Treaty Override Provision Dropped from 9/11 Bill
December 22, 2010Legislative Actions
New York Senators Charles Schumer (D-N.Y.) and Kirsten Gillibrand (D-N.Y.) on December 21, 2010, announced the removal of a controversial provision from H.R. 847, the James Zadroga 9/11 Health and Compensation Act of 2010, which would have denied treaty benefits for certain deductible related-party payments. Under the provision, a foreign company operating in a treaty jurisdiction would be precluded from claiming treaty benefits with respect to deductible payments received from a related U.S. company if the foreign company is a subsidiary of a corporation based in a third country that is not a party to a U.S. tax treaty. Although the legislative history of the provision suggests that it was aimed at firms that had engaged in tax-motivated inversion transactions prior to the enactment of IRC Section 7874, the provision was strongly criticized for denying treaty benefits to firms not engaged in tax-motivated transactions. For example, the provision would have applied to deny treaty benefits to a Mexican subsidiary operating a trade or business in Mexico with respect to royalty payments received from a U.S. subsidiary, if the Mexican corporation's parent were located in Brazil. Note that under the U.S.-Mexico tax treaty, the Mexican corporation would not be entitled to treaty benefits if it was not engaged in a trade or business in Mexico pursuant to the limitation on benefits article of the treaty. Critics of the bill argued that this limitation on benefits provision, contained in almost every modern U.S. tax treaty, already prevents the kind of treaty-shopping at which the provision was directed.