SECTION 5. EXAMPLES

The following examples illustrate the principles of this Notice:

Example 1. Same Country Securities Loan. FP, a pension fund resident in Country X, owns stock issued by USCo, a corporation resident in the United States. An income tax treaty between Country X and the United States limits the U.S. withholding tax on gross dividends to 15 percent. USBroker, a U.S. broker-dealer, needs to borrow the stock owned by FP. Under Country X rules intended to safeguard the interests of workers, however, FP is required to deal only with Country X residents in connection with its investment activities. Accordingly, FP enters into a securities loan with FBroker, a brokerdealer also resident in Country X. FBroker then enters into a securities loan with USBroker. USCo pays a dividend of $100 on March 15, 1998. USBroker is the shareholder of record with respect to the dividend. Since USBroker is a U.S. person, USCo does not withhold on the dividend. USBroker makes a substitute payment of $100 to FBroker from which USBroker withholds $15. The rate of withholding tax that would be applicable to a U.S. source dividend payment made by a U.S. person directly to FP is the same as the rate of withholding tax that would be applicable to a U.S. source dividend payment made by a U.S. person directly to FBroker. Accordingly, no U.S. withholding tax is imposed under § 1.871–7(b)(2) or § 1.881–2(b)(2) on the substitute payments made by FBroker to FP.

Example 2. Non-Same Country Securities Loan.

A, a resident of Country X, owns shares of USCo, a U.S. resident corporation. Country X has a treaty with the United States which limits the United States tax on gross dividends to 15 percent. A enters into a securities loan with B, a resident of Country Y, whose treaty with the United States also limits the United States tax on gross dividends to 15 percent. USCo pays a dividend of $100 on March 15, 1998. B is the shareholder of record with respect to the dividend. USCo withholds $15 and pays B a net dividend of $85. B makes a substitute payment of $85 to A. The rate of withholding tax that would be applicable to a U.S. source dividend payment made by a U.S. person directly to A is the same as the rate of withholding tax that would be applicable to a U.S. source dividend payment made by a U.S. person directly to B. Accordingly, no U.S. withholding tax is imposed under § 1.871–7(b)(2) or § 1.881–2(b)(2) on the substitute payments made by B to A.

Example 3. Increased Treaty Benefits. The facts are the same as in example 2, except that Country X has no treaty with the United States. Since a dividend payment made by a U.S. person directly to A would have been subject to a 30-percent withholding tax, B must withhold an additional $15 ((30 percent - 15 percent) x $100) on the substitute payment it makes to A. Alternatively, USCo could have withheld 30 percent from the dividend payment made to B, thereby satisfying B’s withholding liability under § 1.1441–7.

Example 4. Multiple Country Securities Loans. A, a resident of Country W, owns shares of USCo, a U.S. resident corporation. Country W has an income tax treaty with the United States that limits the United States tax on gross dividends to 15 percent. B, a resident of Country X, enters into a securities loan with A. Country X does not have an income tax treaty with the United States. C, a resident of Country Y, enters into a securities loan with B. Country Y has an income tax treaty with the United States which limits the United States tax on gross dividends to 10 percent. D, a resident of country Z, enters into a securities loan with C. Country Z has an income tax treaty with the United States which limits the United States tax on gross dividends to 15 percent.

USCo pays a dividend of $100 on March 15, 1998. D is the shareholder of record with respect to the dividend. USCo withholds $15 and pays D a net dividend of $85. D makes a substitute payment of $85 to C. The rate of withholding tax that would be applicable to a U.S. source dividend payment made by a U.S. person directly to C is less than the rate of withholding tax that would be applicable to a U.S. source dividend payment made by a U.S. person directly to D. Accordingly, no U.S. withholding tax is imposed under § 1.871–7(b)(2) or § 1.881–2(b)(2) on the substitute payments received by C. However, C is not entitled to a refund or tax credit against any other U.S. tax liability for the additional 5-percent tax reflected in its substitute payment from D over the amount to which C would have been subject had C received a dividend directly from USCo.

C makes a substitute payment of $85 to B from which C withholds $15. Since a dividend payment made by a U.S. person directly to B would have been subject to a 30-percent withholding tax, C generally would be required to withhold an additional $20 ((30 percent - 10 percent) x $100) on the substitute payment it makes to B. However, because $15

1997–48 I.R.B. 9 December 1, 1997