Rev. Rul. 74-275

Advice has been requested whether a corporation must be in existence for a three-year period in order to qualify for the five percent rate of tax prescribed by Article VI(2) of the United States-Swiss Confederation Income Tax Convention (hereinafter referred to as "Convention"), T.D. 6149, 1955-2 C.B. 814.

The taxpayer, was incorporated in the United States on July 1, 1972, and since its incorporation has been a wholly-owned subsidiary of a Swiss bank incorporated under the laws of Switzerland. The taxpayer is a broker-dealer engaged in the business of purchasing, selling, and underwriting securities, both for its own account and for others. Less than 25 percent of the taxpayer's gross income for the years 1972 and 1973 was derived from interest and dividends. The Swiss bank does not maintain a permanent establishment in the United States and the parent-subsidiary relationship with the taxpayer is not maintained primarily to secure the reduced tax rate under the Convention. On March 1, 1974, the taxpayer paid a dividend to the Swiss bank.

The specific question is what rate of withholding, for Federal income tax purposes, shall apply to the dividend paid by the taxpayer.

Article VI(1) of the Convention provides, in part, that the rate of tax imposed by one of the contracting States upon dividends derived from sources within that State by a resident or corporation or other entity of the other contracting State not having a permanent establishment in the former State shall not exceed 15 percent.

Article VI(2) of the Convention provides, however, that the rate of tax shall not exceed five percent if the shareholder is a corporation controlling, directly or indirectly, at least 95 percent of the entire voting power in the corporation paying the dividend, and if not more than 25 percent of the gross income of the paying corporation is derived from interest and dividends, other than interest and dividends received from its own subsidiary corporations. The reduction of the rate to five percent shall not apply if the relationship of the two corporations has been arranged or is maintained primarily with the intention of securing the reduced rate.

Section 509.108(b) of the regulations issued under the Convention and section 509.2(b) of the withholding regulations under the Convention (as renumbered), T.D. 5867, 1951-2 C.B. 75, 80, provide, in part, that under the provisions of Article VI(2) of the Convention, dividends from sources within the United States paid by a domestic corporation to a Swiss corporation controlling, directly or indirectly, at the time the dividend is paid, 95 percent or more of the entire voting power in the domestic corporation are subject to tax at the rate of only five percent if, among other requirements, not more than 25 percent of the gross income of the paying corporation for the three-year period immediately preceding the taxable year in which the dividend is paid consists of dividends and interest (other than dividends and interest paid to the domestic corporation by its own subsidiary corporation, if any).

The "three-year-period" (meaning 36 months) contained in sections 509.108(b) and 509.2(b) of the regulations under the Convention does not require that a domestic corporation must exist for three complete years before its dividends may qualify for the five percent rate of tax. The Convention does not specify any period with respect to which the percentage of income is to be measured to determine whether not more than 25 percent of the gross income of the paying corporation is derived from interest and dividends. The three-year period specified by the regulations represents the maximum period of time during which gross income sources of the paying corporation will be considered in making that determination.

Section 509.2(b) of the withholding regulations under the Convention further provides that any domestic corporation which claims or contemplates claiming that dividends paid or to be paid by it are subject only to the five percent rate shall file, as soon as practicable, with the Commissioner of Internal Revenue, certain specified information. As soon as practicable after such information is filed, the Commissioner of Internal Revenue will determine whether the dividends concerned fall within the provisions of Article VI(2) of the Convention and may authorize the release of excess tax withheld with respect to dividends which come within such provisions. In any case in which the Commissioner of Internal Revenue has notified such domestic corporation that the dividends come within such provisions, the reduced withholding rate of five percent will apply to any dividends subsequently paid by such corporation to the Swiss corporation providing it does not perform an act that would prevent it from meeting the requirements of Article VI(2) of the Convention.

The taxpayer and its Swiss parent corporation fully met the requirements under Article VI(2) of the Convention for the five percent rate of tax throughout the taxpayer's existence, and at the time the dividend was paid. Accordingly, the taxpayer, in the instant case, may, upon complying with the requirements of section 509.2(b) of the withholding regulations of the Convention and upon receiving notification from the Commissioner of Internal Revenue, withhold from the dividends paid at the reduced withholding rate of five percent.