Article 10 provides rules — U.S. Income Tax Treaty

dividends and similar amounts paid by a company resident in one Contracting State to a resident of the other Contracting State. Generally, the article limits the source country's right to tax dividends and amounts treated as dividends.

Paragraph 1 preserves the residence country's general right to tax dividends arising in the source country by permitting a Contracting State to tax its residents on dividends paid by a company that is a resident of the other Contracting State.

Paragraph 2 grants the source country the right to tax dividends paid by a company that is a resident of that country if the beneficial owner of the dividend is a resident of the other Contracting State. The source country tax, however, is limited to 15 percent of the gross amount of the dividend if the beneficial owner is a company that holds at least 10 percent of the voting shares of the company paying the dividend and 25 percent of the gross amount of the dividend in all other cases. The term "beneficial owner" is not defined in the Convention; it is, instead, defined by domestic law of the Contracting States. A nominee or agent which is a resident of a Contracting State may not claim the benefits of this Article if the dividend is received on behalf of a person who is not a resident of that Contracting State. However, dividends received by a nominee for the benefit of a resident would qualify for the benefits of this Article.

The second and third sentences of paragraph 2 relax the limitations on source country taxation for dividends paid by U.S. Regulated Investment Companies and Real Estate Investment Trusts. Dividends paid by Regulated Investment Companies are denied the 15 percent direct

dividend rate and subjected to the 25 percent portfolio dividend rate regardless of the percentage of voting shares held by the recipient of the dividend. Generally, the reduction of the dividend rate to 15 percent is intended to relieve multiple levels of corporate taxation in cases where the recipient of the dividend holds a substantial interest in the payer. Because Regulated Investment Companies and Real Estate Investment Trusts do not themselves generally pay corporate tax with respect to amounts distributed, the rate reduction from 25 to 15 percent cannot be justified by the "relief from multiple levels of corporate taxation" rationale. Further, although amounts received by a Regulated Investment Company may have been subject to U.S. corporate tax (e.g., dividends paid by a publicly traded U.S. company to a Regulated Investment Company), it is unlikely that a 10 percent shareholding in a Regulated Investment Company by an Indian resident will correspond to a 10 percent shareholding in the entity that has paid U.S. corporate tax (e.g., the publicly traded U.S. company). Thus, in the case of dividends received by a Regulated Investment Company and paid out to its shareholders the requirement of a substantial shareholding in the entity paying the corporate tax is generally lacking.

The third sentence of paragraph 2 further limits the availability of the 25 percent portfolio dividend rate in the case of dividends paid by Real Estate Investment Trusts. The 25 percent rate is available only to individual residents of India holding a less than 10 percent interest in the Real Estate Investment Trust. The exclusion of corporate shareholders and 10 percent or greater individual shareholders from the 25 percent portfolio rate is intended to prevent indirect investment in U.S. real property through a Real Estate Investment Trust from being treated more favorably than investment directly in such real property. Dividends paid by a Real Estate Investment Trust (other than amounts subject to tax as effectively connected income under section 897(h) of the Code) that are not entitled to the 25 percent portfolio rate are subject to the U.S. statutory rate of 30 percent.

Paragraph 2 does not affect the taxation of the profits out of which the dividends are paid.

Paragraph 3 defines the term dividends as used in Article 10 to mean the following: income from shares or other rights, not being debt-claims, participating in profits; income from other corporate rights which are subjected to the sane taxation treatment as income from shares by the laws of the Contracting State of which the company making the distribution is a resident; and income from arrangements, including debt obligations, carrying the right to participate in profits, to the extent so characterized under the laws of the source State.

Paragraph 4 provides that the provisions of paragraphs 1 and 2 of Article 10 shall not apply if the beneficial owner of the dividends, 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 there, or performs in that other State independent personal services from a fixed base situated there, and the dividends are attributable to such permanent establishment or fixed base. Paragraph 4 provides that, in such case, the provisions of Article 7 (Business Profits) or Article 15 (Independent Personal Services), as the case may be, shall apply.

Paragraph 4 excludes dividends paid with respect to holdings that form part of the business property of a permanent establishment or fixed base from the general source country

limitations. Such dividends will be taxed on a net basis using the rates and rules of taxation generally applicable to residents of the State in which the permanent establishment or fixed base is located, as modified by this article and Articles 7 (Business Profits) and 15 (Independent Personal Services).

Paragraph III of the Protocol elaborates on paragraph 4 of Article 10 by incorporating the principle of Code section 864(c)(6) into the Convention. Like the Code section on which it is based, Paragraph III of the Protocol provides that any income or gain attributable to a permanent establishment or fixed base during its existence is taxable in the Contracting State where the permanent establishment (or fixed base) is situated even if the permanent establishment or fixed base no longer exists.

Paragraph 5 bars one Contracting State from imposing any tax on dividends paid by a company resident in the other Contracting State except insofar as such dividends are otherwise subject to net basis taxation in the first-mentioned Contracting State because such dividends are paid to a resident of such first mentioned Contracting State or the holding in respect of which the dividends are paid forms part of the business property of a permanent establishment or fixed base situated in such first-mentioned State.

Notwithstanding the foregoing limitations on source country taxation of dividends, the saving clause of paragraph 3 of Article 1 of the Convention (General Scope) permits the United States to tax dividends received by its residents and citizens as if the Convention had not come into effect.