DEPARTMENT OF THE TREASURY TECHNICAL EXPLANATION OF THE CONVENTION BETWEEN THE UNITED STATES OF AMERICA AND THE REPUBLIC OF SOUTH AFRICA FOR THE AVOIDANCE OF DOUBLE TAXATION AND THE PREVENTION OF FISCAL EVASION WITH RESPECT TO TAXES ON INCOME AND CAPITAL GAINS (2) 　　　　　　　　　　　　　　　ARTICLE 3 　　　　　　　　　　　　　General Definitions 　　Paragraph 1 defines a number of basic terms used in the Convention. Certain others are defined in other articles of the Convention. For example, the term "resident of a Contracting State, is defined in Article 4 (Residence). The term "permanent establishment" is defined in Article 5 (Permanent Establishment). The terms "dividends," "interest" and "royalties" are defined in Articles 10, 11 and 12, respectively. The introduction to paragraph 1 makes clear that all of these definitions apply for all purposes of the Convention, unless the Convention states otherwise or the context requires otherwise. This latter condition allows flexibility in the interpretation of the treaty in order to avoid results not intended by the treaty's negotiators. Terms that are not defined in the Convention are dealt within paragraph 2. Paragraph 1 　　The term "United States" is defined in subparagraph 1(a) to mean the United States of America. When the term is used in a geographical sense the term means the states and the District of Columbia. It is understood that the term does not include Puerto Rico, the Virgin Islands, Guam or any other U.S. possession or territory. The geographic meaning of the term United States also includes the territorial sea of the United States and, for certain purposes, the definition is extended to include the sea bed and subsoil of undersea areas adjacent to the territorial sea of the United States. This extension applies to the extent that the United States exercises sovereignty in accordance with international law for the purpose of natural resource exploration and exploitation of such areas. This extension of the definition applies, however, only if the person, property or activity to which the Convention is being applied is connected with such natural resource exploration or exploitation. Thus, it would not include any activity involving the sea floor of an area over which the United States exercised sovereignty for natural resource purposes if that activity was unrelated to the exploration and exploitation of natural resources. 　　The term "South Africa" is defined in subparagraph 1(b). The term means the Republic of South Africa, including certain territories that were formerly subject to special tax regimes, but now are subject to the same tax laws as the rest of South Africa. When the term is used in a geographical sense it also includes the territorial sea of South Africa, and areas outside the territorial sea which are designated, under both South African and international law, as areas within which South Africa may exercise sovereign rights with regard to the exploration or exploitation of natural resources. 　　Subparagraph 1(c) defines the term "person" to include an individual, a trust, a partnership, a company and any other body of persons. The definition is significant for a variety of reasons. For example, under Article 4, only a "person" can be a "resident" and therefore eligible for most benefits under the treaty. Also, all "persons" are eligible to claim relief under Article 25 (Mutual Agreement Procedure). 　　The term "company" is defined in subparagraph 1(d) as a body corporate or an entity treated as a body corporate for tax purposes in the State where it is organized. 　　The terms "enterprise of a Contracting State" and "enterprise of the other Contracting State" are defined in subparagraph 1(e) as an enterprise carried on by a resident of a Contracting State and an enterprise carried on by a resident of the other Contracting State. The term "enterprise" is not defined in the Convention, nor is it defined in the OECD Model or its Commentaries. Despite the absence of a clear, generally accepted meaning for the term "enterprise," the term is understood to refer to any activity or set of activities that constitute a trade or business. The term also includes an enterprise conducted through an entity (such as a partnership) that is treated as fiscally transparent in the Contracting State where the entity's owner is resident. 　　An enterprise of a Contracting State need not be carried on in that State. It may be carried on in the other Contracting State or a third state (e.g., a U.S. corporation doing all of its business in South Africa would still be a U.S. enterprise). 　　The term "nationals," as it relates to the United States and South Africa, is defined in subparagraph 1(f). This term is relevant for purposes of Articles 19 (Government Service) and 24 (Non-discrimination). A national of one of the Contracting States is 　　(1) an individual who is a citizen of that State, and 　　(2) any legal person, partnership, association or other entity deriving its status, as such, from the law in force in the State where it is established. 　　Subparagraphs 1(g)(i) and (ii) define the term "competent authority" for the United States and South Africa, respectively. The U.S. competent authority is the Secretary of the Treasury or his delegate. The Secretary of the Treasury has delegated the competent authority function to the Commissioner of Internal Revenue, who in turn has delegated the authority to the Assistant Commissioner (International). With respect to interpretative issues, the Assistant Commissioner acts with the concurrence of the Associate Chief Counsel (International) of the Internal Revenue Service. The competent authority for South Africa is the Commissioner for Inland Revenue or his authorized representative. 　　Subparagraph 1(h) defines the term "international traffic." The term means any transport by a ship or aircraft except when the vessel is operated solely between places within a Contracting State. This definition is applicable principally in the context of Article 8 (Shipping and Air Transport). Unlike the definition in the OECD Model, this definition does not require the ship or aircraft to be operated by a resident of a Contracting State. As a result, under paragraphs 2 and 3 of Article 8, income from the rental of ships, aircraft or containers is exempt from tax by the source State whether it is earned by lessors that are operators of ships and aircraft or by lessors that are not such operators (e.g., banks or container leasing companies), so long as the lessors are residents of a Contracting State, provided that the ships, aircraft or containers are operated or used in international traffic. 　　The exclusion from international traffic of transport solely between places within a Contracting State means, for example, that carriage of goods or passengers solely between New York and Chicago would not be treated as international traffic, whether carried by a U.S. or a foreign carrier. Therefore, the substantive taxing rules of the Convention relating to the taxation of income from transport, principally Article 8 (Shipping and Air Transport), would not apply to income from such carriage. Thus, if the carrier engaged in internal U.S. traffic were a resident of South Africa (assuming that were possible under U.S. law), the United States would not be required to exempt the income from that transport under Article 8. The income would, however, be treated as business profits under Article 7 (Business Profits), and therefore would be taxable in the United States only if attributable to a U.S. permanent establishment of the South African carrier, and then only on a net basis. The gross basis U.S. tax imposed by section 887 would never apply under the circumstances described. If, however, goods or passengers are carried by a South African carrier from Cape Town to, for example, New York, and some of the goods or passengers continue on to Chicago, the entire transport, including the internal U.S. portion, would be international traffic. This would be true if the international carrier transferred the goods at the U.S. port of entry from a ship to a land vehicle, from a ship to a lighter, or even if the overland portion of the trip in the United States was handled by an independent carrier under contract with the original international carrier, so long as both parts of the trip were reflected in original bills of lading. For this reason, the Convention language differs from the OECD Model language. In the definition of "international traffic," the OECD Model excludes transport when the ?ship or aircraft is operated? solely between places in the other Contracting State. The　Convention excludes ship or aircraft transport when ?such transport? is solely between places in a Contracting State. The Convention language is intended to make clear that, as in the above example, even if the goods are carried on a different aircraft for the internal portion of the international voyage than is used for the overseas portion of the trip, the definition applies to that internal portion as well as the external portion. 　　Finally, a "cruise to nowhere," i.e., a cruise beginning and ending in a port in the same Contracting State with no stops in a foreign port, would not constitute international traffic. Paragraph 2 　　Paragraph 2 provides that in the application of the Convention, any term used but not defined in the Convention will have the meaning that it has under the law of the Contracting State whose tax is being applied, unless the context requires otherwise. The paragraph makes clear that if the term is defined under both the tax and non-tax laws of a Contracting State, the definition in the tax law will take precedence over the definition in the non-tax laws. Finally, there also may be cases where the tax laws of a State contain multiple definitions of the same term. In such a case, the definition used for purposes of the particular provision at issue, if any, should be used. 　　If the meaning of a term cannot be readily determined under the law of a Contracting State, or if there is a conflict in meaning under the laws of the two States that creates difficulties in the application of the Convention, the competent authorities, as indicated in paragraph 5(f) of Article 25 (Mutual Agreement Procedure), may establish a common meaning in order to prevent double taxation or to further any other purpose of the Convention. This common meaning need not conform to the meaning of the term under the laws of either Contracting State. 　　The language of the paragraph makes clear that the reference in paragraph 2 to the internal law of a Contracting State means the law in effect at the time the treaty is being applied, not the law as in effect at the time the treaty was signed. This use of "ambulatory definitions", however, may lead to results that are at variance with the intentions of the negotiators and of the Contracting States when the treaty was negotiated and ratified. The reference in both paragraphs 1 and 2 to the "context otherwise requiring" a definition different from the treaty definition, in paragraph 1, or from the internal law definition of the Contracting State whose tax is being imposed, under paragraph 2, refers to a circumstance where the result intended by the Contracting States is different from the result that would obtain under either the paragraph 1 definition or the statutory definition. 　　　　　　　　　　　　　　ARTICLE 4 　　　　　　　　　　　　　　Residence 　　This Article sets forth rules for determining whether a person is a resident of a Contracting State for purposes of the Convention. As a general matter only residents of the Contracting States may claim the benefits of the Convention. The treaty definition of residence is to be used only for purposes of the Convention. The fact that a person is determined to be a resident of a Contracting State under Article 4 does not necessarily entitle that person to the benefits of the Convention. In addition to being a resident that is the beneficial owner of income, a person also must qualify for benefits under Article 22 (Limitation on Benefits) in order to receive benefits conferred on residents of a Contracting State. 　　The determination of residence for treaty purposes looks first to a person's liability to tax as a resident under the respective taxation laws of the Contracting States. As a general matter, a person who, under those laws, is a resident of one Contracting State and not of the other need look no further. For purposes of the Convention, that person is a resident of the State in which he is resident under internal law. If, however, a person is resident in both Contracting States under their respective taxation laws, the Article proceeds, through the use of tie-breaker rules, to assign to such a person, where possible, a single State of residence for purposes of the Convention. Paragraph 1 　　The term "resident of a Contracting State" is defined in paragraph 1. The definition of a U.S. resident is consistent with that of the U.S. Model and the definition of a South African resident is intended to include only those over which South Africa exerts its broadest taxing jurisdiction. 　　Residents of the United States are defined in subparagraph (a)(i) to include a person who, under United States law, is subject to tax there by reason of that person's domicile, residence, citizenship, place of management, place of incorporation or any other similar criterion. The term also includes aliens who are considered U.S. residents under Code section 7701(b). 　　Subparagraph (a)(i) also provides that a person who is liable to tax in the United States only in respect of income from U.S. sources will not be treated as a resident of the United States for purposes of the Convention. Thus, a consular official of South Africa who is posted in the United States, who may be subject to U.S. tax on U.S. source investment income, but is not taxable in the United States on non-U.S. source income, would not be considered a resident of the United States for purposes of the Convention. (See Code section 7701(b)(5)(B)). Similarly, a South African enterprise with a permanent establishment in the United States is not, by virtue of that permanent establishment, a resident of the United States. The enterprise generally is subject to U.S. tax only with respect to its income that is attributable to the U.S. permanent establishment, not with respect to its worldwide income, as it would be if it were a U.S. resident. 　　Certain entities that are nominally subject to tax but that in practice rarely pay tax also would generally be treated as residents and therefore accorded treaty benefits. For example, RICs, REITs and REMICs are all residents of the United States for purposes of the treaty. Although the income earned by these entities normally is not subject to U.S. tax in the hands of the entity, they are taxable to the extent that they do not currently distribute their profits, and therefore may be regarded as "liable to tax." They also must satisfy a number of requirements under the Code in order to be entitled to special tax treatment. 　　Subparagraph (a)(ii) provides that certain tax-exempt entities such as pension funds and charitable organizations will be regarded as U.S. residents regardless of whether they are generally liable for income tax in the United States. An entity will be described in this subparagraph if it is generally exempt from tax by reason of the fact that it is organized and operated exclusively to perform a charitable or similar purpose or to provide pension or similar benefits to employees. The reference to "similar benefits" is intended to encompass employee benefits such as health and disability benefits. 　　The inclusion of this provision is intended to clarify the generally accepted practice of treating an entity that would be liable for tax as a resident under the internal law of a state but for a specific exemption from tax (either complete or partial) as a resident of that state for purposes of paragraph 1. The reference to a general exemption is intended to reflect the fact that under U.S. law, certain organizations that generally are considered to be tax-exempt entities may be subject to certain excise taxes or to income tax on their unrelated business income. Thus, a U.S. pension trust, or an exempt section 501(c) organization (such as a U.S. charity) that is generally exempt from tax under U.S. law is considered a resident of the United States for all purposes of the treaty. 　　Subparagraph (b) identifies the basic criteria for a person to be a resident of South Africa for purposes of the Convention. Under this subparagraph, an individual who is ordinarily resident in South Africa and a legal person that is incorporated in South Africa, or that has its place of effective management there, are residents of South Africa. 　　Subparagraph (c) makes clear that a resident of a Contracting State also includes the Government of that state as well as any political subdivisions or local authorities of that State. 　　Subparagraph (d) addresses special issues presented by fiscally transparent entities such as partnerships and certain estates and trusts. In general, subparagraph (d) relates to entities that are not subject to tax at the entity level, as distinct from entities that are subject to tax, but with respect to which tax may be relieved under an integrated system. This subparagraph applies to any resident of a Contracting State who is entitled to income derived through an entity that is treated as fiscally transparent under the laws of either Contracting State. Entities falling under this description in the United States would include partnerships, common investment trusts under section 584 and grantor trusts. This paragraph also applies to U.S. limited liability companies ("LLC"s) that are treated as partnerships for U.S. tax purposes. 　　Subparagraph (d) provides that an item of income derived by such a fiscally transparent entity will be considered to be derived by a resident of a Contracting State if the resident is treated under the taxation laws of the State where he is resident as deriving the item of income. For example, if a South African corporation distributes a dividend to an entity that is treated as fiscally transparent for U.S. tax purposes, the dividend will be considered derived by a resident of the United States only to the extent that the taxation laws of the United States treat one or more U.S. residents (whose status as U.S. residents is determined, for this purpose, under U.S. tax laws) as deriving the dividend income for U.S. tax purposes. In the case of a partnership, the persons who are, under U.S. tax laws, treated as partners of the entity would normally be the persons whom the U.S. tax laws would treat as deriving the dividend income through the partnership. Thus, it also follows that persons whom the U.S. treats as partners but who are not U.S. residents for U.S. tax purposes may not claim a benefit for the dividend paid to the entity under the U.S.-South African Convention. Although these partners are treated as deriving the income for U.S. tax purposes, they are not residents of the United States for purposes of the treaty. If, however, they are treated as residents of a third country under the provisions of an income tax convention which that country has with South Africa, they may be entitled to claim a benefit under that convention. In contrast, if an entity is organized under U.S. laws and is classified as a corporation for U.S. tax purposes, dividends paid by a South African corporation to the U.S. entity will be considered derived by a resident of the United States since the U.S. corporation is treated under U.S. taxation laws as a resident of the United States and as deriving the income. 　　These results would obtain even if the entity were viewed differently under the tax laws of South Africa (e.g., as not fiscally transparent in the first example above where the entity is treated as a partnership for U.S. tax purposes or as fiscally transparent in the second example where the entity is viewed as not fiscally transparent for U.S. tax purposes). These results also follow regardless of where the entity is organized, i.e., in the United States, in South Africa, or in a third country. For example, income from South African sources received by an entity organized under the laws of South Africa, which is treated for U.S. tax purposes as a corporation and is owned by a U.S. shareholder who is a U.S. resident for U.S. tax purposes, is not considered derived by the shareholder of that corporation even if, under the tax laws of South Africa, the entity is treated as fiscally transparent. Rather, for purposes of the treaty, the income is treated as derived by the South African entity. These results also follow regardless of whether the entity is disregarded as a separate entity under the laws of one jurisdiction but not the other, such as a single owner entity that is viewed as a branch for U.S. tax purposes and as a corporation for South African tax purposes. 　　The taxation laws of a Contracting State may treat an item of income, profit or gain as income, profit or gain of a resident of that State even if, under the taxation laws of that State, the resident is not subject to tax on that particular item of income, profit or gain. For example, if a Contracting State has a participation exemption for certain foreign-source dividends and capital gains, such income or gains would be regarded as income or gain of a resident of that State who otherwise derived the income or gain, despite the fact that the resident could be exempt from tax in that State on the income or gain. 　　Where income is derived through an entity organized in a third state that has owners resident in one of the Contracting States, the characterization of the entity in that third state is irrelevant for purposes of determining whether the resident is entitled to treaty benefits with respect to income derived by the entity. 　　These principles also apply to trusts to the extent that they are fiscally transparent in either Contracting State. For example, if X, a resident of South Africa, creates a revocable trust and names persons resident in a third country as the beneficiaries of the trust, X would be treated as the beneficial owner of income derived from the United States under the Code's rules. If South Africa has no rules comparable to those in sections 671 through 679 then it is possible that under South African law neither X nor the trust would be taxed on the income derived from the United States. In these cases subparagraph (d) provides that the trust's income would be regarded as being derived by a resident of South Africa only to the extent that the laws of South Africa treat South African residents as deriving the income for tax purposes.