ARTICLE 18

Dependent Personal Services

Generally, under the Convention income from labor or personal services derived as an employee (including remuneration derived by an officer or a member of the board of directors of a corporation) may be taxed by the State of source (which, except in the case of directors' fees described in paragraph (5) of this article, is the State in which such labor or personal services are performed). However, such income will be exempt from tax in the State of source if

(1) the recipient, being a resident of the other State, is present in the State of source for a period or periods not exceeding in the aggregate 183 days during the taxable year;

(2) the recipient is an employee of either a resident of the State of his residence or of a permanent establishment of a resident of a State other than the State of his residence (if the permanent establishment is situated in the State of his residence) ; and

(3) the remuneration is not borne as such by a permanent establishment which the employer has in the State of source.

The use of the term "as such" generally restricts the scope of the third standard to situations in which the remuneration is paid by the permanent establishment to the employee. In contrast, if the head office regularly charges the permanent establishment for "home office" expenses attributable to the permanent establishment, which expenses include the remuneration paid by the home office to the employee, the remuneration is not borne "as such" by the permanent establishment.

Under the 1954 Convention, income from labor or personal services performed in one

State by an employee who was a resident of the other State was exempt from the tax of the first State in any taxable year in which the employee was temporarily present in the first State for a period or periods not exceeding a total of 180 day's during such taxable year and such income was received for labor or personal services performed as an officer or employee of a resident, corporation, or other entity of the employee's State of residence.

The exemption provided by this Article of the new Convention does not apply to an employee if

(1) such employee is a substantial owner (as defined below) of the corporation or other entity which is the employer, and

(2) at least 50 percent of the income of the employer for the taxable year from sources within the State of source is derived from furnishing labor or personal services of one or more individuals each of whom is a substantial owner of the employer.

Such income of the employer is computed without deductions for compensation paid to such individual substantial owners. An individual will be treated as a substantial owner of the employer if

(1) he owns directly or indirectly at least 25 percent of the total voting power of all classes of stock entitled to vote, or of the total value of all classes of stock of such corporation or other entity, or

(2) he has directly or indirectly an interest of 25 percent or more in the assets, or has a right to 25 percent or more of the profits of such other entity. An individual is deemed to own the stock, assets, or rights owned directly or indirectly by his brother, sister, spouse, ancestor, or descendant.

The Convention also provides that income from personal services aboard ships or aircraft operated by a resident of one State in international traffic will not be taxed in the other State so long as the services are rendered by a member of the regular complement of the ship or aircraft.

The 1954 Convention contained no specific provision concerning fees received by an individual resident of one State for services performed in the other State as a director of a corporation of such other State. However, such fees were exempt from the tax of such other State if the individual qualified under the general provision for exemption of compensation for personal services. If the individual was not an employee of the corporation, the exemption applied if he was temporarily present in such other State for a period or periods not exceeding a total of 90 days during the taxable year and his compensation for labor or personal services performed in such other State did not exceed $3,000 (or its equivalent in Japanese yen). Under Japanese tax law, a portion of the remuneration paid to directors of a company may be treated as a sharing in the profits of the company and, accordingly, taxed as a distribution of profits rather than as compensation for services and no deduction is allowed to the corporation. Under the new Convention, a director's fee derived by an individual resident of a State in his capacity as a member of the board of directors of a corporation of the other State which is treated as described above may be taxed by that other State. Paragraph (6) of Article 6 (relating to source of income) provides that such payments are sourced in that other State. Accordingly, in the case of a director's fee paid to a United States resident by a Japanese corporation and taxed by Japan, the foreign tax credit is available to such resident with respect to the fee.