Tax Blog/Blawg

It seems that one of our favorite topics is back in the news: the sourcing of guarantee fees.  As reported in today’s Tax Notes, Robert Driscoll, withholding technical advisor for LMSB, was recently quoted as saying that guarantee fees might not be considered U.S.-source income if the guarantor is a qualified resident of a treaty country.  Amy S. Elliott, “Guarantee Fees May Not Be U.S.-Source if Guarantor Resides in Treaty Country, Official Says,” 2010 TNT 215-4 (Nov. 8, 2010).  According to the article, discussions within the IRS National Office have suggested that guarantee fees would probably fall under the “other income” article of the relevant treaty and thus would not be considered U.S.-source income in most cases.  Id.

In her column last Monday, Lee Sheppard criticized Judge Holmes of the Tax Court for, as she put it, “strain[ing] to find a reason to hold for the taxpayer” in the recent case of Container Corp. v. Comm’r, 134. T.C. No. 5.  According to Ms. Sheppard, Judge Holmes "appears to have assumed equitable powers in deciding" the case, and "the tax law is the worse for it."

The basic issue in Container Corp. was whether guarantee fees paid by a U.S. corporation to its Mexican parent in respect of a debt guarantee provided by the parent should be treated as U.S.-source income (and therefore subject to withholding tax on payment to the Mexican parent).  Because the rules for sourcing income don't address how guarantees are to be treated, the court framed its analysis as whether the guarantee fees were more like interest (which is sourced to the location of the borrower) or more like services (which are sourced to the location of the provider).

Ms. Sheppard excoriated Judge Holmes for even contemplating that a debt guarantee could be treated as a service.  To her, it "[s]ounds pretty obvious" that the parent corporation was simply protecting its investment in the subsidiary, not providing a service to the subsidiary.