FROM THE OFFICE OF PUBLIC AFFAIRS

The Treasury Department announced today that the United States and Canada intend to clarify a provision of the existing U.S.-Canada Income Tax Treaty relating to the residence status of corporations. This change has been put forward in response to attempts by some corporations to use the provision in the current treaty to avoid taxes in a manner that was not contemplated by either country.

The two countries have also agreed to modify the tax treaty to prevent the double taxation of individuals in certain cases where an individual moves to the other country. The two countries agreed that this change to the treaty, as well as the clarification with respect to the residence status of corporations, is vital to ensure that international mobility of corporations and individuals can proceed with the appropriate tax consequences.

The announced measures will be incorporated into the treaty, which will specify that they will apply as of today's date. The U.S. and Canada are continuing to negotiate over other possible changes to the tax treaty.

For corporations, the proposals will clarify the effects on a company's residence of "continuance" (or "continuation") from one country into the other.

Laws in both countries allow a company incorporated in one jurisdiction to subject itself to another jurisdiction's corporate law system. A company originally formed in a Canadian province, for example, could continue into a U.S. state, and be treated for company law purposes as though it had been incorporated there.

The U.S.-Canada tax treaty treats a company that continues from one country to the other as thereafter being resident in its new home country. However, it has come to the attention of the Canadian and U.S. tax authorities that some have asserted inconsistent positions with respect to a U.S. corporation that has continued into Canada while retaining its status as a U.S. corporation under U.S. internal law. The argument put forward is that the corporation would, by virtue of the treaty, be a resident only of Canada, but that it would for other U.S. tax purposes retain its status as a U.S. corporation under U.S. internal law.

The negotiators agree that it was not contemplated that the continuance provision in the current treaty would be used to avoid taxes in this manner. Accordingly, the revised provision will clarify that a company incorporated in one country that continues into the other will still be treated as a resident of the first country unless that country's internal law no longer treats it as such. For example, a U.S. corporation that continues into Canada but retains its status as a U.S. corporation will, under the treaty, become a Canadian resident while remaining a U.S. resident. Such a corporation will not be entitled to any benefits under the U.S.-Canada tax treaty except to the extent agreed upon by the competent authorities of the two countries.

For individuals, the changes will ensure the appropriate tax treatment of an emigrant's gains. Specifically, where one country's tax rules treat an individual as having disposed of a property immediately before the individual emigrates to the other country, the individual will be able to choose to be treated under the other country's rules as also having disposed of and reacquired the property at its fair market value.

In most cases, this will mean that no tax is payable in the destination country on any pre-emigration gain. Where tax is payable in the destination country - for example, where the property in question is real estate situated in that country - the new rule will ensure appropriate tax crediting.

If approved, the rule for individuals will apply to changes in residence that take place on and after today's date. Similarly, the rule for corporations will apply to continuances effected on and after today, although no inference is intended regarding the treatment of such transactions under current law. These modifications will form part of a package of tax treaty changes that negotiators expect to finalize in 2001.