Tax Treaty Series

ITQ T-

014

September 20, 2019

Question

XCO is a company which is resident in country A. XCO is a partner in a partnership which is formed under country B law. The partnership conducts a trading business from a leased building in country B – its major assets are inventory, debtors and goodwill. Under country B law, the partnership is viewed as fiscally transparent. In contrast, under country A law, the partnership is viewed as a taxable entity (a company), and XCO’s interest in the partnership is viewed as shares in the company. XCO sells its interest in the partnership for a profit. That profit is taxable under both the country A tax law and the country B tax law. Under the country A tax law, a foreign tax credit is available for foreign tax paid by residents on foreign source taxable profits. XCO’s profit on the sale of its interest in the partnership is treated as having a domestic source under the country A tax law. What is the treatment of that profit under the A/B treaty (identical to the 2014 OECD model treaty, with Art. 23B)? The MLI does not apply to the A/B treaty.

Answer

Country B:

The partnership's trading business is an enterprise: Art. 3(1). That enterprise has a PE at the building in country B: Art. 5(1). Therefore, XCO (a partner in the partnership) also carries on that enterprise and has a PE at that building - see paragraph 43 of the 2017 OECD Commentary on Art. 5.
Thus, Art. 13(2) permits country B to tax XCO's profit on the sale of its interest in the partnership's movable property – i.e., inventory, debtors, goodwill, etc.

Country A:

If country B does levy tax on XCO's profit, Art. 23B(1) requires country A to grant XCO a credit for the country B tax, regardless of the fact that, under country A domestic law:
the profit has a domestic source, and country A views the transaction as a sale of shares in a company (on which view, Art. 13(5) provides that the profit shall be taxable only in country A).
In regard to 1(ii), see the example in paragraph 32.4 of the 2014 (and 2017) OECD Commentary on Arts. 23A and 23B.

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