Article 2 (Taxes Covered)

This article specifies the U.S. and Japanese taxes to which the Convention applies. Like the U.S. Model, this article does not contain a general description of the types of taxes that are covered ( i.e., income taxes), but only a listing of the specific taxes covered for both of the Contracting States. With several exceptions, the taxes specified in Article 2 are the only covered

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taxes for all purposes of the Convention. A broader coverage applies, however, for purposes of Articles 24 (Non-Discrimination) and 26 (Exchange of Information). Article 24 applies with respect to all taxes, including those imposed by state and local governments. Article 26 applies with respect to all taxes imposed at the national level. In addition, paragraph 3 of Article 8 (Shipping and Air Transport) provides for an exemption from the local inhabitant taxes and the enterprise tax in Japan in respect of the operation of ships or aircraft in international traffic by U.S. enterprises, provided that no state or local government in the United States imposes a similar tax on a in respect of such operations by Japanese enterprises. Finally, paragraph 1 of the Protocol provides for limitations on the imposition by the United States of the excise taxes imposed with respect to insurance premiums paid to foreign insurers (Code sections 4371 through 4374) and with respect to private foundations (Code sections 4940 through 4948).

Subparagraph 1(a) of the Protocol provides that the United States generally will not impose the excise tax on insurance policies issued by foreign insurers if the premiums on such policies are derived by a Japanese enterprise. The Protocol specifies that this rule applies even though the excise tax is not a covered tax under Article 2. The relief from the excise tax provided in subparagraph 1(a) of the Protocol, however, applies only to the extent that the risks covered by such premiums are not reinsured, directly or indirectly, with a person not entitled, under the Convention or any other U.S. tax treaty, to exemption from the tax. Thus, the excise tax will be imposed whenever a risk is reinsured with a person who would not be entitled to equivalent benefits, even if the reinsurance occurs in the ordinary course of business.

The rule in subparagraph 1(a) of the Protocol was considered only after a review of Japanese tax law indicated that the income tax imposed by Japan on Japanese resident insurers results in a burden that is substantial in relation to the U.S. tax on U.S. resident insurers. On the basis of this analysis, U.S. negotiators concluded that it is appropriate to waive the tax in the Convention.

Subparagraph 1(b) of the Protocol provides that the United States will not impose the excise tax with respect to private foundations on dividends or interest derived by Japanese private foundations at a rate in excess of the rates provided for in Articles 10 (Dividends) and 11 (Interest), respectively, and will not impose the excise tax with respect to private foundations on royalties or other income derived by Japanese private foundations. The effect of the rule is to make the excise tax with respect to private foundations a covered tax for purposes of the rules in Articles 10, 11, 12 (Royalties), and 21 (Other Income), which is consistent with the result in the U.S. Model.

Paragraph 1

Paragraph 1 lists the taxes in force at the time of signature of the Convention to which the Convention generally applies.

Subparagraph 1(a) provides that the Japanese taxes to which the Convention generally applies are the income tax and the corporation tax.

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Subparagraph 1(b) provides that the United States taxes to which the Convention generally applies are the Federal income taxes imposed by the Code. Social security taxes (Code sections 1401, 3101, 3111 and 3301) are specifically excluded from coverage. Social security taxes are dealt with in bilateral Social Security Totalization Agreements, which are negotiated and administered by the Social Security Administration.

In the Convention, unlike the prior Convention, the accumulated earnings tax and the personal holding company tax are covered taxes because they are income taxes and they are not otherwise excluded from coverage. Under the Code, however, these taxes will not apply to most foreign corporations because of a statutory exclusion or the corporation's failure to meet a statutory requirement.

Paragraph 2

Paragraph 2 provides that the Convention will apply to any taxes that are substantially similar to those referred to in paragraph 1, and which are imposed in addition to, or in place of, the taxes referred to in paragraph 1 after November 6, 2003, the date of signature of the Convention. Paragraph 2 also provides that the U.S. and Japanese competent authorities will notify each other within a reasonable period of time of any substantial changes that have been made in their respective tax laws, or any changes in their respective non-tax laws that significantly affect their obligations under the Convention. Other laws that may affect a Contracting State's obligations under the Convention may include, for example, laws affecting bank secrecy.