Consider the following for guidance only. It is not an official document.
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UNITED STATES-HUNGARY INCOME TAX CONVENTION [FN1]


November 28, 1979


Convention signed at Washington February 12, 1979;


Ratification advised by the Senate of the United States of America July 9, 1979;


Ratified by the President of the United States of America August 7, 1979;


Notes exchanged at Budapest September 18, 1979;


Proclaimed by the President of the United States of America November 28, 1979;


Entered into force September 18, 1979.


BY THE PRESIDENT OF THE UNITED STATES OF AMERICA


A PROCLAMATION


CONSIDERING THAT: The Convention between the Government of the United States of America and the Government of the Hungarian People's Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income was signed at Washington on February 12, 1979, together with a related exchange of notes,the texts of which are hereto annexed; The Senate of the United States of America by its resolution of July 9, 1979, two-thirds of the Senators present concurring therein, gave its advice and consent to ratification of the Convention and related exchange of notes; The Convention and related exchange of notes were ratified by the President of the United States of America on August 7, 1979,in pursuance of the advice and consent of the Senate, and was approved on the part of the Hungarian People's Republic; The parties notified one another at Budapest on September 18,1979, that their respective constitutional requirements had been met, and accordingly the Convention, with related exchange of notes, entered into force on September 18, 1979, effective as specified in Article 25;

NOW, THEREFORE, I, Jimmy Carter, President of the United States of America, proclaim and make public the Convention with related exchange of notes, to the end that they be observed and fulfilled with good faith on and after September 18, 1979, by the United States of America and by the citizens of the United States of America and all other persons subject to the jurisdiction thereof.

IN TESTIMONY WHEREOF, I have signed this proclamation and caused the Seal of the United States of America to be affixed. DONE at the city of Washington this twenty-eighth day of November in the year of our Lord one thousand nine hundred seventy-nine and of the Independence of the United States of America the two hundred fourth. JIMMY CARTER By the President: CYRUS VANCE Secretary of State


CONVENTION BETWEEN THE GOVERNMENT OF THE UNITED STATED OF AMERICA AND THE GOVERNMENT OF THE HUNGARIAN PEOPLE'S REPUBLIC FOR THE AVOIDANCE OF DOUBLE TAXATION AND THE PREVENTION OF FISCAL EVASION WITH RESPECT TO TAXES ON INCOME


The Government of the United States of America and the Government of the Hungarian People's Republic, desiring to further expand and facilitate mutual economic relations, have resolved to conclude a convention for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income, and have agreed as follows:


Article 1

PERSONAL SCOPE


1. This Convention shall apply to persons who are residents of one or both of the Contracting States, except as otherwise provided in this convention.

2. Notwithstanding any provision of this Convention except paragraph 3 of this Article, a Contracting State may tax its residents (as determined under Article 4 (Fiscal Domicile)) and citizens (including, in the case of the United States, former citizens) as if this Convention had not come into effect.

3. The provisions of paragraph 2 shall not affect: (a) The benefits conferred by a Contracting State under paragraph 2 of Article 15 (Pensions), Articles 20 (Relief from Double Taxation),21 (Non- discrimination), and 22 (Mutual Agreement Procedure);and (b) The benefits conferred by a Contracting State under Articles 16 (Government Service), 17 (Teachers), 18 (Students and Trainees) and 24 (Effect of Convention on Diplomatic and Consular Officials, Domestic Laws, and Other Treaties), upon individuals who are neither citizens of, nor have immigrant status in, that State.


Article 2

TAXES COVERED


1. This Convention shall apply to taxes on income imposed on behalf of each Contracting State.

2. The existing taxes to which this Convention shall apply are: (a) In the case of the United States, the Federal income taxes imposed by the Internal Revenue Code and the excise taxes imposed on insurance premiums paid to foreign insurers and with respect to private foundations, but excluding the accumulated earnings tax and the personal holding company tax. (b) In the case of the Hungarian People's Republic: (i) The general income tax. (ii) The income tax on intellectual activities, (iii) The profit tax, (iv) The profit tax on economic associations with foreign participation, $DPA3(v) The enterprises special tax, (vi) The levy on dividends and profit distributions of commercial companies, (vii) The profit tax on state-owned enterprises, and (viii) The contribution to communal development, but only to the extent imposed in respect of income taxes covered by this Convention.

3. The Convention shall apply also to any identical or substantially similar taxes which are imposed by a Contracting State after the date of signature of this Convention in addition to, or in place of, the existing taxes. The competent authorities of the Contracting States shall notify each other of any changes which have been made in their respective taxation laws and shall notify each other of any official published material concerning the application of this Convention, including explanations, regulations, rulings, or judicial decisions.

4. For the purpose of Article 21 (Non-discrimination), this Convention shall also apply to taxes of every kind and description imposed by a Contracting State or a political subdivision or local authority thereof. For the purpose of Article 23 (Exchange of Information), this Convention shall also apply to taxes of every kind imposed by a Contracting State.


Article 3

GENERAL DEFINITIONS


1. In this Convention, unless the context otherwise requires:(a) The term 'person' includes an individual, a partnership, a company or juridical person, an estate, a trust, and any other body of persons; (b) The term 'company' means any body corporate or any entity which is treated as a body corporate for tax purposes; (c) The terms 'enterprise of a Contracting State's and 'enterprise of the other Contracting State's means respectively an enterprise carried on by a resident of a Contracting State and an enterprise carried on by a resident of the other Contracting State; (d) The term 'nationals' means: (i) All individuals possessing the citizenship of a Contracting State, and (ii) All legal persons, partnerships and associations deriving their status as such from the law in force in a Contracting State; (e) The terms 'international traffic' means any transport by a ship or aircraft, except where such transport is solely between places in the other Contracting State; (f) The term 'competent authority' means: (i) In the case of the United States, the Secretary of the Treasury or his delegate, and (ii) In the case of the Hungarian People's Republic, the Minister of Finance or his delegate; (g) (i) The term 'United States' means the United States of America, and (ii) When used in a geographical sense,the term 'United States' does not include Puerto Rico, the Virgin Islands, Guam, or any other United States possession or territory; and (h) The term 'Hungarian People's Republic', when used in a geographical sense, means the territory of the Hungarian People's Republic.

2. As regards the application of this Convention by a Contracting State any term not otherwise defined shall, unless the context otherwise requires and subject to the provisions of Article 22 (Mutual Agreement Procedure), have the meaning which it has under the laws of that Contracting State relating to the taxes which are the subject of this Convention.


Article 4

FISCAL DOMICILE


1. For purposes of this Convention, the term 'resident of a Contracting State's means any person who, under the law of that State, is liable to taxation therein by reason of his domicile, residence, citizenship, place of management, place of incorporation, or any other criterion of a similar nature, provided, however, that: (a) This term does not include any person who is liable to tax in that Contracting State in respect only of income from sources therein or capital situated in that State; and (b) In the case of income derived or paid by a partnership, estate, or trust, this term applies only to the extent that the income derived by such partnership, estate, or trust is subject to tax as the income of a resident of the Contracting State, either in its hands or in the hands of its partners or beneficiaries.

2. Where by reason of the provisions of paragraph 1 an individual is a resident of both Contracting States, then the individual's tax status shall be determined as follows: (a) The individual shall be deemed to be a resident of the Contracting State in which the individual has a permanent home available to him. If the individual has a permanent home available to him in both Contracting States or in neither Contracting State, the individual shall be deemed to be a resident of the Contracting State in which the individual's center of vital interests is located; (b) If the Contracting State in which the individual's center of vital interests is located cannot be determined, the individual shall be deemed to be resident of that Contracting State in which the individual has an habitual abode; (c) If the individual has an habitual abode in both Contracting States or in neither of them, the individual shall be deemed to be a resident of the Contracting State of which the individual is a national; and (d) If the individual is a national of both Contracting States or of neither of them, the competent authorities of the Contracting States shall settle the question by mutual agreement.

3. Where by reason of the provisions of paragraph 1 a company is a resident of both Contracting States, then if it is created or organized under the laws of a Contracting State or a political subdivision thereof, it shall be treated as a resident of that State.

4. Where by reason of the provisions of paragraph 1 a person other than an individual or a company is a resident of both Contracting States, the competent authorities of the Contracting States shall by mutual agreement endeavor to settle the question and to determine the mode of application of the Convention to such person.

5. For purposes of this Convention, an individual who is a national of a Contracting State shall also be deemed to be a resident of that State if (a) the individual is an employee of that State or an instrumentality thereof in the other Contracting State or in a third State; (b) the individual is engaged in the performance of governmental functions for the first-mentioned State; and (c) the individual is subjected in the first-mentioned State to the same obligations in respect of taxes on income as are residents of the first mentioned State. The spouse and minor children residing with the employee and subject to the requirements of (c) above shall also be deemed to be residents of the first-mentioned State.


Article 5

PERMANENT ESTABLISHMENT


1. For the purposes of this Convention, the term 'permanent establishment' means a fixed place of business or production through which the activities of an enterprise are wholly or partially carried on.

2. The term 'permanent establishment' shall include especially: (a) A place of management; (b) A branch; (c) An office; (d) A factory; (e) A workshop; and (f) A mine, an oil or gas well, a quarry, or any other place of extraction of natural resources.

3. A building site or construction or installation project, or an installation or drilling rig or ship used for the exploration of development of natural resources, shall constitute a permanent establishment only if it lasts more than 24 months.

4. Notwithstanding the preceding provisions of this Article,the term 'permanent establishment' shall be deemed not to include: (a) The use of facilities solely for the purpose of storage, display or delivery of goods or merchandise belonging to the enterprise; (b) The maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of storage, display or delivery; (c) The maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise; (d) The maintenance of a fixed place of business solely for the purpose of purchasing goods or merchandise, or for collecting information, for the enterprise; (e) The maintenance of a fixed place of business solely for the purpose of carrying on for the enterprise any other activity if it has a preparatory or auxiliary character; and (f) The maintenance of a fixed place of business solely for any combination of the activities mentioned in subparagraphs a)to e) of this paragraph.

5. Notwithstanding the provisions of paragraphs 1 and 2, where a person-- other than an agent of an independent status to whom paragraph 6 applies--is acting on behalf of an enterprise and has, and habitually exercises in a Contracting State, an authority to conclude contracts in the name of such enterprise, that enterprise shall be deemed to have a permanent establishment in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to those mentioned in paragraph 4 which, if exercised at a fixed place of business, would not make this place of business a permanent establishment under the provisions of that paragraph.

6. An enterprise shall not be deemed to have a permanent establishment in a Contracting State merely because it carries on business in that State through a broker, general commission agent or any other agent of an independent status, provided that such persons are acting in the ordinary course of their business.

7. The fact that a company which is a resident of a Contracting State controls or is controlled by a company which is a resident of the other Contracting State, or which carries on business in that other State (whether through a permanent establishment or otherwise), shall not of itself constitute either company a permanent establishment of the other.


Article 6

INCOME FROM IMMOVABLE PROPERTY (REAL PROPERTY)


1. Income derived by a resident of a Contracting State from immovable property (real property) situated in the other Contracting State may be taxed in that other State.

2. The term 'immovable property' shall have the meaning which it has under the law of the Contracting State in which the property in question is situated. The term shall in any case include property accessory to immovable property, livestock and equipment used in agriculture and forestry, rights to which the provisions of general law respecting land property apply, usufruct of immovable property and rights to variable or fixed payments as consideration for the working of, or the right to work, mineral deposits, sources and other natural resources; ships, boats and aircraft shall not be regarded as immovable property.

3. The provisions of paragraph 1 shall apply to income derived from the direct use, letting, or use in any other form of immovable property.

4. The provisions of paragraphs 1 and 3 shall also apply to the income from immovable property of an enterprise and to income from immovable property used for the performance of independent personal services.


Article 7

BUSINESS PROFITS


1. The business profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the business profits of the enterprise may be taxed in that other State but only so much of them as is attributable to that permanent establishment.

2. Subject to the provisions of paragraph 3, where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the business profits which it might be expected to make if it were a distinct and independent enterprise engaged in the same or similar activities under the same or similar conditions.

3. In the determination of the business profits of a permanent establishment, there shall be allowed as deductions those expenses which are incurred for the purposes of the permanent establishment, including a reasonable allocation of executive and general administrative expenses, research and development expenses, interest, and other expenses incurred for the purposes of the enterprise as a whole (or the part thereof which includes the permanent establishment), whether incurred in the State in which the permanent establishment is situated or elsewhere.

4. No business profits shall be attributed to a permanent establishment by reason of: (a) The mere purchase by that permanent establishment of goods or merchandise for the enterprise, or (b) The mere delivery to the permanent establishment of goods or merchandise for its use.

5. Where business profits include items of income which are dealt with separately in other Articles of this Convention, then the provisions of those Articles shall not be affected by the provisions of this Article.


Article 8

SHIPPING AND AIR TRANSPORT


1. Profits of an enterprise of a Contracting State from the operation in international traffic of ships or aircraft shall be taxable only in that State.

2. For purposes of this Article, profits from the operation of ships or aircraft in international traffic include profits derived from the rental on a full or bareboat basis of ships or aircraft operated in international traffic if such rental profits are incidental to other profits described in paragraph 1.

3. Profits of an enterprise of a Contracting State from the use, maintenance or rental of containers (including trailers and related equipment for the transport of containers) used for the transport of goods or merchandise in international traffic shall be taxable only in that State.

4. The provisions of this Article shall also apply where the enterprise has an agency in the other State for the transportation of goods or persons, but only to the extent of activities directly connected with the business of shipping and aircraft transportation, including auxiliary activities connected therewith.


Article 9

DIVIDENDS


1. Dividends paid by a company which is a resident of a Contracting State to a resident of the other Contracting State may be taxed in that other State.

2. However, such dividends may be taxed in the Contracting State of which the company paying the dividends is a resident,and according to the law of that State, but if the beneficial owner of the dividends is a resident of the other Contracting State, the tax so charged shall not exceed: (a) Five percent of the gross amount of the dividends if the beneficial owner is a company which owns, directly or indirectly, at least 10 percent of the voting stock of the company paying the dividends; (b) In all other cases, 15 percent of the gross amount of the dividends. This paragraph shall not affect the taxation of the company in respect of the profits out of which the dividends are paid.

3. The term 'dividends' as used in this Article means income from shares or other rights, not being debt-claims, participating in profits, as well as income from other corporate rights which is subjected to the same taxation treatment as income from shares by the taxation law of the State of which the company making the distribution is a resident.

4. The provisions of paragraphs 1 and 2 shall not apply if the recipient of the dividends, being a resident of a Contracting State, carries on business in the other Contracting State, of which the company paying the dividends is a resident, through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the holding in respect of which the dividends are paid is effectively connected with such permanent establishment or fixed base. In such case, the provisions of Article 7 (Business Profits) or Article 13 (Independent Personal Services), as the case may be, shall apply.

5. Where a company is a resident of a Contracting State, the other Contracting State may not impose any tax on the dividends paid by the company, except insofar as: (a) Such dividends are paid to a resident of that other State, (b) The holding in respect of which the dividends are paid is effectively connected with a permanent establishment or a fixed base situated in that other State, or (c) Such dividends are paid out of profits attributable to a permanent establishment which such company had in that other State, provided that at least 50 percent of such company's gross income from all sources was attributable to a permanent establishment which such company had in that other State. Where subparagraph (c) applies and subparagraphs (a) and (b) do not apply, any such tax shall be subject to the limitations of paragraph 2.


Article 10

INTEREST


1. Interest arising in a Contracting State and paid to a resident of the other Contracting State shall be taxable only in that other State.

2. The term 'interest' as used in this Convention means income from debt- claims of every kind, whether or not secured by mortgage, and whether or not carrying a right to participate in the debtor's profits, and in particular, income from government securities and income from bonds or debentures, including premiums or prizes attaching to bonds or debentures.

3. The provisions of paragraph 1 shall not apply if the person deriving the interest, being a resident of a Contracting State, carries on business in the other Contracting State through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the debt claim in respect of which the interest is paid is effectively connected with such permanent establishment or fixed base. In such a case, the provisions of Article 7 (Business Profits) or Article 13 (Independent Personal Services), as the case may be, shall apply.


Article 11

ROYALTIES


1. Royalties arising in a Contracting State and paid to a resident of the other Contracting State shall be taxable only in that other State.

2. The term 'royalties' as used in this Article means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work, including cinematographic films or films or tapes used for radio or television broadcasting, any patent, trade mark, design or model, plan, secret formula or process, or other like right or property, or for information concerning industrial, commercial or scientific experience.

3. The provisions of paragraph 1 shall not apply if the person deriving the royalties, being a resident of a Contracting State, carries on business in the other Contracting State in which the royalties arise through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the right or property in respect of which the royalties are paid is effectively connected with such permanent establishment or fixed base. In such a case the provisions of Article 7 (Business Profits) or Article 13 (Independent Personal Services), as the case may be, shall apply.


Article 12

CAPITAL GAINS


1. Gains derived by a resident of a Contracting State from the alienation of immovable property, as defined in paragraph 2 of Article 6 (Immovable Property), situated in the other Contracting State may be taxed in that other State.

2. Gains from the alienation of movable property forming part of the business property of a permanent establishment which an enterprise of a Contracting State has in the other Contracting State or of movable property pertaining to a fixed base available to a resident of a Contracting State in the other Contracting State for the purpose of performing independent personal services, including such gains from the alienation of such a permanent establishment (alone or together with the whole enterprise) or of such a fixed base, may be taxed in the other State. However, gains derived by an enterprise of a Contracting State from the alienation of ships, aircraft or containers operated by such enterprise in international traffic shall be taxable only in that State.

3. Gains from the alienation of any property other than those mentioned in paragraphs 1 and 2, shall be taxable only in the Contracting State of which the alienator is a resident.


Article 13

INDEPENDENT PERSONAL SERVICES


1. Income derived by an individual who is a resident of a Contracting State from the performance of personal services in an independent capacity shall be taxable only in that State unless such services are performed in the other Contracting State and--(a) The individual is present in that other State for a period or periods aggregating more than 183 days in the taxable year concerned, or (b) The individual has a fixed base regularly available to him in that other State for the purpose of performing his activities, but only so much of the income as is attributable to that fixed base.

2. The term 'personal services' includes, especially, independent scientific, literary, artistic, educational or teaching activities as well as the independent activities of physicians, lawyers, engineers, architects, dentists, artistes, athletes and accountants.


Article 14

DEPENDENT PERSONAL SERVICES


1. Subject to the provisions of Article 15 (Pensions) and 16 (Government Service), salaries, wages and other similar remuneration derived by a resident of a Contracting State in respect of an employment shall be taxable only in that State unless the employment is exercised in the other Contracting State. If the employment is so exercised, such remuneration as is derived therefrom may be taxed in that other State.

2. Notwithstanding the provisions of paragraph 1, remuneration derived by a resident of a Contracting State in respect of an employment exercised in the other Contracting State shall be taxable only in the first-mentioned State if: (a) The recipient is present in the other State for a period or periods not exceeding in the aggregate 183 days in the taxable year concerned, and (b) The remuneration is paid by, or on behalf of,an employer who is not a resident of the other State, and (c) The remuneration is not borne by a permanent establishment or a fixed base which the employer has in the other State.

3. Notwithstanding the preceding provisions of this Article, remuneration in respect of an employment as a member of the regular complement of a ship or aircraft operated by an enterprise of a Contracting State in international traffic may be taxed only in that Contracting State.


Article 15

PENSIONS


Subject to the provisions of paragraph 2 of Article 16 (Government Services),

1. Pensions and other similar remuneration beneficially derived by a resident of a Contracting State in consideration of past employment shall be taxable only in that State, and

2. Social security payments and other public pensions paid by a Contracting State to an individual who is a resident of the other Contracting State or a citizen of the United States shall be taxable only in the first-mentioned Contracting State.


Article 16


GOVERNMENT SERVICES


1(a) Remuneration other than a pension, paid by a Contracting State or a political subdivision or a local authority thereof to any individual in respect of services rendered to that State o r subdivision or local authority thereof shall be taxable only in that State. (b) However, such remuneration shall be taxable only in the other Contracting State if the services are rendered in that State and the recipient is a resident of that other Contracting State who: (i) Is a national of that State; or (ii) Did not become a resident of that State solely for the purpose of performing the services.

2(a) Any person paid by, or out of funds created by, a Contracting State or a political subdivision or a local authority thereof to any individual in respect of services rendered to that State or subdivision or local authority thereof shall be taxable only in that State.
(b) However, such pension shall be taxable only in the other Contracting State if the recipient is a national of and a resident of that State.

3. The provisions of Article 13 (Independent Personal Services), 14 (Dependent Personal Services), and 15 (Pensions), as the case may be, shall apply to remuneration and pensions in respect of services rendered in connection with any business carried on by a Contracting State or a political subdivision or a local authority thereof.


Article 17

TEACHERS


1. Where a resident of one of the Contracting States is invited by the Government of the other Contracting State, a political subdivision or a local authority thereof, or by a university or other recognized educational institution in that other Contracting State to come to that other Contracting State for a period not expected to exceed 2 years for the purpose of teaching or engaging in research, or both, at a university or other recognized educational institution, and such resident comes to that other Contracting State primarily for such purpose, his income from personal services for teaching or research at such university or educational institution shall be exempt from tax by that other Contracting State for a period not exceeding 2 years from the date of his arrival in that other Contracting State.

2. This Article shall not apply to income from research if such research is undertaken not in the public interest but primarily for the private benefit of a specific person or persons.


Article 18

STUDENTS AND TRAINEES


1. Payments which a student, apprentice or business trainee who is, or was immediately before visiting a Contracting State, a resident of the other Contracting State and who is present in the first-mentioned Contracting State for the purpose of his full-time education or training receives for the purposes of his maintenance, education or training shall not be taxed in that State provided that such payments are made to him from sources outside that State.

2. An individual to whom paragraph 1 applies may elect to be treated for tax purposes as a resident of the first-mentioned State. The election shall apply to all periods during the taxable year of the election and subsequent taxable years during which the individual qualifies under paragraph 1, and may not be revoked except with the consent of the competent authority of that State.


Article 19

ALL OTHER INCOME


Items of income of a resident of a Contracting State, wherever arising, not dealt with in the foregoing Articles of this Convention shall be taxable only in that State.


Article 20

RELIEF FROM DOUBLE TAXATION


1. In the case of the United States, double taxation shall be avoided as follows: In accordance with the provisions and subject to the limitations of the law of the United States (as it may be amended from time to time without changing the general principle hereof), the United States shall allow to a resident or citizen of the United States as a credit against the United States tax on income the appropriate amount of tax paid to the Hungarian People's Republic; and, in the case of a United States company owning at least 10 percent of the voting stock of a company which is a resident of the Hungarian People's Republic from which it receives dividends in any taxable year, the United States shall allow as a credit against the United States tax on income the appropriate amount of income tax paid to the Hungarian People's Republic by that company with respect to the profits out of which such dividends are paid. Such appropriate amount shall be based upon the amount of income tax paid to the Hungarian People's Republic, but the credit shall not exceed the limitations (for the purpose of limiting the credit to the United States tax on income from sources outside of the United States) provided by United States law for the taxable year. For purposes of applying the United States credit in relation to tax paid to the Hungarian People's Republic, the taxes referred to in paragraphs 2(b) and 3 of Article 2 (Taxes Covered) shall be considered to be income taxes.

2. In the case of the Hungarian People's Republic, double taxation shall be avoided as follows: (a) Where a resident of the Hungarian People's Republic: (i) Derives income which, in accordance with the provisions of this Convention other than paragraph 2 of Article 1 (Personal Scope), may be taxed in the United States, or (ii) Derives income from sources within the United States which may be taxed only by reason of paragraph 2 of Article 1 (Personal Scope), the Hungarian People's Republic shall, subject to the provisions of subparagraphs (b) and (c),exempt such income from tax. (b) Where a resident of the Hungarian People's Republic derives items of income which, in accordance with the provisions of paragraph 2 of Article 9, maybe taxed in the United States, the Hungarian People's Republic shall allow as a deduction from the tax on the income of that resident an amount equal to the tax paid in the United States. Such deduction shall not, however, exceed that part of the tax, as computed before the deduction is given, which is attributable to such items of income derived from the United States. (c) Where in accordance with any provision of the Convention income derived by a resident of the Hungarian People's Republic is exempt from tax in the Hungarian People's Republic, the Hungarian People's Republic may nevertheless, in calculating the amount of tax on the remaining income of such resident, take into account the exempted income.


Article 21

NON-DISCRIMINATION


1. The nationals of a Contracting State, whether or not they are residents of one of the Contracting States, shall not be subjected in the other State to any taxation or any requirement connected therewith, which is more burdensome than the taxation and connected requirements to which nationals of that other State in the same circumstances are or may be subjected. For purposes of the preceding sentence, nationals who are subject to tax by a Contracting State on world-wide income are not in the same circumstances as nationals who are not so subject.

2. The taxation on a permanent establishment which an enterprise of a Contracting State has in the other Contracting State shall not be less favorably levied in that other State than the taxation levied on enterprises of that other State carrying on the same activities. This Article shall not be construed as obliging a Contracting State to grant to residents of the other Contracting State any personal allowances, reliefs and reductions for taxation purposes on account of civil status or family responsibilities which it grants to its own residents.

3. Interest, royalties and other disbursements paid by an enterprise of a Contracting State to a resident of the other Contracting State shall, for the purpose of determining the taxable profits of such enterprise, be deductible under the same conditions as if they had been paid to a resident of the first-mentioned State. Similarly, any debts of an enterprise of a Contracting State to a resident of the other Contracting State shall, for the purpose of determining the taxable capital of such enterprise, be deductible under the same conditions as if they had been contracted to a resident of the first-mentioned State.

4. Enterprises of a Contracting State, the capital of which is wholly or partly owned or controlled, directly or indirectly by one or more residents of the other Contracting State, shall not be subjected in the first-mentioned Contracting State to any taxation or any requirement connected there with which is more burdensome than the taxation and connected requirements to which other similar enterprises of the first-mentioned State are or may be subjected.

5. In this Article the term 'taxation' means taxes of every kind and description imposed by a Contracting State or a political subdivision or local authority thereof.


Article 22

MUTUAL AGREEMENT PROCEDURE


1. Where a resident or national of a Contracting State considers that the actions of one or both of the Contracting States result or will result for it in taxation not in accordance with this Convention, it may, notwithstanding the remedies provided by the national laws of those States, present its case to the competent authority of the Contracting State of which it is a resident or national.

2. The competent authority shall endeavor, if the objection appears to it to be justified and if it is not itself able to arrive at an appropriate solution, to resolve the case by mutual agreement with the competent authority of the other Contracting State with a view to the avoidance of taxation not in accordance with the Convention. Any agreement reached shall be implemented notwithstanding any time limits in the national laws of the Contracting States.

3. The competent authorities of the Contracting States shall endeavor to resolve by mutual agreement any difficulties or doubts arising as to the interpretation or application of the Convention. They may also consult together for the elimination of double taxation in cases not provided for in the Convention.

4. The competent authorities of the Contracting States may communicate with each other directly for the purpose of reaching an agreement in the sense of the preceding paragraphs.

5. The competent authorities of the Contracting States may prescribe regulations to carry out the purposes of this Convention.


Article 23

EXCHANGE OF INFORMATION


1. The competent authorities of the Contracting States shall exchange such information as is necessary for the carrying out of this Convention or of the domestic laws of the Contracting States concerning taxes covered by this Convention insofar as the taxation thereunder is not contrary to this Convention. The exchange of information is not restricted by Article 1 (Personal Scope). Any information received by a Contracting State shall be treated as secret in the same manner as information obtained under the domestic laws of that State and shall be disclosed only to persons or authorities (including courts and administrative bodies) involved in the assessment or collection of, the enforcement or prosecution in respect of, or the determination of appeals in relation to, the taxes which are the subject of the Convention. Such persons or authorities shall use the information only for such purposes. These persons or authorities may disclose the information in public court proceedings or in judicial decisions.

2. In no case shall the provisions of paragraph 1 be construed so as to impose on one of the Contracting States the obligation:(a) To carry out administrative measures at variance with the laws and administrative practice of that or of the other Contracting State; (b) To supply particulars which are not obtainable under the laws or in the normal course of the administration of that or of the other Contracting State; (c) To supply information which would disclose any trade, business, industrial, commercial or professional secret or trade process, or information, the disclosure of which would be contrary to public policy (order public).

3. If information is requested by a Contracting State in accordance with this Article, the other Contracting State shall obtain the information to which the request relates in the same manner and to the same extent as if the tax of the first-mentioned State were the tax of that other State and were being imposed by that other State. If specifically requested by the competent authority of a Contracting State, the competent authority of the other Contracting State shall provide information under this Article in the form of depositions of witnesses and copies of unedited original documents (including books, documents, statements, records, accounts, or writings), to the same extent such depositions and documents can be obtained under the laws and administrative practices of such other State with respect to its own taxes.


Article 24

EFFECT OF CONVENTION ON DIPLOMATIC AND CONSULAR OFFICIALS, DOMESTIC LAWS, AND OTHER TREATIES


1. Nothing in this Convention shall affect the taxation privileges of diplomatic or consular officials under the general rules of international law or under the provisions of special agreements.

2. This Convention shall not restrict in any manner any exclusion, exemption, deduction, credit, or other allowance now or hereafter accorded-- (a) By the laws of either Contracting State, or (b) By any other agreement between the Contracting States.


Article 25

ENTRY INTO FORCE


1. This Convention shall be subject to ratification or approval in accordance with the applicable procedures of the Governments of the Contracting States and it shall enter into force as soon as the parties have notified one another that their respective constitutional requirements have been met.

2. The provisions of this Convention shall have effect: (a) In respect of tax withheld at the source, to amounts paid o r credited on or after the first day of the second month next following the date on which this Convention enters into force,(b) In respect of other taxes, to taxable periods beginning on or after the first day of January next following the date on which this Convention enters into force.


Article 26

TERMINATION


This Convention shall remain in force until terminated by the Government of one of the Contracting States. The Government of either Contracting State may terminate the Convention at any time after 5 years from the date on which this Convention enters into force provided that at least 6 months' prior notice of termination has been given through diplomatic channels. In such event, the Convention shall cease to have effect:

1. In respect of tax withheld at the source, to amounts paid or credited on or after the first day of January next following the expiration of the 6 months' period;

2. In respect of other taxes, to taxable periods beginning on or after the first day of January next following the expiration of the 6 months' period.

Done at Washington in duplicate, both in the English and Hungarian languages, the two texts having equal authenticity, this 12th day of February 1979. W. MICHAEL BLUMENTHAL, Secretary of the Treasury. For the Government of the Hungarian People's Republic: LAJOS FALUVEGI, Minister of Finance.


FEBRUARY 12, 1979.


His Excellency W. MICHAEL BLUMENTHAL,

Secretary of the Treasury, United States of America.

EXCELLENCY: In connection with the Income Tax Convention signed today, I should like to state our understanding of the agreement reached by the delegations of the United States of America and of the Hungarian People's Republic concerning the application of certain provisions of the Convention:

1. In connection with Article 9, subparagraph 5(c), it is understood that Hungary will not impose a tax in such cases.

2. Income (other than income from immovable property) will be taxed in accordance with the provisions of Article 7 and Article 13, rather than in accordance with the provisions of Article 19, if the person deriving the income, being a resident of one Contracting State, carries on business in the other Contracting State through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the right or property in respect of which the income is paid is effectively connected with such permanent establishment or fixed base.

3. In the case of dealings between an enterprise of one Contracting State and a related enterprise of the other Contracting State that involve conditions that differ from those that would have been made between independent enterprises, each Contracting State may apply its internal law to distribute, apportion or allocate income, deductions, credits and allowances between the related enterprises, to reflect any profits which would, but for those conditions, have accrued to one of the enterprises. The internal law of each Contracting State may also be applied to restrict the exemption of interest provided in paragraph 1 of Article 10 and of royalties provided in paragraph 1 of Article 11 to the amount of interest and royalties that would have been agreed upon between unrelated parties in cases where interest and royalties are paid by an enterprise of one Contracting State to a related enterprise in the other Contracting State.

4. It is agreed that each of the Contracting States shall endeavor to collect on behalf of the other Contracting State such amounts as may be necessary to ensure that relief granted by the present Convention from taxation imposed by such other Contracting State does not enure to the benefit of persons not entitled thereto. This agreement shall not impose upon either of the Contracting States the obligation to carry out administrative measures which are of a different nature from those used in the collection of its own tax, or which would be contrary to its sovereignty, security, or public policy. I have the honor to propose to you that the present note and Your Excellency's reply thereto constitute the agreement of our two Governments on these points. Accept, Excellency, the assurances of my highest consideration. Sincerely yours, LAJOS FALUVEGI, Minister of Finance, Hungarian People's Republic.


FEBRUARY 12, 1979.


His Excellency LAJOS FALUVEGI,


Minister of Finance,
Hungarian People's Republic.

EXCELLENCY: I have the honor to refer to your letter of today's date concerning the Income Tax Convention signed today reading as follows: In connection with the Income Tax Convention signed today, I should like to state our understanding of the agreement reached by the delegations of the United States of America and of the Hungarian People's Republic concerning the application of certain provisions of the Convention:

1. In connection with Article 9, subparagraph 5(c), it is understood that Hungary will not impose a tax in such cases.

2. Income (other than income from immovable property) will be taxed in accordance with the provisions of Article 7 and Article 13, rather than in accordance with the provisions of Article 19, if the person deriving the income, being a resident of one Contracting State, carries on business in the other Contracting State through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the right or property in respect of which the income is paid is effectively connected with such permanent establishment or fixed base.

3. In the case of dealings between an enterprise of one Contracting State and a related enterprise of the other Contracting State that involve conditions that differ from those that would have been made between independent enterprises, each Contracting State may apply its internal law to distribute, apportion or allocate income, deductions, credits and allowances between the related enterprises, to reflect any profits which would, but for those conditions, have accrued to one of the enterprises. The internal law of each Contracting State may also be applied to restrict the exemption of interest provided in paragraph 1 of Article 10 and of royalties provided in paragraph 1 of Article 11 to the amount of interest and royalties that would have been agreed upon between unrelated parties in cases where interest and royalties are paid by an enterprise of one Contracting State to a related enterprise in the other Contracting State.

4. It is agreed that each of the Contracting States shall endeavor to collect on behalf of the other Contracting State such amounts as may be necessary to ensure that relief granted by the present Convention from taxation imposed by such other Contracting State does not enure to the benefit of persons not entitled thereto. This agreement shall not impose upon either of the Contracting States the obligation to carry out administrative measures which are of a different nature from those used in the collection of its own tax, or which would be contrary to its sovereignty, security or public policy. I wish to inform you that I agree with the contents of your letter. Accept, Excellency, the assurance of my highest consideration. Sincerely yours, W. MICHAEL BLUMENTHAL.


Senate Executive Report No. 96-8 [Bracketed numerals indicate official report page numbers]


TAX CONVENTION WITH THE HUNGARIAN PEOPLE'S REPUBLIC


JUNE 15, 1979

Mr. CHURCH, from the Committee on Foreign Relations, submitted the following report to accompany Ex. X, 96th Cong., 1st sess. The Committee on Foreign Relations, to which was referred the Tax Treaty with the Hungarian People's Republic ('Hungary') [FN2] for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income (Executive X), as amplified by a concurrent Exchange of Notes (collectively referred to as the proposed treaty), having considered the same, reports favorably thereon without reservation and recommends that the Senate give its advice and consent to ratification thereof.


I. PURPOSE

There is presently no income tax treaty in force between the United States and Hungary. The proposed treaty is intended to reduce or eliminate double taxation of income earned in one country by residents of the other country and deals with administrative matters between the United States and Hungary, and to promote closer economic cooperation and more active trade between the two countries. The proposed treaty with Hungary was signed on February 12, 1979, and was amplified by an Exchange of Notes signed the same day. The Tax Treaty and the Exchange of Notes were transmitted to the Senate on May 9, 1979.


[2] III. SUMMARY OF TREATY

The proposed treaty is similar to other recent U.S. income tax treaties and to the model income tax treaty of the Organization of Economic Cooperation and Development (OECD) in virtually all respects. As in other U.S. tax treaties, the objectives of the treaty are principally achieved by each country's agreeing to limit, in certain specified situations, its right to tax income derived from its territory by residents of the other. For example, the treaty contains the standard tax treaty provision that neither country will tax the business income derived from sources within that country by residents of the other unless the business activities in the taxing country are substantial enough to constitute a branch or other permanent establishment or fixed base (Article 7). Similarly, the treaty contains standard 'commercial visitor' exemptions under which residents of one country performing personal services will not be required to file tax returns and pay tax in the other unless their contacts with the other exceed certain specified minimums (Articles 13 through 18). Also, the proposed treaty provides that interest, royalties, capital gains and certain other income derived by residents of either country from sources within the other are generally to be taxed only by the country of residence and not by the country of source (Articles 10, 11, 12 and 19), and that dividends received by residents of one country from sources within the other are to be taxed at reduced rates by the country of source (Article 9). In situations where the country of source retains the right under the proposed treaty to tax income derived by residents of the other country, the treaty generally provides for the relief by the country of residence of the potential double taxation (Article 20) through a foreign tax credit (in the case of the United States) or an exemption (in the case of Hungary). The treaty contains the standard provision (the 'saving clause') contained in U.S. tax treaties that each country retains the right to tax its citizens and residents as if the treaty had not come into effect (Article 1). In addition, it contains the standard provision that the treaty will not be applied to deny any taxpayer any benefits he would be entitled to under the domestic law of either country or under any other agreement between the two countries (Article 24); that is, the treaty generally will be applied only to the benefit of taxpayers. The treaty also contains standard nondiscrimination provisions and provides for exchanges of information and administrative cooperation between the tax authorities of the two countries to avoid double taxation and prevent fiscal evasion with respect to income taxes.


[3] IV. DATE OF ENTRY INTO FORCE AND TERMINATION


Entry into force

The proposed treaty will enter into force as soon as the United States and Hungary notify each other that their constitutional requirements for ratification have been met (in the case of the United States, upon its presentation of an instrument o f ratification). With respect to taxes withheld at source, it will apply to income paid or credited on or after the first day of the second month following the date on which it enters into force. This would apply to dividends (Article 9), interest (Article 10), royalties (Article 11), and annuities and other fixed and determinable annual or periodic income which is not specifically covered by any article (Article 19). With respect to all other taxes, it will become effective for taxable years beginning on or after January 1 of the year following the date on which the proposed treaty comes into force.


Termination

The proposed treaty will continue in force indefinitely, but either country may terminate it at any time after 5 years from its entry into force by giving at least 6 months' prior notice through diplomatic channels. If terminated, the termination will be effective with respect to income of taxable years beginning (or, in the case of withholding taxes, payments of income made) on or after January 1 next following the expiration of the 6-month period.


V. COMMITTEE ACTION


The Committee on Foreign Relations held a public hearing on the proposed treaty and other tax treaties on June 6, 1979. The Committee considered the proposed treaty on June 12, 1979 and ordered it favorably reported by a vote of 13 yeas, no nays, with the recommendation that the Senate give its advice and consent to ratification of the treaty.


VI. BUDGET IMPACT


The Committee estimates that the effect of the proposed treaty on budget receipts will be negligible. In accordance with the objectives of section 403 of the Budget Act, the Committee advises that the Director of the Congressional Budget Office has examined the Committee's budget estimate and agrees that the effect on budget receipts will be negligible. In keeping with section 308(a) of the Budget Act, and after consultation with the Director of the Congressional Budget Office, the Committee states that the treaty does not provide any new budget authority or any new or increased tax expenditures.


[4] VII. EXPLANATION OF TREATY PROVISIONS


Set forth below is a comprehensive article-by-article explanation of the proposed income tax treaty between the United States and Hungary.


Article 1. Personal scope

The proposed treaty applies generally to residents of the United States and to residents of Hungary, with specific exceptions designated in other articles. This follows other U.S. income tax treaties and the OECD model income tax treaty. The proposed treaty contains the 'saving clause' contained in all U.S. income tax treaties which provides, with specified exceptions, that the treaty is not to affect the taxation by the United States of its citizens and residents or the taxation by Hungary of its citizens and residents. Residents for purposes of the treaty (and thus for purposes of the saving clause) include corporations and other entities as well as individuals (Article 4. Fiscal domicile). In the case of the United States, the saving clause also extends to former citizens. (Under section 877 of the Internal Revenue Code, an individual who gives up U.S. citizenship is subject to U.S. tax on his U.S.-source income as if he were still a U.S. citizen if one of his principal purposes in giving up U.S. citizenship was to avoid U.S. tax.) Exceptions to the saving clause are provided for the benefits conferred by the articles dealing with pensions (Article 15), relief from double taxation (Article 20), nondiscrimination (Article 21), and mutual agreement procedures (Article 22); thus, the benefits of those articles will be conferred by each country on its own citizens and residents as well as the citizens and residents of the other. In addition, the benefits conferred by the articles dealing with the taxation of income received by government employees (Article 16), teachers (Article 17), students and trainees (Article 18), and diplomatic and consular officials (Article 24) are to be provided for each country to its residents provided those residents are neither citizens of, nor have immigrant status in, that country. Consequently, except for the exceptions to the saving clause set forth above, U.S. citizens and residents generally benefit under the treaty as the result of the agreement by Hungary to reduce its rate of tax on their income or exempt their income from tax rather than as the result of reductions in tax or exemptions by the United States. Even in this situation, if the tax which is foregone by Hungary could have otherwise been claimed in full by the U.S. taxpayers as a foreign tax credit, the real beneficiary of the reduction or elimination of the Hungarian tax would, as a practical matter, be the U.S. Treasury rather than the U.S. taxpayer. Similarly, except as noted above, Hungarian citizens and residents benefit under the treaty only to the extent that the United States agrees to reduce its tax on their income or to exempt their income from tax.


[5] Article 2.
Taxes covered

In the case of the United States, the proposed treaty applies to the Federal income taxes imposed under the Internal Revenue Code and to the excise taxes imposed on insurance premiums paid to foreign insurers and with respect to private foundations. However, it does not apply to the accumulated earnings tax or the personal holding company tax. In the case of Hungary, the treaty applies to the general income tax, the income tax on intellectual activities, the profit tax, the profit tax on economic associations with foreign participation, the enterprises special tax, the levy on dividends and profit distributions of commercial companies, the profit tax on state-owned enterprises, and the contribution to communal development (but only to the extent that the contribution is required in respect of income taxes covered by the treaty). The proposed treaty also contains a provision generally found in U.S. income tax treaties to the effect that it will apply to substantially similar taxes which either country may subsequently impose. Each country is obligated under the treaty to notify the other of any changes it makes in its tax laws and of any official published material concerning the treaty, including explanations, regulations, rulings, and judicial determinations. Additionally, the nondiscrimination provisions (Article 21) of the treaty apply to all taxes of every kind imposed at the national, state, or local level by the United States or Hungary. The exchange of information provisions (Article 23) of the proposed treaty will also apply to all taxes of every kind imposed by the two countries at the national level.


Article 3.
General definitions

Certain of the standard definitions found in most U.S. income tax treaties are contained in the proposed treaty. Under the proposed treaty, the term 'United States' when used in a geographical sense does not apply to Puerto Rico, the Virgin Islands, Guam or any other possession or territory of the United States. A 'national' of either country is defined to include both a citizen of that country and also any legal entity such as a corporation, trust, estate, partnership, or association which is established under the laws of that country. A 'company' is defined as a corporation or other entity treated as a corporation for tax purposes. An enterprise of a country is defined as an enterprise carried on by a resident of that country. Although the treaty does not define the term 'enterprise,' it would have the same meaning that it has in other U.S. tax treaties--the trade or business activities undertaken by an individual, partnership, corporation, or other entity. The proposed treaty also contains the standard provision that, unless the context otherwise requires or the competent authorities of the two countries establish a common meaning, any terms are to have the meaning which they have under the applicable tax laws of the country applying the treaty.


Article 4. Fiscal domicile

The benefits of the proposed treaty generally are available only to residents of the two countries. Under the treaty, a person (either an [6] individual or an entity such as a corporation or partnership) is considered to be a resident of either country if, under the laws of that country, the person is subject to taxation by that country because it is the country of domicile, residence, citizenship, place of management, place of incorporation, or other criterion of similar nature. A person will not be considered to be a resident of a country if he is only taxable on his income from sources within that country or on his assets located in that country. A partnership, estate, or trust will be considered to be a resident of either country only to the extent that the income it derives is subject to tax, either in its hands or in the hands of its partners or beneficiaries, as the income of a resident of the country. This provision of the proposed treaty is generally based on the fiscal domicile article of the OECD model tax treaty and is similar to the provisions found in other U.S. tax treaties. However, a significant difference between the definition of resident in this treaty and the definition in other recent U.S. income tax treaties, and consequently a significant difference in the coverage of the treaty, is that the term resident includes an individual who is subject to worldwide taxation on the basis of citizenship. As a result, U.S. citizens residing overseas (in countries other than Hungary) are entitled to the benefits of the treaty as U.S. residents. (Moreover, if they reside in Hungary, they are still allowed the benefits afforded U.S. residents which are unaffected by the saving clause.) Since Hungary generally taxes on a residency basis rather than on a citizenship basis, this broadened definition of resident does not benefit citizens of Hungary who are not Hungarian residents. However, Hungary does tax certain of its nationals who work overseas for the Hungarian Government (or its instrumentalities), and a special rule is provided under which these individuals and their families are treated as residents of Hungary entitled to the benefits of the treaty. A set of rules is provided to determine residence in the case of a person who, under the basic treaty definition, would be considered to be a resident of both countries (e.g., a U.S. citizen and resident in Hungary). In the case of a dual resident individual, the individual will be deemed for all purposes of the treaty to be a resident only of the country in which he has his permanent home (where an individual dwells with his family), his center of vital interests (his closest economic and personal relations), his habitual abode, or his citizenship. If the residence of an individual cannot be determined by these tests, applied in the order stated, the competent authorities of the countries will settle the question by mutual agreement. In the case of a dual resident corporation which is created or organized under the laws of either country (or a political subdivision), the corporation will be treated as a resident only of that country. In the case of a dual resident person, other than an individual or a corporation (e.g., a dual resident partnership ,trust, or estate), the residence of the person and the mode of application of the treaty will be determined by the competent authorities.


Article 5. Definition of permanent establishment

The proposed treaty contains a definition of permanent establishment which follows the pattern of other recent U.S. income tax treaties and the OECD model tax treaty. The permanent establish-[7]ment concept is one of the basic devices used in income tax treaties to avoid double taxation. Generally, a resident of one country is not taxable on its business profits by the other country unless those profits are attributable to a permanent establishment of the resident in the other country. In addition, the permanent establishment concept is used to determine whether the reduced rates of, or exemptions from, tax provided for dividends, interest, and royalties are applicable. In general, a fixed place of business through which a resident of one country engages in business in the other country is considered a permanent establishment. This includes a place of management; a branch; an office; a factory; a workshop; or a mine, an oil or gas well, a quarry, or other place of extraction of natural resources. It also includes any building site, construction or installation project, or an installation or drilling rig or ship used for the exploration or development of natural resources, but only if the site, project, etc., lasts for more than 24 months. This general rule is modified to provide that a fixed place of business which is only used for any or all of a number of specified activities will not constitute a permanent establishment. These activities include the use of facilities for storing, displaying, or delivering merchandise belonging to the resident; the maintenance of a stock of goods belonging to the resident for purposes of storage, display, delivery, or processing by another person, or the purchase of goods or merchandise, collection of information, or any other preparatory or auxiliary activities for the resident. If a resident of one country maintains an agent in the other country who has, and regularly exercises, the authority to enter into contracts in that other country in the name of the resident, then the resident will be deemed to have a permanent establishment in the other country with respect to the activities which the agent undertakes on its behalf. This rule does not apply where the contracting authority is limited to those activities (described above) such as storage, display, or delivery of merchandise which are excepted from the definition of permanent establishment. The proposed treaty contains the usual provision that the agency rule will not apply if the agent is a broker, general commission agent, or other agent of independent status acting in the ordinary course of its business. The fact that a company which is a resident of one country controls or is controlled by a company which is a resident of the other country or which carries on business in that other country (whether through a permanent establishment or otherwise), will not of itself constitute either company a permanent establishment of the other.


Article 6. Income from immovable property (real property)

The proposed treaty provides that income from real property may be taxed in the country where the real property or natural resources are located. For purposes of the treaty, real property will generally have the meaning provided under the laws of the country where the property is located, but will in any case include property which is accessory to real property, livestock and equipment used in agriculture and forestry, and rights to real property. Ships, boats, and aircraft will not be considered real property. [8] Income from real property includes income from the direct use or renting of the property. It also includes royalties and other payments in respect of the exploitation of natural resources (e.g., oil wells) and gains on the sale, exchange, or other disposition of the royalty rights or the underlying natural resources. It does not include interest on loans secured by real property. Under Article 12 (Capital gains), gains on the sale, exchange, or other disposition of the property may also be taxed by the country where the property is located.


Article 7. Business profits

Under the proposed treaty, business profits of an enterprise of one country are taxable in the other country only to the extent they are attributable to a permanent establishment in the other country through which the enterprise carries on business. The business profits of a permanent establishment are determined on an arm's-length basis. Thus, there is to be attributed to it the business profits which would reasonably be expected to have been derived by it if it were an independent entity engaged in the same or similar activities under the same or similar conditions and dealing at arm's-length with the resident of which it is a permanent establishment. In computing taxable business profits, deductions are allowed for all expenses, wherever incurred, which are incurred for purposes of the permanent establishment. These deductions include a reasonable allocation of executive and general administrative expenses, interest, and other expenses which are incurred for purposes of the enterprise as a whole (or for purposes of that part of the enterprise which includes the permanent establishment). Thus, for example, a U.S. company which has a branch office in Hungary but which has its head office in the United States will, in computing the Hungarian tax liability of the branch, be entitled to deduct a portion of the executive and general administrative expenses incurred in the United States by the head office for purposes of administering the Hungarian branch. Business profits will not be attributed to a permanent establishment merely by reason of the purchase of merchandise by the permanent establishment for the account of the enterprise, or by reason of the delivery to the permanent establishment of goods or merchandise for its use. Thus, where a permanent establishment purchases goods for its head office, the business profits attributed to the permanent establishment with respect to its other activities will not be increased by a profit element on its purchasing activities. Where business profits include items of income which are dealt with separately in other articles of the treaty, those other articles, and not this business profits article, will govern the treatment of those items of income.


Article 8. Shipping and air transport

The proposed treaty provides that income which is derived by an enterprise of either country from the operation of ships and aircraft in international traffic shall be exempt from tax by the other country. International traffic means any transportation by ship or aircraft, except where the transportation is solely between places in the other country (Article 3(1)(e). Definitions). The exemption applies whether or not the ships or aircraft are registered in the first country. [9] The exemption for shipping and air transport profits applies to profits from the rental on a full or bareboat basis of ships or aircraft operated in international traffic if such rental profits are incidental to the actual operation of ships and aircraft in international traffic. (Rental on a full or bareboat basis refers to whether the ships or aircraft are leased fully equipped, manned and supplied or not.) Income from the operation in international traffic of ships or aircraft also includes income derived from the use, maintenance, or rental of containers, trailers for the inland transportation of containers,and other related equipment where the equipment is used to transport goods and merchandise. The shipping and air transport exemption also applies where an enterprise has an agency in the other country for the transportation of goods or persons (e.g., an airline office), but the exemption only applies to the extent of activities directly connected with the business of shipping and aircraft transportation (including auxiliary activities).


Article 9. Dividends

Each country may tax dividends paid by its companies to shareholders resident in the other (i.e., they may impose a dividend withholding tax on shareholders resident in the other country), but the rate of tax may not exceed 15 percent if the beneficial owner is a resident of the other country. (In the absence of a treaty limitation, the statutory U.S. withholding tax rate on dividends paid by U.S. corporations to foreign shareholders is generally 30 percent.) The withholding tax rate is limited to 5 percent in the case of dividends paid to a company which directly or indirectly owns at least 10 percent of the voting stock of the company making the dividend distribution. Neither country can tax dividends paid by companies of the other except insofar as (a) the dividends are paid to residents of the country imposing the tax, (b) the dividends are effectively connected with a permanent establishment or a fixed base in the taxing country, or (c) at least 50 percent of the company's gross income was attributable to a permanent establishment in the taxing country. In this last situation, however, the tax can be imposed only to the extent the dividends are paid out of the profits derived from the permanent establishment and, in addition, the rate of tax on the taxable portion is limited to 15 percent or 5 percent under the rules (described above) applicable to dividends paid by companies of the taxing country. As set forth in the Exchange of Notes, this last exception does not apply to Hungary because Hungary does not tax dividends paid for by foreign corporations regardless of the extent to which the dividends were derived from Hungarian source profits of the distributing foreign corporation. The United States, however, does impose its withholding tax on the U.S. source portion of dividends distributed to foreign shareholders by foreign corporations which derive more than 50 percent of their gross income for the preceding 3-year period from U.S. sources. This last exception permits the United States to continue to do so. The reduced rates of tax on dividends will apply unless the recipient has a permanent establishment (or fixed base in the case of an individual performing independent personal services)in the source country [10] and the dividends are effectively connected with the permanent establishment (or fixed base). Dividends effectively connected with a permanent establishment are to be taxed as business profits (Article 8). Dividends effectively connected with a fixed base are to be taxed as income from the performance of independent personal services (Article 13).


Article 10. Interest

Interest derived by a resident of one country from sources within the other country is generally exempt from tax by the source country. (In the absence of a treaty limitation, the United States generally imposes a 30-percent withholding tax on interest paid by U.S. debtors--other than banks--to foreign lenders.) The exemption from tax on interest will apply unless the recipient has a permanent establishment or fixed base in the source country and the interest is effectively connected with the permanent establishment or fixed base. In that event, the interest will be taxed as business profits (Article 7) or income from the performance of independent personal services (Article 13). The proposed treaty defines interest as income from debt claims of every kind, whether or not secured and whether or not carrying a right to participate in profits. In particular, it includes income from government securities and from bonds or debentures, including premiums or prizes attaching to bonds or debentures.


Article 11. Royalties

Under the proposed treaty, royalties derived by a resident of one country from sources within the other are exempt from tax by the source country. (In the absence of a treaty limitation, the United States generally imposes a 30- percent withholding tax on royalties paid to foreigners not engaged in a U.S. business.) Royalties are defined for this purpose as payments of any kind received as consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work, including films, radio or television tapes, any patents, trade marks, designs or models, plans, secret formulas or processes, or any other similar rights or property. Royalties also include payments for information concerning industrial, commercial, or scientific experience (e.g., 'know-how'). However, this article does not apply to mineral royalties (which are covered by Article 6). The exemption does not apply where the recipient is an enterprise with a permanent establishment in the source country or an individual performing personal services in an independent capacity through a fixed base in the source country, and the royalties are effectively connected with the permanent establishment or fixed base. In that event the royalties will be taxed as business profits (Article 7) or income from the performance of independent personal services (Article 13).


Article 12. Capital gains

The proposed treaty generally provides that capital gains derived by a resident of one country will be exempt from tax by the source country. Under the Code, capital gains derived from U.S. sources by foreign investors are generally exempt from U.S. tax The exemption does not apply in two situations, and in those situations the gains may be taxed by both countries (with relief from double [11] taxation provided pursuant to Article 20). First, gains from the sale or exchange of real property may be taxed in the country where the property is located. Second, gains on the sale or exchange of property which forms a part of the business property of a permanent establishment or a fixed base (including gains on the disposition of the permanent establishment or the fixed base itself) may be taxed in the country where the permanent establishment or fixed base is located. This second exception does not apply to gains from the sale or exchange of ships, aircraft or containers operated by an enterprise of the other country in international traffic; such gains are only taxable by the country of residence.


Article 13. Independent personal services

Under the proposed treaty, income from the performance of independent personal services (i.e., services performed as an independent contractor, not as an employee) in one country by a resident of the other country is exempt from tax in the country where the services are performed, unless (1) the person performing the personal service is present in the country where the services are performed for more than 183 days during the taxable year or (2) the individual has a fixed base regularly available to him in that country for the purpose of performing the services. If the second requirement (but not the first) is met, the source country can only tax that portion of the individual's income which is attributable to the fixed base. Independent services include independent scientific, literary, artistic, educational or teaching activities as well as the independent activities of physicians, lawyers, engineers, architects, dentists, artistes, athletes and accountants.


Article 14. Dependent personal services

Under the proposed treaty, income from services performed as an employee in one country (the source country) by a resident of the other country will not be taxable in the source country if three requirements are met: (1) the individual is present in the source country for not more than 183 days during the taxable year; (2) his employer is not a resident of the source country; and (3) the compensation is not borne by a permanent establishment or fixed base of the employer in the source country. Compensation derived by an employee aboard a ship or aircraft operated by a resident of one country in international traffic is exempt from tax by the other country, provided that the compensation is in respect of employment as a member of the regular complement of the ship or aircraft. This article does not apply to pensions and social security payments (Article 16).


Article 15. Pensions

Under the proposed treaty, private pensions (and other similar compensation for past services) beneficially derived by residents of either country are exempt from tax in the other country, regardless of the source of pensions. Social security payments and other public pensions paid by either country to a resident of the other (or to U.S. citizens) are only taxable by the country making payments. This rule does not apply in the case [12] of pensions which are paid to resident nationals of one country attributable to service performed by that individual to government entities of the other. (Article 16(2)(b). Government service).


Article 16. Governmental service

Under the proposed treaty, compensation paid by one country, its political subdivisions or local authorities, to an individual for labor or personal services performed for the payment governmental entity is exempt from tax by the other country. However, this exemption does not apply if the services are performed in the other country and the individual is a national of that country or did not become a resident of that country solely for the purpose of performing the service. In that situation, the compensation is only taxable by the country where the services are performed. Thus, an individual performing services for a Hungarian governmental entity ordinarily will only be taxable by Hungary. However, if he performs the services in the United States and is a U.S. citizen, or is a U.S. resident whose reasons for becoming a U.S. resident were not solely to work for that Hungarian governmental agency, he will be taxable by the United States. Pensions paid for services to a governmental entity of either country will generally only be taxable by that country. However, if the recipient is a resident national of the other country, the pension will only be taxable by that other country. The governmental service rules do not apply in situations where the compensation or pensions are paid in connection with any business carried on by any governmental entity of either country. In such situations, the provisions applicable to the private sector apply: Article 13 (Independent personal services), 14 (Dependent personal services), and 15 (Pensions).


Article 17. Teachers

The proposed treaty provides that if a teacher or researcher who is a resident of one country is invited to teach or engage in research in the other, he will be exempt from tax by the host country on income from teaching or engaging in research if he is present in that country for a period not expected to exceed 2 years. The exemption only applies if the individual comes to the other country primarily for the purpose of teaching or engaging in research pursuant to an invitation of the host country (or political subdivision or local authority) or a recognized educational institution in the host country. It is not to apply with respect to income from research which is undertaken primarily for the private benefit of a specific person or persons. If the teacher or researcher remains in the other country for a period exceeding 2 years, the exemption only applies to income earned during the 2- year period. The exemption does not apply if the individual is a citizen of, or acquires immigrant status in, the host country (Article 1(3)). Income may be exempt under this Article even though it would be taxable under Article 13 (Independent Personal Services).


Article 18. Students and trainees

Under the proposed treaty, a resident of one country who becomes a full-time student, apprentice, or business trainee in the other country will generally be exempt from tax in the host country on payments from abroad used for maintenance, education, or training. [13] A full-time student, apprentice or business trainee who qualifies for the exemption from tax by the host country may instead elect under the treaty to be treated for tax purposes as a resident of the host country. The election applies for the entire period that the individual is a full-time student, apprentice, or business trainee, and it may not be revoked except with the consent of the competent authority of the host country. The purpose of the election is to permit foreign students, apprentices, and business trainees present in the United States to qualify for benefits such as the standard deduction (the zero bracket amount), and for the dependency deductions (if applicable). For example, For U.S. tax purposes nonresidential aliens are limited to one personal deduction and they are not permitted to claim the standard deduction or the dependency deduction. By electing to be taxed as U.S. residents, they may claim these deductions but, as a consequence, they are subject to U.S. tax on their worldwide income. This election would generally be advantageous for those foreign students, apprentices, and business trainees who do not have any substantial income from sources without the United States.


Article 19. All other income

Any item of income, regardless of its source, which is derived by a resident of either country and which is not dealt with in one of the other articles of the treaty will be taxable only by the country of residence. However, such an item of income which is received by a resident of one country who is a citizen of the other may be taxed by both countries (Article 1. Personal scope), subject to a foreign tax credit for taxes paid to the other if the other country is the country of source (Article 20. Relief from double taxation). Items covered by this article would include, for example, annuities, alimony, child support, and certain income from the rental of personal property.


Article 20. Relief from double taxation

United States

Under the proposed treaty, the United States agrees to provide its citizens and residents with a foreign tax credit against their U.S. income tax for the appropriate amount of taxes paid to Hungary. The credit allowed for U.S. tax purposes is in accordance with the provisions and subject to the limitations of U.S. law applicable to the year in question. Under present law, the United States only allows a credit for foreign income taxes (sec. 901 of the Internal Revenue Code), or foreign taxes imposed in lieu of income taxes (Code sec. 903), and the credit is limited to the amount of the pre-credit U.S. tax which is attributable to foreign source income (Code secs. 904 and 907). The proposed treaty also provides that a deemed-paid foreign tax credit will be made available to a U.S. corporation with respect to dividends from a Hungarian corporation in which it owns, directly or indirectly, at least 10 percent of the voting stock. In this case, a credit will be allowed for the Hungarian tax paid by the Hungarian corporation on the earnings out of which the dividend is paid. A deemed-paid foreign tax credit satisfying the treaty requirements is presently provided under the Internal Revenue Code (sec. 902). [14] This article provides that all the Hungarian taxes covered by the treaty (Article 2. Taxes covered) are to be considered to be income taxes for purposes of the U.S. foreign tax credit. Accordingly, all the Hungarian taxes covered by the treaty will be eligible for the U.S. foreign tax credit. These taxes would probably be creditable for U.S. tax purposes in the absence of the proposed treaty.


Hungary

The treaty generally provides for the relief by Hungary of double taxation of income received by its residents which is taxable under the treaty by the United States through the use of an exemption with progression. Hungary, like the United States and most other countries, has a progressive rate structure for its income tax (i.e., the tax rate becomes higher as taxable income increases). Under the exemption with progression, the exempt income is not subject to Hungarian tax, but it is taken into account in determining the effective rate on the resident's other income which is subject to tax. (By increasing the income taken into account, the effective rate becomes higher because of the progressive rate structure.) With the exception of dividend income for which a foreign tax credit is allowed (described below), the exemption is available with respect to income derived by the Hungarian residents which under the treaty may be taxed by the United States (other than income which under the treaty may be taxed by the United States solely because the Hungarian resident receiving the income is also a citizen of the United States). Income eligible for the exclusion would include, for example, income from U.S. real property, business profits attributable to a U.S. permanent establishment, or compensation for personal services performed in an independent capacity through a U.S. fixed base. The treaty exemption is also available with respect to income from sources within the United States which would not be taxable by the United States under the treaty but for the fact the recipient is a U.S. citizen. This would include U.S.-source interest and royalties received by U.S. citizens resident in Hungary. A Hungarian foreign tax credit rather than the exemption with progression will be provided under the treaty with respect to dividends received by Hungarian residents from U.S. companies where the dividends qualify for the reduced 15-percent or 5-percent treaty rate for the U.S. withholding tax (Article 9). Although Hungary does not have a statutory foreign tax credit, the treaty provides that such dividends from U.S. companies will be taxable by Hungary and that the Hungarian residents will be entitled to reduce their Hungarian tax by the 5-percent or 15-percent U.S. withholding tax imposed on the dividends. It was necessary to provide a credit in this situation rather than an exemption because the U.S. withholding tax rate under the treaty is substantially lower than the regular income tax rates of both countries. Therefore, an exemption would have more than offset any potential double taxation of the dividends. Consequently, the only income received by a U.S. citizen resident in Hungary which would not qualify for either the exemptions from, or the credit against, the Hungarian tax pursuant to this provision would be non-U.S.-source income. There would not be double taxation in this situation, however, because the Hungarian tax could be claimed [15] as a foreign tax credit against the U.S. tax on that foreign source income.


Article 21. Nondiscrimination

The proposed treaty contains a comprehensive nondiscrimination provision relating to all taxes of every kind imposed at the national, state, or local level. It is similar to provisions which have been embodied in other recent U.S. income tax treaties. Under this provision, neither country can discriminate by imposing more burdensome taxes (or other requirements connected with taxes) on citizens of the other country than it imposes on its own citizens who are in the same circumstances. For this purpose, citizens taxable on their worldwide income are not to be considered to be in the same circumstances as citizens who are not. Thus, for example, the United States would not be required to tax in the same way a U.S. citizen and a Hungarian citizen, neither of whom are residents of the United States, because the U.S. citizen is taxed by the United States on his worldwide income while the Hungary citizen is not. This provision does not, however, require either country to grant to residents of the other country the personal allowances, reliefs, or deductions for taxation purposes on account of personal status or family responsibilities which it grants to its own residents. Similarly, neither country may tax a permanent establishment of an enterprise of the other country less favorably than it taxes its own enterprises carrying on the same activities. In determining the taxable income of an enterprise of either country, both countries are required to allow the enterprise to deduct interest, royalties, and other disbursements paid by the enterprise to residents of the other country under the same conditions that they allow deductions for such amounts paid to residents of the same country as the enterprise. Similarly, for purposes of determining the taxable capital of an enterprise of one country, debts owed to residents of the other country are to be deductible under the same conditions as if they were owed to residents of the same country as the enterprise. The nondiscrimination provision also applies to corporations of one country which are owned by residents of the other country.


Articles 22 and 23. Administrative provisions

The proposed treaty contains various administrative provisions generally along the lines of the provisions contained in other U.S. tax treaties. In general, the proposed treaty provides--(1) for consultation and negotiation between the tax authorities of the two countries to resolve differences arising in the application of the proposed treaty and also to resolve claims by taxpayers that they are being subjected to taxation contrary to the terms of the proposed treaty; and (2) for the exchange between the countries of information pertinent to carrying out the provisions of the proposed treaty and of the domestic laws of the countries concerning taxes covered by the proposed treaty.


Article 24. Diplomatic and consular officials; Domestic laws and other treaties

The proposed treaty contains the rule found in other U.S. tax treaties that its provisions are not to affect the taxation privileges of [16] diplomatic and consular officials under the general rules of international law or the provisions of special agreements. The proposed treaty also contains the rules found in other U.S. tax treaties that its provisions will not restrict in any manner any exclusion, exemption, deduction, credit or other allowance otherwise accorded by the domestic laws of either country or any other agreement between the two countries. In other words, the treaty (other than the exchange of information provisions) can only be applied to the benefit of taxpayers of the two countries, and the taxing authorities cannot apply it to increase a taxpayer's tax liability.


Article 25. Entry into force

The proposed treaty will enter into force as soon as the United States and Hungary notify each other that their constitutional requirements for ratification have been met (in the case of the United States, upon its presentation of an instrument of ratification). With respect to taxes withheld at source, it will apply to income paid or credited on or after the first day of the second month following the date on which it enters into force. This would apply to dividends (Article 9), interest (Article 10), royalties (Article 11), and annuities and other fixed and determinable annual or periodic income which is not specifically covered by any article (Article 19). With respect to all other taxes, it will become effective for taxable years beginning on or after January 1 of the year following the date on which the proposed treaty comes into force.


Article 26. Termination

The proposed treaty will continue in force indefinitely, but either country may terminate it at any time after 5 years from its entry into force by giving at least 6 months' prior notice through diplomatic channels. Such a termination will be effective with respect to income of taxable years beginning (or, in the case of withholding taxes, payments of income made) on or after January 1 next following the expiration of the 6-month period.


EXCHANGE OF NOTES


In an exchange of identical letters signed together with the treaty, the two countries set forth certain agreements concerning the application of certain provisions of the treaty. The interpretations and understanding set forth in the Notes have the same force and effect as if they were contained in articles of the treaty. First, although the dividend article (Article 9(5)(c)) would permit it, Hungary will not impose a tax on dividends paid to U.S. shareholders by corporations deriving more than 50 percent of their profits from Hungary in situations where the distributing corporation is not resident in Hungary. The United States imposes its withholding tax on dividends paid by foreign corporations to foreign investors where the distributing corporation derives 50 percent or more of its income from United States sources during the 3-year period preceding the distribution. Under the treaty, the United States may continue to tax dividends paid by Hungarian corporations in such situations. Second, where a resident of one country carries on business through a permanent establishment in the other, income (other than income [17] from real property) will be taxed as business profits (Article 7) rather than other income (Article 19) if the right or property in respect of which the income is paid is effectively connected with the permanent establishment. Similarly, where a resident of one country performs independent personal services through a fixed base in the other, income (other than income from real property) will be taxed as independent personal services income (Article 13) rather than other income if the right or property in respect of which the income is paid is effectively connected with the fixed base. The consequences of this understanding is that the income in these situations will be taxed by the country of the permanent establishment or fixed based rather than only by the country of residence. Third, the Notes recognize the right of each country to apply the provisions of its internal law to distribute, apportion, or allocate income, deductions, credits, and allowances between related enterprises in order to reflect property their arm's-length profit in situations where the dealings between the related enterprises involve conditions different from those that would have been made between independent enterprises. In addition, the Notes also provide that the internal law of each country may be applied to limit the exemption provided in the treaty for interest (Article 10) and royalties (Article 11) so that it only applies to the extent that the interest or royalty does not exceed the arm's-length amount that would have been paid between unrelated parties. Thus, the treaty does not in any way limit the authority of the Internal Revenue Service to allocate or apportion income, deductions, credits, or allowances between related parties under section 482 of the Internal Revenue Code in situations where it determines that the allocation is necessary in order to prevent the evasion of taxes or clearly to reflect the income of the related parties. This authority is not limited by the treaty even where the allocation is between related parties which are not enterprises or where the related parties have not had dealings with each other. Finally, the Notes set forth an agreement, similar to provisions in other recent U.S. income tax treaties, that each country will assist the other in collecting taxes imposed by the other country to the extent necessary to insure that the treaty benefits are only enjoyed by persons entitled to them. This agreement does not obligate either country to carry out administrative measures which are of a different nature from those used in the collection of its own tax or measures which would be contrary to its sovereignty, security, or public policy.


[18] VIII. TEXT OF RESOLUTION OF RATIFICATION


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RESOLUTION OF RATIFICATION


Resolved (two-thirds of the Senators present concurring therein), That the Senate advise and consent to the ratification of the Convention Between the Government of the United States of America and the Government of the Hungarian People's Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income, together with an exchange of notes relating thereto, done at Washington on February 12, 1979 (Ex. X, Ninety- sixth Congress, first session).


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[75] APPENDIX C


WRITTEN RESPONSES BY TREASURY TO QUESTIONS BY THE COMMITTEE STAFF


DEPARTMENT OF THE TREASURY,


Washington, D.C., June 8, 1979.


Hon. FRANK CHURCH,


Chairman, Committee on Foreign Relations,


U.S. Senate, Washington, D.C. DEAR MR. CHAIRMAN: To follow up my testimony at the June 6 hearings concerning the six tax conventions or protocols involving the United Kingdom, France, Hungary and Korea, I want to assure you that Article I of the Third Protocol of the proposed US-UK Income Tax Treaty gives full effect to the Senate's reservation on Article 9(4) of that treaty. Let me also assure you that there is no similar state tax issue in any of the other five treaties which were considered by the Committee yesterday. Again let me emphasize our view that each of these treaties is important to the United States and that their prompt approval is desirable. I am also enclosing answers to the written questions submitted to me by your staff at the hearings as well as copies of my answers to questions from Senator Helms and Senator Javits. Sincerely, DONALD C. LUBICK, Assistant Secretary (Tax Policy). Enclosures.


QUESTIONS FOR ASSISTANT SECRETARY FOR TAX POLICY


DONALD C. LUBICK


GENERAL QUESTIONS [FN3]


Question 1.

On page three of your testimony, you mentioned that the public was able to make presentations to the Treasury concerning particular private sector concerns in the area of international taxation, could you explain how the notice of such public meetings is made, what the participation level has been and any changes in tax treaties or negotiations that have been affected by this public participation?

Answer.

The public meetings, referred to in the testimony, are announced by Treasury Press Releases and notices in the Federal Register. These announcements are reported in publications which are widely read in the international tax community. Publicparticipa-[76]tion in these meetings varies, depending on the degree of interest in the particular country being discussed. The meeting to discuss the Canadian treaty was attended by well in excess of 100 individuals; a recent meeting to discuss a proposed treaty with Norway was attended by about 20 people. All of the reports we have received from the public regarding these meetings have been favorable. It is difficult to point to particular changes in treaties under negotiations as a result of these meetings. In most cases,there has not yet been a further round of negotiations following the meeting. The meetings have clearly served to sharpen the negotiations' awareness and understanding of some of the complex issues involved.

Questions 2 and 3.

The group of six treaties or protocols the Committee is conducting hearings on today, will they result in a net loss or gain for the U.S. from tax revenues? If a loss, how much and why; if again, how much and why?

Answer.

In general, these treaties and protocols tend to balance out revenue losses and gains, leaving the overall revenue effect roughly neutral. For example, where the treaty partner is required to reduce or eliminate its tax on U.S. taxpayers, this results in a reduction in the U.S. foreign tax credit and an increase in U.S. revenue. These increases are roughly offset by reductions in U.S. revenues resulting from reductions in U.S. tax on taxpayers resident in the other country. In most cases, data on international flows and transactions are not available in sufficient detail to permit precise estimation of the revenue effects of particular treaty provisions.

Question 4.

Please describe the personnel from the Department of the Treasury and other agencies of the U.S. Government involved in negotiating tax treaties or protocols. Please detail the prospective relationships between the IRS, Department of the Treasury and the Department of State.

Answer.

The Office of the Assistant Secretary for Tax Policy in the Treasury has the principal responsibility for the negotiations of tax treaties. The actual negotiations are normally conducted by members of the Office of International Tax Affairs, which combines the Office of International Tax Counsel (Attorneys) and the International Tax Staff of Tax Analysis (Economists). The delegations are headed either by the Assistant Secretary for Tax Policy or by a senior member of the Office of International Tax Affairs. The Internal Revenue Service is often represented on delegations. The nature and extent of this representation depends on the specific issues that are likely to arise. For example, if there are problems regarding the exchange of information, representatives of the IRS Office of International Operations, which is responsible for these exchanges, will participate in the discussions. In many cases, when negotiations are held abroad, the Revenue Service Representative assigned to that country will participate. The State Department is invited to participate in all discussions. Country desk officers will sometimes attend a part or all of the discussions held in Washington. When negotiations are held abroad, the economic or commercial officers in the U.S. Embassy frequently participate. The State Department generally handles correspondence be-[77]tween the U.S. and foreign negotiators and is often called upon to follow up with representatives of the other country on issues which arise in the negotiations. There is close coordination between Treasury, IRS and the State Department throughout the negotiating process. The State Department advises the Treasury on political issues and IRS advises on administrative matters. The State Department is responsible for the arrangements for signing treaties and their transmittal to the Senate.

Question 5.

The U.S. Treasury, in 1977, finalized a 'model convention' for international tax treaties, could you please explain the status of this model and in particular, any changes that have been made to it?

Answer.

For many years, the Treasury had used an informal 'model' as a basis for negotiations. This model evolved and changed as the negotiators gained experience with it. In 1976 a decision was made to publish the U.S. model. Following the 1977 publication of the revised OECD Model Convention, the Treasury revised its model to conform it to the OECD Model, where possible, and the revised model was published in May of 1977. The model is sent to potential treaty partners prior to the commencement of negotiations, and it normally serves as the discussion draft during the first round of negotiations. Many changes are made in the model during negotiations to reflect particular problems which arise in attempting to mesh two tax systems. Changes may be made to reflect the needs of the other country. For example, where negotiations are with a developing country, many of the model provisions (designed for treaties between two developed countries) are inappropriate. The U.S. negotiators are generally quite flexible in modifying the model for treaties with developing countries. These changes occur most frequently in the provisions dealing with permanent establishments or the taxation of personal service income, in which cases a somewhat lesser degree of economic contact or penetration is required for the host country to be able to tax the income of a resident of the other country. Similarly, with the taxation of dividends, interest, and royalties, less of a reduction in withholding tax rates is generally required of developing countries. The U.S. interest in these cases is to avoid rates which are so high as to generate excess foreign tax credits for U.S. income recipients.

Questions 6 and 7.

In the third protocol proposed to the U.S.-U.K. Income Tax Treaty, the definition of permanent establishment has been changed. Please explain the basis of this change. Were the affected U.S. drilling companies contacted concerning the proposed change? If they were contracted, please give the details of when, by whom, and what resulted from such contact. Why was the permanent establishment definition selected as the item to be changed in the tax area?

Answer.

In our discussions with the British subsequent to the Senate reservation on Article 9(4) of the proposed treaty, the United Kingdom specifically requested the inclusion in the protocol of a provision clarifying their taxing rights with respect to exploration and exploitation connected activities. This requested clarification was not unusual in light of the original negotiations in 1975 over the permanent estab-[78]lishment definition. In those negotiations, the United States agreed to delete from the twelve month permanent establishment exclusion contained in subparagraph (2)(f) of the proposed treaty any reference to 'an installation or drilling rigor ship used for the exploration or development of natural resources' as a result of the British insistence that there be no limitation on their right to tax such activities. This deletion left the application of the permanent establishment definition to these activities somewhat uncertain, although as the United Kingdom authorities believe, a strong argument exists that these activities could be taxed even without the clarification of the new protocol. We agreed to the inclusion of this provision in the Third Protocol because it was reasonable to expect the British to request some additional concession for the loss of the benefits of Article 9(4); because the terms of the provision were reasonable in light of our own statutory tax policy (we would generally tax these kinds of activities conducted in the United States, even if they were of a shorter duration than 30 days); and because it could be viewed as little more than a clarification of a reasonable interpretation taken by the British of their taxing rights under the proposed treaty without the protocol provision. The drilling industry was clearly aware of the precise terms of the protocol provision at least one month prior to the signing of the Protocol on March 15, 1979. On February 16, 1979, Mr. Arnold W. Bramlett, Chairman of the Accounting and Taxation Committee of the International Association of Drilling Contractors (IADC), wrote to the International Tax Counsel, Mr. H. David Rosenbloom, expressing general concern over the provision. Subsequently, there were telephone conversations between Mr. Rosenbloom and Mr. Bramlett in which the Treasury sought specific information as to the nature of the activities and the harm which was alleged would occur. These requests were conformed in a letter from Mr. Rosenbloom to Mr. Bramlett on March 5, 1979, still 10 days before the Protocol was signed. To date, the Treasury has not received from the IADC, or any of its members, specific information detailing any specific adverse effects of the protocol provision.


QUESTIONS ON THE U.S.-HUNGARY INCOME TAX TREATY


Question 1.

How does the 1977 model convention of the Organization of Economic Cooperation and Development (OECD)differ from the U.S. model income tax convention? [FN4]

Answer:

Among the primary differences between the U.S. and OECD models are that the United States reserves its right under its model to tax U.S. citizens in accordance with U.S. law even if they are residents of the other treaty country and that U.S. treaties cover only Federal income taxes except for purposes of nondiscrimination where all taxes are covered. The OECD model deals with taxation of residents of each country and does not make an exception for nonresident citizens, and covers state and local income and capital taxes as well as those at the national level. In addition, the U.S. model provides for exemption at source on interest (taxation only in the country of resi-[79]dence) whereas the OECD model allows a 10 percent tax at source. The U.S. model includes somewhat broader provisions for adjusting the income of related persons and exchanging information and provides for limited assistance in collecting taxes reduced on payments to persons not entitled to the treaty reductions. There are a number of lesser differences, primarily technical in nature. A summary comparison of the two models is given in the attached memorandum.

Question 2.

Will the proposed Hungarian Convention result in a net loss or gain to the U.S. tax revenues? If gain, how much? If loss, how much? What are the underlying policy reasons for any projected loss or gain?

Answer.

The revenue consequences of the treaty for the foreseeable future are negligible. The reductions in Hungarian tax will primarily benefit U.S. investors by reducing excess credits of joint ventures and eliminating the need to file tax returns by individuals and companies whose contacts with Hungary are limited. The U.S. rate reductions on outgoing dividends, interest and royalties represent a potential revenue cost but the level of such payments is insignificant.

Question 3.

The submittal letter from the Secretary of State to the President mentions that the convention provides 'for exchange of information and administrative cooperation between the tax authorities of the two countries to avoid double taxation,' how, or in what form will this exchange and/or cooperation take place?

Answer.

The exchange of information and administrative cooperation provisions are taken from the U.S. model treaty and appear in several other U.S. treaties. The tax authorities agree to cooperate with each other in applying the convention to avoid double taxation and prevent tax evasion. The United States would furnish Hungary with copies of withholding forms on payments of U.S. income, such as dividends and interest subject to withholding, to residents of Hungary (not U.S. citizens). Safeguards are provided to protect secrecy and avoid undue administrative burdens. The tax authorities may consult by letter or in person whenever a question arises.

Question 4.

Will the ratification of U.S.-Hungary Income Tax Treaty encourage private U.S. capital investment or activity in Hungary? If yes, have there been any projections or studies as to the level of investment or activities?

Answer.

The ratification of the treaty would signal to U.S. and Hungarian investors that familiar tax rules apply and sound tax relations exist between the two countries. This would support and encourage the interest of investors in both countries, but it is one factor and cannot be quantified separately. Interest already exists. For example, Control Data, Katy Industries (shoes) and Levi Strauss are already actively in Hungary and Hungarian companies are producing light bulbs, marketing pharmaceuticals, and engaging in a joint venture with Corning Glass in the United States. The treaty would help the expansion of these activities by clarifying the tax rules in advance.


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TREASURY DEPARTMENT TECHNICAL EXPLANATION [FN5] OF THE CONVENTION BETWEEN THE GOVERNMENT OF THE UNITED STATES OF AMERICA AND THE GOVERNMENT OF THE HUNGARIAN PEOPLE'S REPUBLIC FOR THE AVOIDANCE OF DOUBLE TAXATION AND THE PREVENTION OF FISCAL EVASION WITH RESPECT TO TAXES ON INCOME [FN6]


This treaty was negotiated on the basis of the U.S. Model Convention for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital published on May 18, 1976. A revised version of that Model was published on May 1977. In nearly all respects the two versions are substantially the same. The May 1977 version reflects the revised Model Double Taxation Convention on Income and Capital published by the Organization for Economic Cooperation and Development (OECD) in January 1977 which modified the 1963 OECD Model. Many of those revisions were available at the time this treaty was negotiated and were also taken into account.


Article 1.
PERSONAL SCOPE

This Article identifies the persons who come within the scope of the Convention (hereinafter referred to as 'the treaty'). Paragraph 1 is taken directly from the U.S. Model Income Tax Convention (hereafter 'the U.S. Model') of May 1977, but with the wording revised so that the general rule is stated first and the exception follows. The general rule is that the treaty applies to residents of one or both of the Contracting States. The term 'resident' is defined in Article 4 (Fiscal Domicile). The exception is that in certain cases the treaty may also apply to residents of third countries because of their relationship to a resident of a Contracting State. For example under paragraph 5 of Article 9 (Dividends) the treaty refers to dividends derived by residents of third countries, and Article 23 (Exchange of Information) may apply to residents of third countries. Paragraph 2 contains the traditional 'saving clause' under which each Contracting State reserves the right to tax its residents, as determined under Article 4 (Fiscal Domicile), and its citizens as if the treaty had not come into effect. In the case of the United States the 'saving clause' applies to former citizens as well as to current citizens. This is standard U.S. treaty policy (see Revenue Ruling 79-152). A former U.S. citizen whose loss of citizenship had as one of its principal purposes the avoidance of income tax will continue to be subject to U.S. income tax, in accordance with the provisions of section 877 of the Internal Revenue Code, for a period of ten years following the loss of citizenship. The substance of this paragraph is the same as that of paragraph 2 of Article 1 of the U.S. Model of May 1977. The saving clause is drafted reciprocally because in certain cases the Hungarian People's Republic also taxes on the basis of citizenship. The Hungarian income tax on intellectual activities applies at graduated rates of 6 to 60 percent on royalties derived by Hungarian citizens wherever resident. However, since the reference to former citizens has no effect under the laws of the Hungarian People's Republic, that clause was simplified by making the reference applicable only to former citizens of the United States. Paragraph 3 sets forth certain exceptions to the application of the saving clause where other provisions of the treaty reflect overriding policies. For example, the saving clause does not affect the benefits provided under paragraph 2 of Article 15(Pensions). Social security benefits and other public pensions paid by the Hungarian People's Republic are taxable only by the Hungarian People's Republic even though the recipient may be a resident or citizen of the United States, and conversely. Similarly, the benefits provided under Article 20 (Relief from Double Taxation), Article 21 (Non-Discrimination), and Article 22 (Mutual Agreement Procedure) are available to residents and citizens of the Contracting States notwithstanding the saving clause. In some other cases the saving clause overrides benefits conferred by the treaty to citizens or persons having immigrant status in a Contracting State, but does not override those benefits as applied to residents who are not citizens and do not have immigrant status in that State. This second category of exceptions to the saving clause refers to the benefits conferred by a Contracting State under Article 16 (Government Service), Article 17 (Teachers), Article 18 (Students and Trainees), and Article 24 (Effect of Convention on Diplomatic and Consular Officials, Domestic Laws and Other Treaties). This paragraph follows closely paragraph 3 of Article 1 of the U.S. Model of May 1977. It differs only in omitting a cross reference to child support payments under subparagraph (a) and in adding a cross reference to teachers under subparagraph (b). The U.S. Model of May 1977 contains a specific rule on child support payments not found in this treaty, and does not include an article on teachers such as the one found in this treaty.


Article 2. TAXES COVERED

Paragraph 1 states the general rule that the treaty applies to income taxes imposed on behalf of a Contracting State. Except for Articles 21 (Non-Discrimination) and 23 (Exchange of Information), the Convention does not apply to taxes on capital, and it applies to income taxes imposed only at the national level. Capital taxes were omitted because, since the United States does not have such taxes at the national level there is no double taxation, including them would be non-reciprocal and there is no U.S. tax against which to credit Hungarian taxes on capital. Moreover, the Hungarian taxes on capital are not major taxes; they apply primarily to housing, vacant land and farm property. The Hungarian People's Republic does not now have any local income taxes. Only the national government imposes income taxes, although the revenue from some of those taxes is turned over to the county governments. Paragraph 2 designates the existing taxes to which the Convention shall apply. In the case of the United States these are the Federal income taxes imposed by the Internal Revenue Code, the excise tax on insurance premiums paid to foreign insurers (Code section 4371) and the excise tax with respect to private foundations (Code section 4940). The accumulated earnings tax (Code 531) and the personal holding company tax (Code section 541) are not covered by the treaty. These provisions, which are found in subparagraph (a), are identical to paragraph 2(a) of the U.S. Model of May 1977. In the case of the Hungarian People's Republic, there are eight existing income taxes covered by the treaty: the general income tax, the income tax on intellectual activities, the profit tax, the profit tax on economic associations with foreign participation, the enterprises' special tax, the levy on dividends and profit distributions of commercial companies, the profit tax on state-owned enterprises, and the contribution to communal development to the extent that it is imposed in respect of income taxes covered by the treaty. The contribution to communal development is imposed as a surtax to the general income tax and the income tax on intellectual activities. It was agreed that it will be covered by the treaty to the extent that it is imposed on those or any other income tax covered by the treaty, but not if it should be imposed as a surtax to a tax not so covered. Under paragraph 1 of Article 20 (Relief from Double Taxation), the United States agrees that the Hungarian taxes enumerated in paragraphs 2(b) and 3 of this Article are income taxes for purposes of the U.S. foreign tax credit. Paragraph 3 provides that the treaty shall also apply to subsequently imposed taxes which are substantially similar to the existing taxes covered by the treaty. The competent authorities agree to notify each other of changes in their respective tax laws and any official published material relating to the application of the treaty. This provision is identical to paragraph 3 of the U.S. Model of May 1977. Paragraph 4 provides that for some purposes the treaty also applies to taxes other than national income taxes. For the purposes of Article 21 (Non-Discrimination), the treaty applies to taxes of all kinds imposed at all levels of government. For the purposes of Article 23 (Exchange of Information), the treaty applies to taxes of every kind imposed at the national level. These provisions also correspond to those found in the U.S. Model of May 1977.


Article 3. GENERAL DEFINITIONS

Paragraph 1 defines the principal terms used throughout the treaty. Unless the context otherwise requires, the terms defined in this paragraph have a uniform meaning throughout the treaty. It should be noted that a number of important terms are defined in other Articles. For example the terms 'resident' and 'permanent establishment' are defined in Articles 4 (Fiscal Domicile) and 5 (Permanent Establishment), respectively, and the terms 'dividends' and 'interest' are defined in Articles 9 (Dividends) and 10 (Interest). Paragraph 1 follows paragraph 1 of the U.S. Model of May 1977 in defining the terms 'person', 'company', 'enterprise of a Contracting State', 'international traffic', 'competent authority', and the term 'United States'. The definition of the United States includes the continental shelf of the United States in accordance with section 638 of the Internal Revenue Code and the regulations thereunder. The term 'Hungarian People's Republic' is defined to include the territory of the Hungarian People's Republic. Hungary does not have a territorial sea or continental shelf. The only departure in this paragraph from the U.S. Model of May 1977 is the definition of the term 'nationals,' which is relevant for purposes of Article 21 (Non-Discrimination). In this treaty 'national' is defined to mean an individual citizen of a Contracting State and any legal person, partnership, and association deriving its status as such from the law in force in a Contracting State. The definition of 'national' as an individual citizen is found in the U.S. Model in Article 24 (Non-Discrimination), paragraph 2. The additional definition of legal persons, partnerships and associations as nationals of a Contracting State is taken from the OECD Model Draft Income Tax Convention of January, 1977, where it appears in Article 24 (Non-Discrimination). Paragraph 2 is from the U.S. Model of May 1977. It provides that terms not defined in the treaty shall have the meaning which they have under the laws of the Contracting State relating to the taxes to which the treaty applies, unless the context of the treaty requires otherwise and unless the competent authorities agree on an acceptable definition under the terms of Article 22 (Mutual Agreement Procedure).


Article 4. FISCAL DOMICILE

This article sets forth rules for determining the residence of individuals, corporations, and other persons for purposes of the treaty. A definition of residence is important because, except as otherwise provided in the treaty, only a resident may claim the benefits of the treaty. Paragraphs 1 through 5 of this Article correspond to paragraphs 1 through 5 of Article 4 (Resident) of the U.S. Model of May 1977. Paragraph 6 of the U.S. Model does not appear because it is relevant only with respect to countries which impose tax on a remittance basis, and that is not the case in the Hungarian People's Republic. Paragraph 1 lists a number of criteria which may be used under the laws of a Contracting State to determine residence, such as domicile, residence, citizenship, place of management, or place of incorporation. Thus, a U.S. citizen living in a third country is a resident of the United States under this treaty. A person liable to tax in a Contracting State only on income from sources in that State is not considered to be a resident of that State for purposes of the treaty. For example, a diplomat of the Hungarian People's Republic or of a third country stationed in the United States is not a resident of the United States for purposes of the treaty. When applied with respect to income derived by a partnership, estate, or trust, the term 'resident' applies only to the extent that the income derived by such partnership, estate, or trust is subject to tax as the income of a resident of a Contracting State either in its hands or in the hands of the partners or beneficiaries. For example, if a Hungarian partnership which is comprised of one partner resident in Hungary and another partner resident in a third country derives dividends from the United States, the limitation of U.S. tax under the provisions of Article 9 (Dividends) of this treaty apply only to the portion of the dividend attributable to the partner who is a resident of Hungary. Paragraph 2 provides a series of tiebreakers for assigning a single residency to a person who under paragraph 1 would be a resident of both countries. The first test is where the individual has a permanent home. If this test is inconclusive because the individual has a permanent home in both countries or in neither of them, the second test is where his center of vital interests is located, in other words, where his personal and economic relations are closer. If this test does not provide a satisfactory answer, the third criterion is where the individual has an habitual abode; and if he has an habitual abode in both countries or in neither of them, he is deemed to be a resident of the State of which he is a national. Should the individual be a national of both countries or of neither of them, then it is left to the competent authorities of the Contracting States to settle the question by mutual agreement. Paragraph 3 provides that a company, which under paragraph 1 is a resident of both Contracting States, shall be considered a resident only of the Contracting State under the laws of which it is created or organized, whether at the national level or under the laws of a political subdivision. Thus, a corporation incorporated under the laws of a state of the United States is a resident only of the United States for purposes of the treaty. Paragraph 4 provides that if a person other than an individual or a company is a dual resident of the Contracting States, the competent authorities shall attempt to agree on a single residence in one of the Contracting States for such person. Paragraph 5 provides that an individual national of one of the Contracting States shall also be considered to be a resident of that State if that individual is employed by that Contracting State or an instrumentality thereof and is engaged in the performance of governmental functions for the employing State and remains subject to income tax by the employing State as if he continued to be a resident thereof. This provision also applies to the spouse and minor children residing with such an employee if they are also subject to income tax by the sending state. This paragraph is not found in the OECD Model. It is provided in the U.S. Model of May 1977. Under its terms, a U.S. diplomat or other employee of the United States government performing governmental functions for the United States outside of the United States is considered to be a resident of the United States for purposes of this treaty and therefore entitled to the benefits provided in the treaty for residents of the United States, such as the reduced rate of Hungarian withholding tax with respect to dividends and the exemption from Hungarian tax of interest and royalties paid to residents of the United States. And conversely, a Hungarian diplomat stationed in the United States is a resident of the People's Republic of Hungary for purposes of the treaty.


Article 5. PERMANENT ESTABLISHMENT

This Article defines the term 'permanent establishment,' which is relevant to the taxation of business profits under Article 7 (Business Profits). With only a few minor exceptions, this Article is the same as Article 5 (Permanent Establishment) of the U.S. Model of May 1977. In paragraph 1 the term 'or production' was inserted after the phrase 'fixed place of business' at the request of the Hungarian delegation, because in the Hungarian language 'business' does not encompass all trade or business activities but has a more limited meaning. For the same reason, it was also decided to change the reference 'through which the business of an enterprise is wholly or partly carried on' to 'through which the activities of an enterprise are wholly or partly carried on.' The term 'fixed place of business' appears also in subparagraphs (d), (e) and (f) of paragraph 4 and in paragraph 5. However, it was not necessary to insert the term 'or production' in those paragraphs because they do not pertain to production activities. The term 'place of management' was inserted in paragraph 2 at the request of the Hungarian delegation to provide greater uniformity with the OECD model. The U.S. Model of May 1977 excludes this term because it lacks clarity and in any event a place of management would normally require an office, which is specifically listed. Paragraph 3 is the same as in the U.S. Model of May 1977. It provides that a building site or construction or installation project or an installation or drilling rig or ship used for the exploration or development of natural resources constitutes a permanent establishment only if it lasts more than 24 months. In such a case, it constitutes a permanent establishment from the first day. Paragraph 4 lists a number of exceptions to the general rule that a fixed place of business or production through which the activities of an enterprise are carried on constitutes a 'permanent establishment.' Paragraph 4 is the same as paragraph 4 of Article 5 of the U.S. Model of May 1977. It is also the same as the comparable paragraph in the 1977 OECD Model, with the exception that subparagraph (f) of this treaty provides that the maintenance of a fixed place of business solely for any combination of the activities mentioned in subparagraphs (a)through (e) does not constitute a permanent establishment, whereas under subparagraph (f) of the OECD Model (paragraph 4 of Article 5) there is an additional condition that the overall activity of the fixed place of business resulting from this combination must be of a preparatory or auxiliary character for the enterprise. Paragraphs 5 and 6 refer to the use of agents. Under paragraph 5 a dependent agent acting on behalf of an enterprise who habitually exercises an authority to conclude contracts in the name of the enterprise is deemed to constitute a permanent establishment of that enterprise except to the extent that his activities are limited to those mentioned in paragraph 4, which would not constitute a permanent establishment when carried on at a fixed place of business. Paragraph 6 provides that merely because an enterprise of one Contracting State makes use in the other Contracting State of a broker or other agent of independent status acting in the ordinary course of business, it will not therefore be considered to have a permanent establishment in that other State. Paragraph 7 states that the fact that a corporation which is a resident of one Contracting State is either the subsidiary or the parent of a corporation which is a resident of the other Contracting State is not in itself relevant in determining whether the corporation has a permanent establishment in the other Contracting State. What is relevant is whether the subsidiary or parent corporation carries on an activity which, within the provisions of the article, would constitute a permanent establishment of the other company. The same rules apply to two or more subsidiaries of the same company.


ARTICLE 6. INCOME FROM IMMOVABLE PROPERTY (Real Property)

This Article provides that income from real property, including income from agriculture and forestry, may be taxed by the Contracting State where the property is situated. This rule does not confer an exclusive right of taxation to the State where the property is situated,but simply confirms that the situs State has the primary right to tax such income regardless of whether the income is derived through a permanent establishment in that State. This Article is identical to paragraphs 1 through 4 of Article 6 of the U.S. Model of May 1977. Paragraph 5 of the U.S. model providing for a binding election to be taxed on a net basis was deleted as unnecessary; such an election is available under U.S. law, and the Hungarian People's Republic taxes income from real property on a net basis in any event. This Article, except for the addition of the parenthetical reference to real property, is identical to Article 6 of the OECD Model of January 1977.


Article 7. BUSINESS PROFITS

This Article provides rules for the taxation by a Contracting State of income from business activity carried on in that State by a resident of the other State. Paragraph 1 provides that business profits of an enterprise of one Contracting State shall be taxable only in that State except to the extent that such profits are attributable to a permanent establishment through which the enterprise carries on business activities in the other Contracting State. This rule is also found in the U.S. Model of May 1977 and the OECD Model of January 1977. Paragraphs 2 and 3 are also taken from the U.S. Model of May 1977. Paragraph 2 provides that the profits to be attributed to a permanent establishment are those which it might be expected to make if it were a distinct and independent enterprise engaged in the same or similar activities under the same or similar conditions. Paragraph 3 provides that there shall be allowed as deductions those expenses incurred for the purposes of the permanent establishment, whether incurred in the State where the permanent establishment is located or elsewhere. The deductible expenses include a reasonable allocation of administrative expenses, research and development expenses, interest, and other expenses incurred for the purposes of the enterprise as a whole or the part thereof which includes the permanent establishment. Paragraph 4(a) is the same as paragraph 4 of Article 7 of the U.S. Model of May 1977. It provides that the mere purchase by a permanent establishment of goods or merchandise for the enterprise shall not result in profiles being attributed to the permanent establishment. Paragraph 4(b) adds that the mere delivery to the permanent establishment of goods or merchandise for its use shall not give rise to the attribution of profit to the permanent establishment. Paragraph 4(b) was added at the request of the Hungarian delegation because they have had difficulty with other countries assessing profits to a permanent establishment in such cases. Paragraph 5 provides that where business profits include items of income dealt with separately in other Articles of the treaty, then the provisions of those separate articles override the provisions of this Article. Thus, for example, the taxation of income of shipping and aircraft companies dealt with in Article 8 (Shipping and Air Transport) is governed by that Article and not by this Article. Similarly the taxation of dividends, interest, and royalties is controlled by Articles 9 (Dividends), 10 (Interest), and 11 (Royalties); however, the terms of those articles provide that where dividends, interest, or royalties derived by a resident of a Contracting State are effectively connected with a permanent establishment or fixed base of that resident in the other Contracting State, then the provisions of this Article or of Article 13 (Independent Personal Services) shall apply. This Article does not include two paragraphs which appear in Article 7 of the U.S. Model of May 1977. One such paragraph (paragraph 5) of the U.S. Model provides that the method for determining the profits attributable to a permanent establishment shall be used each year unless there is good and sufficient reason to change. This provision was inserted in the U.S. Model only for uniformity with the OECD Model; its deletion is not of any consequence. The second such deletion is paragraph 7 of Article 7 of the U.S. Model which provides a definition of 'business profits'. The primary purpose of that definition is to state that film rentals and rentals of tangible personal property are business profits, and therefore subject to the provisions of Article 7, with the result that such income derived by a resident of one Contracting State may not be taxed by the other Contracting State except to the extent attributable to a permanent establishment in the latter State. The Hungarian delegation objected to defining such rentals as business profits. However, they were willing to provide for exemption at source on royalties and on income not expressly mentioned when not attributable to a permanent establishment in Hungary. Consequently, it was agreed to delete the definition of business profits and to deal with film rentals under Article 11 (Royalties) and rentals of tangible personal property under Article 19 (All Other Income).


Article 8. SHIPPING AND AIR TRANSPORT

Paragraph 1 provides that profits of an enterprise of one of the Contracting States from operating ships or aircraft in international traffic shall be taxable only in that Contracting State. Paragraphs 2 and 3 clarify what income is to be considered profits from the operation of ships or aircraft. Paragraph 2 states that profits from the rental on a full or bare boat basis of ships or aircraft operated in international traffic are covered by the exemption at source provided in paragraph 1 if such rental profits are incidental to operating profits. The lessee need not be a resident of a Contracting State. Paragraph 3 states that profits from the use, maintenance, or rental of containers and related equipment for the transport of goods or merchandise in international traffic are also covered by the exemption at source provided in paragraph 1. Paragraphs 1 through 3 of this Article are taken directly from the U.S. model income tax convention of May 1976. In the U.S. model of May 1977, the exemption of rental income was broadened to include the rental on a full or bareboat basis of ships or aircraft if such rental profits are incidental to the operating profits or if the lessee operates the ships or aircraft in international traffic, in which case it is not necessary that such profits be incidental to operating profits to qualify for the exemption. That revision had not been made at the time that this treaty was being negotiated. Paragraph 4 was inserted at the request of the Hungarian delegation to make certain that the income derived from the ticket sales of offices in the United States of Malev Airlines would not be subject to United States tax, although attributable to a permanent establishment in the United States, and conversely for ticket sales of U.S. airlines and shipping companies in Hungary. It is taken from the income tax treaty between Hungary and Austria.


Article 9. DIVIDENDS

Article 9 in the U.S. Model deals with associated enterprises. In this treaty, that topic is dealt with in an exchange of notes accompanying the treaty. Consequently, beginning with Article 9 the numbering of this treaty is not consistent with that of the U.S. Model. This Article limits the rate of tax which may be imposed by either Contracting State on dividends paid by a company which is a resident of that State to a shareholder resident in the other Contracting State. Such dividends may be taxed in the State of Residence of the recipient. They may also be taxed in the State of which the company paying the dividends is a resident, but at rates which shall not exceed 5 percent of the gross amount of the dividends when the beneficial owner is a company resident in the other Contracting State and owns, directly or indirectly, at least 10 percent of the voting stock of the company paying the dividends, and 15 percent of the gross amount of the dividends in all other cases. These rules are also found in Article 10 of the U.S. Model of May 1977. The Hungarian People's Republic imposes under its levy on dividends and profit distributions (paragraph 2(b)(vi) of Article 2 (Taxes Covered)) a 'remittance' tax on dividends paid by a Hungarian joint venture. The tax is imposed on the distributing entity at a statutory rate of 20 percent. Technically, the definition of dividends does not cover the Hungarian 'remittance' tax because it is imposed on the distribution rather than on the receipt of dividends. However, Hungary agrees that under this paragraph the rate of remittance tax will be reduced to 5 percent or 15 percent on distributions to U.S. residents. Paragraph 3 defines 'dividends' as income from shares or other rights participating in profits, but not debt claims, and income from other corporate rights taxed in the same was as income from shares under the tax law of the State of which the company making the distribution is a resident. This definition is also found in the U.S. Model of May 1977. Paragraph 4 provides that where the shares or holding in respect of which the dividends are paid is effectively connected with a permanent establishment or fixed base of the recipient in the country of which the company paying the dividends is a resident, then the dividends are taxable in accordance with the provisions of Article 7 (Business Profits) or Article 13 (Independent Personal Services), rather than under the other provisions of this article. Paragraph 5 provides that, in general, a Contracting State may not impose tax on dividends paid by a company which is a resident of the other Contracting State as a general rule, but that there are three exceptions to this rule: (1) where the dividends are paid to a resident of the first mentioned State, (2) where the holding in respect of which the dividends are paid is effectively connected with a permanent establishment or fixed base in the first State, or (3) where the dividends are paid out of profits attributable to a permanent establishment in the first State of the company paying the dividends, provided that at least 50 percent of that company's gross income from all sources was attributable to a permanent establishment of the company in that first State. Where only the third of these three conditions applies, the rate of tax which may be imposed on such dividends is subject to the limitations provided in paragraph 2 of this article when the dividends are paid to a resident of the other Contracting State. For example, if a corporation created under the laws of the Hungarian People's Republic and doing business in the United States pays dividends, those dividends could be taxed by the United States if paid to a resident of the United States. They could also be taxed by the United States if the holding in respect of which the dividends are paid is effectively connected with a permanent establishment or a fixed base in the United States. And, finally, they could be taxed by the United States if the dividends are paid out of profits attributable to a permanent establishment of the Hungarian corporation in the United States, but only if at least 50 percent of the company's gross income from all sources was attributable to a permanent establishment in the United States. The final case preserves the United States tax on dividends paid by a foreign corporation which are considered to be of U.S. source under section 861(a)(2)(B) of the Internal Revenue Code. If paid to residents of the Hungarian People's Republic, such dividends would be subject to U.S. tax at the reduced rates provided in paragraph 2. The Hungarian People's Republic does not have a comparable source rule to that of section 861(a)(2)(B) of the U.S. Internal Revenue Code. To make it clear that Hungary will not impose its remittance tax twice, once on the remittance by a joint venture to a U.S. partner under paragraph 2, and again under paragraph 5(c) on the dividend paid by the U.S. partner to its U.S. parent, a statement was included in the exchange of notes that Hungary will not impose its remittance tax under paragraph 5(c).


Article 10. INTEREST

This article deals with the taxation by one Contracting State of Interest derived by a resident of the other Contracting State. Paragraph 1 provides the rule found in the U.S. Model of May 1977 that interest shall be exempt from tax at source and taxable only in the state of residence. However, the wording of the U.S. Model which refers to interest 'derived and beneficially owned' by a resident of a Contracting State was changed at the request of the Hungarian delegation to the language of the OECD Model (Article 11, paragraph 1) which refers to interest 'arising in a Contracting State and paid to a resident of the other Contracting State.' Paragraph 2 contains the definition of interest found in the U.S. Model of May 1976. It differs from the U.S. Model of May 1977 and from the OECD Model only by not specifically excluding penalty charges for late payment from the definition of interest. This is not a difference of substance. Paragraph 3 provides that where the debt claim in respect of which the interest is paid is effectively connected with a permanent establishment or fixed base which the recipient of the interest maintains in the other Contracting State, then the interest is taxable in accordance with the provisions of Article 7 (Business Profits) or Article 13 (Independent Personal Services) rather than under this Article. The exchange of notes includes a provision with respect to interest not at arm's length paid between related persons.


Article 11. ROYALTIES

Paragraph 1 contains the rule found in the U.S. model of May 1977 (Article 12) which gives the exclusive right of taxation of royalties to the state of residence of the recipient. However,the wording was revised to conform to the language of the 1963 OECD Model (Article 12), which parallels the language of the 1977 OECD Model with respect to interest (Article 11), to read' Royalties arising in a Contracting State and paid to a resident of the other Contracting State shall be taxable only in that other State.' Paragraph 2 contains a definition of royalties, taken from the U.S. model of 1977 (Article 12, paragraph 2) but including rather than excluding cinematographic films or films or tapes used for broadcasting. The last sentence of the definition of royalties found in the U.S. Model, relating to gains derived from the alienation of property which are contingent upon the productivity, use or disposition of such rights or property was deleted, at the request of the Hungarian delegation. Paragraph 3 provides that where the right or property in respect of which the royalties are paid is effectively connected with a permanent establishment or fixed base maintained by the recipient of the royalties in the other Contracting State, then the royalties shall be taxed in accordance with the provisions of Article 7 (Business Profits of Article 13 (Independent Personal Services) rather than in accordance with the provisions of this article. Paragraph 4 of the U.S. model of May 1977 dealing with royalties paid at other than arm's-length between related persons was deleted because the Article on associated enterprises was deleted. The substance of this paragraph is found in the exchange of notes accompanying the treaty.


Article 12. CAPITAL GAINS

This article contains the same provisions as found in the U.S. Model of May 1977 (Article 13) with the exception that the reference to gains from the disposition of rights or property contingent on the productivity, use or disposition of the property as described in Article 12 (Royalties) was deleted to correspond to the deletion of that sentence from Article 12. Paragraph 1 provides that gains from the alienation of immovable property are taxable in the state where the property is situated. Paragraph 2 provides that a Contracting State may tax gains from the alienation of movable property which is part of the property of a permanent establishment or fixed base in that State of a resident of the other Contracting State. However, gains derived by an enterprise of one Contracting State from the alienation of ships, aircraft, or containers which it operates in international traffic are taxable only in the state of residence of that enterprise. This latter provision relating to ships, aircraft and containers is also found in the U.S. Model but in a separate paragraph (paragraph 3 of Article 13). Paragraphs 1 and 2 do not confer an exclusive right to tax. Such gains may also be taxed by the State of residence, subject to the provisions of Article 20 (Relief from Double Taxation). Paragraph 3 provides that gains from the alienation of any property other than property identified in paragraphs 1 and 2 are taxable only in the State of which the recipient is a resident.


Article 13. INDEPENDENT PERSONAL SERVICES

The treaty provides separate articles dealing with the taxation of income from independent and dependent personal services. Independent personal services are services performed by an individual for his own account where he receives the income and bears the losses arising from such services. Income from services in which capital is a material income-producing factor, however, will generally be governed by the provisions of Article 7 (Business Profits). Generally, services rendered as a director of a corporation, or by physicians, lawyers, engineers, architects, dentists, artistes, athletes, and accountants who perform personal services as sole proprietors or partners are independent personal services, whereas services performed as an employee or as an officer of a corporation constitute dependent personal services. This article is the same as Article 14 of the U.S. Model of May 1977, with the addition of paragraph 2 which illustrates the kinds of services covered by this article. Paragraph 2 is based on paragraph 2 of Article 14 of the OECD Model, but the term used in that model, 'professional services' has been changed to 'personal services,' and artistes and athletes have been added to the list of examples because in this treaty, unlike in the OECD model, they are treated under the general rules for independent or dependent personal services rather than in a special article. The rule provided in this Article is that income derived by an individual who is a resident of a Contracting State from the performance of personal services in an independent capacity shall generally be taxable only in that State. However, such income may also be taxed in the other Contracting State if such services are performed in that other State and either a) the individual is present in that other state for more than 183 days in the taxable year, or b) the income is attributable to a fixed base in that other state which the individual has regularly available therefor the purpose of performing his activities.


Article 14. DEPENDENT PERSONAL SERVICES

This article is the same as Article 15 of the U.S. Model of May 1977. It provides that, subject to the provisions relating to pensions (Article 15) and income for government services (Article 16), remuneration derived by a resident of a Contracting State in respect of an employment may be taxed by that other State only to the extent that the remuneration is for employment exercised in that other State. Even in that event, the remuneration is taxable only in the recipient's state of residence if the recipient is present in the other state for not more than 183 days in the taxable year, is paid by or on behalf of an employer who is not a resident of the other State, and the remuneration is not borne by a permanent establishment or fixed base of the employer in the other State. Paragraph 3 provides a special rule for crew members of ships or aircraft operated in international traffic. Remuneration for such services is taxable only in the Contracting State of which the enterprise operating the ship or aircraft is a resident.


Article 15. PENSIONS

This article corresponds to paragraph 1 of Article 18 of the U.S. model of May 1977. It provides that, subject to the provisions of paragraph 2 of Article 16 (Government Services), pensions and similar remuneration beneficially derived by a resident of one Contracting State in consideration of past employment are taxable only in the state of residence of the recipient, but that social security payments and other public pensions paid by one of the Contracting States to a resident of the other state or to a United States citizen are taxable only in the paying state. The first paragraph deals with pensions in consideration of private employment. The second paragraph deals with retirement benefits which are not related to prior employment, such as social security payments and U.S. railroad retirement benefits. Pensions in consideration of government employment are covered under Article 16 (Government Services). The U.S. Model (Article 18) provides additional paragraphs 2, 3 and 4 which deal respectively with annuities, alimony, and child support payments. Those paragraphs were deleted in this treaty. Annuities, alimony, and child support payments therefore come under Article 19 (All Other Income).


Article 16. GOVERNMENT SERVICE

With one exception this article is the same as Article 19 of the U.S. Model of May 1977. Paragraph 1 provides as a general rule that remuneration other than pensions paid by a Contracting State or a political subdivision or local authority thereof to any individual for services rendered shall be taxable only in that State. It also provides an exception, however. The exception is that such remuneration shall be taxable only in the other Contracting State if the services are rendered in that other State and the individual is a resident of that other State and either is also a national of that State or did not become a resident of that State solely for the purpose of performing the services (for example, if the individual was a local resident when hired by the first State). This rule and the exception to it are also found in the OECD Model of January 1977. The U.S. Model also includes a special provision for the spouse of dependent children of an individual employed by one of the Contracting States and sent to perform governmental services in the other Contracting State and who is not a national of that other Contracting State. In such a case under the U.S. Model, if the spouse or a dependent child of such an individual were to also become employed by the first Contracting State after having become resident in the other Contracting State that spouse or child would also be exempt from tax by that other Contracting State on the remuneration for those services. The purpose of this special rule is to cover the case where the wife or child of a U.S. embassy employee in Budapest, for example, also becomes employed by the U.S. Embassy in Budapest after having established residence there. However, this relatively modest purpose is not immediately clear from the complicated language inserted in at the end of paragraph 1 in the U.S. Model. Moreover, it is unnecessary in this case because under paragraph 5 of Article 4 (Fiscal Domicile) such an individual would be considered a resident of the United States (the country of nationality) for all purposes of the treaty. Consequently, that additional language was deleted. Paragraphs 2 and 3 of Article 16 are the same as paragraphs 2 and 3 of the U.S. Model of May 1977. Paragraph 2 provides that a pension paid by a Contracting State or a political subdivision or a local authority thereof to any individual as consideration for services rendered to that State or subdivision or local authority is taxable only in that State unless the recipient is both a national and a resident of the other State, in which case such income is taxable only in the other Contracting State. Paragraph 3 provides that the provisions of this article apply only to remuneration and pensions in respect of governmental services. Remuneration and pensions in respect of services performed in connection with a business carried on by a Contracting State or a political subdivision or local authority thereof are taxable under the provisions of Articles 13 (Independent Personal Services), 14 (Dependent Personal Services), and 15 (Pensions), as the case may be.


Article 17. TEACHERS

At the request of the Hungarian delegation, this article was inserted. It is the same as Article 17 of the income tax treaty between the United States and Poland. The article provides that when a resident of one of the Contracting States goes to the other Contracting State for a period not expected to exceed two years for the purpose of teaching or engaging in research or both at a university or other recognized educational institution in that other State, at the invitation of that other State or of a recognized educational institution in that State, the income for personal services of teaching or research at that educational institution shall be exempt from tax by the host State for a period not exceeding two years from the date of arrival in that State. This exemption does not apply to income from research carried on primarily for private benefit. If the two year period is exceeded, the exemption is not lost retroactively; it will still apply to the first two years. However, to qualify for the exemption, the individual must have gone to the other Contracting State for a period which was not expected to exceed the two years.


Article 18. STUDENTS AND TRAINEES

This article is substantially the same as Article 20 in the U.S. Model of May 1977. It provides that a resident of one of the Contracting States who goes to the other Contracting State for the purpose of full-time education or training shall be exempt from tax in that other Contracting State on payments made to him from sources outside that State for the purpose of his maintenance, education, or training. It further provides that such a student or trainee may elect to be treated for tax purposes as a resident of the State which he is visiting for the purposes of education or training. Under this rule, a Hungarian student or trainee in the United States may elect to be taxed on his world-wide income in the United States and to claim the same deductions and personal exemptions which are available to U.S. residents. Such an election would benefit a student or trainee with limited income, especially if he is supporting dependents, since a nonresident alien is only allowed one personal exemption and may not use the zero bracket amount. The election would presumably not be made by a student or trainee with a large amount of foreign source income. Once the election is made, it may not be revoked during the time when this article is applicable, except with the consent of the competent authority of the host State.


Article 19. ALL OTHER INCOME

This article conforms to paragraph 1 of Article 21 of the U.S. Model of May 1977. It provides that any income of a resident of a Contracting State which is not covered by other articles of this treaty shall be taxable only in the residence State. The items of income covered by this Article include annuities, alimony, child support payments, and rentals of tangible personal property. The U.S. Model of May 1977, like the OECD Model of January 1977, contains a second paragraph which excepts from the rule of paragraph 1 income derived by a resident of a Contracting State which is effectively connected with a permanent establishment or fixed base of that resident in the other Contracting State; in such cases, the income is covered instead under the provisions of the articles dealing with business profits or independent personal services. The Hungarians agreed with this rule, but felt that it was self-evident and therefore did not wish to include specific language in this article which they would have to explain to their tax authorities and taxpayers. It was agreed that the substance of this rule would be put instead in the exchange of notes.


Article 20. RELIEF FROM DOUBLE TAXATION

Paragraph 1 of this article is taken from the U.S. Model of May 1977. It provides that the United States shall give a foreign tax credit for income taxes paid to the Hungarian People's Republic, subject to the limitations provided in U.S. law. The taxes referred to in paragraphs 2(b) and 3 of Article 2 (Taxes Covered) are considered income taxes for purposes of the credit. The treaty guarantee of a foreign tax credit is independent of the statutory grant of a credit under the Internal Revenue Code, but the amount of the credit to be allowed is determined in accordance with the limitations provided in the Internal Revenue Code. The article provides a credit both for taxes imposed on the recipient and an indirect credit for taxes paid with respect to the profits of a corporation of the Hungarian People's Republic out of which dividends are paid to a United States corporation owning at least 10 percent of the voting stock of the Hungarian corporation paying the dividends. Paragraph 2 provides that the Hungarian People's Republic shall, with the exception of dividends from United States corporations, exempt from tax United States source income derived by residents of the Hungarian People's Republic. In the case where a resident of the Hungarian People's Republic is a United States citizen, the exemption applies to all income derived from sources within the United States; in the case of other residents of the Hungarian People's Republic, the exemption applies to income which may be taxed by the United States in accordance with the provisions of this treaty other than the 'saving' clause of paragraph 2 of Article 1 (Personal Scope). In the case of dividends which may be taxed in the United States in accordance with the provisions of paragraph 2 of Article 9 (Dividends), the Hungarian People's Republic will allow a foreign tax credit for the amount of tax imposed by the United States, up to the Hungarian tax attributable to such dividends. This credit is available with respect to the United States withholding tax; Hungary was not prepared to extend the credit to also cover the underlying corporate tax on the profits out of which dividends are paid in the case of dividends from a United States subsidiary to a Hungarian parent corporation. As a practical matter, cases of Hungarian corporations deriving dividends from U.S. subsidiaries are uncommon. In the absence of a treaty, the Hungarian People's Republic taxes the worldwide income of residents and provides no statutory relief from double taxation. The Hungarian People's Republic may take into account exempt income in determining the amount of tax on the taxable portion of income derived by residents of the Hungarian People's Republic. This method of avoiding double taxation, often referred to as 'exemption with progression,' is provided for in the OECD Model of January 1977 and is commonly used by countries which choose the exemption method of avoiding double taxation.


Article 21. NON-DISCRIMINATION

The provisions of this article are substantially the same as those of paragraph 1 and paragraphs 3 through 6 of Article 24 of the U.S. Model of May 1977. Paragraph 2 of Article 24 of the U.S. Model contains a definition of the term 'nationals' which in this treaty appears in Article 3 (General Definitions) and is broadened to include legal persons. Paragraph 1 provides that nationals, including legal persons as well as individuals, shall not be treated less favorably with respect to taxation and connected requirements by the other Contracting State than are nationals of that other Contracting State in the same circumstances. Nationals who are subject to tax on their worldwide income by a Contracting State are not in the same circumstances as nationals not taxed on their worldwide income by their State of nationality. Thus, United States citizens who are not residents of the United States are not in the same circumstances with respect to United States taxation as nationals of the Hungarian People's Republic who are not citizens of the United States, and therefore, the United States taxation of nationals of the Hungarian People's Republic as nonresident aliens may differ from the United States taxation of United States citizens resident in the Hungarian People's Republic without violating this provision. Paragraph 2 provides that a Contracting State may not impose more burdensome taxes on a permanent establishment of an enterprise of the other State than it imposes on its own enterprises carrying on the same activities. Paragraph 3 prohibits discrimination in the matter of deduction. Interest, royalties, and other disbursements paid by an enterprise of a Contracting State to a resident of the other Contracting State must be deductible for determining taxable profits under the same conditions as if they had been paid to a resident of the first-mentioned State. The U.S. Model contains language explaining that the term 'other disbursements' includes a reasonable allocation of executive and general administrative expenses, research and development expenses, and other expenses incurred for the benefit of a group of related enterprises. That sentence was deleted from this treaty as excessively detailed and not necessary. The paragraph also provides that debts incurred by an enterprise of a Contracting State to a resident of the other Contracting State shall be deductible in determining taxable capital under the same conditions as if the debts had been contracted to a resident of the first-mentioned State. Paragraph 4 requires that a Contracting State not impose more burdensome taxation on a subsidiary corporation owned by residents of the other Contracting State than it imposes on similar corporations which are locally owned. Paragraph 5 repeats the statement of paragraph 4 of Article 2 (Taxes Covered) that this Article applies to taxes of every kind and description imposed by all levels of government.


Article 22. MUTUAL AGREEMENT PROCEDURE

This article is substantially the same as Article 25 of the U.S. Model of May 1977. It does not include the illustrative material in paragraph 3 of that Article which gives examples of the types of matters the competent authorities may agree to, such as a common attribution or allocation of income, deductions or credits. That elaboration, which is not found in the OECD Model, was deleted at the request of the Hungarian delegation to preserve greater uniformity with the OECD Model and because it was considered to be self-evident. Its deletion does not narrow the scope of the article. Paragraph 1 provides that a taxpayer who considers that the actions of one or both of the Contracting States result in taxation not in accordance with the treaty, may present his case to the competent authority of the State of which he is a resident or national. Paragraph 2 provides that the competent authority, if it considers the objection to be justified, and if it is not able to arrive at a solution itself, shall endeavor to resolve the case by mutual agreement with the competent authority of the other Contracting State. Any agreement reached shall be implemented without regard to any statutory time limits of the Contracting States. Thus, for example, if it is agreed that tax liability should be adjusted downward, a refund of the excess tax paid will be made even though the ordinary statute of limitations may have expired. Paragraph 3 provides that the competent authorities shall endeavor by mutual agreement to resolve any difficulties or doubts which may arise in the interpretation of application of the treaty. They may also consult together to eliminate double taxation in cases not foreseen in the treaty. This language is identical to that of paragraph 3 of the OECD Model of January 1977. The same language is also found in paragraph 3 of the U.S. Model of May 1977, but as indicated above that paragraph also includes additional language giving examples of questions which might be resolved through the mutual agreement procedure. Paragraphs 4 and 5 provide that the competent authorities may communicate with each other directly for the purpose of reaching agreements in accordance with this article and that they may prescribe regulations to carry out the purposes of the treaty. Both paragraphs are identical to paragraphs 4 and 5 of the U.S. Model of May 1977.


Article 23. EXCHANGE OF INFORMATION

The three paragraphs of this Article are identical to paragraphs 1 through 3 of Article 26 of the U.S. Model of May 1976. Except for minor language changes, these paragraphs are the same as paragraphs 1 through 3 of Article 26 of the U.S. Model of May 1977. Paragraphs 4 and 5 of the U.S. Model (both the 1976 and 1977 versions) deal with assistance in collection where treaty benefits accrue to persons not covered by the treaty. Undertaking such a collection obligation is a departure from Hungarian practice, and they preferred to deal with this issue in the exchange of notes rather than in the Article itself. Paragraph 1 provides that the competent authorities shall exchange such information as is necessary for carrying out the provisions of the treaty or of their domestic laws concerning taxes covered by the treaty. It also provides assurances that information so exchanged will be protected in the same manner as information obtained under domestic laws with respect to secrecy and disclosure. Paragraph 2 explains that the obligation undertaken in paragraph 1 to exchange information does not require a Contracting State to carry out measures contrary to the laws and administrative practice of either State or to supply information not obtainable under its laws or in the normal course of its administration, or to supply information which would disclose trade secrets or other information the disclosure of which is contrary to public policy. Paragraph 3 states that when information is requested by a Contracting State in accordance with this Article, the other State shall obtain the information as if the tax in question were a tax of that other State, whether or not the case involves a tax liability in that other State. Further, the paragraph specifies that the State to which a request has been made shall provide information in forms usable in the judicial practice of the requesting State, such as depositions of witnesses and copies of unedited original documents, to the extent that such forms of information can be obtained under the laws and practices of the State to which the request is made when enforcing its own taxes. In accordance with paragraph 4 of Article 2 (Taxes Covered) this Article applies to all taxes at the national level.


Article 24. EFFECT OF CONVENTION ON DIPLOMATIC AND CONSULAR OFFICIAL, DOMESTIC LAWS AND OTHER TREATIES

This Article corresponds to Article 27 of the U.S. Model of May 1977. Paragraph 1 provides that this treaty shall not affect taxation privileges of diplomatic or consular officials under other special agreements or under international law. Paragraph 2 provides that the treaty shall not restrict any benefit provided by the laws of either Contracting State or by any other agreement between the Contracting States. Thus, for example, a Contracting State may not impose a tax by virtue of a provision of this treaty which allows it to tax if such a tax is not provided for under its internal law.


Article 25. ENTRY INTO FORCE

In the Hungarian People's Republic an international agreement concluded by the Government does not require ratification. Therefore, the usual wording of this Article was changed to refer to ratification 'or approval' and to specify that the treaty enters into force when the parties have notified one another that their respective constitutional requirements have been met. On the United States side, this requires approval by the Senate, in which case an instrument of ratification will be signed and provided to the Hungarian People's Republic. In exchange, the Hungarian People's Republic will provide us with a notice of approval of the treaty by their Government. Once the treaty enters into force it will have effect with respect to withholding taxes on income paid or credited on or after the first day of the second month following the entry into force of the treaty, and with respect to other taxes on income of taxable periods beginning on or after January 1 of the year following the entry into force. Thus, for example, if the treaty were to enter into force on December 1, 1979, the reduction or elimination of withholding tax at source on dividends, interest,and royalties would apply with respect to such income paid or credit beginning on February 1, 1980, and the provisions concerning taxes not withheld at the source would apply as of January 1, 1980. These timing provisions are taken from Article 28 of the U.S. Model of May 1977.


Article 26. TERMINATION

The treaty shall remain in force indefinitely unless terminated by the Government of one of the Contracting States. The Government of either Contracting State may terminate the treaty after five years from the date on which it enters into force by giving at least six months' prior notice through diplomatic channels. In that event, the treaty will cease to have effect with respect to taxes withheld at the source for income paid or credited beginning on January 1 of the following year, provided that the six months' period of notice has expired by that time (i.e., if notice is given by June 30 of one year, the termination will be effective on January 1 of the following year). With respect to other taxes, the termination would be effective with respect to taxable periods beginning on or after January 1 of the following year, again providing that the six months' period has expired by that time.


EXCHANGE OF NOTES

As indicated in the respective Articles, it was agreed that a number of points would be covered in an exchange of notes to accompany the treaty rather than in the body of the treaty articles themselves. The primary reason for moving these points to an exchange of notes was to simplify the text of the treaty by removing from it a number of points which were considered elaborations of points already made or implicit in the articles. In one case with reference to assistance in collection, the provision was moved to the exchange of notes because it is regarded by Hungary as an exception to its ordinary treaty policy; no similar provision is included in the OECD Model and the issue had not previously been encountered by the Hungarian People's Republic. The exchange of notes constitutes a part of the treaty and is legally binding on the parties. Paragraph 1 simply states that the Hungarian People's Republic will not impose a tax on dividends paid by a U.S. corporation out of profits of a joint venture in Hungary. The remittance tax provided under Hungarian law will be imposed, at the reduced rates provided in paragraph 2 of Article 9 (Dividends), on distributions to U.S. partners in joint ventures; no second tax will be imposed on such distributions. Paragraph 2 provides the same rule with respect to the income covered under Article 19 (All Other Income) that is provided separately in Articles 9 (Dividends), 10 (Interest), and 11 (Royalties), to the effect that when such income is effectively connected with a permanent establishment or fixed base of the recipient of the income in the other Contracting State, it will be taxed in accordance with the provisions of Article 7 (Business Profits) or Article 13 (Independent Personal Services). Paragraph 3 states that each Contracting State may apportion or allocate income, deductions, credits, and allowances between related enterprises of the two Contracting States in accordance with its internal law. The United States will apply its rules and procedures under section 482 of the Internal Revenue Code. The wording of this provision, which refers to 'enterprises' and 'dealings' and considers only related enterprises of the two Contracting States is not intended to limit the scope of application of section 482. It was agreed that both Contracting States would deal with non-arm's-length transactions in accordance with the provisions of its internal law. However, the Hungarian delegation objected to spelling out the scope of such laws in the treaty, finding the language of both the U.S. Model and the OECD Model on this point excessively complex. It was therefore decided to simply refer to internal law in the exchange of notes and allow each State to apply its law as it would do in the absence of a treaty. Similarly, the treatment of excessive interest or royalties paid between related persons will be resolved in accordance with internal law. Paragraph 4 contains the rules usually found in paragraphs 4 and 5 of the Article on exchange of information and administrative assistance (Article 26 in the U.S. Model of May 1977). The Hungarian People's Republic agrees to attempt to collect on behalf of the United States the additional tax due to the United States when a resident of a third country receives dividends, interest, or royalties in Hungary from which U.S. tax has been withheld at the reduced treaty rate or waived under the treaty when the recipient, not being a resident of Hungary, is not entitled to the benefits of the treaty. The provision is worded reciprocally, but is probably less relevant for Hungary which imposes its dividend tax on the distributing entity and does not withhold tax on interest paid abroad, so that the only relevant case would be with respect to the Hungarian tax on royalty payments. It is agreed that neither Contracting State in fulfilling this commitment is required to carry out administrative measures different from those used to collect its own taxes or contrary to its sovereignty, security or public policy.


FN1 Treaties and Other International Act Series (TIAS 9560).
Pertinent excerpts from Senate Report No. 96-8, page 342; Treasury Department Technical Explanation, page 354; Senate Executive X is not published.

FN2 Page 333; Technical Explanation, page 354; Senate Executive X is not published.

FN3 The questions and answers relating specifically to the other protocols and treaties considered at the June 6, 1979 hearings are set forth in the committee reports relating to those treaties.

FN4 Page 17.

FN5 It is the practice of the Treasury Department to prepare for the use of the Senate and other interested persons a Technical Explanation of the tax conventions which are submitted to the Senate for its advice and consent to ratification. An Income Tax Convention with Hungary was signed February 12, 1979, and submitted by the President to the Senate on May 9, 1979. On June 6, 1979, the Senate Committee on Foreign Relations held hearings and this Technical Explanation was presented. The Senate voted its advice and consent on 1979, and instruments of ratification were exchanged on September 18, 1979.

FN6 Page 333; pertinent excerpts from Senate Executive Report No. 96-8, page 342; Senate Executive X is not published. 1980-1 C.B. 333

RETURN TO MAGYAR ÜGYVÉDEK, TÖRVÉNY