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 (1) GENERAL EFFECTIVE DATE UNDER ARTICLE 28: 1 JANUARY 1998 　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　　 INTRODUCTION 　　This document is a technical explanation of the Convention between the United States and South Africa which was signed on February 17, 1997 (the "Convention"). References in this Explanation to the "U.S. Model" are to the United States Model Income Tax Convention, published on September 30, 1996. References to the "OECD Model" are to the Model Tax Convention on Income and on Capital, published by the OECD in 1992, as subsequently amended. References to the "U.N. Model" are to the United Nations Model Double Taxation Convention between Developed and Developing Countries, published in 1980. 　　The Technical Explanation is an official guide to the Convention. It reflects the policies behind particular Convention provisions, as well as understandings reached with respect to the application and interpretation of the Convention. TABLE OF ARTICLES Article 1--------------------------------General Scope Article 2--------------------------------Taxes Covered Article 3--------------------------------General Definitions Article 4--------------------------------Residence Article 5--------------------------------Permanent Establishment Article 6--------------------------------Income from Immovable Property (Real Property) Article 7--------------------------------Business Profits Article 8--------------------------------Shipping and Air Transport Article 9--------------------------------Associated Enterprises Article 10-------------------------------Dividends Article 11-------------------------------Interest Article 12-------------------------------Royalties Article 13-------------------------------Capital Gains Article 14-------------------------------Independent Personal Services Article 15-------------------------------Dependent Personal Services Article 16 ------------------------------Directors' Fees Article 17-------------------------------Entertainers and Sportsmen Article 18-------------------------------Pensions and Annuities Article 19-------------------------------Government Service Article 20-------------------------------Students, Apprentices and Business Trainees Article 21-------------------------------Other Income Article 22-------------------------------Limitation on Benefits Article 23-------------------------------Elimination of Double Taxation Article 24-------------------------------Non-discrimination Article 25-------------------------------Mutual Agreement Procedure Article 26-------------------------------Exchange of Information and Administrative Assistance Article 27-------------------------------Diplomatic Agents and Consular Officers Article 28-------------------------------Entry into Force Article 29-------------------------------Termination 　　　　　　　　　　　　　TECHNICAL EXPLANATION 　　　　　　　　　　　　　　　　ARTICLE 1 　　　　　　　　　　　　　　　General Scope Paragraph 1 　　Paragraph 1 of Article 1 provides that the Convention applies to residents of the United States or South Africa, except where the terms of the Convention provide otherwise. Under Article 4 (Residence) a person is generally treated as a resident of a Contracting State under the circumstances set forth in paragraph 1 thereof. If, however, a person is considered a resident of both Contracting States, a single state of residence is assigned under Article 4. This definition governs for all purposes of the Convention. 　　Certain provisions are applicable to persons who may not be residents of either Contracting State. For example, Article 19 (Government Service) may apply to an employee of a Contracting State who is resident in neither State. Paragraph 1 of Article 24 (Non-discrimination) applies to nationals of the Contracting States. Under Article 26 (Exchange of Information and Administrative Assistance), information may be exchanged with respect to residents of third states. Paragraph 2 　　Paragraph 2 states the generally accepted relationship both between the Convention and domestic law and between the Convention and other agreements between the Contracting States (i.e., that no provision in the Convention may restrict any exclusion, exemption, deduction, credit or other benefit accorded by the tax laws of the Contracting States, or by any other agreement between the Contracting States). For example, if a deduction would be allowed under the U.S. Internal Revenue Code (the "Code") in computing the U.S. taxable income of a resident of South Africa, the deduction also is allowed to that person in computing taxable income under the Convention. Paragraph 2 also means that the Convention may not increase the tax burden on a resident of a Contracting States beyond the burden determined under domestic law. Thus, a right to tax given by the Convention cannot be exercised unless that right also exists under internal law. The relationship between the non-discrimination provisions of the Convention and other agreements is not addressed in paragraph 2 but in paragraph 3. 　　It follows that under the principle of paragraph 2 a taxpayer's liability to U.S. tax need not be determined under the Convention if the Code would produce a more favorable result. A taxpayer may not, however, choose among the provisions of the Code and the Convention in an inconsistent manner in order to minimize tax. For example, assume that a resident of South Africa has three separate businesses in the United States. One is a profitable permanent establishment and the other two are trades or businesses that would earn taxable income under the Code but that do not meet the permanent establishment threshold tests of the Convention. One is profitable and the other incurs a loss. Under the Convention, the income of the permanent establishment is taxable, and both the profit and loss of the other two businesses are ignored. Under the Code, all three would be subject to tax, but the loss would be offset against the profits of the two profitable ventures. The taxpayer may not invoke the Convention to exclude the profits of the profitable trade or business and invoke the Code to claim the loss of the loss trade or business against the profit of the permanent establishment. (See Rev. Rul. 84-17, 1984-1 C.B. 308.) If, however, the taxpayer invokes the Code for the taxation of all three ventures, he would not be precluded from invoking the Convention with respect, for example, to any dividend income he may receive from the United States that is not effectively connected with any of his business activities in the United States. 　　Similarly, nothing in the Convention can be used to deny any benefit granted by any other agreement between the United States and South Africa. For example, if certain benefits are provided for military personnel or military contractors under a Status of Forces Agreement between the United States and South Africa, those benefits or protections will be available to residents of the Contracting States regardless of any provisions to the contrary (or silence) in the Convention. Paragraph 3 　　Paragraph 3 specifically relates to non-discrimination obligations of the Contracting States under other agreements. The provisions of paragraph 3 are an exception to the rule provided in paragraph 2 of this Article under which the Convention shall not restrict in any manner any benefit now or hereafter accorded by any other agreement between the Contracting States. 　　Subparagraph (a) of paragraph 3 provides that, notwithstanding any other agreement to which the Contracting States may be parties, a dispute concerning whether a measure is within the scope of this Convention shall be considered only by the competent authorities of the Contracting States, and the procedures under this Convention exclusively shall apply to the dispute. Thus, procedures for dealing with disputes that may be incorporated into trade, investment, or other agreements between the Contracting States shall not apply for the purpose of determining the scope of the Convention. 　　Subparagraph (b) of paragraph 3 provides that, unless the competent authorities determine that a taxation measure is not within the scope of this Convention, the non- discrimination obligations of this Convention exclusively shall apply with respect to that measure, except for such national treatment or most-favored-nation ("MFN?) obligations as may apply to trade in goods under the General Agreement on Tariffs and Trade ("GATT"). No national treatment or MFN obligation under any other agreement shall apply with respect to that measure. Thus, unless the competent authorities agree otherwise, any national treatment and MFN obligations undertaken by the Contracting States under agreements other than the Convention shall not apply to a taxation measure, with the exception of GATT as applicable to trade in goods. 　　Subparagraph (c) of paragraph 3 defines a "measure" broadly. It would include, for example, a law, regulation, rule, procedure, decision, administrative action or guidance, or any other form of measure. Paragraph 4 　　Paragraph 4 contains the traditional saving clause found in all U.S. treaties. In this Convention, the saving clause applies unilaterally only to the United States, because South Africa elected not to have it apply for purposes of its tax. The United States reserves its rights under this paragraph, except as provided in paragraph 5, to tax its residents and citizens as provided in its internal law, notwithstanding any provisions of the Convention to the contrary. For example, if a resident of South Africa performs independent personal services in the United States and the income from the services is not attributable to a fixed base in the United States, Article 14 (Independent Personal Services) would normally prevent the United States from taxing the income. If, however, the resident of South Africa is also a citizen of the United States, the saving clause permits the United States to include the remuneration in the worldwide income of the citizen and subject it to tax under the normal Code rules (i.e., without regard to Code section 894(a)). For special foreign tax credit rules applicable to the U.S. taxation of certain U.S. income of its citizens resident in South Africa, see paragraph 2 of Article 23 (Elimination of Double Taxation). 　　For purposes of the saving clause, "residence" is determined under Article 4 (Residence). Thus, if an individual who is not a U.S. citizen is a resident of the United States under the Code, and is also a resident of South Africa under its law, and that individual has a permanent home available to him in South Africa and not in the United States, he would be treated as a resident of South Africa under Article 4 and for purposes of the saving clause. The United States would not be permitted to apply its statutory rules to that person if they are inconsistent with the treaty. Thus, an individual who is a U.S. resident under the Internal Revenue Code but who is deemed to be a resident of South Africa under the tie-breaker rules of Article 4 (Residence) would be subject to U.S. tax only to the extent permitted by the Convention. However, the person would be treated as a U.S. resident for U.S. tax purposes other than determining the individual's U.S. tax liability. For example, in determining under Code section 957 whether a foreign corporation is a controlled foreign corporation, shares in that corporation held by the individual would be considered to be held by a U.S. resident. As a result, other U.S. citizens or residents might be deemed to be United States shareholders of a controlled foreign corporation subject to current inclusion of Subpart F income recognized by the corporation. See Treas. Reg. section 301.7701(b)7 (a)(3). 　　Under paragraph 4 the United States also reserves its right to tax former citizens and long-term residents whose loss of citizenship or long-term residence had as one of its principal purposes the avoidance of tax. The United States treats an individual as having a principal purpose to avoid tax if (a) the average annual net income tax of such individual for the period of 5 taxable years ending before the date of the loss of status is greater than $100,000, or (b) the net worth of such individual as of such date is $500,000 or more. The United States defines "longterm resident" as an individual (other than a U.S. citizen) who is a lawful permanent resident of the United States in at least 8 of the prior 15 taxable years. An individual shall not be treated as a lawful permanent resident for any taxable year if such individual is treated as a resident of a foreign country under the provisions of a tax treaty between the United States and the foreign country and the individual does not waive the benefits of such treaty applicable to residents of the foreign country. In the United States, such a former citizen or long-term resident is taxable in accordance with the provisions of section 877 of the Code. Paragraph 5 　　Some provisions are intended to provide benefits to citizens and residents that do not exist under internal law. Paragraph 5 sets forth certain exceptions to the saving clause that preserve these benefits for citizens and residents of the United States. Subparagraph (a) lists certain provisions of the Convention that are applicable to all citizens and residents of the United States, despite the general saving clause rule of paragraph 4: 　　(1) Paragraph 2 of Article 9 (Associated Enterprises) grants the right to a correlative adjustment with respect to income tax due on profits reallocated under Article 9. 　　(2) Paragraphs 2, 4, 5, 6 and 7 of Article 18 (Pensions and Annuities) deal with social security benefits, alimony, child support payments, and crossborder pension contributions, respectively. The inclusion of paragraph 2 in the exceptions to the saving clause means that the grant of exclusive taxing right of social security benefits to the paying country applies to deny, for example, to the United States the right to tax its citizens and residents on social security benefits paid by South Africa. The inclusion of paragraph 4 means that alimony payments made by a resident of South Africa to a U.S. resident, which are not deductible in South Africa, will be exempt in both States, whether or not the payment may be taxable in the United States under the Code. The inclusion of paragraph 5, which exempts child support payments that are not dealt within paragraph 4 from taxation by both Contracting States, means that if a resident of South Africa pays child support to a citizen or resident of the United States, the United States may not tax the recipient. The inclusion of paragraph 6, which allows deductions for cross-border contributions to pension funds if certain conditions are met, means that if a U.S. resident is contributing to a South African pension fund, and the conditions specified in the paragraph are met, a deduction will be allowed to the resident in calculating his income for U.S. tax purposes for the contribution, even if that deduction would not be allowed under the Code. Finally, paragraph 7 provides a source rule for pensions. Its inclusion among the exceptions to the saving clause means that if the treaty rule provides a different result from the Code rule, the treaty rule will apply in determining the source of income under the treaty even with respect to a U.S.citizen or resident. 　　(3) Article 23 (Elimination of Double Taxation) confirms the benefit of a credit to U.S. citizens and residents for income taxes paid to South Africa. 　　(4) Article 24 (Non-discrimination) requires one Contracting State to grant national treatment to residents and citizens of the other Contracting State in certain circumstances. Excepting this Article from the saving clause requires, for example, that the United States give such benefits to a resident or citizen of South Africa even if that person is a citizen of the United States. 　　(5) Article 25 (Mutual Agreement Procedure) may confer benefits on citizens and residents of the Contracting States. For example, the statute of limitations may be waived for refunds and the competent authorities are permitted to use a definition of a term that differs from the internal law definition. As with the foreign tax credit, these benefits are intended to be granted by a Contracting State to its citizens and residents. 　　Subparagraph (b) of paragraph 5 provides a different set of exceptions to the saving clause. The benefits referred to are all intended to be granted to temporary U.S. residents (e.g., holders of non-immigrant visas), but not to citizens or to persons who have acquired permanent residence in that State. If beneficiaries of these provisions travel from one of the Contracting States to the other, and remain in the other long enough to become residents under its internal law, but do not acquire permanent residence status (e.g., holders of non-immigrant U.S. visas) and are not citizens of the United States, the United States will continue to grant these benefits even if they conflict with the statutory rules. The benefits preserved by this paragraph are the U.S. exemptions for the following items of income: government service salaries and pensions under Article 19 (Government Service); certain income of visiting students and trainees under Article 20 (Students, Apprentices and Business Trainees); and the income of diplomatic agents and consular officers under Article 27 (Diplomatic Agents and Consular Officers). 　　　　　　　　　　　　　ARTICLE 2 　　　　　　　　　　　　Taxes Covered 　　This Article specifies the U.S. taxes and the taxes of South Africa to which the Convention applies. Unlike Article 2 in the OECD Model, this Article does not contain a general description of the types of taxes that are covered (i.e., income taxes), but only a listing of the specific taxes covered for both of the Contracting States. With two exceptions, the taxes specified in Article 2 are the covered taxes for all purposes of the Convention. A broader coverage applies, however, for purposes of Articles 24 (Non-discrimination) and 26 (Exchange of Information and Administrative Assistance). Article 24 (Non-discrimination) applies with respect to all taxes, including those imposed by state and local governments. Article 26 (Exchange of Information and Administrative Assistance) applies with respect to all taxes administered by the competent authorities, excluding customs duties. Paragraph 1 　　Paragraph 1 identifies the covered taxes of the two Contracting States for all purposes of the Convention except for Articles 24 (Non-discrimination) and 26 (Exchange of Information and Administrative Assistance). 　　Subparagraph 1(a) provides that the United States covered taxes are the Federal income taxes imposed by the Code, together with the excise taxes imposed with respect to private foundations (Code sections 4940 through 4948). Although they may be regarded as income taxes, social security taxes (Code sections 1401, 3101, 3111 and 3301) are specifically excluded from coverage. It is expected that social security taxes will be dealt within bilateral Social Security Totalization Agreements, which are negotiated and administered by the Social Security Administration. Except with respect to Article 24 (Non-discrimination), state and local taxes in the United States are not covered by the Convention. Each U.S. covered tax is referred to in the Convention as a "United States tax". 　　In this Convention, the Accumulated Earnings Tax and the Personal Holding Companies Tax are covered taxes because they are income taxes and they are not otherwise excluded from coverage. Under the Code, these taxes will not apply to most foreign corporations because of a statutory exclusion or the corporation's failure to meet a statutory requirement. In the few cases where the taxes may apply to a foreign corporation, the tax due is likely to be insignificant. Treaty coverage therefore confers little if any benefit on such corporations. 　　Subparagraph 1(b) specifies the existing taxes of South Africa that are covered by the Convention. They are the normal tax and the secondary tax on companies. Each is referred to in the Convention as a "South African tax." Paragraph 2 　　Under paragraph 2, the Convention will apply to any taxes that are identical, or substantially similar, to those enumerated in paragraph 1, and which are imposed in addition to, or in place of, the existing taxes after the date of signature of the Convention. The paragraph also provides that the competent authorities of the Contracting States will notify each other of significant changes in their taxation laws or of other laws that affect their obligations under the Convention. The use of the term "significant" means that changes must be reported that are of significance to the operation of the Convention. Other laws that may affect a Contracting State's obligations under the Convention may include, for example, laws affecting bank secrecy. 　　The competent authorities are also obligated to notify each other of official published materials concerning the application of the Convention. This requirement encompasses materials such as technical explanations, regulations, rulings and judicial decisions relating to the Convention.