Article 13 assigns either primary — U.S. Income Tax Treaty

alienation of property to the Contracting State of residence or the Contracting State of source and defines the terms necessary to apply the Article.

Paragraph 1

Paragraph 1 preserves the non-exclusive right of the Contracting State of source to tax gains attributable to the alienation of real property (as defined in paragraph 2 of Article 6 (Real Property)) situated in that Contracting State. Paragraph 9 of the Protocol provides that distributions made by a REIT are taxable under paragraph 1 of Article 13 (not under Article 10 (Dividends)) when they are attributable to gains derived from the alienation of real property.

Paragraph 1 of this Article, in combination with paragraph 2 of this Article, permits the United States to apply section 897 of the Code to tax gains derived by a resident of Japan that are attributable to the alienation of real property situated in the United States, as well as gains attributable to the alienation of shares in certain real property holding companies.

Paragraph 2

Paragraph 2 preserves the non-exclusive right of the Contracting State of source to tax gains from the indirect alienation of real property situated in that Contracting State through the alienation of entities that hold an interest in real property by residents of the other Contracting State.

Subparagraph (a) preserves the non-exclusive right of the Contracting State of source to tax gains from the alienation of shares in a company that is a resident of that Contracting State and derives at least 50 percent of its value directly or indirectly from real property situated in that Contracting State. Gains from the alienation of shares which are part of a class of shares which are traded on a recognized stock exchange and of which the alienator (and persons thereto) own in the aggregate 5 percent or less are not taxable by the Contracting State of source. This paragraph thus permits the United States to tax U.S. real property holding companies under its domestic law. See I.R.C. § 897(c).

Subparagraph (b) preserves the non-exclusive right of the Contracting State of source to tax gains from the alienation of an interest in a partnership, trust or estate to the extent that its assets consist of real property situated in that Contracting State.

Paragraph 3

Paragraph 3 preserves the non-exclusive right of the Contracting State of source to tax gains from the alienation of shares in a financial institution that is a resident of that Contracting State in certain narrow circumstances. In general, paragraph 3 is applicable only where: (1) a Contracting State provides, pursuant to the domestic law concerning failure resolution involving imminent insolvency of financial institutions, substantial financial assistance to a financial institution that is a resident in that Contracting State; (2) a resident of the other Contracting State acquires shares in the financial institution from the first-mentioned Contracting State; and (3) the resident of the other Contracting State alienates shares within five years from the first date on which such financial assistance was provided. In such a case, under subparagraph 3(a) the firstmentioned Contracting State may tax gains derived by the resident of the other Contracting State on the alienation of such shares.

Subparagraph 3(b) provides a transition rule under which the rule of subparagraph 3(a) is not applicable if the resident of the other Contracting State acquired any shares in the financial institution before the entry into force of the Convention or pursuant to a binding contracting entered into before the entry into force of the Convention. This transition rule is intended to preserve the expectations of residents of one Contracting State that had made investments prior to the entry into force of the Convention in financial institutions that are residents of the other Contracting State. This transition rule also allows residents to protect their investments in a financial institution acquired before the entry into force of the Convention by purchasing additional shares in that financial institution after the entry into force of the Convention. Thus, the general rule of subparagraph 3(a) would not be applicable to the gain from the alienation of shares in the financial institution acquired after the entry into force of the Convention where the resident of the other Contracting State had acquired shares in the financial institution before the entry into force of the Convention.

Paragraph 4

Paragraph 4 deals with the taxation of certain gains from the alienation of property, other than real property, forming part of the business property of a permanent establishment that an enterprise of a Contracting State has in the other Contracting State. This also includes gains from the alienation of such a permanent establishment (alone or with the whole enterprise). Paragraph 3 preserves the non-exclusive right of the Contracting State in which the permanent establishment is located to tax such gains.

A resident of Japan that is a partner in a partnership doing business in the United States generally will have a permanent establishment in the United States as a result of the activities of the partnership, assuming that the activities of the partnership rise to the level of a permanent establishment. Rev. Rul. 91-32, 1991-1 C.B. 107. Further, under paragraph 3, the United States generally may tax a partner's distributive share of income realized by a partnership on the disposition of personal (movable) property forming part of the business property of the partnership in the United States.

Paragraph 5

This paragraph limits the taxing jurisdiction of the Contracting State of source with respect to gains from the alienation of ships or aircraft operated in international traffic by the enterprise alienating the ship or aircraft and from property (other than real property) pertaining to the operation or use of such ships, aircraft, or containers.

Under paragraph 5, such income is taxable only in the Contracting State in which the alienator is resident. Notwithstanding paragraph 4, the rules of this paragraph apply even if the income is attributable to a permanent establishment maintained by the enterprise in the other Contracting State. This result is consistent with the allocation of taxing rights under paragraph 1 of Article 8 (Shipping and Air Transport).

Paragraph 6

This paragraph limits the taxing jurisdiction of the Contracting State of source with respect to gains from the alienation of containers, except where such containers were used solely within that Contracting State.

Under paragraph 6, such income is taxable only in the Contracting State in which the alienator is resident. Notwithstanding paragraph 4, the rules of this paragraph apply even if the income is attributable to a permanent establishment maintained by the enterprise in the other Contracting State. This result is consistent with the allocation of taxing rights under paragraph 4 of Article 8 (Shipping and Air Transport).

Paragraph 7

Paragraph 7 grants to the Contracting State of residence of the alienator the exclusive right to tax gains from the alienation of property other than property referred to in the preceding paragraphs. For example, gain derived from shares (other than shares described in paragraphs 2, 3 or 4), debt instruments and various financial instruments, may be taxed only in the Contracting State of residence, to the extent such income is not otherwise characterized as income taxable under another article ( e.g., Article 10 (Dividends) or Article 11 (Interest)). Similarly, gain derived from the alienation of tangible personal property, other than tangible personal property described in paragraph 4, may be taxed only in the Contracting State of residence of the alienator. Sales by a resident of a Contracting State of real property located in a third state are not taxable in the other Contracting State, even if the sale is attributable to a permanent establishment located in the other Contracting State.

Relation to Other Articles

Notwithstanding the foregoing limitations on taxation of certain gains by the Contracting State of source, the saving clause of subparagraph 4(a) of Article 1 (General Scope) permits the United States to tax its citizens and residents as if the Convention had not come into effect. Thus, any limitation in this Article on the right of the United States to tax gains does not apply to gains of a U.S. citizen or resident.

The benefits of this Article are also subject to the provisions of Article 22 (Limitation on Benefits). Thus, only a resident of a Contracting State that satisfies one of the conditions in Article 22 is entitled to the benefits of this Article.