TREASURY DEPARTMENT TECHNICAL EXPLANATION OF THE CONVENTION BETWEEN THE GOVERNMENT OF THE UNITED STATES OF AMERICA AND THE GOVERNMENT OF THE REPUBLIC OF CYPRUS FOR THE AVOIDANCE OF DOUBLE TAXATION AND THE PREVENTION OF FISCAL EVASION WITH RESPECT TO TAXES ON INCOME（四） ARTICLE 22 Governmental Functions This Article provides that wages, salaries and similar remuneration, including pensions,annuities and similar benefits, paid to a citizen of a Contracting State out of: the public funds of that Contracting State will be exempt from tax by the other Contracting State if the payment is for services rendered by the citizen as an employee of the first-mentioned Contracting State in the discharge of governmental functions. Payments to employees of a Contracting State who are not citizens of that Contracting State, and payments for services which are not in the discharge of governmental functions are, as appropriate, dealt with in the other Articles of the Convention dealing with the taxation of income from personal services. For example, a resident of the United States who is not a United States citizen and who is employed in the United States Embassy in Nicosia, will be subject to the provisions of Article 18 (Dependent Personal Services) in the determination of his tax liability, if any, to Cyprus. The taxation of his pension by Cyprus in respect of his United States Government service will be determined under the provisions of Article 23 (Private Pensions and Annuities). The provisions of this Article are not subject to the saving clause of paragraph (3) of Article 4 (General Rules of Taxation) in respect of an individual who is neither a citizen nor a resident with immigrant status in the Contracting State in which the services are performed. In other cases the saving clause does apply. Thus, if a citizen of Cyprus is employed in the Cypriot Embassy in Washington, and that individual is also a citizen of the United States or has immigrant status in the United States (i.e., he holds a green card), the United States may tax the salary of that individual without regard to this Article. If, however, he is neither a citizen of the United States, nor has immigrant status there, the provisions of this Article will be applicable. ARTICLE 23 Private Pensions And Annuities 　 Paragraph (1) provides that pensions and other similar remuneration (other than such　payments dealt with in Article 22 (Governmental Functions)) paid to an individual who is a resident of a Contracting State in consideration of past employment are taxable only in that Contracting State. The term "pensions and annuities" is defined to mean periodic payments made by reason of retirement or death in consideration for services rendered, or by way of compensation for injuries received in connection with past employment. Under paragraph (2), alimony and annuities paid to an individual who is a resident of a Contracting State are taxable only in that Contracting State. The term "annuities" is defined to mean a stated sum paid periodically at stated times during life, or during a specified number of years, under an obligation to make the payments in return for adequate and full consideration, other than for services rendered. The term "alimony" is defined to mean periodic payments made pursuant to a decree of divorce, separate maintenance agreement, or support or separation agreement which are taxable to the recipient in his Contracting State of residence, under its internal laws. 　　This Article is subject to the saving clause of paragraph (3) of Article 4 (General Rules of Taxation). A Contracting State, therefore, may tax a citizen of that Contracting State who is a resident of the other Contracting State on income dealt with in this Article, without regard to its provisions. ARTICLE 24 Social Security Payments 　　Social security payments and other public pensions paid by a Contracting State to a resident of the other Contracting State or to a citizen of the United States are taxable only in the Contracting State making the payment. This Article does not apply to pension payments for government service covered in Article 22 (Governmental Functions). The term "other public pensions is understood to include United States railroad retirement pensions. 　　The provisions of this Article are not overridden by the saving clause (see exceptions to the saving clause in paragraph (4) of Article 4 (General Rules of Taxation)). A citizen or resident of the Contracting State, therefore, who receives a social security payment from the other Contracting State is exempt from tax on that payment in his State of residence or citizenship. ARTICLE 25 Diplomatic And Consular Officers 　　This Article provides that nothing in the Convention will affect the fiscal privileges of diplomatic and consular officials under either the general rules of international law or under the provisions of special agreements. ARTICLE 26 Limitation on Benefits 　　This Article, taken together with paragraph (6) of Article 4 (General Rules of Taxation), is designed to prevent abuse of the Convention by limiting the benefits of the Convention to those residents of a Contracting State who are properly entitled to those benefits. The intent of these two sets of provisions is, first, to prevent residents of third countries from establishing entities in a Contracting State for the purpose of deriving treaty benefited income from the other Contracting State. This is an issue of particular importance to the United States in a treaty with a country like Cyprus which has established in its domestic law a system of special measures providing substantially reduced tax rates in Cyprus on income derived from certain offshore activities and investments. With little difficulty, a nonresident of Cyprus can establish an entity in Cyprus to derive such income. 　　It is also the intent of these provisions to deny the granting of treaty benefits by one Contracting State to a resident of the other Contracting State, even if the beneficial owner of the income is a resident of that other Contracting State, where the income is subject to tax in that other Contracting State at a rate which is substantially less than the rate generally applicable to income in that other Contracting State. Since one of the principal purposes of a tax treaty is to avoid double taxation, the justification for reductions in tax by treaty in the State of the source of income ceases to exist when that income is exempt or subject to substantially reduced taxes in the State of residence of the income recipient. This limitation on benefits under the Convention (paragraph (6) of Article 4) will apply with respect to several provisions of Cyprus law. For example, section 28(A) of Cypriot law provides that certain offshore companies in Cyprus which are owned by aliens are taxed at a rate of 4.25 percent instead of the normal rate of 42.5 percent. Similarly, under section 8(w) of Cyprus law, a 90 percent exemption is provided for offshore dividends or profits of a Cypriot resident. There are other provisions of Cyprus law to which this provision would be similarly applicable. This provision of the Convention has applicability in the United States as well as in Cyprus. Residents of the United States, for example, who benefit from the exclusion of foreign earned income under Code section 911, would not be entitled to treaty benefits from Cyprus with respect to that excluded income. 　　Paragraph (1) of Article 26 denies any relief from taxation by a Contracting State under the treaty to a resident of the other Contracting State, other than an individual (individuals are covered by paragraph (6) of Article 4), unless two conditions are satisfied, or unless the provisions of paragraph (2) apply. The first condition is that more than 75 percent of the beneficial interest in the resident of that other Contracting State (or if that resident is a corporation, more than 75 percent of the number of shares of each class of its shares) is owned, directly or indirectly, by one or more individual residents of that State. The second condition, which must also be satisfied if treaty benefits are to be granted, is that the gross income of that resident not be used in substantial part, directly or indirectly, to meet liabilities to persons who are not residents of a Contracting State and who are not United States citizens. The term "liabilities", as used in the second condition, means deductible expenses, and includes liabilities for interest (including accrued interest on original issue discount obligations if deductible under Cypriot law) and royalties. The term "gross income" has the same meaning for purposes of this Article as its meaning under the Code, thus, for example, cost of goods sold would be deducted from the gross receipts of a manufacturing enterprise before applying the second test. 　　The ownership test in the first condition will be presumed to be met by a corporation that has substantial trading in its stock on a recognized stock exchange in a Contracting State. A stock exchange will be a "recognized exchange" only if so designated by agreement of the competent authorities. Since Cyprus does not presently have a stock exchange, no exchanges are specified in the Convention. It is contemplated, however, that the competent authorities will agree that the major United States stock exchanges and the NASDAQ system in the United States will qualify. If and when a stock exchange is established in Cyprus, the competent authorities will, at that time, consider whether the listing and trading frequency requirements of the exchange are sufficient for it to be a recognized exchange. 　　Under paragraph (2), paragraph (1) will not apply, and benefits will not be denied, even if the conditions of paragraph (1) are not met, if it is determined that the establishment, acquisition and maintenance of the person claiming treaty benefits and the conduct of its operations did not have the obtaining of treaty benefits as a principal purpose. This test recognizes that there are bona fide business reasons for an entity in a Contracting State to be owned by residents of a third State. In many circumstances, the granting of treaty benefits to such a person is not inconsistent with the objectives of the treaty. This test would be met, for example, if a Cyprus company owned by residents of third countries conducts business operations in Cyprus and holds investments in the United States, or engages in business activities in the United States, which are related or incidental to those business activities. For example, if the Cyprus company lends money to a supplier in the United States in order to assure a source of supply, and thereby derives interest income from the United States, that income could be considered incidental to its business activities. The test of paragraph (2) would also be met if the aggregate Cypriot tax burden is equal to or greater than the tax reductions claimed under the Convention. The test could also be satisfied in other ways. It should be noted that a resident of Cyprus who, under paragraph 6 of Article 4, fails to qualify for treaty benefits cannot have the benefits restored by virtue of paragraph 2 of this Article. 　　Paragraph (3) provides a special rule concerning certain trust situations. The benefits of the Convention do not apply to income derived by a trustee which, under the Convention, is treated as income of a resident of a Contracting State, if a principal purpose of the use of the trust was to obtain a benefit under the Convention. For example, if a United States resident establishes one or more Cypriot accumulation trusts with United States beneficiaries to receive dividends from United States corporations in order to reduce the United States tax on those dividends, the reductions in United States tax provided under paragraph (2) of Article 12 (Dividends) will not apply. 　　This Article is not intended to impose any added burden on United States withholding agents, and withholding agents will not be required to verify a person's ownership or purposes. In applying this Article, the normal burden of proof rules apply. For example, under present United States procedures, an entity that is a resident of Cyprus and that believes it is entitled, under one of the alternative tests of this Article, to the 10 percent United States tax rate on interest provided by paragraph (2) of Article 13 (Interest) would merely file an Internal Revenue Service Form 1001 with the appropriate withholding agent to claim the benefit. The Internal Revenue Service retains the right, on audit, to examine the return. The United States, of course, is not bound in the future to continue to apply current procedures, and any charge in United States withholding procedures could be applicable under this Convention as well. ARTICLE 27 Mutual Agreement Procedure 　　This Article provides for cooperation between the competent authorities to resolve disputes which may arise under the Convention. Paragraph (1) provides that a resident of a Contracting State may, if he considers that the actions of one or both of the Contracting States may result for him in taxation which is not in accordance with the Convention, present his case to the competent authority of the Contracting State of which he is a resident. He need not have exhausted the remedies in the national laws of the Contracting States before bringing his case to the competent authority. If the competent authority to which the case is brought judges the case to have merit, it shall endeavor to come to an agreement with the competent authority of the other Contracting State in order to avoid taxation contrary to the provisions of the Convention. 　　Paragraph (2) authorizes the competent authorities to seek to resolve difficulties or doubts that may arise as to the application of the Convention. The paragraph includes examples of the kinds of matters about which the competent authorities may reach agreement. They may agree to the same attribution of income, deductions, credits or allowances of a resident of a Contracting State to its permanent establishment in the other Contracting State, or to the same allocation of these items between two or more persons. They may also agree to the same determination of the source of an item of income, to uniform accounting for income and deductions, to the same characterization of an item of income and to a common meaning of a term Such agreements need not conform to the internal law provisions of the Contracting States. The competent authorities may discuss the application of the provisions of domestic law regarding penalties, fines and interest in a manner consistent with the purposes of the Convention. They may also consult together for the purpose of eliminating double taxation, with respect to the taxes covered by the 　　Convention under Article 1 (Taxes Covered), by extending the principles of the Convention to cases not specifically provided for in the Convention. This list is not intended to be exhaustive Of the matters about which the competent authorities may reach agreement. Paragraph (3) provides that the competent authorities may communicate directly with each other (including face to face meetings) for the purpose of reaching agreement under this Article. Under paragraph (4), if the competent authorities are able to reach agreement, taxes will be imposed, and refunds or credits allowed, by the Contracting States as necessary to give effect to the agreement. Such agreement will be implemented notwithstanding any time limits in the domestic law of the Contracting States. Thus, for example, if the agreement requires a refund of tax in a Contracting State, that refund will be made even if the statute of limitations in that Contracting State may have expired The statute of limitations, however, will not be overridden to impose additional tax, because of the provisions of paragraph (2) of Article 4 (General Rules of Taxation), under which a taxpayer's tax liability cannot be increased as a result of the application of any provision of the Convention. 　　Paragraph (5) gives to the competent authorities the authority, by mutual agreement, to increase any dollar amounts specified in the Convention. Thus, for example, if, after the Convention has been in force for some time, economic conditions have changed so as to make the dollar threshold for exempt earned income by students under paragraph (2)(b)(i) of Article 21 (Students and Trainees), or the income threshold for entertainers under paragraph (1) of Article 19 (Artistes and Athletes), unrealistically low, the competent authorities may agree to a higher threshold. Such changes can result only in a reduction of tax liabilities under the Convention, not in an increase. 　　The competent authorities of the Contracting States, under paragraph (6), are each authorized to prescribe any rules and regulations which may be necessary for carrying out the purposes of the Convention. ARTICLE 28 Exchange of Information 　　This Article provides for exchanges of information between the competent authorities of the Contracting States, and should be read along with the notes exchanged by the Contracting States at the time of the signing of the Convention, in order to understand fully the scope of the information exchanges contemplated by this Article. 　　Paragraph (1) provides that the competent authorities may exchange such information as is pertinent to carrying out both the provisions of the Convention, and of the domestic laws of the Contracting States concerning the taxes covered by the Convention (see Article 1 (Taxes Covered)). Thus, for example, information may be exchanged with respect to a covered tax, even if the transaction to which the information relates is a purely domestic transaction in the requesting State, or is an international transaction not involving the Contracting State to which the request is made, and, therefore, is not for the purpose of carrying out the provisions of the Convention. 　　This paragraph grants to each competent authority the power to secure whatever information is necessary for it to obtain in order to be able to comply with a request for information under this Article. As is explained in the exchange of notes, the United States already possesses the authority to secure any information to which this Article relates. The Government of Cyprus, on the other hand, may appear not to have full authority in this regard solely in its internal law. However, this provision of the Convention empowers the competent authority of Cyprus to implement the broad scope of the information exchange, including the following types of information which may otherwise not be available to it: bank information in the custody of a taxpayer; information in the custody of a bank; information in possession of the Central Bank of Cyprus relating to beneficial stock ownership; information in the possession of the registered legal owner of a corporation relating to beneficial stock ownership; and information in the possession of a trustee relating to beneficial ownership. It is further understood that civil and criminal sanctions may be imposed in Cyprus in the event that a person from whom such information has been requested does not disclose it. 　　Paragraph (1) also provides assurances that any information exchanged will be treated as secret and will be disclosed only to persons concerned with the assessment, collection, enforcement or prosecution in respect of the taxes to which the information relates, or to persons concerned with the administration of these taxes. Under this latter provision, information can be disclosed, for example, to legislative bodies involved in the administration of taxes, and their agents, such as the United States General Accounting Office. Such bodies are, of course; subject to the same restrictions as to the use of any information received, both under the Convention and under internal law, as are the competent authorities. 　　Paragraph (2) provides that when information is requested by a Contracting State in accordance with this Article, the other Contracting State is obligated to obtain the requested information as if the tax in question were the tax of that other Contracting State, even if that State has no direct tax interest in the case to which the information relates. The paragraph further provides that the requesting State may specify the form in which information is to be provided (e.g., depositions of witnesses and authenticated copies of original documents), in order that it be usable in the judicial practice of that State. The other Contracting State will provide the information in the requested form to the same extent that it can obtain information in that form under its own laws and administrative practices with respect to its own taxes. 　　Paragraph (3) explains that the obligations undertaken in paragraphs (1) and (2) to provide information do not require a Contracting State to carry out administrative measures at variance with the laws or administrative practice of either Contracting State, to supply information not obtainable under the laws or normal administrative practice of either Contracting State, or to supply information which would disclose trade secrets or other information, the disclosure of which would be contrary to public policy: A Contracting State may, however, at its discretion, provide information which it is not obligated to provide under the provisions of this paragraph. The exchange of notes makes clear that Cyprus is prepared to undertake measures and provide information which may not be, but for the provisions of this Convention, otherwise empowered to undertake or provide. 　　As explained in paragraph (4), the Convention contemplates that information will be exchanged either on a routine basis, or on request in relation to a specific case. The competent authorities may agree on the types of information to be exchanged on a routine basis. Information may, of course, be exchanged in other circumstances, or under other procedures. 　　Under paragraphs (5) and (6), the competent authorities are obligated to notify each other of amendments to the covered taxes, or the adoption of new taxes which, by virtue of paragraph (2) of Article 1 (Taxes Covered), become covered taxes; and to transmit texts of the amendments or new statutes They are also obligated to notify each other of the official publication of any materials concerning the application of the Convention. ARTICLE 29 Assistance in Collection 　　Paragraph (1) provides that one Contracting State will give limited assistance to the other Contracting State in collecting its taxes. Each Contracting State is required to collect on behalf of the other Contracting State only those taxes imposed by the other Contracting State as will assure that any exemption or reduced rate of tax granted under the Convention is not enjoyed by persons not entitled to such benefits. 　　Paragraph (2) makes clear that a Contracting State is not obligated to carry our measures at variance with the laws, administrative practice or public policy of either Contracting State with respect to the collection of its own taxes. ARTICLE 30 Entry into Force 　　This Article provides for the ratification of the convention and for the exchange of instruments of ratification. The Convention will enter into force upon the exchange of instruments of ratification. The provisions of the Convention will first have effect with respect to the income of calendar years or taxable years, and in the case of taxes payable at the source, with respect to payments made, on or after January 1 of the year next following the year in which the Convention enters into force. ARTICLE 31 Termination 　　This Article provides that the Convention will remain in force indefinitely, but may be terminated by either Contracting State. The Convention may be terminated at any time after five years from its entry into force, provided that at least six months prior notice has been given through diplomatic channels. In the event that such notice is given, the Convention will cease to have force and effect in respect of income of calendar years or taxable years beginning, in the case of taxes payable at the source, payments made, on or after January 1 of the year next following the expiration of the six months' period.