In preparing for a Senate Committee on Foreign Relations hearing held on June 7, 2011, the Joint Committee on Taxation issued comments on the Explanation of Proposed Protocol to the Income Tax Treaty Between the United States and Switzerland (JCX-31-11) (5/20/2011). The proposed protocol was signed on September 23, 2009, and is accompanied by official understandings implemented by an exchange of diplomatic notes (collectively, the “diplomatic notes”) carried out on that same day.
As with most bilateral tax treaties, the tax treaty with Switzerland is designed to reduce or eliminate double taxation of income earned residents of either country from sources within the other country and to prevent avoidance or evasion of the taxes of the two countries. The present treaty also is intended to promote close economic cooperation between the two countries and to eliminate possible barriers to trade and investment caused by overlapping taxing jurisdictions of the two countries.
The proposed protocol would modify several provisions to the U.S.-Switzerland Tax Treaty (October 2, 1996) and the Protocol signed in Washington on the same date. The proposed protocol sets forth rules that are similar to rules contained in recent U.S. income tax conventions, the 2006 U.S. Model Treaty and the 2010 OECD Model Treaty. The present treaty, as amended by the proposed protocol, however, includes certain substantive deviations from these treaties and models. Here are some of the more notable features of the new proposed protocol to the U.S.-Swiss Income Tax Treaty.
Article 10, pertaining to Dividends, would be, under the proposed protocol, to expand the prohibition on source country taxation of dividends beneficially owned by pension or other retirement arrangements resident in the other treaty country The present treaty generally allows full residence-country taxation and limited source-country taxation of dividends. The present treaty includes a generally applicable maximum rate of withholding at source of 15 % and a reduced five % maximum rate for dividends received by a company owning at least 10% of the voting stock of the dividend-paying company. Special rules apply to dividends received from regulated investment companies (“RICs”) and real estate investment trusts (“REITs”).
Article 10, Paragraph 3 of the present treaty exempts from source-country taxation dividends paid to a pension plan or other retirement arrangement that is a resident in the other country if the pension plan or other retirement arrangement does not control the company paying the dividend.
Under the proposed protocol, the prohibition on source-country taxation also applies to dividends that are beneficially owned by an individual retirement savings plan set up in, and owned by a resident of, the other treaty country, so long as the competent authorities agree that the individual retirement savings plan generally corresponds to an individual retirement savings plan recognized in the other treaty country for tax purposes. The prohibition on source-country taxation of dividends is not available where the beneficial owner controls the company paying the dividend.
Under Article 25 (Mutual Agreement Procedure), the proposed protocol changes the voluntary arbitration procedure contained in Article 25 at present to a mandatory arbitration procedure a/k/a the “last best offer arbitration”, pursuant to which each of the competent authorities proposes one and only one figure for settlement, and the arbitrator must select one of those figures as the award. Under the proposed protocol, unless a taxpayer or other “concerned person” (in general, a person whose tax liability is affected by the arbitration determination) does not accept the arbitration determination, it is binding on the treaty countries with respect to the case. A mandatory and binding arbitration procedure is included in the U.S. income tax treaties with Belgium, Canada, France, and Germany. The details and applicable rules of the new mandatory arbitration procedure are set forth in the report.
Another proposed change is replacing Article 26 (Exchange of Information) and paragraph 10 of the 1996 protocol to rules that conform generally to the OECD standards. The proposed rules generally provide that, in response to specific requests, the two competent authorities will exchange such information as may be relevant in carrying out the provisions of the domestic laws of the United States and Switzerland concerning taxes covered by the treaty, to the extent the taxation under those laws is not contrary to the treaty. The information provisions are largely based on those contained in the OECD model and U.S. model treaty, with several exceptions. The United States and Switzerland agree to exchange such information as “may be relevant” in carrying out the provisions of the proposed protocol or in carrying out the provisions of the domestic laws of the two treaty countries concerning taxes that are imposed by a treaty country and subject to the treaty. Thus, the exchange of information is not restricted by paragraph 1 of Article 1 (Personal Scope) but instead is limited by Article 2 (Taxes Covered).
The limitation on taxes that may be the subject of an exchange of information is a significant departure from both the OECD Model and U.S. Model treaties. Information about persons who are residents of neither Switzerland nor the United States may be requested and provided under the proposed protocol. For example, a third country resident with a Swiss bank account that is reportable to the IRS may be the subject of a request by the competent authority for information with respect to the bank account.
Any information exchanged under the proposed protocol is regarded as secret in the same manner as information obtained under the domestic laws of the treaty country receiving the information. The exchanged information may be disclosed only to persons or authorities (including courts, administrative bodies and legislative bodies) involved in the administration, enforcement or oversight of the tax laws. Such functions include assessment, collection, civil and criminal prosecution, and the determination of appeals in relation to the taxes to which the proposed protocol applies. The authority to disclose information to persons involved in oversight of taxes includes authority to disclose to persons or authorities such as the tax-writing committees of the U.S. Congress and the Government Accountability Office. Such persons or authorities receiving the information may use the information only in the performance of their role in overseeing the administration of U.S. tax laws. Finally, exchanged information may be disclosed in public court proceedings or in judicial decisions.
A treaty country is not required to carry out administrative measures at variance with the laws and administrative practice of either treaty country, to supply information that is not obtainable under the laws or in the normal administrative practice of either treaty 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 Technical Explanation notes, however, that if a treaty country is asked to provide information, it should provide the information even if its own statute of limitations period has expired for the issue to which the information relates. According to the Technical Explanation, the statute of limitations of the treaty country making the request should govern. The Technical Explanation also states that even if the limitations on information exchange mean that a treaty country is not obligated to supply information in response to a request from the other treaty country, the requested country may choose to supply the information if doing so does not violate its internal law.
The proposed protocol limits the ability of either country to decline a request for information based on the lack of need for such information in a domestic tax investigation, or the expiration of the limitations period in the requested treaty country. If the information may be relevant to the requesting treaty country, the limitations described immediately above will not support a refusal to exchange the information. .
In addition to replacing Article 26, as noted, the proposed protocol also amends the 1996 Protocol that was executed and ratified contemporaneously with the present treaty. Article 4 of the proposed protocol replaces paragraph 10 of the 1996 Protocol. Under the 1996 Protocol, paragraph 10 detailed the understanding of tax fraud or related fraudulent conduct that would support an exchange of information of banking information. Neither the proposed Article 26 nor the proposed amendment to the 1996 Protocol requires that tax fraud or fraudulent behavior be established in order to permit exchange of information.
Subparagraph (a) of proposed paragraph 10 summarizes the understanding of the treaty countries about the information to be included in a specific request for exchange of information. The required information compromises five elements. They are: (1) information sufficiently specific to identify the person under examination or investigation; (2) the period of time for which information is requested; (3) the information that is sought, including the nature and form in which the information should be provided; (4) a statement of the tax purpose to which the information relates; and (5) the name of the person believed to be in possession of the requested information. With respect to the first described element, the proposed paragraph 10 includes an illustrative list of information that may be sufficient to identify a person, such as name, address, and account numbers.
Subparagraph (b) of proposed paragraph 10 explains the reasoning for requiring that the competent authority explain the purpose for which the information is needed. The treaty countries agree that the information requested need only meet a standard of “may be relevant” to tax matters in the requesting treaty country, to permit the “widest possible” production without authorizing “fishing expeditions.”.
Subparagraph (c) of proposed paragraph 10 provides that, upon specific request by the competent authority of a treaty country, the other competent authority must provide information 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 requested country with respect to its own taxes. A treaty country may request that responsive information be provided in an authenticated form that will facilitate use of that information in the administrative or judicial proceedings in the requesting country.
The proposed protocol commits the parties to honor only specific requests for exchange of information that comply with the requirements of subparagraph (a) of proposed paragraph 10. Subparagraph (d) of proposed paragraph 10 makes it clear that neither automatic nor spontaneous exchanges of information are required by the proposed protocol. Neither the treaty, the proposed protocol, nor the proposed paragraph 10 precludes such exchanges on a voluntary basis.
Under Article 5 of the proposed protocol provides that the proposed protocol will enter into force upon the exchange of instruments of ratification, and it sets forth rules for when the provisions of the proposed protocol will take effect.