Beneficial Owners, Treaty Shopping and the OECD Model Tax Convention

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.