Tax Treaty Series

ITQ T-

027

January 10, 2020

Question

ACo, a company resident in country A, carries on a real estate investment business.

ACo pays $10,000 to CCo (an unrelated company resident in country C), in consideration for CCo granting ACo an option to purchase some land in country B. CCo is the owner of that land. At a later time, ACo sells the option to DCo (an unrelated company resident in country D), for a price of $1 million.

ACo therefore derives a profit of $990,000 from the acquisition and sale of the option. That profit is taxable under the income tax laws of countries A & B.

The A/B treaty is identical to the 2014 OECD model treaty. The MLI does not cover the A/B treaty.

What is the treatment of ACo's profit under the A/B treaty?

Answer

Art. 13(1) allows country B to tax the profit, if the option is immovable property situated in country B. If Art. 13(1) does not so allow, Art. 13(5) will prevent country B taxation (note that, from the question, it appears that ACo does not have a PE in country B).

Two issues arise under Art. 13(1): (i) is the option "immovable property"?; and (ii) if so, is it "situated in" country B?

Issue (i):

Art. 13(1) uses the definition in Art. 6(2) – the first sentence adopts the country B general law meaning.
The option is an "in the money" (ITM) call option at both acquisition and sale. It would need to be determined whether the country B general law treats such an ITM call option over immovable property as itself immovable property.
The OECD Commentary notes that Israel, Latvia & Lithuania want the Art. 6 definition in their treaties to expressly include call options over immovable property.

Issue (ii):

It is likely that contracts / consideration for the 2 transactions were signed / paid (and received) outside country B.
Although this is not stated by the OECD model treaty or Commentary, the context would likely require that the "situation" of immovable property is also determined under the country B general law.

If Art. 13(1) applies, country A must allow relief under Art. 23A / 23B.

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