A COMMON MISCONCEPTION ABOUT INCOME TAX TREATIES

The U.S. is a party to numerous income tax treaties with various countries. These treaties provide numerous special provisions that exempt or reduce certain types of income from taxation.

Many times, U.S. citizens will note provisions of a treaty that appear to reduce their U.S. income tax. This was the case for Christina Le Tourneau, who was a U.S. citizen residing in France who worked as a flight attendant on international flights. She read Article 15, Paragraph 3, of the U.S. – France treaty, which provides: “Notwithstanding the preceding provisions of this Article, remuneration derived by a resident of a Contracting State in respect of an employment exercised as a member of the regular complement of a ship or aircraft operated in international traffic shall be taxable only in that State.” Since she was a resident of France, she sought to apply this provision to avoid U.S. income tax – asserting that only France had income tax jurisdiction over her income from that employment.

What Ms. LeTourneau did not understand is that these provisions will in most cases not operate to allow a U.S. citizen to avoid U.S. income tax on any of his or her worldwide income. Instead, such a provision will operate only to exempt a resident of France who is not otherwise a U.S. citizen or income tax resident from being taxed by the U.S. on this type of income.

Indeed, the treaty specifically includes the typical general exception to the treaty provisions benefitting U.S. citizens and resident aliens as to U.S. tax. Article 29, Paragraph 2 reads: “Notwithstanding any provision of the Convention except the provisions of paragraph 3, the United States may tax its residents, as determined under Article 4 (Resident), and its citizens as if the Convention had not come into effect.”

Thus, while tax treaties may provide many benefits to U.S. persons as to reducing income taxes imposed by the treaty partner country, treaty exemptions, exclusions and rate reductions will rarely apply to reduce U.S. income taxes otherwise imposed on them.

Christina J. LeTourneau, TC Memo 2012-45