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Beneficial Owners, Treaty Shopping and the OECD Model Tax Convention

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Recently, the Organization for Economic Co-operation and Development (OECD) Committee on Fiscal Affairs asked for public comments concerning the interpretation of the term “beneficial owner” in the OECD Model Tax Convention. Since the OECD Model Tax Convention functions as a template for many nations negotiating bilateral tax treaties, any changes or clarifications to the model convention are important for international tax law purposes. Clarifications could potentially affect US taxpayers claiming tax treaty benefits.

This article will briefly explain the concept of a “beneficial owner”, its relation to “treaty shopping”, and the problems with the term as currently interpreted in the OECD Model Tax Convention.

Beneficial Owner

The term “beneficial owner” appears in Articles 10, 11, and 12 (relating to dividend, interest, and royalty payments, respectively) of the OECD Model Tax Convention. The concept is intended to allow only those who are the true, beneficial owners (and who receive such items of income) to claim exemptions from, or reduced rates of, withholding taxes in bilateral tax treaties between nations. Thus, the term is meant to prevent taxpayers from setting up conduits or similar entities to receive such income and to claim treaty benefits by “treaty shopping”. In general, agents, nominees, or conduit companies do not qualify as beneficial owners under the OECD Model Tax Convention.

Treaty Shopping

The term, “treaty shopping” usually occurs in situations in which individuals or corporations reside in one country, earn income from another (source) country, and yet have some other type of entity in a third country that enables them to attempt to benefit from a tax treaty between the source-of-income country and the third country. An example might be a foreign company located in one country (which owns a US company) creating an entity in a third country to receive dividends from the US company, and then claiming that the dividends are not subject to US withholding taxes because of a tax treaty between the US and the third country.

In light of this term, it becomes clear how the beneficial owner definition attempts to limit treaty shopping.

Problems with the Current Beneficial Owner Terminology

The current OECD terminology has been problematic in that it does not specify how the term beneficial owner is intended to be interpreted in the vast array of international laws. In some jurisdictions and tax courts (especially in countries following the common law), the term has been interpreted in a much different way than in others. This has lead to much confusion as well as risk of the same type of income not being subject to tax in some jurisdictions while being subject to double-taxation in others. The OECD request for comments has the goal of remedying this problem by clarifying the meaning of the term and providing further guidance.

The comment period ended July 15, 2011, and the OECD Committee on Fiscal Affairs’ Working Party met a few months ago to begin review of the comments.

Contact Sherayzen Law Office For Help With International Tax Treaties

If you have questions with respect to how a particular tax treaty applies to your situation, contact Sherayzen Law Office for legal help. Our experienced tax firm will assist you in assessing the potential impact of a tax treaty on your particular tax position.

Expanded Tax Credit for Hiring Unemployed Veterans

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On November 21, 2011, the VOW to Hire Heroes Act of 2011 was signed into law.    The new law provides an expanded work opportunity tax credit to businesses that hire eligible unemployed veterans and for the first time also makes part of the credit available to tax-exempt organizations. Businesses can claim the credit as part of the general business credit and tax-exempt organizations can claim it against their payroll tax liability. The credit is available for eligible unemployed veterans who begin work on or after November 22, 2011, and before January 1, 2013.

Also included in this new law is the Veterans Retraining Assistance Program (VRAP) for unemployed Veterans. The Department of Veteran Affairs (VA) and the Department of Labor (DoL) are working together to roll out this new program on July 1, 2012.  Specific eligibility requirements apply.  Moreover, the program is only limited to 45,000 participants for the 2012 fiscal year (and to 54,000 participants between October 1, 2012 and March 31, 2014).

Filing Deadline Extended to March 30, 2012, for Some Tax-Exempt Organizations

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On December 16, 2011, the IRS announced that certain tax-exempt organizations with January and February filing due dates will have until March 30, 2012, to file their annual returns.

The IRS is granting this extension of time to file because the part of the e-file system that processes electronically filed returns of tax-exempt organizations will be off-line during January and February. The agency stressed that the rest of the e-file system will continue to operate normally and urged all individuals and businesses to choose the accuracy, speed and convenience of electronic filing.

In general, the extension applies to tax-exempt organizations whose normal filing deadline is either January 17 or February 15, 2012. Ordinarily, these deadlines would apply to organizations with a fiscal year that ended on August 31 or September 30, 2011, respectively. The extension also applies to organizations that already obtained an initial three-month filing extension and now have an extended filing deadline that falls on January 17 or February 15, 2012. The majority of tax-exempt organizations will be unaffected by this extension because they operate on a calendar-year basis and have a May 15 filing deadline.

The extension applies to affected organizations filing Forms 990, 990-EZ, 990-PF, or 1120-POL. Form 990-N filers will not be affected. No form needs to be filed to get the March 30 extension.

In order to avoid receiving a late filing penalty notice, a reasonable cause statement should be attached to the tax return. If organizations receive late-filing penalty notices, they should contact the IRS so that these penalties can be abated. The IRS encouraged these organizations to consider either e-filing early — before the end of December — or waiting until March to file electronically.

Making the Section 338(g) Election when Purchasing a Target Corporation’s Stock

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This article will explain Internal Revenue Code Section 338(g), which allows corporations, that buy a certain percentage of a target corporation’s stock and meet certain requirements, to make an election to treat the acquisition as an asset purchase instead of a stock purchase. In the right circumstances, a Section 338(g) election can be a very useful tool for tax purposes; however there are certain drawbacks, so you should consult an experienced tax attorney to determine whether the election would be a sound decision for your corporation.

Requirements for Section 338(g) Election

In general, in order to make an Section 338(g) election, the purchasing corporation must acquire through a “qualified stock purchase” 80% or more of the total voting power and 80% or more of the total value of the stock of the target corporation within a 12-month period. Preferred stocks are not counted for either purpose.

The election may only be made in taxable stock sales, and the purchaser must be a C corporation. Thus, individuals, partnerships and similar entities are not eligible to make the election. A corporation may purchase a foreign corporation and make the election; however, there are many complex international tax issues that may arise (such as the Subpart F rules).

Once the election is made, the target corporation is deemed as having sold all of its assets in a single transaction; it will be treated as a new corporation which purchased all of the assets of and is unrelated (for most purposes) to the old target corporation. The new (target) corporation also assumes any liabilities of the old target corporation.

Treatment of Basis of Stock & Assets

Normally, when a corporation purchases the net assets of a target company in a taxable stock sale, the purchaser will take a carryover basis in the acquired assets. However, by electing Section 338(g), purchasers will be allowed to take a stepped-up basis at the fair market value purchase price (as well as taking the stock at the FMV price), and the transaction will be deemed for the purposes of the section, as an asset sale. The election is made unilaterally by the purchasing corporation.

Main Advantages and Disadvantages of the Election

The primary advantage of a Section 338(g) election is that by treating the purchase as an asset sale, the purchaser is likely to be able to deduct depreciation and amortization expenses associated with the assets and intangibles; other tax credits may also apply.

The primary disadvantage, however, is that the deemed asset sale may trigger a taxable gain for the acquiring corporation. Conversely, the target corporation’s shareholders will be treated as having sold their shares, and thus will have a taxable gain or loss on the sale of their stock.

Thus, an acquiring corporation must consider whether making the election is worthwhile from a tax perspective. Generally, usable tax credits or Net Operating Losses of the target corporation will be necessary in order to consider making the election.

Contact Sherayzen Law Office for Tax Planning Help With Business Acquisitions

If you are planning to acquire another business and would like to explore the tax consequences of such purchase (or explore alternative structuring of such purchase), contact Sherayzen Law Office. Our tax firm has extensive knowledge of corporate tax law and we will use our reliable experience to help you achieve your acquisition goals in a tax-sensitive way.

IRS Releases Guidance on Foreign Financial Asset Reporting (Form 8938)

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On December 15, 2011, the Internal Revenue Service stated that it will soon release the final version of a new information reporting form that taxpayers will use starting this coming tax filing season to report specified foreign financial assets for tax year 2011.  Form 8938 (Statement of Specified Foreign Financial Assets) will be filed by taxpayers with specific types and amounts of foreign financial assets or foreign accounts. It is important for taxpayers to determine whether they are subject to this new requirement because the IRS imposes significant penalties for failing to comply.

The Form 8938 filing requirement was enacted in 2010 as part of FATCA to improve tax compliance by U.S. taxpayers with offshore financial accounts.  The scope and the depth of the Form is even more profound that the FBARs.

Individuals who may have to file Form 8938 are U.S. citizens and residents, nonresidents who elect to file a joint income tax return and certain nonresidents who live in a U.S. territory. Form 8938 is required when the total value of specified foreign assets exceeds certain thresholds.

Form 8938 is not required of individuals who do not have an income tax return filing requirement.

The new Form 8938 filing requirement does not replace or otherwise affect a taxpayer’s obligation to file an FBAR (Report of Foreign Bank and Financial Accounts).

Failure to file Form 8938 when required may result in severe penalties – $10,000 with an additional penalty up to $50,000 for continued failure to file after IRS notification.  Moreover, a 40 percent penalty on any understatement of tax attributable to non-disclosed assets can also be imposed.  Other penalties may apply.

Finally, a special statute of limitation rules apply to Form 8938.

Contact Sherayzen Law Office For Tax Help with the IRS Form 8938

If you need any help with respect to understanding Form 8938 or to see whether you need to file this Form, contact Sherayzen Law Office Ltd.  Our experienced international tax firm will explain to you the requirements of Form 8938 and help you comply with its requirements.