11.3.2[a] Article XI(1) – Residence – based Jurisdiction to Tax
Paragraph 1 of the Article preserves the right of a Contracting State to tax income earned by its residents, including interest income, and is similar to paragraph 1 found in both Articles X (Dividends) and XII (Royalties) of the Treaty.
11.3.2[b] Article XI(2) – Source-based jurisdiction to Tax of Reduced Rates
Paragraph 2 of the Article provides that the Contracting State in which interest arises also has a right to tax the interest. Where tax is not exempt under the domestic U.S. federal tax rules discussed above, the Treaty limits the rate of taxation that may be imposed to a maximum rate of 10 per cent on a gross basis, where it is paid to a resident of the other Contracting State that beneficially owns the interest.
11.3.2[c] Article XI(3) – Exception to Source-based Jurisdiction
Paragraph 3 provides an exemption from withholding at source from interest income otherwise subject to the 10 per cent withholding under paragraph 2 under limited enumerated exceptions mentioned below:
Exception for Interest Owned by a Government
Exception for Certain Debt Obligations Insured or Guaranteed by a State
Exception for Interest paid by a Government
Exception for Sales or Services on Credit
Exception for Debt Obligations Arising Prior to September 1980
11.3.2[d] Article XI(4) – Definition of Interest
The term “interest” as used under Article XI means income from debt-claims of every kind, whether or not secured by mortgage, and whether or not carrying a right to participate in the debtor’s profits, and in particular, income from government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures, as well as income assimilated to income from money lent by the taxation laws of the Contracting State in which the income arises.
11.3.2[e] Article XI(5) – Interest Income Associated with a PE
Paragraph 5 provides that the relief under Article XI provided for in paragraphs 2 (10 percent withholding) and 3 (exemption from withholding) will not apply to interest income which, although beneficially owned by a resident of the other Contracting State, is effectively connected with a permanent establishment or fixed base through which the resident carries on a business, or from which the resident performs independent personal services.
11.3.2[f] Article XI(6) – Source Rules for Interest
Interest shall be deemed to arise in a Contracting State when the payor is the State, a government division or local authority, or resident of the State.
11.3.2[g] Article XI(7) – Excess Interest
In cases involving special relationships between persons, Article XI does not apply to amounts in excess of the amount that would have been agreed upon between persons having no special relationship. Accordingly, any resulting excess amount of interest will remain taxable according to the laws of Canada and the United States, taking into account the relevant provisions of the Treaty.
11.3.2[h] Article XI(8) – Triangular Interest Payments
Paragraph 8 restricts the ability of a Contracting State to impose any tax on interest paid by a resident of the other Contracting State where that interest is paid to a person other than a resident of the first State.
11.3.2[i] Article XI(9) – Special Rules for REMICS
Although the definition of interest also includes an excess inclusions with respect to a residual interest in a real estate mortgage investment conduit (Under Code Section 860G), the relief provided above under paragraphs 2 and 3 does not apply to such income. Hence, such interest remains subject to the 30 per cent withholding rate under U.S. domestic rules.
Advisor’s Guide to Canada – U.S. Tax Treaty
By: Vitaly Timokhov, Raymond Montero, David Kerzner
Published by: Thomson Carswell
The Accounting and Tax