venezuela's income tax laws. Among other things, the
enabling law specifically authorizes the President to amend
Venezuela's tax laws to adopt a worldwide tax system (in lieu
of Venezuela's current territorial tax system) with a credit
system to provide relief from international double taxation.
The enabling law authorizes the President to publish a decree
within six months of the authorization (i.e., no later than
October 26, 1999) which contains these and other changes to
Venezuelan tax laws. In September 1999, the Council of
Ministers, with the President presiding, approved a draft of a
new income tax law which includes provisions adopting a
worldwide tax system.
The new tax law was sent to be published in Venezuela's
Official Gazette on October 22, 1999. In general, laws are
enacted in Venezuela by means of publication in Venezuela's
Official Gazette. The new tax law has not yet been officially
published in the Official Gazette; however, the text of the new
tax law that was sent to be published in the Official Gazette
was made available to the Committee (in Spanish) on November 2,
1999. Previous drafts of the new tax law have been reviewed but
may be different from the final published law. For example, the
Committee understands that last minute changes were made to a
new Venezuelan branch profits tax. The Committee understands
that even if the new tax law is published in the Official
Gazette at a later date, the law will be deemed to have been
enacted as of October 22, 1999 (the date the law was sent to be
printed). The new tax law generally will be effective for
taxable years beginning after this date. However, the new
worldwide tax system is anticipated to be effective for taxable
years beginning on or after January 1, 2001.
In general, it is anticipated that the new worldwide tax
system will be similar to the U.S. system. The Committee
understands that the new tax law also will provide for several
fundamental changes in Venezuela's tax laws beyond the adoption
of a worldwide tax system, including the imposition of taxes on
dividends, the adoption of rules on transfer pricing, as well
as general anti-abuse rules to allow the tax authorities to
disregard transactions entered into with a principal purpose to
evade, avoid, or otherwise reduce income taxes.
Committee conclusions
The Committee has concerns about entering into an income
tax treaty with a country that has a territorial tax system,
because of the opportunities for income to be excluded from
taxation by both countries (i.e., double exemptions of tax).
Accordingly, the Committee has included in its recommended
resolution of ratification an understanding which states that
if income is relieved from tax in one country under either
Article 7 (Business Profits) or Article 14 (Independent
Personal Services), and under the law in force in the other
country a person is not subject to tax in that other country in
respect of such income, then the relief to be allowed under the
proposed treaty in the first country will apply only to so much
of the income as is subject to tax in the other country. Thus,
a Venezuelan person who is engaged in a U.S. trade or business
and who earns U.S. source income with respect to activities
that do not give rise to the level of a U.S. permanent
establishment under the proposed treaty, will nevertheless be
subject to U.S. tax on such U.S. source income if such income
is not subject to tax in Venezuela under its present
territorial tax system. This rule would cease to have effect
once the provisions of Venezuela's new worldwide tax system
become effective.
The Committee is encouraged that Venezuela is moving from
its current territorial tax system to a worldwide tax system.
The new worldwide tax system is expected to be more similar to
that of the United States and, thus, would be more consistent
with one of the principal purposes of the treaty--to avoid
double taxation.
Although the Committee recognizes the importance of
entering into the proposed treaty, and the benefits that will
be provided to U.S. and Venezuelan persons, the Committee is
concerned that because the change in Venezuelan tax law is so
recent and the final version of that new law has not yet been
officially published, there is less information on which the
Committee can base its decision than is normally available when
a treaty is being considered. The Committee believes that it
would not be prudent to ratify the proposed treaty until the
new tax law has been thoroughly reviewed and consideration has
been given to potential implications the new tax law may have
with respect to the proposed treaty. Consequently, the
Committee has included in its recommended resolution of
ratification a declaration that before the President of the
United States may notify Venezuela pursuant to Article 29
(Entry Into Force) of the proposed treaty that the United
States has completed the required ratification procedures, he
must certify to the Committee that: (1) the new Venezuelan tax
law (implementing the new worldwide tax system) has been
enacted in accordance with Venezuelan law, (2) the Treasury
Department, in consultation with the State Department, has
thoroughly examined the new Venezuelan tax law, and (3) the new
Venezuelan tax law is fully consistent with and appropriate to
the obligations under the proposed treaty. To the extent that
the President cannot so certify, the Committee expects that the
Treasury Department will consult with the Committee regarding
major issues that may arise under the proposed treaty in light
of the new Venezuelan tax law, including whether it is
necessary for the Treasury Department to expeditiously
negotiate a protocol with Venezuela regarding these matters or
use other diplomatic means to resolve such issues.
The Committee has identified an issue in the treaty that
needs to be addressed in light of the new Venezuelan tax law.
It is anticipated that the new Venezuelan tax law will include
provisions that would impose a 34-percent branch profits tax on
foreign companies (such as a U.S. company) that have a branch
in Venezuela. Currently such a tax is not imposed by Venezuela.
Article 11A (Branch Tax) of the proposed treaty provides that a
company that is a resident of one country may be subject in the
other country (the source country) to a tax in addition to the
tax on profits. Such additional tax may not exceed 5 percent of
the ``dividend equivalent amount,'' a term that is defined in
the proposed protocol only with respect to the United States.
The article is not drafted specifically to apply to the
Venezuelan branch profits tax, because there was no Venezuelan
branch profits tax in existence at the time the proposed treaty
was negotiated. Accordingly, the Committee has included in its
recommended resolution of ratification an understanding to the
proposed treaty that: (1) the reference to an ``additional
tax'' in Article 11A (Branch Tax) of the proposed treaty
includes the Venezuelan branch profits tax that may be imposed
by Venezuela under its new tax law, and (2) the limit imposed
under Article 11A (Branch Tax) of the proposed treaty will
apply with respect to the new Venezuelan branch profits tax and
that for purposes of that article, the Venezuelan branch
profits tax will be imposed only on an amount not in excess of
the amount that is analogous to the ``dividend equivalent
amount'' defined in subparagraph (a) of paragraph 10 of the
proposed protocol with respect to the United States.
Accordingly, once the new Venezuelan branch profits tax becomes
effective, \4\ U.S. persons with a branch in Venezuela would be
entitled to the reduced 5-percent rate of tax under 11A (Branch
Tax) of the proposed treaty with respect to the new Venezuelan
branch profits tax.
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\4\ The Committee understands that the new Venezuelan branch
profits tax will become effective for taxable years beginning on or
after January 1, 2001.
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D. STABILITY OF VENEZUELAN LAW
In the past the Treasury Department has maintained that a
country's political situation should be a factor in determining
whether to build stronger economic ties with that country. In a
July 5, 1995, letter to the Senate Foreign Relations Committee
the Treasury Department wrote:
A country's political situation is a factor that is
considered in determining whether to build stronger
economic ties with that country. When consideration of
this and other factors leads to a policy of building
stronger economic ties with a particular country, a tax
treaty becomes a logical part of that policy. One of a
treaty's main purposes is to foster the competitiveness
of U.S. firms that enter the treaty partner's market
place. As long as it is U.S. policy to encourage U.S.
firms to compete in these market places, it is in the
interest of the United States to enter tax treaties.
Moreover, in countries where an unstable political climate
may result in rapid and unforeseen changes in economic and
fiscal policy, a tax treaty can be especially valuable to U.S.
companies, as the tax treaty may restrain the government from
taking actions that would adversely impact U.S. firms, and
provide a forum to air grievances that otherwise would be
unavailable. \5\
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\5\ This quote appears in the Report of the Senate Foreign
Relations Committee on the Income Tax Convention with Ukraine, Exec.
Rept. 104-5, August 10, 1995, regarding an issue that was raised with
respect to that treaty in connection with the stability of the
Ukrainian tax law.
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Background of political developments in Venezuela
Venezuela currently is in a period of constitutional and
institutional change. In a recent statement, Peter F. Romero,
Acting Assistant Secretary of State for Western Hemisphere
Affairs, described the political situation in Venezuela as
follows.
Hugo Chavez was elected president of Venezuela by a
wide margin in December 1998 on the promise of
eliminating corruption and inefficiency in government
and ensuring social justice. Seven months after his
inauguration, Chavez continues to enjoy an approval
rating around 80%.
In April, Venezuelans returned to the polls to vote
on a referendum, voting overwhelmingly in favor of the
formation of a National Constituent Assembly (ANC) to
draft a new Constitution. Elected on July 25, the vast
majority of the 131-member ANC supports President
Chavez. The ANC was given 6 months to complete a draft
of a new Constitution; however, Chavez has asked the
ANC to accelerate its work and to finish within 3
months.
The process was off to a difficult start in August,
when turf conflicts between the new ANC and established
institutions threatened to overtake action on
Venezuela's needed reforms. In August the ANC issued
two decrees to establish committees to investigate the
judicial and legislative branches. The Assembly's claim
to ``originating'' powers (in essence, establishing its
superiority to the existing branches of government) was
indirectly upheld in a Supreme Court opinion and the
President of the Court resigned in protest. The
Congress attempted to come back into plenary session,
despite a previous agreement to remain in recess, and
the ANC issued emergency decrees limiting Congress's
powers. Approximately two weeks after the crisis began,
an agreement brokered by the Catholic Church, resulted
in a new written ``cohabitation'' accord. Under the
terms of the agreement, the Congress will resume
plenary sessions on October 2, the traditional end of
the summer recess.
In the wake of the public dispute with the Congress,
the ANC declared it would intensify its work on the new
Constitution. While further political friction is
almost certain, it appears that the [government], the
ANC and the opposition are buckling down to the work of
writing the constitution and revamping the country's
institutions. \6\
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\6\ Statement of Ambassador Peter F. Romero, Acting Assistant
Secretary of State for Western Hemisphere Affairs, before the Western
Hemisphere Subcommittee of the House International Relations Committee
on ``Current Issues in the Western Hemisphere Region,'' September 29,
1999.
President Chavez's popularity, his appeal to the
disadvantaged of Venezuela, his failed military coup attempt in
1992, and the possibility of change to existing political
institutions have raised both expectations and fears regarding
institutional change. Some of President Chavez's recent
statements raise questions regarding his desire to maintain a
productive relationship with the United States. The Committee
encourages a continued dialogue and reiterates the United
States interest in promoting stable democratic institutions and
strengthening cooperation on regional issues.
Committee conclusions
Several issues arise in the consideration of a tax treaty
with a government that is experiencing political instability.
One is that it may be difficult to identify correctly the other
country's competent authority in situations where there are
competing claims as to who is authorized to exercise
legislative, executive, or judicial authority. Another issue is
the extent to which any political instability also causes
uncertainty as to the precise nature of the substantive law of
that country. These uncertainties may make it difficult to
administer the treaty.
A more specific issue arises in the context of the exchange
of information provisions of the proposed treaty (Article 27 of
the proposed treaty, as explicated by paragraph 19 of the
proposed protocol). The exchange of information provision
requires that information that is exchanged shall be treated as
secret by the receiving country in the same manner as
information obtained under its local laws and may only be
disclosed to persons involved in the assessment, collection, or
administration of taxes covered by the provision. Several
issues may arise with respect to the utilization of this
provision with a government that is experiencing political
instability. First, it may be more difficult to assess whether
confidentiality will be respected when the information is
initially exchanged. Second, it may be more difficult to assess
the possibility that inappropriate use will be made in the
future of the exchanged information. Third, the country
receiving the information could weaken (or potentially
eliminate) the confidentiality protections under its local
laws, which would concomitantly weaken or eliminate those
protections for exchanged information.
The relevant portion of the Treasury Department's October
29, 1999, memorandum responding to this issue is reproduced
below:
The Internal Revenue Service and the Treasury
Department are committed to ensuring that information
exchanged under tax treaties is used only for permitted
purposes. The treaty provides that any information
exchanged in accordance with its provisions shall be
used exclusively for tax purposes. In the context of
our review of Venezuela, we consulted other government
agencies, including agencies experienced in exchanging
information with many Latin American countries. In this
consultation we were not advised to anticipate abuses
of exchanged information on the part of Venezuela. It
should also be noted that Moreover, we also understand
that the new draft constitution being written by the
National Constituent Assembly contains strong
protections for civil and individual rights.
The Committee has considered the political situation in
Venezuela and its implications for the proposed treaty. While
the Committee believes that a fundamental level of political
stability is a prerequisite for entering into a tax treaty
relationship and remains concerned by recent events in
Venezuela, the Committee recognizes the benefits this treaty
would provide to U.S. taxpayers and the positive impact the
treaty could have on the Venezuelan economic environment. On
balance, the Committee believes that it is appropriate to
proceed with the consideration of this proposed treaty and
recommends its ratification (subject to the various
understandings, declarations and proviso set forth in this
report, including the certification from the Treasury
Department (described in the preceding section)).
VII. Budget Impact
The Committee has been informed by the staff of the Joint
Committee on Taxation that the proposed treaty is estimated to
cause a negligible change in fiscal year Federal budget
receipts during the 1999-2008 period.
VIII. Explanation of Proposed Treaty and Proposed Protocol
A detailed, article-by-article explanation of the proposed
income tax treaty between the United States and Venezuela, as
supplemented by the proposed protocol, is set forth below.
Article 1. General Scope
The general scope article describes the persons who may
claim the benefits of the proposed treaty. The proposed treaty
generally applies to residents of the United States and to
residents of Venezuela, with specific modifications to such
scope provided in other articles (e.g., Article 20 (Government
Service), Article 25 (Non-Discrimination) and Article 27
(Exchange of Information)). The determination of whether a
person is a resident of the United States or Venezuela is made
under the provisions of Article 4 (Residence).
The proposed treaty provides that it does not restrict in
any manner any exclusion, exemption, deduction, credit, or
other allowance accorded by internal law or by any other
agreement between the United States and Venezuela. Thus, the
proposed treaty will not apply to increase the tax burden of a
resident of either the United States or Venezuela. According to
the Treasury Department's Technical Explanation (hereinafter
referred to as the ``Technical Explanation''), the fact that
the proposed treaty only applies to a taxpayer's benefit does
not mean that a taxpayer may select inconsistently among treaty
and internal law provisions in order to minimize its overall
tax burden. In this regard, the Technical Explanation sets
forth the following example. Assume a resident of Venezuela has
three separate businesses in the United States. One business is
profitable and constitutes a U.S. permanent establishment. The
other two businesses generate effectively connected income as
determined under the Internal Revenue Code (the ``Code''), but
do not constitute permanent establishments as determined under
the proposed treaty; one business is profitable and the other
business generates a net loss. Under the Code, all three
businesses would be subject to U.S. income tax, in which case
the losses from the unprofitable business could offset the
taxable income from the other businesses. On the other hand,
only the income of the business which gives rise to a permanent
establishment is taxable by the United States under the
proposed treaty. The Technical Explanation makes clear that the
taxpayer may not invoke the proposed treaty to exclude the
profits of the profitable business that does not constitute a
permanent establishment and invoke U.S. internal law to claim
the loss of the unprofitable business that does not constitute
a permanent establishment to offset the taxable income of the
permanent establishment.\7\
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\7\ See Rev. Rul. 84-17, 1984-1 C.B. 308.
---------------------------------------------------------------------------
The proposed treaty provides that the dispute resolution
procedures under its mutual agreement procedure article
(Article 26) (and not the corresponding provisions of any other
agreement to which the United States and Venezuela are parties)
exclusively apply in determining whether a measure is within
the scope of the proposed treaty. Unless the competent
authorities agree that a taxation measure is outside the scope
of the proposed treaty, only the proposed treaty's
nondiscrimination rules, and not the nondiscrimination rules of
any other agreement in effect between the United States and
Venezuela, generally apply to that law or other measure. The
only exception to this general rule is such national treatment
or most favored nation obligations as may apply to trade in
goods under the General Agreement on Tariffs and Trade. For
purposes of this provision, the term ``measure'' means a law,
regulation, rule, procedure, decision, administrative action,
or any other similar provision or action.
Like all U.S. income tax treaties and the U.S. model, the
proposed treaty includes a ``saving clause.'' Under this
clause, with specific exceptions described below, the proposed
treaty does not affect the taxation by either treaty country of
its residents or its citizens. By reason of this saving clause,
unless otherwise specifically provided in the proposed treaty,
the United States will continue to tax its citizens who are
residents of Venezuela as if the treaty were not in force.
``Residents'' for purposes of the proposed treaty (and, thus,
for purposes of the saving clause) includes persons defined as
such in Article 4 (Residence), including corporations and other
entities as well as individuals.
The proposed protocol contains a provision under which the
saving clause (and therefore the U.S. jurisdiction to tax)
applies for U.S. tax purposes to a former U.S. citizen whose
loss of citizenship status had as one of its principal purposes
the avoidance of U.S. tax; such application is limited to the
ten-year period following the loss of citizenship status. The
proposed treaty also contains a provision under Article 17
(Limitation on Benefits) which denies treaty benefits to former
long-term residents of the United States for ten years
following the loss of such residence status if such loss of
status had as one of its principal purposes the avoidance of
U.S. tax. Section 877 of the Code provides special rules for
the imposition of U.S. income tax on former U.S. citizens and
long-term residents for a period of ten years following the
loss of citizenship or resident; these special tax rules apply
to a former citizen or long-term resident only if his or her
loss of U.S. citizenship or resident status had as one of its
principal purposes the avoidance of U.S. income, estate or gift
taxes. For purposes of applying the special tax rules to former
citizens and long-term residents, individuals who meet a
specified income tax liability threshold or a specified net
worth threshold generally are considered to have lost
citizenship or resident status for a principal purpose of U.S.
tax avoidance.
Exceptions to the saving clause are provided for the
following benefits conferred by a treaty country: the allowance
of corresponding adjustments when the profits of an associated
enterprise are adjusted by the other country (Article 9,
paragraph 2); relief from double taxation through the provision
of a foreign tax credit or, in the case of Venezuela, an
exemption of income from tax (Article 24); protection from
discriminatory tax treatment (Article 25); and benefits under
the mutual agreement procedures (Article 26). These exceptions
to the saving clause permit residents and citizens of the
United States or Venezuela to obtain such benefits of the
proposed treaty with respect to their country of residence or
citizenship.
In addition, the saving clause does not apply to the
following benefits conferred by one of the countries upon
individuals who neither are citizens of that country nor have
immigrant status in that country. Under this set of exceptions
to the saving clause, the specified treaty benefits are
available to, for example, a Venezuelan citizen who spends
enough time in the United States to be taxed as a U.S. resident
but who has not acquired U.S. immigrant status (i.e., does not
hold a ``green card''). The benefits that are covered under
this set of exceptions are the exemptions from host country tax
for certain government service salaries and pensions (Article
20), certain income received by visiting students, trainees,
teachers and researchers (Article 21), and certain income of
diplomats and consular officers (Article 28).
Article 2. Taxes Covered
The proposed treaty generally applies to the income taxes
of the United States and Venezuela. However, Article 27
(Exchange of Information) generally is applicable to all taxes
imposed by the United States and by Venezuela.
In the case of the United States, the proposed treaty
applies to the Federal income taxes imposed by the Code, but
excludes social security taxes. Unlike many U.S. income tax
treaties in force, but like the U.S. model, the proposed treaty
applies to the accumulated earnings tax and the personal
holding company tax. The proposed treaty generally does not
apply to any U.S. State or local income taxes; however, Article
25 (Non-Discrimination) applies to all taxes, including those
imposed by state or local governments.
In the case of Venezuela, the proposed treaty generally
applies to the income tax and the business assets tax. Under
Article 24 (Relief from Double Taxation), however, the United
States is not required under the proposed treaty to grant a
U.S. foreign tax credit for business assets taxes paid to
Venezuela.
The proposed treaty also contains a rule generally found in
U.S. income tax treaties and the U.S., OECD and U.N. models
which provides that the proposed treaty applies to any
identical or substantially similar taxes that are imposed
subsequently in addition to or in place of the taxes covered.
The proposed treaty obligates the competent authority of each
country to notify the competent authority of the other country
of any significant changes in its internal tax laws, and of any
official published material concerning the application of the
proposed treaty. The Technical Explanation states that the term
``significant'' means that changes must be reported that are
significant to the operation of the proposed treaty.
Article 3. General Definitions
The proposed treaty provides definitions of a number of
terms for purposes of the proposed treaty. Certain of the
standard definitions found in most U.S. income tax treaties are
included in the proposed treaty.
The term ``Venezuela'' means the Republic of Venezuela.
The term ``United States'' means the United States of
America, but does not include Puerto Rico, the Virgin Islands,
Guam, or any other U.S. possession or territory. The Technical
Explanation states that the term ``United States'' includes the
territorial seas of the United States.
The proposed protocol provides that when referred to in the
geographical sense, ``Venezuela'' and ``United States'' include
the areas of the seabed and subsoil adjacent to their
respective territorial seas in which they may exercises rights
in accordance with domestic legislation and international laws.
The Technical Explanation states that the extension of these
terms to areas adjacent to the territorial seas of the United
States and Venezuela (as the case may be) applies to the extent
that the United States or Venezuela exercises sovereignty in
accordance with domestic legislation and international law for
the purpose of natural resource exploration and exploitation of
such areas. The Technical Explanation further states that the
extension of such terms applies only if the person, property or
activity to which the proposed treaty is being applied is
connected with such natural resource exploration or
exploitation.
The terms ``a Contracting State'' and ``the other
Contracting State'' mean the United States or Venezuela,
according to the context in which such terms are used.
The term ``person'' includes an individual, an estate, a
trust, a partnership, a company, and any other body of persons.
The Technical Explanation states that the term ``person''
includes Venezuelan ``entidades'' or ``colectividades,'' which
are not legal persons under Venezuelan law, but are taxable
persons for Venezuelan tax purposes.
A ``company'' under the proposed treaty is any body
corporate or any entity which is treated as a body corporate
for tax purposes.
The terms ``enterprise of a Contracting State'' and
``enterprise of the other Contracting State'' mean,
respectively, an enterprise carried on by a resident of a
treaty country and an enterprise carried on by a resident of
the other treaty country. The terms also include an enterprise
carried on by a resident of a treaty country through an entity
(such as a partnership) that is treated as fiscally transparent
in that country. The Technical Explanation states that the
definition in the proposed treaty is intended to make clear
that an enterprise conducted by a fiscally transparent entity
will be treated as carried on by a resident of a treaty country
to the extent its partners or other owners are residents. The
proposed treaty does not define the term ``enterprise.'' The
Technical Explanation states that the term ``enterprise''
generally is understood to refer to any activity or set of
activities that constitutes a trade or business.
The proposed treaty provides that the term ``national''
means any individual possessing the nationality of the United
States or Venezuela, and any legal person, association or other
entities (including a Venezuelan ``entidad'' or
``colectividad'') deriving their status as such from the laws
in force in the United States or Venezuela.
The term ``international operation of ships or aircraft''
means any transport by a ship or aircraft, except when such
transport is solely between places within a country. This
definition principally applies in the context of Article 8
(Shipping and Air Transport), which refers to the term
``operation of ships or aircraft in international traffic.''
The Technical Explanation states that such terms are understood
to have the same meaning. The Technical Explanation also states
that transport that constitutes international traffic includes
any portion of the transport that is between two points within
a country, even if the internal portion of the transport
involves a transfer to a land vehicle or is handled by an
independent contractor (provided that the original bills of
lading include such portion of the transport).
The U.S. ``competent authority'' is the Secretary of the
Treasury or his delegate. The U.S. competent authority function
has been delegated to the Commissioner of Internal Revenue, who
has redelegated the authority to the Assistant Commissioner
(International). On interpretative issues, the latter acts with
the concurrence of the Associate Chief Counsel (International)
of the IRS. The Venezuelan ``competent authority'' is the
Integrated National Service of Tax Administration (Servicio
Nacional Integrado de Administracion Tributaria--SENIAT), its
authorized representative or the authority which is designated
by the Ministry of Finance as a competent authority.
The proposed treaty also contains the standard provision
that, unless the context otherwise requires or the competent
authorities agree to a common meaning pursuant to the
provisions of the mutual agreement procedures of the proposed
treaty (Article 26), all terms not defined in the proposed
treaty have the meaning that they have under the laws of the
country concerning the taxes to which the proposed treaty
applies.
Article 4. Residence
The assignment of a country of residence is important
because the benefits of the proposed treaty generally are
available only to a resident of one of the treaty countries as
that term is defined in the proposed treaty. Furthermore,
issues arising because of dual residency, including situations
of double taxation, may be avoided by the assignment of one
treaty country as the country of residence when under the
internal laws of the treaty countries a person is a resident of
both countries.
Internal taxation rules
United States
Under U.S. law, the residence of an individual is important
because a resident alien, like a U.S. citizen, is taxed on his
or her worldwide income, while a nonresident alien is taxed
only on certain U.S.-source income and on income that is
effectively connected with a U.S. trade or business. An
individual who spends sufficient time in the United States in
any year or over a three-year period generally is treated as a
U.S. resident. A permanent resident for immigration purposes
(i.e., a ``green card'' holder) also is treated as a U.S.
resident.
Under U.S. law, a company is taxed on its worldwide income
if it is a ``domestic corporation.'' A domestic corporation is
one that is created or organized in the United States or under
the laws of the United States, a State, or the District of
Columbia.
Venezuela
Under current Venezuelan law, individuals and corporations
generally are taxed under a territorial-based system, that is,
based on income from sources in Venezuela. The sourcing rules
of Venezuela's territorial system generally apply to residents
and nonresidents. However, the tax rates imposed on Venezuelan
source income, as well as the manner in which the income is
taxed (e.g., on a net or gross basis), differ for Venezuelan
residents and nonresidents.
Individuals are considered to be residents of Venezuela if
they are present in Venezuela for more than 180 days in the
current or preceding calendar year. A Venezuelan corporation is
one that is registered under a commercial registry in Venezuela
(i.e., incorporated in Venezuela).
Venezuela is in the process of enacting new tax legislation
that would replace its current territorial tax system with a
worldwide tax system. Although the new law has not yet been
officially published, the Committee understands that under the
new worldwide tax system, Venezuelan resident individuals and
corporations are taxable on worldwide income, while nonresident
individuals and foreign corporations generally are taxable only
on income from Venezuelan sources. The Committee also
understands that the new worldwide tax system will be effective
for taxable years beginning on or after January 1, 2001.
Proposed treaty rules
The proposed treaty provides rules to determine whether a
person is a resident of the United States or Venezuela for
purposes of the proposed treaty.
The proposed treaty generally defines ``resident of a
Contracting State'' separately in the case of the United States
and Venezuela, respectively, to determine whether a person is a
resident of the United States or a resident of Venezuela for
purposes of the proposed treaty. The Technical Explanation
states that these separate definitions are provided due to
differences in the structure of the U.S. and Venezuelan tax
systems.
Under the proposed treaty, a resident of the United States
means any person who, under the laws of the United States, is
liable to tax in the United States by reason of the person's
domicile, residence, citizenship, place of incorporation, or
any other criterion of a similar nature. The proposed treaty
provides that a U.S. citizen or an alien admitted lawfully to
the United States for permanent residence (a ``green card''
holder), who is not a resident of Venezuela under the basic
residence rules, will be treated as a U.S. resident only if
such individual has a permanent home or habitual abode in the
United States. If such individual is a resident of Venezuela
under the basic residence rules, he or she is considered to be
a resident of both countries and his or her residence for
purposes of the proposed treaty is determined under the tie-
breaker rules described below.
Under the proposed treaty, a resident of Venezuela means
any resident individual (``domiciliado''), any legal person
that is created or organized under the laws of Venezuela, and
any entity or collectivity (``entidad o colectividad'') formed
under the laws of Venezuela which is not a legal person but is
subject to the taxation applicable to corporations in
Venezuela. The Technical Explanation states that those
entidades and colectividades that are not taxed as corporations
in Venezuela are treated as fiscally transparent entities under
Venezuelan law and, thus, are subject to the special rules for
such fiscally transparent entities described below.
The proposed protocol provides that the term ``resident of
a Contracting State'' also includes the United States or
Venezuela and any of its political subdivisions or local
authorities.
The proposed protocol also provides a special rule to treat
as residents of a treaty country certain organizations that
generally are exempt from tax in that country. Under this rule,
pension trusts and any other organizations that are constituted
and operated exclusively to provide pension benefits, or for
religious, charitable, scientific, artistic, cultural, or
educational purposes and that are residents of that country
according to its laws, are treated as residents of such country
notwithstanding that all or part of its income may be exempt
from tax under the domestic law of that country.
The proposed treaty provides a special rule for fiscally
transparent entities. Under this rule, an item of income,
profit or gain derived through an entity that is fiscally
transparent under the laws of either country will be considered
to be derived by a resident of a country to the extent that the
item is treated, for purposes of the tax laws of such country,
as the income, profit, or gain of a resident of such country.
The Technical Explanation states that in the case of the United
States, such fiscally transparent entities include
partnerships, common investment trusts under section 584 of the
Code, grantor trusts and U.S. limited liability companies
treated as partnerships for U.S. tax purposes. For example, if
a corporation resident in Venezuela distributes a dividend to
an entity treated as fiscally transparent for U.S. tax
purposes, the dividend will be considered to be derived by a
resident of the United States only to the extent that U.S. tax
laws treat one or more U.S. residents (whose status as U.S.
residents is determined under U.S. tax laws) as deriving the
dividend income for U.S. tax purposes.
The Technical Explanation states that these rules for
income derived through fiscally transparent entities apply
regardless of where the entity is organized (i.e., in the
United States, Venezuela, or a third country). The Technical
Explanation also states that these rules apply even if the
entity is viewed differently under the tax laws of the other
country. As an example, the Technical Explanation states that
income from Venezuelan sources received by an entity organized
under the laws of Venezuela, which is treated for U.S. tax
purposes as a corporation and is owned by a U.S. shareholder
who is a U.S. resident for U.S. tax purposes, is not considered
derived by the shareholder of that corporation, even if under
the tax laws of Venezuela the entity is treated as fiscally
transparent. Rather, for purposes of the proposed treaty, the
income is treated as derived by the Venezuelan entity.
Dual residents
Individuals
A set of ``tie-breaker'' rules is provided to determine
residence in the case of an individual who, under the basic
residence rules, would be considered to be a resident of both
countries. Under these rules, an individual is deemed to be a
resident of the country in which he or she has a permanent home
available. If the individual has a permanent home in both
countries, the individual's residence is deemed to be the
country with which his or her personal and economic relations
are closer (i.e., his or her ``center of vital interests''). If
the country in which the individual has his or her center of
vital interests cannot be determined, or if he or she does not
have a permanent home available in either country, he or she is
deemed to be a resident of 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, he or she is deemed to be
a resident of the country of which he or she is a national. If
the individual is a national of both countries or neither
country, the competent authorities of the countries will settle
the question of residence by mutual agreement.
Entities
In the case of any person other than an individual that is
a resident of both countries under the basis residence rules,
the proposed treaty requires the competent authorities to
settle the issue of residence by mutual agreement and to
determine the mode of application of the proposed treaty to
such person. Under the proposed treaty, if the competent
authorities are unable to make such a determination, the person
will not be considered a resident of either country and, thus,
will not be granted benefits under the proposed treaty.
Article 5. Permanent Establishment
The proposed treaty contains a definition of the term
``permanent establishment'' that generally follows the pattern
of other recent U.S. income tax treaties, the U.S. model, the
OECD model and the U.N. model.
The permanent establishment concept is one of the basic
devices used in income tax treaties to limit the taxing
jurisdiction of the host country and, thus, to mitigate double
taxation. Generally, an enterprise that is a resident of one
country is not taxable by the other country on its business
profits unless those profits are attributable to a permanent
establishment of the resident in the other country. In
addition, the permanent establishment concept is used to
determine whether the reduced rates of, or exemptions from, tax
provided for dividends, interest, and royalties apply, or
whether those items of income will be taxed as business
profits.
In general, under the proposed treaty, a permanent
establishment is a fixed place of business through which the
business of an enterprise is wholly or partly carried on. A
permanent establishment includes a place of management, a
branch, an office, a factory, a workshop, and a mine, an oil or
gas well, a quarry, or any other place of extraction of natural
resources. It also includes a building site or construction or
installation project, or an installation or drilling rig or
ship used for the exploration of natural resources, but only if
such site, project, or activities continue for more than 183
days within any 12-month period beginning or ending in the
taxable year concerned. The Technical Explanation states that
the 183-day test applies separately to each individual site or
project, with a series of contracts or projects that are
interdependent both commercially and geographically treated as
a single project. The Technical Explanation further states that
if the 183-day threshold is exceeded, the site or project
constitutes a permanent establishment as of the first day of
activity. The 183-day period for establishing a permanent
establishment in connection with a site, project, rig, or ship
is significantly shorter than the twelve-month period provided
in the corresponding rule of the U.S. and OECD models, but is
the same as the periods contained in the U.N. model and U.S.
treaties with some other countries.
The proposed protocol provides that it is understood that
if an enterprise which is a general contractor undertakes the
performance of a comprehensive project and subcontracts parts
of such project to a subcontractor, the time spent by such
subcontractor is considered to be time spent by the general
contractor for purposes of the 183-day test. The subcontractor
will have a permanent establishment only if its activities
satisfy the 183-day test. The proposed protocol provides that
the 183-day period begins as of the date on which the
construction activity itself begins, and does not take into
account time spent solely on preparatory activities such as
obtaining permits.
The proposed treaty further provides that a permanent
establishment includes the furnishing of services, including
consultancy services, by an enterprise through employees or
other personnel engaged by the enterprise for such purpose, but
only if the activities of that nature continue (for the same or
a connected project) within that country for a period or
periods aggregating more than 183 days within any 12-month
period beginning or ending in the taxable year concerned. This
rule regarding the performance of services as constituting a
permanent establishment is not contained in the U.S. or OECD
models. A similar rule is contained in the U.N. model.
Under the proposed treaty, the following activities are
deemed not to constitute a permanent establishment: the use of
facilities solely for storing, displaying, or delivering goods
or merchandise belonging to the enterprise; the maintenance of
a stock of goods or merchandise belonging to the enterprise
solely for storage, display, or delivery, or solely for
processing by another enterprise; the maintenance of a fixed
place of business solely for the purchase of goods or
merchandise or for the collection of information for the
enterprise; the maintenance of a fixed place of business solely
for the purpose of carrying on for the enterprise any other
activity of a preparatory or auxiliary character; and the
maintenance of a fixed place of business solely for the purpose
of any combination of the forgoing activities described above,
provided that the overall activity of the fixed place of
business resulting from this combination is of a preparatory or
auxiliary character. The proposed protocol provides that it is
understood that in order for these rules to apply, the
activities described above that are conducted by a resident of
a country must each be of a preparatory or auxiliary character.
Thus, maintaining sales personnel in a country would not be an
activity excepted from treatment as a permanent establishment
under these rules, and, if other requirements of the permanent
establishment article are satisfied, would constitute a
permanent establishment. The Technical Explanation gives
advertising and supplying information as examples of
preparatory and auxiliary activities that would not give rise
to a permanent establishment. The rules in the proposed treaty
are similar to the rule in the OECD model. Unlike the proposed
treaty and the OECD model, the U.S. model provides that the
maintenance of a fixed place of business solely for any
combination of the above-listed activities does not constitute
a permanent establishment, without requiring that the overall
combination of activities be of a preparatory or auxiliary
character.
If a person, other than an independent agent, is acting on
behalf of an enterprise and has and habitually exercises in a
country the authority to conclude contracts in the name of the
enterprise, the enterprise generally will be deemed to have a
permanent establishment in that country in respect of any
activities that person undertakes for the enterprise. This rule
does not apply where the activities of such person are limited
to those activities specified above, such as storage or display
of merchandise, which do not constitute a permanent
establishment.
Under the proposed treaty, no permanent establishment is
deemed to arise merely because the enterprise carries on
business in a country through a broker, general commission
agent, or any other agent of independent status, provided that
such persons are acting in the ordinary course of their
business. Unlike the U.S. model, but similar to the U.N. model,
the proposed treaty provides that when the activities of such
agent are devoted wholly or almost wholly on behalf of that
enterprise and the transactions between the agent and the
enterprise are not made under arm's length conditions, such
agent will not be considered to be an independent agent for
purposes of the foregoing rule.
The fact that a company that is a resident of one country
controls or is controlled by a company that is a resident of
the other country or that carries on business in the other
country (whether through a permanent establishment or
otherwise) does not of itself cause either company to be a
permanent establishment of the other.
Article 6. Income from Immovable Property (Real Property)
This article covers income from real property. The rules in
Article 13 (Gains) cover gains from the sale of real property.
Under the proposed treaty, income derived by a resident of
one country from immovable property (real property), including
income from agriculture or forestry, situated in the other
country may be taxed in the country where the property is
located. This rule is consistent with the rules in the U.S.,
OECD and U.N. models.
The term ``immovable property (real property)'' has the
meaning which it has under the law of the country in which the
property in question is situated.\8\ The proposed treaty
specifies that the term in any case includes property accessory
to immovable property (real property); livestock and equipment
used in agriculture and forestry; rights to which the
provisions of general law respecting landed property apply;
usufruct of immovable property (real property); and rights to
variable or fixed payments as consideration for the working of,
or the right to work, mineral deposits, sources, and other
natural resources. Ships, boats, and aircraft are not
considered to be immovable property (real property).
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\8\ In the case of the United States, the term is defined in Treas.
Reg. sec. 1.897-1(b).
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The proposed treaty specifies that the country in which the
property is situated may tax income derived from the direct
use, letting, or use in any other form of immovable property
(real property). The proposed treaty further provides that the
rules of this article permitting source-country taxation apply
to the income from immovable property (real property) of an
enterprise and to income from immovable property (real
property) used for the performance of independent personal
services.
Similar to the U.S. model and other U.S. income tax
treaties, the proposed treaty provides residents of a country
with an election to be taxed by the other country on a net
basis on income from real property in that country, as if such
income were business profits attributable to a permanent
establishment in such other country (where such treatment is
not otherwise allowed). Such election is binding for the
taxable year and all subsequent taxable years unless the
competent authority of the country in which the property is
situated agrees to terminate the election. U.S. internal law
provides such a net-basis election in the case of income of a
foreign person from U.S. real property (Code secs. 871(d) and
882(d)).
Article 7. Business Profits
U.S. internal law
U.S. law distinguishes between the U.S. business income and
the other U.S. income of a nonresident alien or foreign
corporation. A nonresident alien or foreign corporation is
subject to a flat 30-percent rate (or lower treaty rate) of tax
on certain U.S.-source income if that income is not effectively
connected with the conduct of a trade or business within the
United States. The regular individual or corporate rates apply
to income (from any source) which is effectively connected with
the conduct of a trade or business within the United States.
The treatment of income as effectively connected with a
U.S. trade or business depends upon whether the source of the
income is U.S. or foreign. In general, U.S.-source periodic
income (such as interest, dividends, rents, and wages) and
U.S.-source capital gains are effectively connected with the
conduct of a trade or business within the United States if the
asset generating the income is used in (or held for use in) the
conduct of the trade or business or if the activities of the
trade or business were a material factor in the realization of
the income. All other U.S.-source income of a person engaged in
a trade or business in the United States is treated as
effectively connected with the conduct of a trade or business
in the United States (under what is referred to as the ``force
of attraction'' rule).
Foreign-source income generally is effectively connected
income only if the foreign person has an office or other fixed
place of business in the United States and the income is
attributable to that place of business. Only three types of
foreign-source income are considered to be effectively
connected income: rents and royalties for the use of certain
intangible property derived from the active conduct of a U.S.
business; certain dividends and interest either derived in the
active conduct of a banking, financing, or similar business in
the United States or received by a corporation the principal
business of which is trading in stocks or securities for its
own account; and certain sales income attributable to a U.S.
sales office. Special rules apply for purposes of determining
the foreign-source income that is effectively connected with a
U.S. business of an insurance company.
Any income or gain of a foreign person for any taxable year
that is attributable to a transaction in another year is
treated as effectively connected with the conduct of a U.S.
trade or business if it would have been so treated had it been
taken into account in that other year (Code sec. 864(c)(6)). In
addition, if any property ceases to be used or held for use in
connection with the conduct of a trade or business within the
United States, the determination of whether any income or gain
attributable to a sale or exchange of that property occurring
within ten years after the cessation of business is effectively
connected with the conduct of a trade or business within the
United States is made as if the sale or exchange occurred
immediately before the cessation of business (Code sec.
864(c)(7)).
Proposed treaty limitations on internal law
Business profits subject to host country tax
Under the proposed treaty, the business profits of an
enterprise of one of the countries are taxable in the other
country if the enterprise carries on business through a
permanent establishment within the other country, but only so
much of the business profits that is attributable to that
permanent establishment.
The taxation of business profits under the proposed treaty
differs from U.S. internal law rules for taxing business
profits primarily by requiring more than merely being engaged
in a trade or business before a country can tax business
profits and by substituting an ``attributable to'' standard for
the Code's ``effectively connected'' standard. Under the
proposed treaty, some level of fixed place of business would
have to be present and the business profits generally would
have to be attributable to that fixed place of business.
The proposed treaty provides that there will be attributed
to a permanent establishment the business profits which it
might be expected to make if it were a distinct and independent
enterprise engaged in the same or similar activities under the
same or similar conditions. The Technical Explanation states
that amounts may be attributed to the permanent establishment
whether or not they are from sources within the country in
which the permanent establishment is located.
Nothing in this article will affect the application of any
law of a country relating to the determination of the tax
liability of a person in cases where the information available
to the competent authority of that country is inadequate to
determine the profits to be attributed to a permanent
establishment. In such cases, the determination of the profits
of the permanent establishment must be consistent with the
principles stated in this article (i.e., to reflect arm's
length pricing and appropriate deductions of expenses).
Treatment of expenses
In computing taxable business profits, the proposed treaty
provides that deductions are allowed for expenses, wherever
incurred, which are incurred for the purposes of the permanent
establishment, including executive and general administrative
expenses so incurred. However, no deductions are allowed for
amounts paid by the permanent establishment to its head office
or other offices of the enterprise (other than reimbursement
for actual expenses) by way of royalties, fees, or other
similar payments in return for the use of patents or other
rights, or by way of commission for specific services performed
or for management, or by way of interest for loans to the
permanent establishment. The Technical Explanation states that
there should be no profit element in such intra-company
transfers. Similarly, no account is taken for amounts charged
by the permanent establishment to its head office or other
offices of the enterprise (other than reimbursement for actual
expenses) by way of royalties, fees, or other similar payments
in return for the use of patents or other rights, or by way of
commission for specific services performed or for management,
or by way of interest for loans to the head office of the
enterprise or any other of its offices. The Technical
Explanation states that a permanent establishment may not
increase its business profits by the amount of any notional
fees for ancillary services performed for another unit of the
enterprise, and also may not deduct expenses in providing such
services, because those expenses would be incurred for purposes
of a business unit other than the permanent establishment.
A country may, consistent with its law, impose limitations
on deductions taken by the permanent establishment so long as
these limitations are consistent with the concept of net
income. The Technical Explanation states that this rule would
not permit the countries to deny a deduction for wages and
interest expenses because such expenses are so fundamental that
denial of such deductions would be inconsistent with the
concept of net income.
The proposed protocol provides that expenses allowed as a
deduction include a reasonable allocation of expenses,
including executive and general administrative expenses,
research and development expenses, interest, and other expenses
incurred in the taxable year for the purposes of the enterprise
as a whole (or the part thereof which includes the permanent
establishment), regardless of where incurred. However, such
expenses are allowed as deductions only to the extent that such
expenses have not been deducted by such enterprise and are not
reflected in other deductions allowed to the permanent
establishment, such as the deduction for cost of goods sold or
the value of the purchases. The proposed protocol provides that
the allocation of expenses must be accomplished in a manner
that reflects to a reasonably close extent the factual
relationship between the deduction and the permanent
establishment and the enterprise. The proposed protocol
provides examples of bases and factors which may be considered,
including but not limited to: (1) comparison of units sold; (2)
comparison of the amount of gross sales or receipts; (3)
comparison of cost of goods sold; (4) comparison of profit
contribution; (5) comparison of expenses incurred, assets used,
salaries paid, space utilized, and time spent that are
attributable to the activities of the permanent establishment;
and (6) comparison of gross income.\9\ The Technical
Explanation states that these rules permit (but do not require)
each country to apply the type of expense allocation rules
provided by U.S. law, such as in Treas. Reg. secs. 1.861-8 and
1.882-5. The Committee believes that it is appropriate to apply
reasonable allocation methods for these purposes.
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\9\ These bases and factors are taken from those described in Temp.
Treas. Reg. sec. 1.861-8T(c)(1).
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The proposed protocol provides that research and
development expenses incurred with respect to the same product
line may be allocated to a permanent establishment based on
gross receipts (i.e., the ratio of gross receipts of the
permanent establishment to the total gross receipts of the
enterprise with respect to that product line). The proposed
protocol further provides that Venezuela will not allow a
deduction with respect to any expenses allocable to income not
subject to tax in Venezuela under its territorial system of
taxation.
Other rules
Business profits are not attributed to a permanent
establishment merely by reason of the mere purchase of goods or
merchandise by the permanent establishment for the enterprise.
Thus, where a permanent establishment purchases goods for its
head office, the business profits attributed to the permanent
establishment with respect to its other activities are not
increased by a profit element in its purchasing activities.
The business profits attributable to a permanent
establishment must be determined under the same method each
year unless there is a good and sufficient reason to the
contrary. The Technical Explanation states that this rule does
not restrict a treaty country from imposing additional
requirements, such as the rules under Code section 481, to
prevent amounts from being duplicated or omitted following a
change in accounting method.
The proposed treaty provides that business profits
attributable to a permanent establishment include only the
profits or losses derived from the assets or activities of the
permanent establishment. The proposed treaty does not
incorporate the limited force of attraction rule of Code
section 864(c)(3). The proposed treaty is consistent with the
U.S. model and other existing U.S. treaties in this regard.
Where business profits include items of income that are
dealt with separately in other articles of the proposed treaty,
those other articles, and not the business profits article,
govern the treatment of those items of income (except where
such other articles specifically provide to the contrary).
Thus, for example, dividends are taxed under the provisions of
Article 10 (Dividends), and not as business profits, except as
specifically provided in Article 10.
The proposed treaty incorporates the rule of Code section
864(c)(6) and provides that any income or gain attributable to
a permanent establishment or a fixed base during its existence
is taxable in the country where the permanent establishment or
fixed base is located even though payments are deferred until
after the permanent establishment or fixed base has ceased to
exist. This rule applies with respect to business profits
(Article 7, paragraphs 1 and 2), dividends (Article 10,
paragraph 6), interest (Article 11, paragraph 6), royalties
(Article 12, paragraph 4), gains (Article 13, paragraph 3),
independent personal services income (Article 14), and other
income (Article 22, paragraph 2).
Article 8. Shipping and Air Transport
Article 8 of the proposed treaty covers income from the
operation or rental of ships, aircraft, and containers in
international traffic. The rules governing income from the
disposition of ships, aircraft, and containers are contained in
Article 13 (Gains).
The United States generally taxes the U.S.-source income of
a foreign person from the operation of ships or aircraft to or
from the United States. An exemption from U.S. tax is provided
if the income is earned by a corporation that is organized in,
or an alien individual who is resident in, a foreign country
that grants an equivalent exemption to U.S. corporations and
residents. The United States has entered into agreements with a
number of countries providing such reciprocal exemptions.
The proposed treaty provides that profits which are derived
by an enterprise of one country from the operation in
international traffic of ships or aircraft are taxable only in
that country, regardless of the existence of a permanent
establishment in the other country. International traffic means
any transport by a ship or aircraft, except where the transport
is solely between places in the other country.
The proposed treaty provides that profits from the rental
of ships or aircraft on a full (time or voyage) basis
constitute profits from the operation of ships or aircraft.
Thus, such profits from the rental of ships or aircraft for use
in international traffic are exempt from tax in the other
country. In addition, the proposed treaty provides that profits
from the operation of ships or aircraft include profits derived
from the rental of ships or aircraft on a bareboat basis if
such ships or aircraft are operated in international traffic by
the lessee or if such rental profits are incidental to profits
from the operation of ships or aircraft in international
traffic. The proposed treaty further provides that profits
derived by an enterprise from the inland transport of property
or passengers within either country is treated as profits from
the operation of ships or aircraft in international traffic if
such transport is undertaken as part of international traffic.
Like the U.S. model, the proposed treaty provides that
profits derived by an enterprise of a country from the use,
maintenance, or rental of containers (including trailers,
barges, and related equipment for the transport of containers)
used in international traffic are taxable only in that country.
Like the U.S. model, the shipping and air transport
provisions of the proposed treaty also apply to profits from
participation in a pool, joint business, or international
operating agency. This rule covers profits derived pursuant to
an arrangement for international cooperation between carriers
in shipping and air transport.
The proposed protocol provides that this article will not
affect the provisions of the December 29, 1987, agreement
between the United States and Venezuela for the avoidance of
double taxation with respect to shipping and air transport.
Article 9. Associated Enterprises
The proposed treaty, like most other U.S. tax treaties,
contains an arm's-length pricing provision. The proposed treaty
recognizes the right of each country to make an allocation of
profits to an enterprise of that country in the case of
transactions between related enterprises, if conditions are
made or imposed between the two enterprises in their commercial
or financial relations which differ from those which would be
made between independent enterprises. In such a case, a country
may allocate to such an enterprise the profits which it would
have accrued but for the conditions so imposed. This treatment
is consistent with the U.S. model.
For purposes of the proposed treaty, an enterprise of one
country is related to an enterprise of the other country if one
of the enterprises participates directly or indirectly in the
management, control, or capital of the other enterprise.
Enterprises are also related if the same persons participate
directly or indirectly in their management, control, or
capital.
Under the proposed treaty, when a redetermination of tax
liability has been made by one country under the provisions of
this article, the other country will make a corresponding
adjustment to the amount of tax paid in that country on the
redetermined income if it agrees that the adjustment was
correct. In making such adjustment, due regard is to be given
to other provisions of the proposed treaty, and the competent
authorities of the two countries are to consult with each other
if necessary. The proposed treaty's saving clause retaining
full taxing jurisdiction in the country of residence or
citizenship does not apply in the case of such adjustments.
Accordingly, internal statute of limitations provisions do not
prevent the allowance of appropriate correlative adjustments.
This article does not replace the internal law provisions
that permit this type of adjustment. Under the proposed treaty,
this article does not limit any law provisions of either
country that permit the distribution, apportionment, or
allocation of income, deductions, credits, or allowances
between persons (whether or not residents of one of the treaty
countries) that are owned or controlled directly or indirectly
by the same interests when necessary in order to prevent
evasion of taxes or to clearly reflect income. The Technical
Explanation states that adjustments are permitted under
internal law provisions even if such adjustments are different
from, or go beyond, the adjustments authorized by this article,
provided that such adjustments are consistent with the general
principles of this article permitting adjustments to reflect
arm's-length terms. The Technical Explanation states that this
article also permits the tax authorities of the countries to
address thin capitalization issues.
Article 10. Dividends
Internal taxation rules
United States
The United States generally imposes a 30-percent tax on the
gross amount of U.S.-source dividends paid to nonresident alien
individuals and foreign corporations. The 30-percent tax does
not apply if the foreign recipient is engaged in a trade or
business in the United States and the dividends are effectively
connected with that trade or business. In such a case, the
foreign recipient is subject to U.S. tax on such dividends on a
net basis at graduated rates in the same manner that a U.S.
person would be taxed.
Under U.S. law, the term ``dividend'' generally means any
distribution of property made by a corporation to its
shareholders, either from accumulated earnings and profits or
current earnings and profits. However, liquidating
distributions generally are treated as payments in exchange for
stock and, thus, are not subject to the 30-percent withholding
tax described above (see discussion of gains in connection with
Article 13 below).
Dividends paid by a U.S. corporation generally are U.S.-
source income. Also treated as U.S.-source dividends for this
purpose are portions of certain dividends paid by a foreign
corporation that conducts a U.S. trade or business. The U.S.
30-percent withholding tax imposed on the U.S.-source portion
of the dividends paid by a foreign corporation is referred to
as the ``second-level'' withholding tax. This second-level
withholding tax is imposed only if a treaty prevents
application of the statutory branch profits tax.
In general, corporations are not entitled under U.S. law to
a deduction for dividends paid. Thus, the withholding tax on
dividends theoretically represents imposition of a second level
of tax on corporate taxable income. Treaty reductions of this
tax reflect the view that where the United States already
imposes corporate-level tax on the earnings of a U.S.
corporation, a 30-percent withholding rate may represent an
excessive level of source-country taxation. Moreover, the
reduced rate of tax often applied by treaty to dividends paid
to direct investors reflects the view that the source-country
tax on payments of profits to a substantial foreign corporate
shareholder may properly be reduced further to avoid double
corporate-level taxation and to facilitate international
investment.
A real estate investment trust (``REIT'') is a corporation,
trust, or association that is subject to the regular corporate
income tax, but that receives a deduction for dividends paid to
its shareholders if certain conditions are met. In order to
qualify for the deduction for dividends paid, a REIT must
distribute most of its income. Thus, a REIT is treated, in
essence, as a conduit for federal income tax purposes. Because
a REIT is taxable as a U.S. corporation, a distribution of its
earnings is treated as a dividend rather than income of the
same type as the underlying earnings. Such distributions are
subject to the U.S. 30-percent withholding tax when paid to
foreign owners.
A REIT is organized to allow persons to diversify ownership
in primarily passive real estate investments. As such, the
principal income of a REIT often is rentals from real estate
holdings. Like dividends, U.S.-source rental income of foreign
persons generally is subject to the 30-percent withholding tax
(unless the recipient makes an election to have such rental
income taxed in the United States on a net basis at the regular
graduated rates). Unlike the withholding tax on dividends,
however, the withholding tax on rental income generally is not
reduced in U.S. income tax treaties.
U.S. internal law also generally treats a regulated
investment company (``RIC'') as both a corporation and a
conduit for income tax purposes. The purpose of a RIC is to
allow investors to hold a diversified portfolio of securities.
Thus, the holder of stock in a RIC may be characterized as a
portfolio investor in the stock held by the RIC, regardless of
the proportion of the RIC's stock owned by the dividend
recipient.
Venezuela
Venezuela currently does not impose a withholding tax on
dividends. Venezuela is in the process of enacting new tax
legislation that would impose a 34-percent withholding tax on
dividends paid to nonresident individuals and foreign
corporations. Although the new tax law has not yet been
officially published, the Committee understands that the new
dividend withholding tax is effective for dividends paid on or
after January 1, 2001.
Proposed treaty limitations on internal law
Under the proposed treaty, dividends paid by a company that
is a resident of a treaty country to a resident of the other
country may be taxed in such other country. Such dividends may
also be taxed by the country in which the payor company is
resident, and according to the laws of that country, but the
rate of such tax is limited. Under the proposed treaty, source-
country taxation (i.e., taxation by the country in which the
payor company is resident) generally is limited to 5 percent of
the gross amount of the dividend if the beneficial owner of the
dividend is a resident of the other country and is a company
which owns at least 10 percent of the voting stock of the payor
company. The source-country dividend withholding tax generally
is limited to 15 percent of the gross amount of the dividends
beneficially owned by residents of the other country in all
other cases.
The Technical Explanation states that the term ``beneficial
owner'' is not defined in the proposed treaty and, thus, is
defined under the internal law of the source country. The
Technical Explanation further states that the beneficial owner
of a dividend for purposes of this article is the person to
which the dividend income is attributable for tax purposes
under the laws of the source country.
The rates of source-country dividend withholding tax
permitted under the proposed treaty are consistent with those
provided for in the U.S. model, the OECD model, and most other
U.S. income tax treaties. The proposed treaty provides that
these rules do not affect the taxation of the paying company on
the profits out of which the dividends are paid.
The proposed treaty allows the United States to impose a
15-percent tax on a U.S.-source dividend paid by a RIC to a
Venezuelan person. The proposed treaty allows the United States
to impose a 15-percent tax on a U.S.-source dividend paid by a
REIT to a Venezuelan person if: (1) the beneficial owner of the
dividend is an individual holding an interest of not more than
10 percent of the REIT; (2) the dividend is paid with respect
to a class of stock that is publicly traded and the beneficial
owner of the dividend is a person holding an interest of not
more than 5 percent of any class of the REIT's stock; or (3)
the beneficial owner of the dividend is a person holding an
interest of not more than 10 percent of the REIT and the REIT
is diversified. There is no limitation in the proposed treaty
on the tax that may be imposed by the United States with
respect to a REIT dividend that does not satisfy at least one
of these requirements. Thus, such a dividend is taxable at the
30-percent U.S. statutory withholding rate. For purposes of
this provision, the Technical Explanation states that a REIT
will be considered to be diversified if the value of no single
interest in the REIT's real property exceeds 10 percent of the
REIT's total interests in real property.
The proposed treaty provides that dividends may not be
taxed by the source country if the beneficial owner of the
dividends is (1) the other country or a political subdivision
or local authority thereof, or (2) a governmental entity
constituted and operated exclusively to administer or provide
pension benefits. This rule does not apply if the dividends are
derived from carrying on a trade or business or from an
associated enterprise. For these purposes, the proposed
protocol provides that it is understood that a ``governmental
entity constituted and operated exclusively to administer or
provide pension benefits'' includes, in the case of Venezuela,
private, public or mixed entities operating under or pursuant
to the Ley del Subsistema de Pensiones (Law of the Pension
System), enacted under the Ley Orgnica del Sistema de Seguridad
Social Integral (Organic Law of the Integrated Social Security
System).
The Technical Explanation states that Venezuela is
currently considering ways of reforming its government-run
social security system. The Ley del Subsistema de Pensiones
currently is proposed legislation that would replace
Venezuela's existing regime with a system of privatized funds
that would be permitted to invest in equities. The Technical
Explanation states that the inclusion of the proposed funds
within the exemption for dividend payments was judged warranted
because the system under the proposed legislation is similar to
a government-run social security system (as opposed to a
private pension plan system).
The Technical Explanation states that because the Ley del
Subsistema de Pensiones has not been enacted, additional
general requirements are listed in the proposed protocol to
ensure that the exemption for dividend payments will apply only
to entities that operate under or pursuant to a final version
of the law that includes the significant features of the
proposed law. In order to satisfy these requirements, the
version of the Ley del Subsistema de Pensiones that is enacted
must: (1) provide universal coverage; (2) require mandatory
contributions by both employers and employees; (3) limit the
discretion of employers or employees to direct investment; (4)
restrict distributions or borrowings, directly or indirectly,
except upon death, retirement or disability; and (5) require
that accounts be maintained at only one such qualifying entity
at a time. The proposed protocol further provides that such
entities also must be operated, and their investment parameters
established, pursuant to governmental oversight and regulation.
For purposes of the rules described above, the term
``governmental entity constituted and operated exclusively to
administer or provide pension benefits'' also includes any
equivalent entities in the United States.
The proposed treaty defines ``dividends'' as income from
shares or other rights, which are not debt claims and which
participate in profits. The term also includes income from
other corporate rights if such income is subjected to the same
tax treatment as income from shares by the country in which the
distributing corporation is resident. Furthermore, dividends
include income from arrangements, including debt obligations,
that carry the right to participate in, or determined with
reference to, profits to the extent such income is so
characterized under the laws of the country in which the income
arises.
The proposed treaty's reduced rates of tax on dividends do
not apply if the dividend recipient carries on business through
a permanent establishment in the source country, or performs in
the source country independent personal services from a fixed
base located in that country, and the dividend is attributable
to such permanent establishment or fixed base. In such cases,
the dividend attributable to the permanent establishment or the
fixed base is taxed as business profits (Article 7) or as
income from the performance of independent personal services
(Article 14), as the case may be. Under the proposed treaty,
these rules also apply if the permanent establishment or fixed
base no longer exists when the dividends are paid but such
dividends are attributable to the former permanent
establishment or fixed base.
The proposed treaty provides that a country may not impose
any tax on dividends paid by a company that is a resident of
the other country, except to the extent that the dividends are
paid to a resident of the first country or the dividends are
attributable to a permanent establishment or fixed base
situated in that first country. Thus, this provision generally
overrides the ability of the United States to impose its
second-level withholding tax on the U.S.-source portion of
dividends paid by a Venezuelan corporation.
Article 11. Interest
Internal taxation rules
United States
Subject to several exceptions (such as those for portfolio
interest, bank deposit interest, and short-term original issue
discount), the United States imposes a 30-percent withholding
tax on U.S.-source interest paid to foreign persons under the
same rules that apply to dividends. U.S.-source interest, for
purposes of the 30-percent tax, generally is interest on the
debt obligations of a U.S. person, other than a U.S. person
that meets specified foreign business requirements. Also
subject to the 30-percent tax is interest paid by the U.S.
trade or business of a foreign corporation.
Portfolio interest generally is defined as any U.S.-source
interest that is not effectively connected with the conduct of
a trade or business if such interest (1) is paid on an
obligation that satisfies certain registration requirements or
specified exceptions thereto and (2) is not received by a 10-
percent owner of the issuer of the obligation, taking into
account shares owned by attribution. However, the portfolio
interest exemption does not apply to certain contingent
interest income.
If an investor holds an interest in a fixed pool of real
estate mortgages that is a real estate mortgage interest
conduit (``REMIC''), the REMIC generally is treated for U.S.
tax purposes as a pass-through entity and the investor is
subject to U.S. tax on a portion of the REMIC's income (which,
generally is interest income). If the investor holds a so-
called ``residual interest'' in the REMIC, the Code provides
that a portion of the net income of the REMIC that is taxed in
the hands of the investor--referred to as the investor's
``excess inclusion''--may not be offset by any net operating
losses of the investor, must be treated as unrelated business
income if the investor is an organization subject to the
unrelated business income tax, and is not eligible for any
reduction in the 30-percent rate of withholding tax (by treaty
or otherwise) that would apply if the investor were otherwise
eligible for such a rate reduction.
Venezuela
Venezuela generally imposes a withholding tax on interest
paid to nonresidents at a rate of 34 percent on 95 percent of
the gross payment (i.e., an effective rate of 32.3 percent).
However, interest paid to nonresident financial institutions is
subject to withholding tax at a rate of 4.95 percent.
Proposed treaty limitations on internal law
The proposed treaty provides that interest arising in one
of the countries and derived by a resident of the other country
generally may be taxed in both countries. This is contrary to
the position of the U.S. model which provides for an exemption
from source-country tax for interest beneficially owned by a
resident of the other country.
The proposed treaty limits the rate of source-country tax
that may be imposed on interest income if the beneficial owner
of the interest is a resident of the other country. The source-
country tax on such interest may not exceed 4.95 percent of the
gross amount of the interest if it is beneficially owned by any
financial institution, including an insurance company. The
Technical Explanation states that this rate is based on the
Venezuelan statutory rate of interest withholding for payments
made to financial institutions. In all other cases, the rate of
source-country tax on interest generally may not exceed 10
percent of the gross amount of such interest. These rates are
higher than the rates permitted under the U.S. model and many
U.S. income tax treaties.
The proposed treaty provides for a complete exemption from
source-country withholding tax in the case of certain
categories of interest arising in a country and earned by
residents of the other country. Interest that is paid by a
treaty country (or a political subdivision or local authority
thereof) is exempt from source-country tax. In addition,
exemptions from source-country tax apply to cases in which the
beneficial owner of the interest is (1) the other country (or a
political subdivision or local authority thereof) or an
instrumentality wholly owned by the other country), or (2) a
resident of that other country and the interest is paid with
respect to debt obligations made, guaranteed, or insured
(directly or indirectly) by that country or an instrumentality
wholly owned by that country. The proposed protocol states that
instrumentalities, referred to above, include the U.S. Export-
Import Bank, the Federal Reserve Banks and the Overseas Private
Investment Corporation, the Venezuelan Banco de Comercio
Exterior, the Banco Central de Venezuela and the Fondo de
Inversiones de Venezuela, and such other instrumentalities as
the competent authorities may agree upon.
The proposed treaty provides two anti-abuse exceptions to
the general source-country reduction in tax discussed above.
The first exception relates to ``contingent interest''
payments. If interest is paid by a source-country resident to a
resident of the other country and is determined with reference
(1) to receipts, sales, income, profits, or other cash flow of
the debtor or a related person, (2) to any change in the value
of any property of the debtor or a related person, or (3) to
any dividend, partnership distribution, or similar payment made
by the debtor to a related person, such interest may be taxed
in the source country in accordance with its internal laws.
However, if the beneficial owner is a resident of the other
country, such interest may not be taxed at a rate exceeding 15
percent (i.e., the rate prescribed in subparagraph (b) of
paragraph 2 of Article 10 (Dividends)). The second anti-abuse
exception provides that the reductions in and exemption from
source country tax do not apply to excess inclusions with
respect to a residual interest in a REMIC. Such income may be
taxed in accordance with each country's internal law.
The proposed treaty defines the term ``interest'' as income
from debt claims of every kind, whether or not secured by a
mortgage and whether or not carrying a right to participate in
the debtor's profits. In particular, it includes income from
government securities and from bonds or debentures, including
premiums or prizes attaching to such securities, bonds, or
debentures. Furthermore, interest includes any other income
that is treated as interest by the tax law of the country in
which the income arises. The proposed treaty provides that the
term ``interest'' does not include amounts treated as dividends
under Article 10 (Dividends) or penalty charges for late
payment.
The proposed treaty's reductions in source country tax on
interest do not apply if (1) the beneficial owner of the
interest carries on business in the source country through a
permanent establishment located in that country, or performs
independent personal services in the source country from a
fixed base located in that country, and (2) the interest paid
is attributable to such permanent establishment or fixed base.
In such events, the interest is taxed as business profits
(Article 7) or as independent personal services income (Article
14), as the case may be. These rules also apply if the
permanent establishment or fixed base no longer exists when the
interest is paid but such interest is attributable to the
former permanent establishment or fixed base.
The proposed treaty provides that interest is treated as
arising in a country if the payor is that country, including
its political subdivisions and local authorities, or if the
payor is a resident of that country.\10\ If, however, the payor
of the interest has a permanent establishment or a fixed base
in a country and such interest is borne by the permanent
establishment or fixed base, then such interest is sourced to
the country in which the permanent establishment or fixed base
is situated. In addition, if a person derives profits that are
taxable on a net basis in such country under paragraph 5 of
Article 6 (Income From Immovable Property (Real Property)) or
paragraph 1 of Article 13 (Gains), and the interest is
allocable to such profits, then such interest is sourced to the
country in which such profits are derived. Thus, for example,
if a French resident has a permanent establishment in Venezuela
and that French resident incurs indebtedness to a U.S. person,
the interest on which is borne by the Venezuelan permanent
establishment, the interest would be treated as having its
source in Venezuela.
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\10\ This is consistent with the source rules of U.S. law, which
provide as a general rule that interest income has as its source the
country in which the payor is resident.
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The proposed treaty addresses the issue of non-arm's-length
interest charges between related parties (or parties otherwise
having a special relationship) by providing that the amount of
interest for purposes of applying this article is the amount of
interest that would have been agreed upon by the payor and the
beneficial owner in the absence of the special relationship.
Any amount of interest paid in excess of such amount is taxable
according to the internal laws of each country, taking into
account the other provisions of the proposed treaty. For
example, excess interest paid by a subsidiary corporation to
its parent corporation may be treated as a dividend under
internal law and thus subject to the provisions of Article 10
(Dividends).
Article 11A. Branch Tax
Internal taxation rules
United States
A foreign corporation engaged in the conduct of a trade or
business in the United States is subject to a flat 30-percent
branch profits tax on its ``dividend equivalent amount,'' which
is a measure of the accumulated U.S. effectively connected
earnings of the corporation that are removed in any year from
its U.S. trade or business. The dividend equivalent amount is
limited by (among other things) the foreign corporation's
aggregate earnings and profits accumulated in taxable years
beginning after December 31, 1986. The Code provides that no
U.S. treaty shall exempt any foreign corporation from the
branch profits tax (or reduce the amount thereof) unless the
foreign corporation is a ``qualified resident'' of the treaty
country. The definition of a ``qualified resident'' under U.S.
internal law is somewhat similar to the definition of a
corporation eligible for benefits under the proposed treaty
(discussed below in connection with Article 17 (Limitation on
Benefits)).
A foreign corporation is subject to a branch-level excess
interest tax with respect to certain ``excess interest'' of a
U.S. trade or business of such corporation; under this rule an
amount equal to the excess of the interest deduction allowed
with respect to the U.S. business over the interest paid by
such business is treated as if paid by a U.S. corporation to a
foreign parent and therefore is subject to a withholding tax.
Venezuela
Venezuela currently does not impose a branch profits tax.
Venezuela is in the process of enacting new tax legislation
that would impose a branch profits tax. Although the new law
has not yet been officially published, the Committee
understands that the new branch profits tax will be imposed on
a presumed dividend at a tax rate of 34 percent. The Committee
also understands that the new Venezuelan branch profits will be
effective for taxable years beginning on or after January 1,
2001.
Proposed treaty limitations on internal law
The proposed treaty provides that a company that is a
resident of a country may be subject in the other country to a
tax in addition to the tax on profits.
This article is drafted to apply to the U.S. branch profits
tax. The proposed treaty permits the United States to impose
its branch profits tax, but limits the rate of such tax to 5
percent. The article refers to a maximum 5-percent tax on the
``dividend equivalent amount.'' \11\ The proposed protocol
provides that in the case of the United States, the term
``dividend equivalent amount'' has the meaning it has under
U.S. laws, as it may be amended from time to time without
changing the general principle thereof. The Technical
Explanation states that the term ``dividend equivalent amount''
has the same meaning it has under Code section 884, as it may
be amended, provided that the amendments are consistent with
the purposes of the branch profits tax.
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\11\ In this regard, the proposed treaty permits the United States
to impose a tax on the ``dividend equivalent amount'' of the business
profits of a Venezuelan corporation which are attributable to a U.S.
permanent establishment or that are subject to tax on a net basis as
income or gains from real property.
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Venezuela is in the process of enacting a new Venezuelan
branch profits tax. This article is not drafted specifically to
apply to this new tax. The article only refers to a maximum 5-
percent tax on the ``dividend equivalent amount,'' which is not
a term that is anticipated to be used in the new Venezuelan tax
law. The Committee has included in its recommended resolution
of ratification an understanding to the proposed treaty to
clarify that U.S. entities with a branch in Venezuela are
entitled to the reduced 5-percent rate of tax under this
article with respect to the new Venezuelan branch profits tax.
The proposed treaty permits the imposition of the U.S. tax
on excess interest, but limits the rate of source-country tax.
In this regard, the proposed protocol provides that for these
purposes, excess interest means the excess, if any of (1)
interest deductible in one or more years in computing the
profits of a corporation that are either attributable to a
permanent establishment or that are subject to tax on a net
basis as income or gains from real property, over (2) the
interest paid by or from such permanent establishment or trade
or business. The proposed treaty provides that the rate of tax
imposed on such excess interest may not exceed the specified
rates in the interest article (i.e., 4.95 or 10 percent, as the
case may be, under Article 11(2)). Thus, for example, if the
enterprise is a financial institution, the excess interest tax
would be imposed at a 4.95 percent rate.
Article 12. Royalties
Internal taxation rules
United States
Under the same system that applies to dividends and
interest, the United States imposes a 30-percent withholding
tax on U.S.-source royalties paid to foreign persons. U.S.-
source royalties include royalties for the use of or the right
to use intangible property in the United States.
Venezuela
Venezuela generally imposes a withholding tax on royalties
paid to nonresidents at a rate of 34 percent. The 34 percent
rate is applied to 90 percent of notional income (i.e., an
effective rate of 30.6 percent) in the case of certain
turnover-based royalties, and to 50 percent of notional income
(i.e., an effective rate of 17 percent) in the case of certain
lump-sum royalties.
Proposed treaty limitations on internal law
The proposed treaty provides that royalties arising in a
treaty country and derived by a resident of the other country
may be taxed by that other country. In addition, the proposed
treaty allows the country where the royalties arise (the
``source country'') to tax such royalties according to its
laws. However, if the beneficial owner of the royalties is a
resident of the other country, the source country tax is
limited.
The proposed treaty provides that the rate of source-
country tax on certain royalties may not exceed 5 percent of
the gross royalties. The 5-percent limitation applies to
payments of any kind for the use of, or the right to use,
industrial, commercial or scientific equipment. Unlike the
proposed treaty, the U.S. model treats such income as business
profits, and not as royalties.
The proposed treaty further provides that the rate of
source-country tax on certain royalties may not exceed 10
percent of the gross royalties. The 10-percent limitation
applies to payments of any kind received in consideration for
the use of, or the right to use, any copyright of literary,
dramatic, musical, artistic, or scientific work, including
cinematographic films, tapes, and other means of image or sound
reproduction, any patent, trademark, design or model, plan,
secret formula or process, or other like right or property, or
for information concerning industrial, commercial or scientific
experience. The proposed treaty also treats as royalties
subject to the 10-percent limitation gains derived from the
alienation of such right or property to the extent that such
gains are contingent on the productivity, use or disposition
thereof.
According to the Technical Explanation, payments with
respect to computer software are treated as royalties or as
business profits, depending on the facts and circumstances of
the particular transaction. The Technical Explanation also
states that it is understood that payments with respect to
transfers of ``shrink wrap'' computer software will be treated
as business profits, and not as royalties. The Technical
Explanation also states that the term ``industrial, commercial
or scientific experience'' includes information that is
ancillary to a right otherwise giving rise to royalties, such
as a patent or secret process.
The proposed treaty's reductions in source country tax on
royalties do not apply if (1) the beneficial owner of the
royalties carries on business in the source country through a
permanent establishment located in that country, or performs in
the source country independent personal services from a fixed
base located in that country, and (2) the royalties are
attributable to such permanent establishment or fixed base. In
such cases, the interest is taxed as business profits (Article
7) or as independent personal services income (Article 14), as
the case may be. These rules also apply if the permanent
establishment or fixed base no longer exists when the royalties
are paid but such royalties are attributable to the former
permanent establishment or fixed base.
The proposed treaty provides that royalties are deemed to
arise in a country when they are in consideration for the use
of, or the right to use, property, information or experience in
that country. This source rule generally is consistent with the
place of use source rules under U.S. law.
The proposed protocol provides that payments received as
consideration for technical services or assistance, including
studies or surveys of a scientific, geological or technical
nature, for engineering works including the plans related
thereto, or for consultancy or supervisory services or
assistance are not considered royalties, but are treated as
either business profits under Article 7 or as independent
personal services income under Article 14.
The proposed treaty addresses the issue of non-arm's-length
royalties between related parties (or parties otherwise having
a special relationship) by providing that the amount of
royalties for purposes of applying this article is the amount
that would have been agreed upon by the payor and the
beneficial owner in the absence of the special relationship.
Any amount of royalties paid in excess of such amount is
taxable according to the laws of each country, taking into
account the other provisions of the proposed treaty. For
example, excess royalties paid by a subsidiary corporation to
its parent corporation may be treated as a dividend under local
law and thus subject to the provisions of Article 10
(Dividends).
Article 13. Gains
Internal taxation rules
United States
Generally, gain realized by a nonresident alien or a
foreign corporation from the sale of a capital asset is not
subject to U.S. tax unless the gain is effectively connected
with the conduct of a U.S. trade or business or, in the case of
a nonresident alien, he or she is physically present in the
United States for at least 183 days in the taxable year. A
nonresident alien or foreign corporation is subject to U.S. tax
on gain from the sale of a U.S. real property interest as if
the gain were effectively connected with a trade or business
conducted in the United States. ``U.S. real property
interests'' include interests in certain corporations if at
least 50 percent of the assets of the corporation consist of
U.S. real property.
Venezuela
Capital gains generally are subject to a withholding tax of
34 percent. However, the sale of shares of a publicly traded
Venezuelan company are subject to a withholding tax of 1
percent of the sales price.
Proposed treaty limitations on internal law
Under the proposed treaty, gains or income derived by a
treaty country resident from the alienation of immovable
property (real property) situated in the other country may be
taxed in the other country. Immovable property (real property)
situated in the other country for purposes of this article
includes immovable property (real property) referred to in
Article 6 (Income from Immovable Property (Real Property)) that
is situated in the other country, an interest in a partnership,
trust or estate to the extent that its assets consist of
immovable property (real property) situated in the other
country, and a United States real property interest and an
equivalent interest in Venezuelan immovable property (real
property). The Technical Explanation states that distributions
by a REIT that are attributable to gains derived from the
alienation of real property are taxable under this article (and
are not taxable under the dividends article (Article 10)).
The proposed treaty contains a standard provision which
permits a country to tax the gain or income from the alienation
of personal (movable) property that is attributable to a
permanent establishment that an enterprise of a country has in
the other country, or that is attributable to a fixed base that
is available to a resident of a country in the other country
for purposes of performing independent personal services. This
rule also applies to gains from the alienation of such a
permanent establishment (alone or with the whole enterprise) or
such fixed base. This rule also applies if the permanent
establishment or fixed base no longer exists when the gains are
recognized but such gains are attributable to the former
permanent establishment or fixed base.
The proposed treaty provides that gains or income derived
by an enterprise of a country from the alienation of ships,
aircraft, or containers operated in international traffic are
taxable only in that country. This rule also applies to
personal property pertaining to the operation or use of such
ships, aircraft, or containers. This rule applies even if such
gain is attributable to a permanent establishment in the other
country.
The proposed treaty provides that gains from the alienation
of any property other than that discussed above are taxable
under the proposed treaty only in the country where the
alienator is a resident.
Article 14. Independent Personal Services
Internal taxation rules
United States
The United States taxes the income of a nonresident alien
individual at the regular graduated rates if the income is
effectively connected with the conduct of a trade or business
in the United States by the individual. The performance of
personal services within the United States may constitute a
trade or business within the United States.
Under the Code, the income of a nonresident alien
individual from the performance of personal services in the
United States is excluded from U.S.-source income, and
therefore is not taxed by the United States in the absence of a
U.S. trade or business, if the following criteria are met: (1)
the individual is not in the United States for over 90 days
during the taxable year, (2) the compensation does not exceed
$3,000, and (3) the services are performed as an employee of,
or under a contract with, a foreign person not engaged in a
trade or business in the United States, or are performed for a
foreign office or place of business of a U.S. person.
Venezuela
Nonresident individuals generally are subject to a
withholding tax on income with respect to the performance of
professional services in Venezuela at a rate of 34 percent on
90 percent of notional income (i.e., an effective rate of 30.6
percent).
Proposed treaty limitations on internal law
Under the proposed treaty, income in respect of
professional services or other activities of an independent
character derived by a resident of a country is taxable only in
that country. However, such income also may be taxed by the
other country (the source country) if the individual has a
fixed base regularly available to him or her in the other
country for the purpose of performing the activities. In that
case, the source country is permitted to tax only that portion
of the individual's income which is attributable to that fixed
base. This rule also applies where the income is received after
the fixed base is no longer in existence, but the income is
attributable to the former fixed base. The Technical
Explanation states that the term ``fixed base'' is understood
to be similar, but not identical, to the term ``permanent
establishment,'' as defined in the permanent establishment
article (Article 5).
The proposed treaty provides that the term ``professional
services'' includes especially independent scientific,
literary, artistic, educational, or teaching activities, as
well as the independent activities of physicians, lawyers,
engineers, architects, dentists and accountants.
The proposed treaty provides that the rules for taxing
independent personal services income is subject to the
provisions of the business profits article (Article 7). The
Technical Explanation states that this rule ensures that in
cases where the source country taxes income from independent
personal services, it will do so only on a net basis. The
proposed protocol provides that this article is to be
interpreted according to the Commentary to Article 14
(Independent Personal Services) of the OECD Model, and of any
guidelines which, for the application of such article, may be
developed in the future. Thus, it is understood that the tax on
such independent personal services income will be imposed on
net income as if the income were attributable to a permanent
establishment and taxable under Article 7 (Business Profits).
Article 15. Dependent Personal Services
Under the proposed treaty, salaries, wages, and other
similar remuneration derived from services performed as an
employee in one country (the source country) by a resident of
the other country are taxable only by the country of residence
if three requirements are met: (1) the individual must be
present in the source country for not more than 183 days in any
twelve-month period commencing or ending in the taxable year
concerned; (2) his or her employer must not be a resident of
the source country; and (3) the compensation must not be borne
by a permanent establishment or fixed base of the employer in
the source country. These limitations on source-country
taxation generally are consistent with the U.S. and OECD
models. The proposed protocol provides that the term ``similar
remuneration'' includes benefits in kind received in respect of
an employment and any other benefits, whether or not considered
as salaries under the domestic laws of both countries. The
proposed protocol gives a non-exhaustive list of examples of
compensation that would be considered to be ``similar
remuneration.'' The list includes, but is not limited to, the
use of a residence or automobile, health or life insurance
coverage and club memberships, provision of meals, food and
groceries, child care, reimbursement of medical, pharmaceutical
and dental care expenses, provision of work clothing, toys and
school supplies, scholarships, reimbursement of training course
expenses, and mortuary and burial expenses.
The proposed treaty, similar to the U.S. model, provides
that remuneration derived in respect of employment as a member
of the crew of a ship or aircraft, or as other personnel
regularly employed to serve aboard a ship or aircraft, operated
in international traffic is taxable only in the employee's
country of residence.
This article is subject to the provisions of the separate
articles covering directors' fees (Article 16), pensions,
social security, annuities, and child support (Article 19),
government service income (Article 20), and income of students,
trainees, teachers and researchers (Article 21).
Article 16. Directors' Fees
Under the proposed treaty, directors' fees and other
similar payments derived by a resident of one country for
services performed in the other country in his or her capacity
as a member of the board of directors of a company which is a
resident of that other country may be taxed in that other
country. This rule is similar to the corresponding rule in the
U.S. model. This rule applies notwithstanding the provisions of
Article 14 (Independent Personal Services) and Article 15
(Dependent Personal Services).
The proposed protocol provides that for these purposes the
term ``similar payments'' includes benefits in kind received in
respect of an employment and any other benefits, whether or not
considered as salaries under the domestic laws of both
countries. The proposed protocol gives a non-exhaustive list of
examples of compensation that would be considered to be
``similar payments.'' The list includes, but is not limited to,
the use of a residence or automobile, health or life insurance
coverage and club memberships, provision of meals, food and
groceries, child care, reimbursement of medical, pharmaceutical
and dental care expenses, provision of work clothing, toys and
school supplies, scholarships, reimbursement of training course
expenses, and mortuary and burial expenses.
Article 17. Limitation on Benefits
In general
The proposed treaty contains a provision generally intended
to limit the indirect use of the proposed treaty by persons who
are not entitled to its benefits by reason of residence in the
United States or Venezuela. The proposed treaty is intended to
limit double taxation caused by the interaction of the tax
systems of the United States and Venezuela as they apply to
residents of the two countries. At times, however, residents of
third countries attempt to use a treaty. This use is known as
``treaty shopping,'' which refers to the situation where a
person who is not a resident of either treaty country seeks
certain benefits under the income tax treaty between the two
countries. Under certain circumstances, and without appropriate
safeguards, the third-country resident may be able to secure
these benefits indirectly by establishing a corporation or
other entity in one of the treaty countries, which entity, as a
resident of that country, is entitled to the benefits of the
treaty. Additionally, it may be possible for the third-country
resident to reduce the income base of the treaty country
resident by having the latter pay out interest, royalties, or
other amounts under favorable conditions either through relaxed
tax provisions in the distributing country or by passing the
funds through other treaty countries until the funds can be
repatriated under favorable terms.
The proposed anti-treaty shopping article provides that a
person that is a resident of either Venezuela or the United
States and that derives income from the other treaty country is
entitled to the benefits of the proposed treaty in that other
country only if such person:
(1) is an individual not treated as a resident of a
third country;
(2) is one of the treaty countries or their political
subdivisions or local authorities, or instrumentalities
or companies wholly-owned by one of the treaty
countries or their political subdivisions or local
authorities;
(3) is an entity that is a not for profit
organization that satisfies an ownership test;
(4) meets an active business test with respect to a
particular item of income;
(5) is a company that satisfies a public company
test;
(6) is a company that is owned by certain public
companies; or
(7) is an entity that satisfies an ownership and base
erosion test.
In addition, a person that does not satisfy any of the
above requirements may be granted the benefits of the proposed
treaty if the source country's competent authority so
determines.
Individuals
An individual resident of a treaty country is entitled to
the benefits of the proposed treaty provided that the
individual is not treated as a resident of another country
under the principles of the tie-breaker rules under
subparagraph 3(a) and 3(b) of Article 4 (Residence). The
Technical Explanation states that this provision is intended to
prevent a third-country resident individual from using
Venezuela's broad residency concept (``domiciliado'') to
treaty-shop into the United States.
Governments
Under the proposed treaty, the two countries, their
political subdivisions or local authorities, or
instrumentalities or companies wholly-owned by one of the
countries or their political subdivisions or local authorities,
are entitled to all treaty benefits.
Tax exempt entities
An entity is entitled to the benefits under the proposed
treaty if it is a not for profit organization (including a
pension fund or private foundation) that, by virtue of that
status, generally is exempt from income tax in its country of
residence, provided that more than half of the beneficiaries,
members, or participants (if any) in such organization are
entitled to the benefits of the proposed treaty.
Active business test
In general
Under the active business test, treaty benefits are
available under the proposed treaty to a person that is engaged
in the active conduct of a trade or business in its residence
country if (1) the income derived in the other country is
derived in connection with, or is incidental to, that trade or
business, and (2) that trade or business is substantial in
relation to the income-generating activity in the other country
giving rise to the income in respect of which treaty benefits
are being claimed in that other country.
This active trade or business test is applied separately to
each item of income. Accordingly, an entity may be eligible for
treaty benefits with respect to some but not all of the income
derived in the source country. In contrast, satisfaction of the
requirements for any one of the other specified categories
allows treaty benefits for all income derived in the source
country.
The term ``trade or business'' is not specifically defined
in the proposed treaty. However, as provided in Article 3
(General Definitions), undefined terms are to have the meaning
which they have under the laws of the country applying the
proposed treaty. In this regard, the Technical Explanation
states that the U.S. competent authority will refer to the
regulations issued under Code section 367(a) to define an
active trade or business. Under the proposed treaty, the active
business test does not apply (and benefits therefore may be
denied) to the business of making or managing investments,
unless these activities are banking or insurance activities
carried on by a bank or insurance company. The Technical
Explanation states these rules do not apply to a headquarters
company, because the company would not be considered to be
engaged in an active trade or business.
Income derived in connection with, or incidental to, a trade or
business that is substantial
The Technical Explanation states that an item of income is
derived in connection with a trade or business if the income-
producing activity in the source country is a line of business
which forms a part of, or is complementary to, the trade or
business conducted in the residence country.\12\ This rule is
similar to the rule in the U.S. model. The Technical
Explanation states that it is intended that a business activity
generally will be considered to ``form a part of'' a business
activity conducted in the other country if the two activities
involve the design, manufacture or sale of the same products or
type of products, or the provision of similar services. The
Technical Explanation further states that in order for
activities to be ``complementary,'' the activities need not
relate to the same types of products or services, but they
should be part of the same overall industry and be related in
the sense that success or failure of one activity will tend to
result in the success or failure of the other activity. The
Technical Explanation provides several examples illustrating
these principles.
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\12\ Cf. Treas. Reg. sec. 1.884-5(e)(1). (To satisfy the active
business test, the activities that give rise to the U.S. income must be
part of a U.S. business and that business must be an integral part of
an active trade or business conducted by the foreign corporation in its
residence country.)
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The Technical Explanation states that whether a trade or
business of a resident is substantial is determined based on
all the facts and circumstances. According to the Technical
Explanation, the factors to be considered include the relative
scale of the activities conducted in the two countries, and the
relative contributions made to the conduct of the trade or
business in both countries.\13\
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\13\ Cf. Treas. Reg. sec. 1.884-5(e)(3). (A foreign corporation
engaged in business in its residence country has a substantial presence
in that country if certain of the attributes of that business,
physically located in its residence country, equal at least a threshold
percentage of its worldwide attributes.)
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The Technical Explanation states that it is understood that
income is incidental to a trade or business conducted in the
other country if the production of such income facilitates the
conduct of a trade or business in the other country. This rule
is the same as the rule in the U.S. model. As an example, the
Technical Explanation states that incidental income includes
the temporary investment of working capital derived from a
trade or business.
Public company tests
Under the public company tests, a company that is a
resident of Venezuela or the United States is entitled to the
benefits of the proposed treaty if there is substantial and
regular trading in its principal class of shares on a
recognized securities exchange. This test is similar to the
rule contained in the U.S. model. The Technical Explanation
states that the term ``principal class of shares'' is to be
interpreted as the class of shares that represents the majority
of the voting power and value of the company. The term
``substantial and regular trading,'' although not defined in
the proposed treaty, is to be defined by reference to the
domestic laws of the country from which treaty benefits are
being sought. In the case of the United States, this term is
understood to have the meaning given ``regularly traded'' in
Treas. Reg. sec. 1.884-5(d)(4)(i)(B), relating to the branch
tax provisions of the Code.
Similarly, treaty benefits are available to a company that
is a resident of Venezuela or the United States if at least 50
percent of each class of shares of the company is owned
(directly or indirectly) by five or fewer companies that
satisfy the public company test just described, provided that
in the case of indirect ownership, each intermediate owner is a
person entitled to the benefits of the proposed treaty under
one of the various alternative tests.
The term ``recognized securities exchange'' means: (1) the
Caracas and Maracaibo stock exchanges, the Bolsa Electronica
and any stock exchange registered with the Comision Nacional de
Valores in accordance with the Ley de Mercado de Capitales; (2)
the NASDAQ System owned by the National Association of
Securities Dealers, Inc., and any stock exchange registered
with the Securities and Exchange Commission as a national
securities exchange for the purposes of the Securities Exchange
Act of 1934; and (3) any other stock exchange agreed upon by
the competent authorities of the two countries.
Ownership and base erosion tests
Under the proposed treaty, a person that is resident in one
of the treaty countries is entitled to treaty benefits if it
satisfies an ownership test and a base erosion test. Under the
ownership test, more than 50 percent of the beneficial interest
in a person (or, in the case of a company, more than 50 percent
of the number of shares of each class of the company's shares)
must be owned, directly or indirectly, by one or more
individual residents of Venezuela or the United States, U.S.
citizens, the countries themselves, political subdivisions or
local authorities of the countries or instrumentalities or
companies wholly-owned by such entities, certain tax-exempt
organizations (as described in the discussion of tax-exempt
entities above), or certain publicly traded companies and
subsidiaries of publicly traded companies (as described in the
discussion of the public company tests above) (so-called
``qualified residents''). This rule could, for example, deny
the benefits of the reduced U.S. withholding tax rates on
dividends and royalties paid to a Venezuelan company that is
controlled by individual residents of a third country. This
rule is similar to a corresponding rule in the U.S. model. The
Technical Explanation states that trusts may be entitled to
treaty benefits under this provision if they are treated as
residents under Article 4 (Residence) and otherwise satisfy
these requirements.
In addition, the base erosion test is met only if less than
50 percent of the gross income of the person is used, directly
or indirectly, to meet liabilities (including liabilities for
interest or royalties) to persons or entities other than those
referred to in the preceding paragraph. This rule is intended
to prevent a corporation, for example, from distributing most
of its income, in the form of deductible items such as
interest, royalties, service fees, or other amounts) to persons
not entitled to benefits under the proposed treaty. This
treatment is similar to the corresponding rule in the U.S.
model. For purposes of the base erosion test, the proposed
treaty provides that the term ``gross income'' generally means
gross receipts. In the case of an enterprise that is engaged in
a business which includes the manufacture or production of
goods, gross income means gross receipts reduced by the direct
costs of labor and materials attributable to such manufacture
or production and paid or payable out of such receipts.
Venezuelan entidad or colectividad
Under the proposed treaty, an entidad or colectividad
formed under the laws of Venezuela (and otherwise entitled to
treaty benefits under the objective tests described above) is
not entitled to treaty benefits if such entidad or colectividad
(or another entidad or colectividad or other person that
controls such entity) has outstanding a class of interests: (1)
that is ``disproportionate,'' and (2) in which 50 percent or
more of the vote or value of such entity is owned by certain
persons or entities who are not qualified residents (as
described above) of either Venezuela or the United States. A
class of interests is disproportionate for these purposes if
the terms of such interests, or the arrangements with respect
to such interests, entitle its holders to a portion of the
income of the entidad or colectividad derived from the United
States that is larger than the portion such holders would
receive absent such terms or arrangements.
Former U.S. long-term residents
Notwithstanding the objective tests described above, a
former long-term resident of the United States is not entitled
to the benefits of the proposed treaty for the ten-year period
following loss of such long-term resident status, if such loss
of status had as one of its principal purposes the avoidance of
U.S. tax, determined in accordance with U.S. law applicable to
former U.S. citizens and long-term residents. Section 877 of
the Code provides special rules for the imposition of U.S.
income tax on former U.S. citizens and long-term residents for
a period of ten years following the loss of citizenship or
resident status; these special tax rules apply to a former
citizen or long-term resident only if his or her loss of U.S.
citizenship or resident status had as one of its principal
purposes the avoidance of U.S. income, estate or gift taxes.
For purposes of applying the special tax rules to former
citizens and long-term residents, individuals who meet a
specified income tax liability threshold or a specified net
worth threshold generally are considered to have lost
citizenship or resident status for a principal purpose of U.S.
tax avoidance. The proposed protocol provides that a ``long-
term resident'' means any individual who is a lawful permanent
resident of the United States in 8 or more taxable years during
the preceding 15 taxable years. In determining whether this
threshold is met, the proposed protocol provides that there is
not taken into account any year in which the individual is
treated as a resident of Venezuela under the proposed treaty,
or as a resident of any other country other than the United
States under the provisions of any other U.S. tax treaty and,
in either case, the individual does not waive the benefits of
such treaty applicable to residents of the other country.
Grant of treaty benefits by the competent authority
The proposed treaty provides a ``safety-valve'' for a
person that has not established that it meets one of the other
more objective tests, but for which the allowance of treaty
benefits would not give rise to abuse or otherwise be contrary
to the purposes of the treaty. Under this provision, such a
person may be granted treaty benefits if the competent
authority of the source country so determines. The
corresponding article in the U.S. model contains a similar
rule. For this purpose, one of the factors the competent
authorities must take into account is whether the
establishment, acquisition, and maintenance of the person, and
the conduct of its operations, did not have as one of its
principal purposes the obtaining of treaty benefits.
Article 18. Artistes and Sportsmen
Like the U.S., OECD and U.N. models, the proposed treaty
contains a separate set of rules that apply to the taxation of
income earned by entertainers (such as theater, motion picture,
radio, or television artistes or musicians) and sportsmen.
These rules apply notwithstanding the other provisions dealing
with the taxation of income from personal services (Articles 14
(Independent Personal Services) and Article 15 (Dependent
Personal Services)) and are intended, in part, to prevent
entertainers and sportsmen from using the proposed treaty to
avoid paying any tax on their income earned in one of the
countries.
Under the proposed treaty, income derived by an entertainer
or sportsman who is a resident of one country from his or her
personal activities as such in the other country may be taxed
in the other country if the amount of the compensation derived
by him or her from such activities (including expenses
reimbursed to him or her or borne on his or her behalf) exceeds
$6,000 or its Venezuelan currency equivalent for the entire
taxable year concerned. Under this rule, if a Venezuelan
entertainer or sportsman maintains no fixed base in the United
States and performs (as an independent contractor) for one day
of a taxable year in the United States for total compensation
of $10,000, the full amount would be subject to U.S. tax.
The proposed treaty provides that where income in respect
of activities exercised by an entertainer or sportsman in his
or her capacity as such accrues not to the entertainer or
sportsman but to another person, that income of that other
person is taxable by the country in which the activities are
exercised, unless it is established that neither the
entertainer or sportsman nor persons related to him or her
participated directly or indirectly in the profits of that
other person in any manner, including the receipt of deferred
remuneration, bonuses, fees, dividends, partnership
distributions, or other distributions. This provision applies
notwithstanding the business profits and independent personal
services articles (Articles 7 and 14).) This provision prevents
highly-paid entertainers and sportsmen from avoiding tax in the
country in which they perform by, for example, routing the
compensation for their services through a third entity such as
a personal holding company or a trust located in a country that
would not tax the income.
The proposed treaty provides that these rules do not apply
to income derived from activities performed in a country as an
entertainer or sporstman if the visit to that country is wholly
or mainly supported by public funds of one or both of the
treaty countries or any of its political subdivisions or local
authorities. In such a case, the income is taxable only in the
entertainer's or sportsman's country of residence. This rule is
not contained in the U.S., OECD or U.N. models, but is
contained in some other U.S. treaties.
Article 19. Pensions, Social Security, Annuities, and Child Support
Under the proposed treaty, pensions and other similar
remuneration derived and beneficially owned by a resident of
either country in consideration of past employment is taxable
only in the recipient's country of residence. The Technical
Explanation states that, for purposes of this rule, the pension
may be paid periodically or in a lump sum. The Technical
Explanation also states that the provision is intended to
encompass payments made by private retirement plans and
arrangements in consideration of past employment. This
provision is subject to the provisions of Article 20
(Government Service) with respect to pensions.
The proposed treaty provides that social security benefits
paid by a country to a resident of the other country or to a
U.S. citizen may be taxable by the payor's (i.e., the source)
country. This provision represents a departure from the U.S.
model, which provides that social security benefits paid by a
country to a resident of the other country or to a U.S. citizen
are taxable only in the source country. The proposed treaty
would allow such social security benefits to be taxed by both
the residence and source country.\14\ The proposed protocol
provides that for these purposes the term ``social security
benefits'' is intended to include United States tier 1 Railroad
Retirement benefits.
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\14\ Under Venezuelan law, U.S. social security benefits paid to a
Venezuelan resident generally would not be taxable by Venezuela under
its current territorial tax system. In addition, social security
benefits paid by Venezuela to a U.S. resident generally would be taxed
by both Venezuela and the United States under each country's tax laws.
The United States generally would provide a foreign tax credit for
Venezuelan taxes paid with respect to such income.
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The proposed treaty also provides that annuities (other
than those covered under the pension rule described above) that
are derived from a country and beneficially owned by an
individual resident of the other country are taxable only in
the country from which they are derived. This rule is different
from the corresponding rule in the U.S. model, which provides
that annuities are taxable only in the individual recipient's
country of residence. The term ``annuities'' is defined for
purposes of this provision as a stated sum paid periodically at
stated times during a specific time period, under an obligation
to make the payments in return for adequate and full
consideration (other than services rendered).
The proposed treaty provides that child support payments
made by a resident of a country to a resident of the other
country are taxable only in the recipient's country of
residence. This rule is different from the rule in the U.S.
model, which provides that child support payments are exempt
from tax in both countries. For these purposes, child support
payments are periodic payments for the support of a minor child
made pursuant to a written separation agreement, or a decree of
divorce, separate maintenance or compulsory support.
Unlike many U.S. tax treaties, the proposed treaty does not
contain a rule for alimony payments. Thus, such payments fall
under the rules of Article 22 (Other Income), which generally
allow such payments to be taxed both by the payor's country of
residence and the recipient's country of residence. This
approach generally is inconsistent with the U.S. model, which
provides that alimony paid by a resident of a country and
deductible in such country to a resident of the other country
is taxable exclusively by the recipient's country of residence.
Article 20. Government Service
The proposed treaty provides rules with respect to the tax
treatment of income (including pensions) from governmental
employment. The provisions generally follow the corresponding
provisions in the U.S., OECD and U.N. models.
Under the proposed treaty, remuneration, other than a
pension, paid by one of the countries (or a political
subdivision or local authority thereof) to an individual in
respect of services rendered to that country (or subdivision or
authority) generally is taxable only by that country. Such
remuneration is taxable only in the other country, however, if
the services are rendered in that other country by an
individual who is a resident of that country and who (1) is
also a national of that country or (2) did not become a
resident of that country solely for the purpose of rendering
the services.
The proposed treaty further provides that any pension paid
by, or out of funds created by, one of the countries (or a
political subdivision or local authority thereof) to an
individual in respect of services rendered to that country (or
subdivision or authority) is taxable only by that country. Such
a pension is taxable only by the other country, however, if the
individual is a national and resident of that other country.
This provision is subject to paragraph 2 of Article 19
(Pensions, Social Security, Annuities, and Child Support),
which provide that social security benefits paid by a country
to a resident of the other country or a U.S. citizen may be
taxed by the payor country.
The provisions described in the foregoing paragraphs are
exceptions to the proposed treaty's saving clause for
individuals who are neither citizens nor permanent residents of
the country where the services are performed. Thus, for
example, payments by the government of Venezuela to its
employees in the United States are exempt from U.S. tax if the
employees are not U.S. citizens or green card holders and were
not residents of the United States at the time they became
employed by the Venezuelan government.
The proposed treaty provides that if a country or one of
its political subdivisions or local authorities is carrying on
business (as opposed to functions of a governmental nature),
the provisions of Articles 14 (Independent Personal Services),
15 (Dependent Personal Services), 16 (Directors' Fees), 18
(Artistes and Sportsmen), and 19 (Pensions, Social Security,
Annuities, and Child Support) apply to remuneration and
pensions paid for services rendered in connection with the
business.
Article 21. Students, Trainees, Teachers and Researchers
The proposed treaty provides rules with respect to the
taxation of income of students, trainees, teachers, and
researchers.
Under the proposed treaty, an individual who is a resident
of a country (the residence country) at the time he or she
becomes temporarily present in the other country (the host
country) will be exempt from tax by the host country for
certain amounts received by the individual, if the individual's
visit in the host country was for the primary purpose of (1)
studying at a university or other recognized educational
institution in the host country, (2) securing training required
to qualify such individual to practice a profession or
professional specialty, or (3) studying or doing research as a
recipient of a grant, allowance or award from a government,
religious, charitable, scientific, literary or educational
organization. In such cases, the individual will be exempt from
host country tax for a period not exceeding five taxable years
from the date of the individual's arrival in the host country
(and such additional period as is necessary to complete, as a
full time student, educational requirements for a postgraduate
or professional degree from a recognized educational
institution). The exemptions from host country tax apply to (1)
payments from abroad, other than compensation for personal
services, for the purpose of maintenance, education, study,
research, or training, (2) a grant, allowance or award, and (3)
income from personal services performed in the host country in
an amount not to exceed $5,000 or its Venezuelan currency
equivalent for any taxable year.
Under the proposed treaty, an individual who is a resident
of one country (the residence country) at the time he or she
becomes temporarily present in the other country (the host
country) as an employee of, or under contract with, a resident
of the first country, will be exempt from tax by the host
country for certain amounts received by the individual, if the
individual's visit in the host country was for the primary
purpose of (1) acquiring technical, professional, or business
experience from a person other than that resident of the
residence country, or (2) studying at a university or other
recognized educational institution in the host country. In such
cases, the individual will be exempt from tax by the host
country for a period not exceeding 12 months with respect to
his or her income from personal services in an aggregate amount
which does not exceed $8,000 or its Venezuelan currency
equivalent.
The proposed protocol provides that the exemption amounts
from host country tax described in the above paragraphs (i.e.,
$5,000 and $8,000, respectively) are in addition to (and not in
lieu of) any personal exemptions otherwise allowed under the
domestic laws of the host country. Thus, an unmarried resident
of Venezuela who is temporarily present in the United States
for the primary purpose of studying at a university would be
entitled to exclude from U.S. tax $5,000 of personal services
income, and in addition, would be entitled to personal
exemption amounts allowed by the Code.
The proposed treaty provides rules with respect to the
taxation of income earned by teachers. The U.S., OECD and U.N.
models do not contain similar provisions.
Under the proposed treaty, an individual who is a resident
of a country (the residence country) at the time he or she
becomes temporarily present in the other country (the host
country) will be exempt from tax by the host country for
certain amounts received by the individual, if the individual's
visit in the host country was for the purpose of teaching or
carrying on research at a recognized educational institution.
In such cases, the individual will be exempt from tax by the
host country for a period not exceeding two years from the date
he or she visits the host country for such purposes with
respect to his or her income from personal services for
training or research at such institution. The proposed treaty
provides that in no event will any individual have the benefits
of this provision for more than five taxable years.
The proposed treaty provides that this article does not
apply to income from research if such research is not
undertaken by the individual in the public interest but
primarily for the private benefit of a specific person or
persons.
The provisions described in the foregoing paragraphs are
exceptions to the proposed treaty's saving clause for
individuals who are neither citizens nor permanent residents of
the host country. Thus, for example, a person who is not a U.S.
citizen, and who visits the United States as a student and
remains long enough to become a resident under U.S. law, but
does not become a permanent resident, will be entitled to the
full benefits of this article.
Article 22. Other Income
This article is a catch-all provision intended to cover
items of income not specifically covered in other articles, and
to assign the right to tax income from third countries to
either the United States or Venezuela. As a general rule, items
of income not otherwise dealt with in the proposed treaty which
are derived by residents of one of the countries are taxable
only in the country of residence.
This rule, for example, gives the United States the sole
right under the proposed treaty to tax income derived from
sources in a third country and paid to a U.S. resident. This
article is subject to the saving clause, so U.S. citizens who
are residents of Venezuela will continue to be taxable by the
United States on their third-country income.
The general rule just stated does not apply to income
(other than income from immovable property (real property) as
defined in Article 6) if the recipient of the income is a
resident of one country and carries on business in the other
country through a permanent establishment, or performs
independent personal services in the other country from a fixed
base, and the right or property in respect of which the income
is paid is attributable to such permanent establishment or
fixed base. In such a case, the provisions of Article 7
(Business Profits) or Article 14 (Independent Personal
Services), as the case may be, will apply. This rule also
applies where the income is received after the permanent
establishment or fixed base is no longer in existence, but the
income is attributable to the former permanent establishment or
fixed base.
The proposed treaty provides that notwithstanding the
foregoing rules, items of income of a resident of a country not
dealt with in the other articles of the proposed treaty and
arising in the other country, may also be taxed by that other
country. This rule, which is not contained in the U.S. and OECD
models, is similar to the corresponding rule in the U.N. model.
Article 23. Capital
Venezuela imposes a 1-percent capital tax on the value of
business assets. Income taxes imposed by Venezuela may be
credited against the capital tax.
The proposed treaty specifies the circumstances in which
either treaty country may impose tax on capital owned by a
resident of the other country. Since the United States does not
impose taxes on capital, the only capital taxes covered by the
proposed treaty are those imposed by Venezuela (i.e.,
Venezuela's business assets tax). Thus, although the article is
drafted in a reciprocal manner, its provisions are relevant
only for the imposition of the Venezuelan tax.
The proposed treaty describes two situations under which
Venezuela may tax the capital of a U.S. resident. First,
capital represented by immovable property (real property) (as
defined in Article 6) that is owned by a U.S. resident and
located in Venezuela. Second, capital represented by personal
(movable) property forming part of the business property of a
permanent establishment which a U.S. resident has in Venezuela
or pertaining to a fixed base available to a U.S. resident for
the purpose of performing independent personal services may be
taxed by Venezuela.
The proposed treaty provides that capital represented by
ships, aircraft, or containers that are owned by a U.S.
resident and used in international operations, and other
personal (movable) property pertaining to the operation of such
ships, aircraft, and containers is taxable only in the
residence country of the enterprise. All other elements of
capital of a resident of either country are taxable only by
that country. Thus, except as provided above, Venezuela
generally cannot tax a U.S. resident on capital owned by that
resident.
Article 24. Relief from Double Taxation
Internal taxation rules
United States
The United States taxes the worldwide income of its
citizens and residents. It attempts unilaterally to mitigate
double taxation generally by allowing taxpayers to credit the
foreign income taxes that they pay against U.S. tax imposed on
their foreign-source income. An indirect or ``deemed-paid''
credit is also provided. Under this rule, a U.S. corporation
that owns 10 percent or more of the voting stock of a foreign
corporation and that receives a dividend from the foreign
corporation (or an inclusion of the foreign corporation's
income) is deemed to have paid a portion of the foreign income
taxes paid (or deemed paid) by the foreign corporation on its
earnings. The taxes deemed paid by the U.S. corporation are
included in its total foreign taxes paid for the year the
dividend is received.
Venezuela
Under current Venezuelan law, the primary method of
avoiding double taxation is an exemption from foreign source
income under its territorial-based tax system. Venezuela is in
the process of enacting legislation that would adopt a
worldwide tax system in replacement of its current territorial
tax system. Although the new law has not yet been officially
published, it is anticipated that under the new worldwide tax
system, Venezuelan resident individuals and corporations will
be taxable on worldwide income. It is also anticipated that
such taxpayers generally will be entitled to claim a credit
against their Venezuelan tax liability for foreign taxes paid
on their foreign source income. The Committee understands that
the new worldwide tax system will be effective for taxable
years beginning on or after January 1, 2001.
Proposed treaty limitations on internal law
One of the principal purposes for entering into an income
tax treaty is to limit double taxation of income earned by a
resident of one of the countries that may be taxed by the other
country. Unilateral efforts to limit double taxation are
imperfect. Because of differences in rules as to when a person
may be taxed on business income, a business may be taxed by two
countries as if it were engaged in business in both countries.
Also, a corporation or individual may be treated as a resident
of more than one country and be taxed on a worldwide basis by
both.
The double tax issue is addressed in part in other articles
of the proposed treaty that limit the right of a source country
to tax income. This article provides further relief where both
Venezuela and the United States otherwise still tax the same
item of income. This article is not subject to the saving
clause, so that the country of citizenship or residence will
waive its overriding taxing jurisdiction to the extent that
this article applies.
The proposed treaty provides that it is understood that
double taxation will be avoided in accordance with the other
paragraphs of this article (as described below).
In the case of Venezuela, the proposed treaty generally
provides that when a resident of Venezuela derives income that,
in accordance with the provisions of the proposed treaty, may
be taxed by the United States, Venezuela will allow relief to
such resident. Such relief may consist alternatively of (1) an
exemption of such income from Venezuelan tax, or (2) a credit
against Venezuelan tax on income. The proposed treaty provides
that such relief will be allowed in accordance with the
provisions and subject to the limitations of Venezuelan laws,
as they may be amended from time to time without changing the
principle of the proposed treaty provisions.
In the case of the United States, the proposed treaty
generally provides that the United States will allow a U.S.
citizen or resident a foreign tax credit for the income taxes
paid to Venezuela by or on behalf of such U.S. citizen or
resident. The proposed treaty also requires the United States
to allow a deemed-paid credit, with respect to Venezuelan
income tax, to any U.S. company that receives dividends from a
Venezuelan company if the U.S. company owns 10 percent or more
of the voting stock of such Venezuelan company. The credit
generally is to be computed in accordance with the provisions
and subject to the conditions and limitations of U.S. law (as
such law may be amended from time to time without changing the
general principles of the proposed treaty provisions).
Article 25. Non-Discrimination
The proposed treaty contains a non-discrimination article
that is generally similar to the non-discrimination article in
the U.S. model and to provisions that have been included in
other recent U.S. income tax treaties. Like the U.S. model,
non-discrimination protection is provided with respect to all
taxes imposed by a country or its political subdivisions or
local authorities, and not just to taxes covered by the
proposed treaty under Article 2 (Taxes Covered).
In general, under the proposed treaty, one country may not
discriminate by imposing other or more burdensome taxes (or
requirements connected with taxes) on nationals of the other
country than it would impose on its nationals in the same
circumstances. The proposed protocol provides that it is
understood that a nonresident of a country who is subject to
tax by that country on his or her worldwide income by reason of
being a national there is not in the same circumstances as a
nonresident of that country who is subject to tax on income
only from sources in that country. This provision applies,
notwithstanding the provisions of Article 1 (General Scope),
whether or not the nationals in question are residents of the
United States or Venezuela.
Under the proposed treaty, neither country may tax a
permanent establishment of an enterprise of the other country
less favorably than it taxes its own enterprises carrying on
the same activities. Consistent with the U.S., OECD and U.N.
models, however, a country is not obligated to grant residents
of the other country any personal allowances, reliefs, or
reductions for tax purposes on account of civil status or
family responsibilities which it grants to its own residents.
The proposed treaty provides that nothing in the non-
discrimination article is to be construed as preventing either
of the countries from imposing the branch taxes described in
Article 11A (Branch Tax).
Each country is required (subject to the arm's-length
pricing rules of Articles 9 (Associated Enterprises), 11
(Interest), and 12 (Royalties)) to allow an enterprise of a
country to deduct interest, royalties, and other disbursements
paid by such enterprise to residents of the other country under
the same conditions that it allows deductions for such amounts
paid to residents of the same country as the payor. Similarly,
each country is required to allow a resident of a country to
deduct any debts of such resident to a resident of the other
country, for purposes of determining the taxable capital of the
resident of the first country, under the same conditions that
it allows deductions for debts contracted to a resident of the
first country. The Technical Explanation states that the term
``other disbursements'' is understood to include a reasonable
allocation of executive and general administrative expenses,
research and development expenses, and other expenses incurred
for the benefit of a group of related persons.
The non-discrimination rules also apply to enterprises of
one country that are owned in whole or in part by residents of
the other country. Enterprises of one country, the capital of
which is wholly or partly owned or controlled, directly or
indirectly, by one or more residents of the other country, will
not be subjected in the first country to any taxation or any
connected requirement which is other or more burdensome than
the taxation and connected requirements that the first country
imposes or may impose on its similarly situated enterprises.
The Technical Explanation includes examples of Code provisions
that are understood by the two countries not to violate this
provision of the proposed treaty. Those examples cover the
rules that impose a withholding tax on non-U.S. partners of a
partnership and the rules that prevent foreign persons from
owning stock in Subchapter S corporations.
The saving clause (which allows the country of residence or
citizenship to impose tax notwithstanding certain treaty
provisions) does not apply to the non-discrimination article.
Article 26. Mutual Agreement Procedure
The proposed treaty contains the standard mutual agreement
provision, with some variation, that authorizes the competent
authorities of the two countries to consult together to attempt
to alleviate individual cases of double taxation not in
accordance with the proposed treaty. The saving clause of the
proposed treaty does not apply to this article, so that the
application of this article might result in a waiver (otherwise
mandated by the proposed treaty) of taxing jurisdiction by the
country of citizenship or residence.
Under this article, a resident of one country who considers
that the action of one or both of the countries result or will
result in taxation which is not in accordance with the proposed
treaty may present his or her case to the competent authority
of either country. The proposed treaty provides that the case
may be presented to the competent authorities irrespective of
the remedies provided by the domestic laws of the countries and
the time limits prescribed in such laws for claiming a refund.
The competent authority then makes a determination as to
whether the objection appears justified. If the objection
appears to it to be justified and if it is not itself able to
arrive at a satisfactory solution, that competent authority is
to endeavor to resolve the case by mutual agreement with the
competent authority of the other country, with a view to the
avoidance of taxation which is not in accordance with the
proposed treaty. The proposed protocol provides that the
competent authorities are to endeavor to resolve such cases as
promptly as possible. Provided that the statute of limitations
has been interrupted in accordance with the steps designated by
domestic law, any agreement reached is to be implemented
notwithstanding any time limits or other procedural limitations
under the domestic laws of the countries.
The competent authorities of the countries must endeavor to
resolve by mutual agreement any difficulties or doubts arising
as to the interpretation or application of the proposed treaty.
The proposed treaty provides a non-exhaustive list of items
that the competent authorities may agree to, including: (1) the
same allocation of income, deductions, credits, or allowances
of an enterprise of a country to its permanent establishment
situated in the other country; (2) the same allocation of
income, deductions, credits, or allowances between persons; (3)
the same characterization of particular items of income; (4)
the same application of source rules with respect to particular
items of income; (5) the common meaning of a term; (6)
increases in any specific amounts referred to in the proposed
treaty to reflect economic or monetary developments; and (7)
the application of the provisions of domestic law regarding
penalties, fines, and interest in a manner consistent with the
purposes of the proposed treaty. The competent authorities may
also consult together for the elimination of double taxation in
cases not provided for in the proposed treaty.
The proposed treaty authorizes the competent authorities to
communicate with each other directly for purposes of reaching
an agreement in the sense of this mutual agreement article. The
Technical Explanation states that this provision makes clear
that it is not necessary to go through diplomatic channels in
order to discuss problems arising in the application of the
proposed treaty.
Article 27. Exchange of Information
This article provides for the exchange of information
between the two countries. Notwithstanding the provisions of
Article 2 (Taxes Covered), the proposed treaty's information
exchange provisions apply to all taxes imposed at the national
level by the United States and Venezuela.
The proposed treaty provides that the two competent
authorities will exchange such information as is necessary to
carry out the provisions of the proposed treaty or the
provisions of the domestic laws of the two countries concerning
taxes covered by the proposed treaty (insofar as the taxation
thereunder is not contrary to the proposed treaty). This
exchange of information is not restricted by Article 1 (General
Scope). Therefore, information with respect to third-country
residents is covered by these procedures.
Any information exchanged under the proposed treaty will be
treated as secret in the same manner as information obtained
under the domestic laws of the country receiving the
information. The exchanged information may be disclosed only to
persons or authorities (including courts and administrative
bodies) involved in the assessment, collection, or
administration, enforcement, or prosecution in respect of, or
the determination of appeals in relation to, the taxes covered
by the proposed treaty or the oversight of the above. Such
persons or authorities may use the information for such
purposes only.\15\ The Technical Explanation states that
persons involved in the administration of taxes include
legislative bodies with oversight roles with respect to the
administration of the tax laws, such as, for example, the tax-
writing committees of Congress and the General Accounting
Office. Information received by these bodies must be for use in
the performance of their role in overseeing the administration
of U.S. tax laws. Exchanged information may be disclosed in
public court proceedings or in judicial decisions.
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\15\ Code section 6103 provides that otherwise confidential tax
information may be utilized for a number of specifically enumerated
non-tax purposes. Information obtained by the United States pursuant to
the proposed treaty could not be used for these non-tax purposes.
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As is true under the U.S., OECD and U.N. models, under the
proposed treaty, a country is not required to carry out
administrative measures at variance with the laws and
administrative practice of either country, to supply
information that is not obtainable under the laws or in the
normal course of the administration of either country, or to
supply information that would disclose any trade, business,
industrial, commercial, or professional secret or trade process
or information the disclosure of which would be contrary to
public policy.
The proposed treaty provides that if information is
requested by a country in accordance with the exchange of
information article, the requested country will obtain the
information to which the request relates in the same manner and
to the same extent as if the tax were its own tax. The
Technical Explanation states that this rule applies even if the
requested country has no direct tax interest in the case to
which the tax relates.
If specifically requested by the competent authority of a
country, the competent authority of the other country must
provide information under this article in the form of
depositions of witnesses and authenticated copies of unedited
original documents (including books, papers, statements,
records, accounts, and writings), to the same extent such
depositions and documents can be obtained under the laws and
administrative practices of the other country with respect to
its own taxes.
The proposed protocol provides that it is understood that
in order to comply with this exchange of information article,
the competent authorities of the countries are empowered by
their respective domestic laws to obtain information held by
persons other than taxpayers, including information held by
financial institutions, agents and trustees. The Technical
Explanation states that although the proposed treaty does not
include the provision in the U.S. model dealing with bank
secrecy rules, the proposed protocol clarifies that the
competent authorities of both countries have the necessary
authority to comply with the provisions of this article
(including obtaining information held by banks).
Article 28. Diplomatic Agents and Consular Officers
The proposed treaty contains the rule found in the U.S.
model and other U.S. tax treaties that its provisions do not
affect the fiscal privileges of diplomatic agents or consular
officers under the general rules of international law or the
provisions of special agreements. Accordingly, the proposed
treaty will not defeat the exemption from tax which a host
country may grant to the salary of diplomatic officials of the
other country. The saving clause does not apply in the
application of this article to host country residents who are
neither citizens nor lawful permanent residents of that
country. Thus, for example, U.S. diplomats who are considered
Venezuelan residents generally may be protected from Venezuelan
tax.
Article 29. Entry Into Force
This article provides that the proposed treaty will be
subject to ratification in accordance with the applicable
procedures of each country. Each country is required to notify
the other through diplomatic channels, accompanied by an
instrument of ratification, when it has completed the required
procedures.
The proposed treaty will enter into force on the date on
which the second of the two notifications of the completion of
ratification requirements and accompanying instrument of
ratification has been received. With respect to taxes withheld
at source, the proposed treaty will be effective for amounts
paid or credited on or after the first day of January following
the date on which the proposed treaty enters into force. With
respect to other taxes, the proposed treaty will be effective
for taxable periods beginning on or after the first day of
January following the date on which the proposed treaty enters
into force.
Article 30. Termination
The proposed treaty will continue in force until terminated
by either country. Either country may terminate the proposed
treaty at any time after the expiration of the five-year period
from the date of its entry into force, provided that at least
six months prior notice of termination has been given through
diplomatic channels. A termination is effective, with respect
to taxes imposed in accordance with Article 10 (Dividends),
Article 11 (Interest), and Article 12 (Royalties) for amounts
paid or credited on or after the first day of January following
the date on which notice of expiration is given. In the case of
other taxes, a termination is effective for taxable periods
beginning on or after the first day of January following the
date on which such notice of expiration is given.
The proposed treaty includes a provision with respect to
the effect of changes in the law of either country. The
appropriate authority of each country may request consultations
with the appropriate authority of the other country to
determine whether an amendment to the proposed treaty is
appropriate to address a change in the law or policy of either
country. If, as a result of these consultations, a
determination is made that the effect or application of the
proposed treaty has been changed unilaterally by reason of
domestic legislation enacted by a country such that the balance
of benefits provided by the proposed treaty has been altered
significantly, such authorities will consult with a view toward
amending the treaty to restore an appropriate balance of
benefits. The Technical Explanation notes that any such
amendment would be subject to Senate advice and consent to
ratification.
IX. Text of the Resolution of Ratification
Resolved, (two-thirds of the Senators present concurring
therein), That the Senate advise and consent to the
ratification of the Convention between the Government of the
United States of America and the Government of the Republic of
Venezuela for the Avoidance of Double Taxation and the
Prevention of Fiscal Evasion with Respect to Taxes on Income
and Capital, together with a Protocol, signed at Caracas on
January 25, 1999 (Treaty Doc. 106-3), subject to the
understandings of subsection (a), the declarations of
subsection (b), and the proviso of subsection (c).
(a) Understandings.--The Senate's advice and consent is
subject to the following understandings, which shall be
included in the instrument of ratification, and shall be
binding on the President:
(1) Prevention of Double Exemption.--Where under
Article 7 (Business Profits) or Article 14 (Independent
Personal Services) of this Convention income is
relieved from tax in one Contracting State and, under
the law in force in the other Contracting State a
person is not subject to tax in that other Contracting
State in respect of such income, then the relief to be
allowed under this Convention in the first-mentioned
Contracting State shall apply only to so much of the
income as is subject to tax in the other Contracting
State. This understanding shall cease to have effect
when the provisions of Venezuela's Law Amending the
Income Tax Law (hereinafter the ``new Venezuelan tax
law''), relating to the implementation of a worldwide
tax system in replacement of Venezuela's current
territorial tax system, are effective in accordance
with the provisions of such new Venezuelan tax law.
(2) Venezuelan Branch Profits Tax.--The United States
understands that the reference to an ``additional tax''
in Article 11A of the Convention includes the tax that
may be imposed by Venezuela (the ``Venezuelan Branch
Tax'') pursuant to the relevant provisions of the new
Venezuelan tax law. In addition, the United States
understands that the limit imposed under Article 11A of
the Convention shall apply with respect to the
Venezuelan Branch Tax and that for purposes of that
article, the Venezuelan Branch Tax shall be imposed
only on an amount not in excess of the amount that is
analogous to the ``dividend equivalent amount'' defined
in subparagraph (a) of paragraph 10 of the Protocol
with respect to the United States.
(b) Declarations.--The Senate's advice and consent is
subject to the following declarations, which shall be binding
on the President:
(1) New Venezuelan Tax Law.--Before the President may
notify Venezuela pursuant to Article 29 of the
Convention that the United States has completed the
required ratification procedures, he shall certify to
the Committee on Foreign Relations that:
(i) the new Venezuelan tax law has been
enacted in accordance with Venezuelan law;
(ii) the Department of Treasury, in
consultation with the Department of State, has
thoroughly examined the new Venezuelan tax law;
and
(iii) the new Venezuelan tax law is fully
consistent with and appropriate to the
obligations under the Convention.
(2) Treaty Interpretation.--The Senate affirms the
applicability to all treaties of the constitutionally
based principles of treaty interpretation set forth in
Condition (1) of the resolution of ratification of the
INF Treaty, approved by the Senate on May 27, 1988, and
Condition (8) of the resolution of ratification of the
Document Agreed Among the States Parties to the Treaty
on Conventional Armed Forces in Europe, approved by the
Senate on May 14, 1997.
(c) Proviso.--The resolution of ratification is subject to
the following proviso, which shall be binding on the President:
(1) Supremacy of Constitution.--Nothing in the
Convention requires or authorizes legislation or other
action by the United States of America that is
prohibited by the Constitution of the United States as
interpreted by the United States.