Is the Beneficial Ownership Requirement Compatible with ...

Is the Beneficial Ownership Requirement Compatible with the

Application of Article 1(2) to Hybrid Entities?

Adv LLM thesis

submitted by

Gerardo Alexis Farías López

in fulfilment of the requirements of the

'Advanced Master of Laws in International Tax Law'

degree at the University of Amsterdam

supervised by

Dr. Bruno Farinha Aniceto da Silva

Gerardo Alexis Farías López 1

PERSONAL STATEMENT

Regarding the Adv LLM Thesis submitted to satisfy the requirements of the 'Advanced Master of Laws

in International Tax Law' degree:

1. I hereby certify (a) that this is an original work that has been entirely prepared and written by myself

without any assistance, (b) that this thesis does not contain any materials from other sources unless

these sources have been clearly identified in footnotes, and (c) that all quotations and paraphrases have

been properly marked as such while full attribution has been made to the authors thereof. I accept that

any violation of this certification will result in my expulsion from the Adv LLM Program or in a revocation

of my Adv LLM degree. I also accept that in case of such a violation professional organization in my

home country and in countries where I may work as a tax professional, are informed of this violation.

2. I hereby authorize the University of Amsterdam and IBFD to place my thesis, of which I retain the

copyright, in its library or other repository for the use of visitors to and/or staff of said library or other

repository. Access shall include, but not be limited to, the hard copy of the thesis and its digital format.

3. In articles that I may publish on the basis of my Adv LLM Thesis, I will include the following statement

in a footnote to the article’s title or to the author’s name:

“This article is based on the Adv LLM thesis the author submitted in fulfilment of the

requirements of the 'Advanced Master of Laws in International Tax Law' degree at the

University of Amsterdam.”

4. I hereby certify that any material in this thesis which has been accepted for a degree or diploma by

any other university or institution is identified in the text. I accept that any violation of this certification

will result in my expulsion from the Adv LLM Program or in a revocation of my Adv LLM degree.

Signature:

Name: Gerardo Alexis Farías López

Date: 12 -07 -2020


Index

Index .......................................................................................................................... 2

Abbreviations ............................................................................................................ 3

Executive Summary ................................................................................................. 4

Main Findings ........................................................................................................... 5

1. Introduction ......................................................................................................... 6

2. Objectives of the beneficial ownership requirement and Article 1(2)............. 8

2.1. Beneficial ownership ............................................................................................................. 8

2.1.1. The origin – agents and nominees ............................................................................... 8

2.1.2. Autonomous interpretation ............................................................................................ 9 2.1.3. Attribution of income ................................................................................................... 11

2.1.4. Conduit and forwarding restrictions ............................................................................ 12 2.1.5. Interim conclusion ....................................................................................................... 13

2.2. Article 1(2) of the 2017 OECD Model .................................................................................. 13

2.2.1. Origin and content....................................................................................................... 14

2.2.2. OECD Partnership Report as source of interpretation ............................................... 14 2.2.3. “Source-follows-residence” principle ........................................................................... 15 2.2.4. Income “paid to” a resident of a contracting state ...................................................... 15

2.2.5. Beneficial ownership ................................................................................................... 15 2.2.5.1. Order of application ...................................................................................... 16 2.2.5.2. Reference to the source state ...................................................................... 16

2.2.5.3. Residence approach on attribution of income .............................................. 17

2.2.6. Interim conclusion ....................................................................................................... 17

3. Issues on the joint application ......................................................................... 17

3.1. Apparent misalignment ....................................................................................................... 18

3.1.1. Theoretical misalignment ............................................................................................ 18 3.1.2. Practical difficulties ..................................................................................................... 19

3.2. Influences ............................................................................................................................. 20

3.2.1. Source country perspective ........................................................................................ 20

3.2.2. U.S. treaty practice ..................................................................................................... 22 3.2.3. 2017 UN Model ........................................................................................................... 23

3.3. Interim conclusion ............................................................................................................... 25

4. OECD compatibility analysis ............................................................................ 25

4.1. The appropriateness of the burning question .................................................................. 25

4.1.1. The order of application .............................................................................................. 26 4.1.2. The concern of domestic preservation ....................................................................... 27

4.2. Source state perspective .................................................................................................... 28

Conclusions ............................................................................................................ 31

Bibliography ............................................................................................................ 33


Abbreviations

BEPS Base erosion and profit shifting

CFR Code of Federal Regulations

FASIT Financial asset securitization investment trusts

GAAR General anti-abuse rule

IBFD International Bureau of Fiscal Documentation

IRC Internal Revenue Code

IRS Internal Revenue Services

LLP Limited liability partnership

LOB Limitation of benefits

NAFTA North America Free Trade Agreement

OECD Organisation for Economic Co-operation and Development

REIT Real estate investment trusts

REMIC Real estate mortgage investment conduits

RIC Regulated investment companies

UN United Nations

USMCA The New United States - Mexico - Canada Agreement


Executive Summary

The present century has witnessed a significant increase in the international mobility of capital and the

design of cross-border investment structures that seek to enhance financial efficiency and legal certainty

to investors. Most of these structures include fiscally transparent entities. These entities provide plenty

of benefits to investors that aim to preserve their domestic tax regime while investing abroad. Although

there are sound business reasons for channelling resources through fiscally transparent structures, the

latter structures have also been used to design aggressive tax planning. This situation stresses the

coexistence amongst the treaty provisions that are in charge of recognising income arising from fiscally

transparent structures and those aimed to tackle tax avoidance schemes. This thesis analyses the

compatibility between two provisions of the 2017 OECD Model that fall within the aforementioned

categories: on the one hand, Article 1(2) to hybrid entities; and, on the other hand, the beneficial

ownership requirement provided by Articles 10, 11 and 12. In such respect, an autonomous

interpretation of the 2017 OECD Model and its Commentaries should lead to the conclusion that both

provisions are prima facie compatible as they follow the residence state’s attribution rules. Nonetheless,

there is a train of thought that disagrees with such conclusion and identifies compatibility issues, mainly,

because it considers that the beneficial ownership test should be applied before Article 1(2) and

following the qualification and attribution rules of the source state. The latter position is referred to in this

thesis as the “misalignment approach” and it is reasonable to argue that it has been significantly

influenced by the U.S. treaty practice. This practice requires identifying the beneficial owner under the

source state’s attribution rules with the intention of preserving, inter alia, its domestic anti-conduit

regulations. In recent years, the U.S. has attempted to introduce this source state approach through

drafting the new Commentary on Article 1(2) of the 2017 UN Model, though its proposal was rejected

by the UN Tax Committee as it could lead to unrelieved double taxation in the context of hybrid

situations. Indirectly, the latter attempt confirms that a source state approach requires being explicitly

included in the technical explanation instrument of the treaties as it deviates from the autonomous

meaning of the “beneficial owner” term that has reached consensus in the international tax community.

Moreover, an accurate interpretation of the 2017 OECD Model and its Commentaries confirms that the

OECD materials cannot support the misalignment approach. In this regard, the beneficial ownership test

could not be applied prior to the application of Article 1(2) and following the source state’s attribution

rules because any contradictory result may be overriding the treaty. This occurs, as the beneficial

ownership test will be applied before ensuring a preliminary access to the relevant tax convention.

Finally, and most importantly, the 2017 OECD Commentaries state that the application of Article 1(2)

shall ensure that the principles reflected in the OECD Partnership Report are duly observed. In this

regard, the latter report suggests that both provisions should follow the residence state’s attribution rules

without considering the source state’s internal law and, thus, ensures the compatibility between Article

1(2) and the beneficial ownership requirement in the context of hybrid situations.


Main Findings

The analysis and research carried out in this thesis has led to the following findings:

The beneficial ownership requirement involves two conceptual steps. The first step consists in

determining whether the recipient of the income is also its tax owner from the perspective of the

residence state, in order to ensure that a legitimate double taxation event will occur. The second step

consists in ensuring that the recipient of the income has the legal and factual control over it under

the approaches suggested by the 2017 OECD Commentaries.

Article 1(2) is aligned with the beneficial ownership requirement as both provisions attribute income

from the perspective of the residence state. The referred article ensures a preliminary treaty access

by mandating the state of source to consider the residence state’s attribution of income derived by

or through fiscally transparent entities.

There is a school of thought that suggests that the beneficial ownership test should be applied

separately from and before the application of Article 1(2), which is referred to in this thesis as the

“misalignment approach”. Scholars supporting this position base their arguments in the interpretation

of paragraph 13 of the 2017 OECD Commentary on Article 1 and in the fact that the beneficial

ownership requirement refers to treaty benefits that are granted in the source state.

The misalignment approach has been influenced by the 2006 U.S. Technical Explanation. This

technical instrument suggests, as an initial step, to identify the person who is deriving the income

through a fiscally transparent entity in accordance with the laws of the residence state; and, once a

resident recipient is found, the source country rules should be used to verify whether that person is

the beneficial owner of the income. This order avoids potential treaty override scenarios by ensuring

that the U.S. anti-conduit regulations are applied at a treaty level, since it is the application of the

treaty itself which mandates a throwback to the source state’s domestic law for identifying the

beneficial owner.

The OECD Partnership Report confirms the compatibility between Article 1(2) and the beneficial

ownership requirement in hybrid situations. In particular, example 9 of the referred report suggests

that the beneficial owner should be identified by reference to the residence state’s attribution rules

and that this approach should prevail even in the context of hybrid situations. In addition, the latter

example undermines the importance of the source state’s qualifications and attribution rules by

establishing that the tax treatment in the source state should not have any impact. The 2017 OECD

Commentaries establish that the application of Article 1(2) shall ensure that the principles reflected

in the OECD Partnership Report are duly observed, consequently, the misalignment approach does

not follow a pure OECD approach.

At present, the beneficial ownership requirement continues creating contradictory positions. Although

significant efforts were made in 2014 to ensure an autonomous international meaning of the term

“beneficial owner”, scholars are still tempted to refer to the domestic law of the contracting states.

The existence of conflicting approaches raises the question on the usefulness of the beneficial

ownership requirement at this point in time, where tax treaties have been provided with GAARs such

as the PPT and LOB clauses and stricter conditions for the entitlement to treaty benefits.


1. Introduction

Fiscally transparent entities have been in the spotlight of the international community since the beginning

of the present century. The reason for this is twofold. On the bright side, these entities are widely

preferred by the debt and capital market sectors because of the financial efficiency and legal certainty

they provide to their projects. This could explain why a significant number of investment vehicles that

are designed domestically include to a greater or lesser extent a fiscally transparent component.1 On a

darker side, these entities have also been used by taxpayers to design abusive tax planning by taking

advantage of the country differences in the tax classification of entities. Recent efforts have been made

to tackle these abuses through BEPS Action 2.2

In theoretical terms, a fiscally transparent entity or arrangement is an entity or organisational form that

is not treated as a separate unit, distinct from its shareholders, members or other associates, for tax

purposes.3 This treatment implies that income obtained by or through this type of entities is usually taxed

in the hands of their members and not at the level of the entity.

The latter implication results attractive for those investors that need to preserve their domestic tax

regime without interposing an opaque entity4 that could create financial distortions in their expected

returns.5 The best example of these investors are pension funds which are generally exempt from taxes

in their state of residence. Using fiscally transparent entities prevent these funds to suffer unrelieved

economic double taxation in their underlying investments. In practice, these inefficiencies are identified

as “tax leakage” in the related financial model and are aimed to be avoided at all costs.

Fiscally transparent entities also enhance legal certainty in investments. The incorporation deed or legal

agreement that creates a fiscally transparent entity (e.g. a partnership or trust) is sometimes used as

the instrument where the major investment terms are agreed on. For instance, the trust or partnership

agreement is commonly used to regulate the business relationship amongst the investors, the conditions

to raise funds, the delimitation of the target investments and the way in which the distributions are to be

made.

Moreover, fiscally transparent entities could also be used as an efficient method to protect investments

from country risks. The former private equity experience in Mexico constitutes a real example of this

feature.6 In the last years, foreign investments coming to Mexico have been usually channeled through

limited liability partnerships incorporated under the laws of the province of Ontario, Canada. This way

of structuring was explained by several reasons. First, these partnerships were generally regarded as

fiscally transparent entities in both Mexico and Canada, thus they reduced the potential tax leakage in

1 This is exemplified by some of the investment vehicles that are legally designed in the U.S., for instance, RICs

and REITs, which have a partial flow-through regime, as well as REMICs and FASITs, which are pure fiscally transparent examples. See: J.G. Rienstra, United States - Business and Investment sec. 2.9.1., Country Tax

Guides IBFD (accessed 22 May 2020). 2 OECD/G20, Neutralizing the Effects of Hybrid Mismatch Arrangements – Action 2: 2015 Final Report (OECD

2015), Primary Sources IBFD [hereinafter BEPS Action 2]. 3 See: Transparency, in International Tax Glossary, Glossary IBFD (accessed 9 May 2020). For the sake of

simplicity, reference made to “fiscally transparent entities” hereof will include both entities and arrangements, unless otherwise stated in this work.

4 A fiscally opaque entity is a non-fiscally transparent entity. 5 For example, if a payment is indirectly received by an investor through an opaque entity, it would be taxed

pursuant to the tax regime of the latter entity ignoring the tax regime of the investor. 6 This practice was adopted prior to the entry into force of the Mexican 2020’s income tax reform and the USMCA.

The tax reform modified the tax regime applicable to foreign fiscally transparent entities and the USMCA modified the positions of the states with respect to the investor-state’s arbitration. At this point, it is difficult to determine whether these factors will change substantially the way in which private equity investments are structured in Mexico.


the investment flows. Second, any dispute arising between the limited partners could be settled by

Canadian and not Mexican courts, Canada has a stronger rule of law which increased the legal certainty

of the investors. Third, the investments made by the partnership to the Mexican targets could potentially

be protected by the investment arbitration provisions of NAFTA,7 which ensured a protection that might

not have been achievable by all the investors based on their own residency.

All of these legal and financial qualities are overshadowed, though, by the role that fiscally transparent

entities have recently played in aggressive tax planning. These entities have been used for the design

of “hybrid mismatch arrangements” which are defined by BEPS Action 2 as arrangements that “exploit

differences in the tax treatment of an entity or instrument under the laws of two or more jurisdictions to

achieve double non-taxation, including long term deferral”.

In such respect, an entity that is regarded as fiscally transparent in one jurisdiction, but as fiscally opaque

in the other, is commonly identified as a hybrid entity,8 and could create opportunities for aggressive tax

planning in the absence of anti-avoidance measures. This situation stresses the coexistence amongst

the treaty provisions that are in charge of recognising income arising from fiscally transparent structures

and those aimed to tackle tax avoidance schemes.

From a policy perspective, it is extremely important that both categories of provisions could work well

together. On the one hand, it is desirable that benefits of tax treaties are granted in appropriate

circumstances, mainly where income is obtained through fiscally transparent structures that were put in

place for sound business reasons (e.g. pension funds’ investment schemes). On the other hand, it must

be ensured that an explicit treaty recognition of a flow-through regime, will not create incentives for the

implementation of hybrid mismatch arrangements nor hinder the application of treaty anti-abuse

measures.

In this context, the OECD provision to deal with fiscally transparent structures has been recently added

to the 2017 OECD Model9 through Article 1(2). This article was introduced to address the

recommendations set forth in BEPS Action 2 and seeks to ensure that income of transparent entities is

treated, for treaty purposes, in accordance with the principles reflected in the OECD Partnership

Report.10 This latter report aims to ensure that the provisions of tax treaties produce appropriate results

in hybrid situations.

The treaty anti-avoidance measures that coexist with Article 1(2) are various. Nonetheless, there are

some measures whose interaction represent a greater degree of complexity than others. This complexity

is increased if the measure was created in the distant past, in a time where the use of fiscally transparent

structures was not a significant concern to the international community and, therefore, its building blocks

were not designed to address this type of hybrid mismatch arrangements. A measure that falls within

this criterion is the beneficial ownership requirement contained in Articles 10 (dividends), 11 (interest)

and 12 (royalties) of the 2017 OECD Model.11 The importance of this requirement is noteworthy if one

considers that most of the investors obtaining income from cross-border financing are required to qualify

as the beneficial owners of said income to claim treaty benefits.

Therefore, it is of extremely importance for investors channelling resources through fiscally transparent

7 NAFTA was replaced by the USMCA which entered into force on July 1, 2020. 8 See: Transparency, in International Tax Glossary, Glossary IBFD (accessed 9 May 2020). 9 OECD Model Tax Convention on Income and on Capital (21 Nov. 2017), Models IBFD. 10 OECD, The Application of the OECD Model Tax Convention to Partnerships, Issues in International Taxation

No. 6 (26 Aug. 1999), Primary Sources IBFD [hereinafter OECD Partnership Report]. 11 The thesis will focus on interest and dividends income, as these are the categories of yield that are commonly

received through fiscally transparent structures in financing transactions.


structures to ensure that they will be identified as the beneficial owners of the income in appropriate

circumstances, and that treaty benefits will not be denied only because the beneficial ownership

requirement and Article 1(2) do not function properly as a whole.

With this in mind, the main objective of this thesis is to determine whether the beneficial ownership

requirement and Article 1(2) of the 2017 OECD Model are compatible. Although optimistic, the intention

of applying a pure OECD approach seeks to ensure that the conclusions drawn in this thesis should be

generally accepted by its member countries.12 In addition, the referred approach is almost identical to

the one followed by the 2017 UN Model, which enriches the consensus on any potential conclusion

found in this analysis.

Under this background, Chapter 2 will determine the main objectives that are pursued by the beneficial

ownership requirement and Article 1(2), and identify their points of contact to confirm if they are prima

facie aligned. Chapter 3 will analyse the line of thought that sees incompatibility issues on the joint

application of the latter provisions and determine which are the influences that could have shaped this

school of thought. Finally, Chapter 4 will review the concerns raised in the previous chapter in light of

the 2017 OECD Model, its Commentaries and the OECD Partnership Report and conclude whether the

beneficial ownership requirement and Article 1(2) are compatible, but not prior to identifying which are

the causes that could have motivated a misunderstanding on the interaction of these provisions, if any.

2. Objectives of the beneficial ownership requirement and Article 1(2)

This chapter has the purpose to identify and delimit the main objectives that are pursued by the beneficial

ownership requirement and Article 1(2) contained in the 2017 OECD Model. The result of this effort

constitutes the backbone of the compatibility analysis outlined in the following chapters.

The scope and operation of the beneficial ownership requirement and Article 1(2) have been

controversial and dozens of books and academic articles have been written about them. The intention

of this chapter is not to repeat the different approaches that have been posed by the main actors in the

international tax field,13 but to define the current approach that is followed by the OECD and the

contemporary trend on the application of these provisions.

In practice, some countries have deviated from the OECD approach for specific policy reasons. As will

be discussed below, there are sound arguments to sustain that these deviations have caused confusion

and complications around the application of the beneficial ownership requirement and Article 1(2).

Therefore, a clear identification of the OECD approach is required to determine whether any

compatibility problem arises from the application of such international approach, or rather from the use

of a specific treaty practice which has found its way to enter into the discussion.

2.1. Beneficial ownership

2.1.1. The origin – agents and nominees

The “beneficial ownership” term was first introduced in the OECD Model in 1977. This addition resulted

from a suggestion made in 1967 by the U.K. delegate to include a provision that could work as an

alternative to a subject-to-tax clause in order to prevent agents and nominees from claiming treaty

12 It is reasonable to argue that the OECD Model and its Commentaries reflect a high-level agreement between

its member countries with respect to the general standard for agreeing on double tax conventions. 13 For an outstanding job on the delineation of the various approaches that have been taken on the beneficial

ownership test, for example, the anti-avoidance rule approach, the attributes-of-ownership approach, the forwarding approach and the attribution-of-income approach, please refer to: A. Meindl-Ringler, Beneficial Ownership in International Tax Law ch. 9, Kluwer Law International BV, 2016.


benefits.14 At that time, under the U.K. law a person could be taxed when receiving income without being

entitled to it.15 This created an undesired situation whereby a resident nominee would be entitled to

claim treaty benefits as it would be considered as a person liable to tax under the U.K. law by reason of

residence.

The Commentaries on the 1977 OECD Model were limited to recognise this primary objective by broadly

stating that treaty benefits were not available when an intermediary (e.g. an agent or nominee) was

interposed between the beneficiary and the payer, unless the beneficial owner was a resident of the

other contracting state.16

The scope of the beneficial ownership requirement evolved in the subsequent years by enriching the

content of the OECD Commentaries. The following subsections contain the main objectives -and

underlying principles- that were introduced and which are currently in force for the identification of the

beneficial owner in a treaty context. The historical factors that gave rise to such additions are briefly

mentioned with a view of identifying the rationale of their incorporation.

Moving away from the traditional academic practice, reference to these objectives are not made

according to their sequence of appearance in the OECD Commentaries, but rather following a

conceptual order that may allow a smooth functioning of their underlying principles.

Although a significant number of respected scholars have made considerable efforts to classify the

beneficial ownership requirement within the boundaries of a specific approach, there are sound

arguments to sustain that this task may not be fruitful anymore. At present, the “beneficial owner” term

has “accumulated” diverse aims to an extent that efforts should be made not to determine which

objective should prevail over the other, but to identify how these objectives could peacefully coexist.17

2.1.2. Autonomous interpretation

One of the fundamental questions that has been faced by the “beneficial owner” term is whether it should

have an autonomous international meaning or rather if it might be construed by reference to the

domestic law of the contracting states.

If one stands on the current fiscal landscape, it is easy to resolve this question by making reference to

the OECD Commentaries, which were revised in 201418 to ensure that the “beneficial owner” term has

an international meaning and must not be interpreted under the domestic law of a particular country.19

However, answering this question was not that straightforward back in time.

14 Meindl-Ringler, supra n. 13, at p. 332. 15 J.F. Avery Jones, Chapter 20: The Beneficial Ownership Concept Was Never Necessary in the Model in

Beneficial Ownership: Recent Trends (M. Lang et al. eds., IBFD 2013), Books IBFD (accessed 26 Apr. 2020).

Avery Jones specifies that by the time the “beneficial owner” term was included to the OECD Model, it was no longer necessary from the U.K. point of view because all of the U.K. treaties included a subject to tax requirement for dividends, interest and royalties. In such respect, the introduction of such term to the OECD Model was not required to solve an existing problem. The author presumes that the U.K. still wanted to include the “beneficial ownership” requirement to save arguments in treaty negotiations.

16 See OECD Model Convention on Income and on Capital: Commentary on Article 10 para. 12 (11 Apr. 1977), Models IBFD.

17 The sole fact that plenty of authors have identified a diversity of aims that are presumably followed by the “beneficial owner” term, constitutes a de facto recognition that this term should be seen as a “multi-purpose” treaty term. This thesis does not have the purpose to analyse whether this “multi-purpose” nature is a desirable situation, but to identify whether the principles underlying such term could work on a harmonised fashion.

18 OECD - 2014 Update to OECD Model – final approval by OECD Council (18 July 2014), News IBFD (accessed 23 Apr. 2020).

19 Para. 12.1 OECD Model: Commentary on Article 10 (2017).


Before 2014, the approach taken by tax authorities and courts was highly inconsistent, due in part to the

inexistence of guidelines in the OECD Commentaries and to the application of Article 3(2) of the OECD

Model which, in the case of an undefined term, allows to use the meaning that such term has under the

domestic law of the relevant state, unless the context otherwise requires.

The situation described above created incentives for courts to interpret the “beneficial owner” term under

the influence of, or the direct reference to, the domestic law of their countries. As Li recognised, the

international case law on beneficial ownership was inconsistent even on the basic questions at that

time.20

In 2014, the OECD Commentaries were revised to bring consistency on the interpretation of this unique

treaty meaning through the addition of the following clarification: “…the term “beneficial owner” was

added to address potential difficulties arising from the use of the words “paid to…a resident” in

paragraph 1, it was intended to be interpreted in this context and not to refer to any technical meaning

that it could have had under the domestic law of a specific country (in fact, when it was added to

the paragraph, the term did not have a precise meaning in the law of many countries)”.21

At present, it is reasonable to say that the referred clarification has achieved consensus amongst the

international tax community in the sense that the “beneficial owner” term has to be interpreted

autonomously and not according to the domestic law of a contracting state, at least with respect to the

application of the OECD Model.22

As will be discussed further, there is still a temptation to use the domestic rules of a particular contracting

state when interpreting the “beneficial owner” term. To alleviate these impulses, it is important to briefly

review the process that gave rise to the revised version of the 2014 OECD Commentaries, which

reinforces the autonomous nature of the term at issue.

In 2011, a discussion draft on the “Clarification of the meaning of “Beneficial Owner”” was issued by the

OECD. This draft included the following wording in the context of the referred autonomous interpretation:

“…This does not mean, however, that the domestic law meaning of “beneficial owner” is automatically

irrelevant for the interpretation of that term in the context of the Article: that domestic law meaning is

applicable to the extent that it is consistent with the general guidance included in this Commentary”.23

The quoted text received a great deal of criticism and was consequently eliminated in the final version

of the 2014 OECD Commentaries. By way of example, Da Silva and Van Wanrooij noted in their letter

to the OECD that keeping the reference to the domestic law -and not adopting an autonomous

interpretation of the term- may not ensure the desire consistency and uniformed interpretation of the

“beneficial owner” term, as conflicts could still arise about its exact meaning.24 In their view, in those

cases where states have a domestic definition of such term, that definition will most probably prevail

regardless of what is laid down in the OECD Commentaries.

20 See J. (Jinyan) Li, Beneficial Ownership in Tax Treaties: Judicial Interpretation and the Case for Clarity sec. 3.3.

in Tax Polymath: A life in international taxation: Essays in honour of John F. Avery Jones (P. Baker & C.S. Bobbett eds., IBFD 2010), Books IBFD (accessed 21 Apr. 2020).

21 Para. 12.1 OECD Model: Commentary on Article 10 (2017). 22 A similar understanding is reflected in: F. Navisotschnigg, Chapter 4: The Beneficial Ownership Test sec. 4.2.

in Tax Treaty Entitlement (M. Lang et al. eds., IBFD 2015), Books IBFD (accessed 21 Apr. 2020). 23 OECD, Clarification of the Meaning of "Beneficial Owner" in the OECD Model Tax Convention Discussion Draft

(29 Apr. 2011), International Organizations’ Documentation IBFD. 24 B. Da Silva & J. Van Wanrooij, Clarification of the Meaning of “Beneficial Owner” in the OECD Model Tax

Convention – discussion draft letter to the OECD (15 July 2011), available at http://www.oecd.org/tax/treaties/48414319.pdf, p.2.

http://www.oecd.org/tax/treaties/48414319.pdf


The elimination of the quoted text in the final version of the 2014 OECD Commentaries supports the

conclusion that the domestic law meaning of the “beneficial owner” term should be irrelevant for its

interpretation, unless reference to the internal law of one state is expressly provided by the OECD

Commentaries in the context of the beneficial ownership requirement.

2.1.3. Attribution of income

Many well-known authors consider that the beneficial ownership test includes an attribution-of-income

function that should follow the laws of the residence state.25 Most of these authors agree that such

function is the starting point of the beneficial ownership test.

Following this line of reasoning, Avery Jones, Vann and Wheeler suggested to distinguish two cases in

relation to beneficial ownership which imply an attribution-of-income assessment.26 First, if the country

of residence to whom the income is paid does not attribute it to the relevant person, that person should

not be the beneficial owner of the income. Second, if the country of residence does attribute said income

to the person, this person should not be treated as the beneficial owner of the income in very limited

situations (e.g. if the recipient is legally obliged to forward the income to a third person).

The attribution-of-income approach could be found in the 2017 OECD Commentaries which state that

the “beneficial owner” term was introduced to “… clarify the meaning of the words “paid ... to a

resident” as they are used in paragraph 2 of Article 10…”;27 consequently, the term at issue intends to

determine to whom an item of income is paid. Although this clarification could work as a confirmation

that the “beneficial owner” term serves as an attribution-of-income instrument, it does not say a great

deal about the state perspective that should be followed in its application.

The key element to clarify this perspective is found in the title of the 2017 OECD Model: the elimination

of double taxation. The 2017 OECD Commentaries recognise two medullar elements with regard to the

state perspective: first, that the “beneficial owner” term should be interpreted in light of the general

purpose of “avoiding double taxation”;28 and, second, that agents or nominees should not be granted

with treaty benefits by the sole fact that they are residents of a contracting state, it is required that a

potential double taxation arises as consequence of that status, which should not occur if “….the recipient

is not treated as the owner of the income for tax purposes in the State of residence”.29

It is clear from the quoted commentary that the laws of the residence state are essential for the beneficial

ownership test under the OECD approach. The latter conclusion is based on the fact that, for qualifying

as a beneficial owner, it is necessary -although not sufficient- to be considered the owner of the income

for tax purposes in the state of residence. This condition is essential for the existence of a double

taxation event and a legitimate need for treaty relief.

Moreover, following the laws of the residence state does not imply that the source state will remain

defenceless. As Martín Jiménez suggested,30 the state of source can still apply its domestic anti-

25 Some of these authors are referred in: Meindl-Ringler, supra n. 13, at ch. 9. sec. IV. 26 J.F. Avery Jones et al., OECD Discussion Draft “Clarification of the Meaning of Beneficial Owner” letter to the

OECD (15 July 2011), available at: www.oecd.org/dataoecd/49/41/48420432.pdf, p. 5. 27 Para. 12 OECD Model: Commentary on Article 10 (2017). 28 Ibid. at para. 12.1. This paragraph states that the beneficial owner term should be interpreted “…in light of the

object and purposes of the Convention, including avoiding double taxation…”. 29 Para. 12.2 OECD Model: Commentary on Article 10 (2017). 30 See A. Martin Jimenez, Chapter 14: Beneficial Ownership as an Attribution-of-Income Rule in Spain: Source

and Residence Country Perspectives sec. 14.4.1. in Beneficial Ownership: Recent Trends (M. Lang et al. eds., IBFD 2013), Books IBFD (accessed 26 Apr. 2020).

http://www.oecd.org/dataoecd/49/41/48420432.pdf


avoidance rules31 to prevent abusive structures and request supporting information to the state of

residence -through Article 26 of the OECD Model- when differences in the attribution of income exist.

It is worth noting that there are countries that depart from the OECD approach by focusing on the

perspective of the source state. A clear example of this is the treaty practice of the U.S. which is reflected

in the 2006 U.S. Technical Explanation.32 The U.S. approach will be analysed later in this work, as it

plays a fundamental role in the current discussion about the compatibility between the beneficial

ownership requirement and Article 1(2) of the 2017 OECD Model.

2.1.4. Conduit and forwarding restrictions

Once the income is attributed to the person that is considered its owner for tax purposes in the residence

state, the beneficial ownership test requires to ensure that such person: i) is not legally obliged to pass

on that income to a third person (forwarding restriction); and, ii) does not act as a conduit for other

person who in fact receives the benefit of the income concerned (conduit restriction).

The first restriction was introduced in 2014 to the OECD Commentaries and has remained unchanged.33

Pursuant to the latter, the direct recipient of the income should not be the beneficial owner when the

recipient’s right to use and enjoy the income is constrained by a contractual or legal obligation to pass

on the payment received to another person.34 This obligation may derive by the relevant documents but

may also be found to exist on the basis of facts and circumstances showing that, in substance, the

recipient clearly does not have the right to use and enjoy the dividend unconstrained by a legal obligation

to pass on the payment received to another person.

The second restriction was incorporated in 2003 to the OECD Commentaries with the purpose of

recognising the conclusions set forth in the Conduit Company Report.35 The 2017 OECD Commentaries

make reference to such report by stating that, based on such report, a conduit company cannot normally

be regarded as the beneficial owner if, though the formal owner, it has, as a practical matter, very narrow

powers which render it, in relation to the income concerned, a mere fiduciary or administrator acting on

an account of the interested parties.36

There are three key differences between the attribution-of-income assessment (discussed in section

2.1.3.) and the aforementioned restrictions. First, while the former assessment focuses mainly on a legal

analysis, to determine who is the owner of the income for tax purposes, it seems that the latter

restrictions require principally a factual analysis.37 Second, the attribution-of-income assessment should

be performed with the lens of the state of residence, whereas the OECD Commentaries do not impose

a particular perspective when examining the forwarding and conduit restrictions. Third, the latter

restrictions have a clear anti-avoidance orientation while the attribution-of-income assessment seeks to

ensure that a legitimate concern of double taxation exists.

31 These measures should not contradict the treaty provisions. See: Para. 70 OECD Model: Commentary on Article

1 (2017). 32 United States Model Income Tax Convention: Technical Explanation (15 Nov. 2006), Treaties & Models IBFD

[hereinafter 2006 U.S. Technical Explanation]. 33 See OECD, 2014 Update to the OECD Model Tax Convention para. 34 (15 July 2014), available at:

http://www.oecd.org/tax/treaties/2014-update-model-tax-concention.pdf. 34 See para. 12.4 OECD Model: Commentary on Article 10 (2017). 35 OECD, Double Taxation Conventions and the Use of Conduit Companies (27 Nov. 1986), International

Organizations’ Documentation IBFD [hereinafter Conduit Company Report]. 36 Para. 12.3 OECD Model: Commentary on Article 10 (2017). 37 In the case of the forwarding restriction, by stating that the obligation to pass on the income to a third person

may also be found to exist on the basis of fact and circumstances and, with respect to the conduit restriction, when establishing that a conduit company may not be considered the beneficial owner of the income where, as a practical matter, it has very narrow powers on such income.

http://www.oecd.org/tax/treaties/2014-update-model-tax-concention.pdf


2.1.5. Interim conclusion

The previous analysis is far from being exhaustive. It mainly attempts to demonstrate that the “beneficial

owner” term has been equipped with a diversity of objectives and their correspondent set of functions

over time. Although these objectives were introduced at different points in time to address a variety of

policy concerns, the beneficial ownership test should be applied on a harmonious fashion.

Based on an autonomous interpretation of the 2017 OECD Commentaries, it is reasonable to conclude

that the beneficial ownership test involves two conceptual steps. The first step consists in determining

whether the recipient of the income is also its tax owner from the perspective of the residence state, in

order to ensure that a legitimate double taxation event will occur. Once the income has been attributed

under such terms, the second step consists in ensuring that the recipient of the income has the legal

and factual control over it, a situation which, in different ways, is assumed to exist when complying with

the forwarding and conduit restrictions.38 The latter test could be summarized as follows:

2.2. Article 1(2) of the 2017 OECD Model

The OECD provision to deal with fiscally transparent structures has been recently added to the 2017

OECD Model through Article 1(2). As mentioned in section 2.1., the beneficial ownership requirement

has the purpose to clarify to whom an item of income is paid for treaty purposes. This test usually faces

obstacles when the payment is received by or through fiscally transparent entities, turning Article 1(2)

into an essential provision to consider in its analysis. This section does not intend to stress out the

complications of identifying the beneficial owner in the context of fiscally transparent scenarios, as these

difficulties will be discussed further in chapters 3 and 4, but to describe the features of Article 1(2) that

could result of particular interest for the beneficial ownership requirement.

Although the design of Article 1(2) has been strongly influenced by the treaty practice of different

jurisdictions, in particular, by the U.S. treaty practice under Article 1(6) of the 2006 U.S. Model Income

38 Brabazon has a similar understanding. The author considers that the first step is a positive condition of the

“beneficial owner” term that should refer to the residence state’s attribution rules, while the second step constitutes a negative condition of such term that does not refer to the internal law of a particular state. See: M.L. Brabazon, Application of Tax Treaties to Fiscally Transparent Entities – Global Tax Treaty Commentaries see 4.4.3., Global Topics IBFD (accessed 1 May 2020).

Attribution-of-income

First step

Function:

Main

objective:

Perspective: State of residence

Ensure a legitimate

double taxation

event

Forwarding restriction

Second step

No specific state

Prevent the improper grant of treaty relief

(removement of most agents and nominees)

Conduit restriction

Figure 1. Proposed 2017 OECD approach on the “beneficial ownership” test

Main category

of analysis:

Legal Factual

Territory of Article 1(2)

of the 2017 OECD

Model


Tax Convention,39 the analysis contained herein intends to delimit the way in which Article 1(2) should

be read under a pure OECD approach, without referring to outer influences.40 The main principles

considered by the latter approach are discussed in the following sections.

2.2.1. Origin and content

Article 1(2) of the 2017 OECD Model was introduced to address the recommendations set forth in the

final report of BEPS Action 2.41 In essence, the content of this article seeks to address the situation of

income derived by or through fiscally transparent entities or arrangements42 in the context of a treaty.43

The aforementioned provision reads as follows:

“2. For the purposes of this Convention, income derived by or through an entity or

arrangement that is treated as wholly or partly fiscally transparent under the tax law of

either Contracting State shall be considered to be income of a resident of a Contracting

State but only to the extent that the income is treated, for purposes of taxation by that State,

as the income of a resident of that State.” 44

2.2.2. OECD Partnership Report as source of interpretation

According to the 2017 OECD Commentaries, the application of Article 1(2) ensures that income obtained

by or through fiscally transparent entities “…is treated, for the purposes of the Convention, in accordance

with the principles reflected in the 1999 report of the Committee on Fiscal Affairs entitled “The

Application of the OECD Model Tax Convention to Partnerships”.45 The Commentaries continue stating

that such report provides guidance on how Article 1(2) should be interpreted and applied in various

situations.

The reference to the OECD Partnership Report is often underestimated by some scholars, though it

results essential for the interpretation criteria that one should follow when applying the aforesaid article.

In such respect, the 2017 OECD Commentaries make clear that Article 1(2) should be interpreted in a

way that ensures that any outcome from its application should be in line with the principles reflected in

said report.

Although the OECD Commentaries recognise that Article 1(2) could extend the application of the

conclusions reflected in the OECD Partnership Report to situations that were not directly covered by it,46

they do not give room to recognise contradictory results with respect to such conclusions. Therefore,

the application of Article 1(2) has to respect at all times the principles set forth in the OECD Partnership

Report.

39 See A. Nikolakakis et al., Some Reflections on the Proposed Revisions to the OECD Model and Commentaries,

and on the Multilateral Instrument, with Respect to Fiscally Transparent Entities – Part 1 sec. 4, 71 Bull. Intl. Taxn. 9 (2017), Journals IBFD (accessed 27 Apr. 2020), p. 482.

40 The U.S. treaty practice related to hybrid entities and the beneficial ownership requirement will be discussed further in chapter 3.

41 See OECD BEPS Action 2 (2015), supra n.2. 42 The 2017 Commentary establishes that the concept “fiscally transparent” refers to situations where, under the

domestic law of a Contracting State, the income (or part thereof) of the entity or arrangement is not taxed at the level of the entity or the arrangement but at the level of the persons who have an interest in that entity or arrangement. See para 9 OECD Model: Commentary on Article 1 (2017).

43 Para. 2 OECD Model: Commentary on Article 1 (2017). 44 Art. 1(2) OECD Model (2017). 45 Para. 2 OECD Model: Commentary on Article 1 (2017). 46 See para. 4 OECD Model: Commentary on Article 1 (2017). In particular, it extends the scope to cover fiscally

transparent entities that are not legally formed as a partnership.


2.2.3. “Source-follows-residence” principle

Article 1(2) trails the so-called “source-follows-residence” principle with respect to the attribution of

income derived by or through fiscally transparent entities.47 Nikolakakis et al. correctly suggest48 that

the approach contained in Article 1(2) seeks to achieve consistency49 by mandating that the state of

source shall consider the residence state’s attribution of income derived by or through fiscally

transparent entities, at least to determine the extent to which treaty benefits should be granted.

This “source-follows-residence” principle only applies for the purposes of a tax treaty and does not

require a contracting state to change the way in which it attributes income or characterise an entity under

its domestic law.50

2.2.4. Income “paid to” a resident of a contracting state

Article 1(2) ensures that income derived by or through fiscally transparent entities is attributed to the

resident of the other contracting state for purposes of applying the relevant distributive rule of the

treaty.51 This provision will therefore allow to consider dividends or interest as “paid to” for the purposes

of Articles 10 and 11 of the 2017 OECD Model.52

The latter conclusion constitutes a clear point of contact between the beneficial ownership requirement

and Article 1(2). As discussed in section 2.1.2., the “beneficial owner” term was introduced to the OECD

Model to address potential difficulties arising from the use of the words “paid to…a resident” in the

context of dividends and interest income. In a similar way, Article 1(2) allows income obtained by or

through fiscally transparent entities to be considered as “paid to” in the context of Articles 10 and 11 of

the 2017 OECD Model.

At this stage, it seems that both the “beneficial owner” term and Article 1(2) have an “attribution-of-

income” function within their arsenal. Nonetheless, while this function appears to be essential for Article

1(2) in order to address the situation of income arising from fiscally transparent structures, the beneficial

ownership requirement uses it as a “first step” (as shown in Figure 1 above).

What is more important, though, is that the attribution-of-income function in both provisions have a

residence state orientation.53 This alignment should guarantee consistency with regard to the person

that is identified as deriving income in a treaty situation. Nonetheless, because of its structural

importance, it is worth examining whether Article 1(2) and its related Commentaries provide additional

guidance on this potential consistency.

2.2.5. Beneficial ownership

The 2017 OECD Commentary on Article 1(2) includes one paragraph with respect to the application of

47 However, there are authors that see this position as arguable, for instance see: L. Parada, Chapter 1: Tax Treaty

Entitlement and Fiscally Transparent Entities: Improvements or Unnecessary Complications? sec. 1.3.1.1. in The Aftermath of BEPS (J. Wheeler ed., IBFD 2020), Books IBFD (accessed 10 Jan. 2020).

48 Nikolakakis et al., supra n. 39, at p. 480. 49 Over the potential conflicts that could arise between the laws and practices of states with respect to the

attribution of income in the context of a tax treaty. 50 See para. 14 OECD Model: Commentary on Article 1 (2017). 51 To the extent that such income is treated, for purposes of taxation by the residence state, as the income of a

resident of that state. 52 See para. 12 OECD Model: Commentary on Article 1 (2017). 53 As mentioned in section 2.1.3. hereof, there are sound arguments to sustain that the beneficial owner should

be identified following the domestic law of the residence state.


the beneficial ownership requirement. The full content of the paragraph is quoted below:

“13. Whilst the paragraph ensures that the various allocative rules of the Convention are

applied to the extent that income of fiscally transparent entities is treated, under domestic

law, as income of a resident of a Contracting State, the paragraph does not prejudge the

issue of whether the recipient is the beneficial owner of the relevant income. Where,

for example, a fiscally transparent partnership receives dividends as an agent or nominee

for a person who is not a partner, the fact that the dividend may be considered as

income of a resident of a Contracting State under the domestic law of that State will

not preclude the State of source from considering that neither the partnership nor

the partners are the beneficial owners of the dividend.”54

The first impression of the quoted paragraph is that it does not say a great deal about the joint application

of the beneficial ownership requirement and Article 1(2). However, if one carries out a systematic

interpretation of such paragraph interesting findings could emerge.

2.2.5.1. Order of application

First of all, the quoted paragraph confirms the order in which Article 1(2) and the other distributive articles

of the OECD Model should be applied. It suggests that Article 1(2) should be seen as a starting point

that ensures a preliminary access to the treaty and that, after its application, the specific distributive rule

of the treaty should be examined to assess whether the appropriate benefits may be granted.55

This order is similar to the way in which the beneficial ownership requirement works, as it first allocates

the income under the laws of the residence state to a specific recipient, and only then, analyses the

forwarding and conduit restrictions to confirm whether the recipient of the income should be deemed as

the beneficial owner and, consequently, entitled to treaty relief.

2.2.5.2. Reference to the source state

Secondly, the quoted paragraph makes an explicit reference to the source state. The paragraph

indicates that the fact that dividends received by a fiscally transparent partnership, acting as an agent

or nominee for a person that is not a partner of it, are treated as income of a resident of a contracting

state under Article 1(2), will not preclude the state of source from considering that neither the partnership

nor the partners are the beneficial owners of the income. As will be discussed further, the reference

made by the quoted paragraph to the source state has created confusion amongst scholars in a way

that it is necessary to decipher its motivation.

This rationale could be identified if one recalls the steps comprising the beneficial ownership test. As

discussed in section 2.2.4., the first step intends to attribute income for treaty purposes and coincides

with the material scope of Article 1(2), as both provisions work as an attribution-of-income instrument.

Nevertheless, while the analysis of Article 1(2) stops when a resident of a contracting state is identified

as deriving income by or through a fiscally transparent entity, the beneficial ownership test continues,

through the second step, by analysing whether the recipient of the income, which could be an agent or

nominee, has the legal and factual control over it through the analysis of the forwarding and conduit

restrictions. These latter restrictions are not state oriented, principally assessed through a factual

analysis and of critical importance for the state of source, as this is the state which gives up its taxing

rights under Article 10 of the 2017 OECD Model.

54 Para. 13 OECD Model: Commentary on Article 1 (2017). 55 See Parada, supra n. 47, at p. 4.


In view of the foregoing, it is reasonable to suggest that the rationale of the quoted paragraph is to clarify

that Article 1(2) is not in charge of determining whether an agent or nominee recipient complies with the

forwarding and conduit restrictions in order to be considered the beneficial owner of the dividends. This

task is entrusted to the second step of the beneficial ownership test, which is performed by both states

but results of more importance for the state of source from a budgetary perspective. Based on this line

of reasoning, it seems that reference to the state of source was made for political -and not technical-

reasons to reinforce the fact that the state of source is still entitled to analyse the aforementioned

restrictions before giving away its taxing rights.

2.2.5.3. Residence approach on attribution of income

Finally, it should be said that the quoted paragraph does not provide further detail on the prima facie

alignment between the beneficial ownership requirement and Article 1(2). If this alignment is preserved,

the attribution of income assessment under both provisions should lead to the same result.

The lack of detail might not be a concern since the OECD Partnership Report could serve as additional

guidance. As explained below, the 2017 OECD Commentaries establish that the application of Article

1(2) must ensure that income arising from fiscally transparent structures is treated in accordance with

the principles reflected in the OECD Partnership Report.56 Although the content of this report will be

discussed further in section 4.2., at this point it is sufficient to say that the examples contained therein

confirms that the provisions at issue are aligned with respect to their residence approach, even by

insinuating the existence of more than one category of beneficial owners in the case of triangle situations

where two contracting states claim taxing rights as residence states.57

2.2.6. Interim conclusion

Article 1(2) of the 2017 OECD Model ensures a preliminary treaty access by mandating the state of

source to consider the residence state’s attribution of income derived by or through fiscally transparent

entities. This command should not imply whatsoever that the state of source should change the way in

which it attributes income or characterises entities under its domestic law. After the application of Article

1(2), the relevant distributing provision of the treaty should be applied to assess whether treaty benefits

may be available in each particular case.

In terms of functionality, both Article 1(2) and the beneficial ownership test allow to identify to whom

dividends or interest are “paid to” for purposes of Articles 10 and 11 of the OECD Model. Both provisions

perform this attribution of income from the perspective of the residence state. This latter conclusion is

not modified by the fact that the aforementioned paragraph 13 recognises that the source state is still

entitled to analyse whether the recipient of the income fulfils with the forwarding and conduit restrictions

before giving away its taxing rights.

3. Issues on the joint application

Once the main objectives -and underlying principles- of the “beneficial owner” term and Article 1(2) have

been defined, it is important to analyse certain concerns that have been raised by some scholars with

respect to their joint application. At first glance, the conclusions reflected in the previous chapter could

lead to a signal that the objectives pursued by the provisions at issue are aligned and could work well

together. Nonetheless, there is a current trend of thought that sees an apparent misalignment on the

56 Para. 2 OECD Model: Commentary on Article 1 (2017). 57 OECD Partnership Report (1999), supra n. 10, para. 73. This example is analysed in section 4.2. hereof.


application of these provisions. This later approach proclaims to be based on the 2017 OECD Model

and its Commentaries and will be discussed in this chapter.

3.1. Apparent misalignment

3.1.1. Theoretical misalignment

Nikolakakis et al. find difficulties in the joint application of the beneficial ownership test and Article 1(2)

of the 2017 OECD Model.58 These authors consider that the fact that neither Article 1(2) nor its related

Commentary address the determination of the beneficial owner gives rise to different concerns. Some

of these include the possibility that various states may approach this determination differently and also

that it would be difficult to conclude that a member of a legally opaque entity should be regarded as the

beneficial owner of the income received by such entity, even if the income is attributed to that member

by the residence state; or conversely, that a legally transparent entity to which income is attributed under

Article 1(2) should be regarded as the beneficial owner. The authors recognise that some bilateral

treaties –as the Canada - U.S. Income and Capital Tax Treaty-59 have addressed these issues.

In the words of Nikolakakis et al., the question that arises from these concerns “…is whether beneficial

ownership and other attribution rules or principles (including conduit rules or principles) should be

applied before or after a provision such as proposed article 1(2) of the OECD Model.”.60 The “before”

view would identify the beneficial owner by applying the domestic law of the source state,61 whereas the

“after” approach would determine the beneficial owner by reference to the residence state’s attribution,

this would occur as a natural consequence of applying Article 1(2) first.62

To answer the aforementioned question, the referred authors indicate that the text included in paragraph

13 of the 2017 OECD Commentary on Article 1 (discussed in section 2.2.5. above) suggests that the

beneficial ownership test should be applied first, as a “Step 1”, in the analysis of the application of Article

1(2).63 This latter article would only be applied afterwards, as a “Step 2”, “… where Step 1 results in the

source state reaching the conclusion that the beneficial owner is a fiscally transparent entity

(considered opaque by the source state, such that the income is derived “by” it) or its member(s) (where

the entity is fiscally transparent from the source state’s perspective, such that the income is derived by

the members “through” the entity)”.64

Although it is not entirely clear how the interpretation of paragraph 13 could lead to the latter conclusion,

Nikolakakis et al. point out that determining the beneficial ownership separately from and before the

application of Article 1(2) has been considered the most appropriate approach by some authors. In their

opinion, these authors consider that the beneficial ownership test is a factual determination that should

be made by the source state; based on its own qualifications, attribution rules and principles; and,

ignoring the residence state’s rules and principles. Nikolakakis et al. see this approach consistent with

the fact that Article 1(2) does not prejudge whether the recipient is the beneficial owner of the income,

58 Nikolakakis et al., supra n. 39, at p. 496. 59 Convention Between Canada and the United States of America With Respect to Taxes on Income and on Capital

(26 Sept. 1980) (as amended through 2007), Treaties & Models IBFD. 60 Nikolakakis et al., supra n. 39, at p. 496. 61 Where taxation at source is concerned. 62 This understanding is also held in: Brabazon, supra n. 38, at 4.4.2. 63 In the authors’ view, Article 1(2) mandates a two-step process for the granting of treaty benefits. The first step

is the application, by the source state, of its domestic law to determine which persons and events should be taxable in its jurisdiction. Once the relevant taxpayers and events are identified by the source state, the second step consists in determining the extent to which the relevant taxpayer should be granted with treaty benefits. Is in this second step where the authors find that Article 1(2) could have an impact, as the source state will be required to grant treaty benefits in function of the residence state’s attribution of income.

64 Nikolakakis et al., supra n. 39, at p. 497.


which is clarified through the paragraph 13 in question.

Jain coincides with Nikolakakis et al. in the sense that the question emerging from the referred joint

application is “…whether the determination of a beneficial owner must be made after the determination

of the relevant taxpayer according to article 1(2) of the OECD Model or whether it should be made on

an independent basis without considering the outcome with regard to article 1(2)”.65 In addition, she

also considers that, as a general rule, the beneficial ownership test is factual and that the state of source

should determine who is the beneficial owner based on the classification of the entity under its domestic

law.66

A similar understanding has been adopted by Parada,67 who concludes that Article 1(2) should not affect

the determination of the beneficial owner in the source state, in his view “…the source state should

determine the beneficial owner based on its own qualification and attribution rules, regardless of

the fact that the recipient entity of the income is considered as fiscally transparent in the other contracting

state”.68 He also finds support for this conclusion in the aforementioned paragraph 13.

Interestingly, all of these authors recognise that this source-based approach creates practical difficulties

arising from the potential mismatch between the different approaches adopted by the contracting states

when performing the beneficial ownership analysis.

3.1.2. Practical difficulties

Parada has represented the aforementioned difficulties through the analysis of the example that is

illustrated below:69

This example is a triangle case that involves two potential treaty relations: on the one hand, the

application of the treaty between State Y (residence 1) and State Z (source); and, on the other hand,

the treaty between State X (residence 2) and State Z (source). The relation between State X and State

Z includes the existence of a hybrid entity which could be defined as an entity (i.e. YCo) that is

65 K. Jain, The OECD Model (2017) and Hybrid Entities: Some Opaque Issues and Their Transparent Solutions,

73 Bull. Intl. Taxn. 3 (2019), Journals IBFD (accessed 1 May 2020), p. 133. 66 Id. However, Jain recognises that such general approach could create difficulties in the context of Article 1(2)

and that the Commentary on such article attempts to establish that the beneficial ownership test should be applied based on the residence state’s rules.

67 Parada, supra n. 47, at p. 9. 68 Id. 69 Parada, supra n. 47, at p. 4.

Figure 2. Application of the “beneficial ownership” requirement and Article 1(2)

ZCo

A B

State X

State Y

State Z

YCo: transparent

YCo: opaque

YCo: opaque

10% WHT

Treaty Y-Z

5% WHT

Treaty X-Z

InterestYCo


characterised as fiscally transparent in one jurisdiction (i.e. State X) and as fiscally opaque in another

jurisdiction (i.e. State Z).

In this example, Parada recognises that the application of the treaty between State Z (source) and State

Y (residence 1) is relatively straightforward. Article 1(2) is not pertinent in this relation as both states

classify YCo as a fiscally opaque entity that is receiving interest income from ZCo. The reduced

withholding rate of 10% under the referred treaty may apply provided that, inter alia, the requirements

set forth in Article 11 of the 2017 OECD Model are fulfilled, including the required qualification of YCo

as the beneficial owner of the income.

In contrast, Article 1(2) is indispensable for a clear application of the treaty between State X (residence

2) and State Z (source). The latter since State Z (source) sees YCo as a fiscally opaque entity and,

therefore, as the recipient of the interest income sourced in its jurisdiction, whereas State X (residence

2) considers that such income is being received by its resident members A and B, due to the fact that

State X characterises YCo as a fiscally transparent entity. Without the pragmatic solution contained in

Article 1(2), which mandates the source state to consider the residence state’s attribution of income

derived by or through fiscally transparent entities, the application of the treaty between State X

(residence 2) and State Z (source) would not be clear at all. Parada correctly sees Article 1(2) as a

pragmatic solution for this uncertainty.

Nevertheless, the referred author identifies some problems arising from the analysis on whether the

reduced withholding rate of 5% provided by the treaty between State X (residence 2) and State Z

(source) is applicable. Parada considers that while members A and B (residents of State X) should be

considered as the recipient of the interest income pursuant to Article 1(2) of the treaty (residence

perspective), it is unlikely that said members could be deemed as the beneficial owners of the interest,

because YCo will be considered fiscally opaque by State Z (source) and, consequently, will most

probably consider YCo as the beneficial owner of the interest payment.

The issue raised by Parada to the triangle case above reflects the position described in this chapter and

which could be identified hereinafter as the “misalignment approach”. In sum, the latter approach (i)

suggests that the beneficial ownership test should be made by the source state before the application

of Article 1(2) and based on its own qualification and attribution of income rules; and, (ii) could contradict

the result of Article 1(2) as this article mandates to consider the residence state’s -and not the source

state’s- attribution of income rules. Under this approach, one could say that Article 1(2) loses importance

in favour of Articles 10, 11 and 12, since the beneficial ownership requirement contemplated by these

articles will have the first and ultimate decision on the entitlement to treaty benefits.

The misalignment approach will be firmly questioned in chapter 4, as it seems to depart from the current

OECD approach on the application of the beneficial ownership test and Article 1(2). Nevertheless, before

opening the door to this interesting discussion it is worth identifying the sources that could have

significantly shaped this line of thought.

3.2. Influences

3.2.1. Source country perspective

Only few jurisdictions have adopted a pure source state approach when applying the beneficial

ownership test in treaty situations. As will be discussed further in sections 3.2.2. and 3.2.3., the leading

actor of this practice is the U.S., a country which has found a way to introduce this approach in its treaty

network and attempted to include it in the 2017 UN Commentaries.


For Meindl-Ringler, the motivation for a source state perspective is not entirely clear, though she

considers that it could be based on the assumption that the source state may regard improper and be

reluctant to restrict its taxing rights in cases where the income is not attributed to the claimant under its

internal law.70 The source state approach departs from the autonomous international meaning of the

term “beneficial owner” (discussed in section 2.1.2.) and intends to preserve the source state’s policy

which is primarily addressed through its domestic legislation.

Under this spirit, the treaty practice of the U.S. has adopted a pure source state approach. This approach

has been taken to ensure that its domestic anti-avoidance measures, such as the U.S. anti-conduit

regulations, will be duly observed and properly applied when identifying the beneficial owner in a treaty

situation.71 The anti-conduit regulations are mainly founded on the IRC Section 7701(l)72 which allows

the IRS to enact regulations that recharacterises multi-party financing transactions (also identified as

conduit financing arrangements) as a transaction that is directly agreed between two parties with the

aim of preventing tax avoidance in the U.S.

Before entering into more detail, it should be highlighted that some scholars are of the opinion that the

regulations that have emerged from the IRC Section 7701(l) “…have been controversial as they deviated

from a generally accepted interpretation of the treaty beneficial ownership concept”.73 This could be one

of the reasons of why the U.S. treaty practice74 includes particular provisions in the technical explanation

of its treaties to ensure that the beneficial owner is determined from a source state perspective.

In a treaty context, the Treasury Regulations (Treas. Reg.) § 1.881-375 constitutes one of the most

relevant anti-avoidance measures provided by the U.S. internal law, as it complements the LOB

provision in denying treaty benefits in the case of abusive conduit transactions.76 Under these

regulations, an intermediate entity acting as a conduit in a financing arrangement, could be disregarded

for purposes of the IRC Section 881 (i.e. withholding tax on income obtained by foreign corporations not

connected with U.S. businesses), and the relevant transactions recharacterised as a direct transaction

amongst the financed and the financing entity.77 In this scenario, the disregarded conduit entity may not

be entitled to claim treaty benefits under the convention agreed between the U.S. and its state of

residence.

The interaction between the Treas. Reg. § 1.881-3 and the LOB provision is explained by Mithe.78 While

the LOB provision assesses whether the taxpayer has sufficient nexus with the residence state for being

entitled to treaty benefits, the U.S. domestic measures -such as the anti-conduit regulations- determine

if the relevant transaction is required to be recharacterised to reflect its real substance. In this way, the

referred author considers that the U.S. internal law should be applied first, in order to determine who is

beneficial owner of the income; and, subsequently, the LOB provision is used to determine whether the

beneficial owner should be entitled to treaty benefits based on the nexus that it has with the state of

residence.

70 See Meindl-Ringler, supra n. 13, at p. 335. 71 Id. 72 US: IRS, 26 Internal Revenue Code, sec. 7701(l). Enacted by the U.S. Congress in 1993. 73 Y. Brauner, Chapter 9: Beneficial Ownership in and outside US Tax Treaties sec. 9.1.2. in Beneficial Ownership:

Recent Trends (M. Lang et al. eds., IBFD 2013), Books IBFD (accessed 5 May 2020). 74 Currently reflected in the 2006 U.S. Technical Explanation which will be discussed in section 3.2.2. 75 US: IRS, 26 CFR, sec. 1.1881-3. These regulations were issued by the U.S. Treasury in 1995 pursuant to the

IRC Section 7701(l). 76 See A. Mithe, Critical Analysis of the Principal Purpose Test and the Limitation on Benefits Rule: A World Divided

but It Takes Two to Tango, 12 World Tax J. (2020), Journal Articles & Papers IBFD (accessed 5 May 2020), p.142.

77 See Meindl-Ringler, supra n. 13, at p. 212. 78 See Mithe, supra n. 76, at p. 142.


At first sight, the order in the U.S. analysis suggested by Mithe seems familiar to the “2-Step” approach

proposed by Nikolakakis et al. for the case of income derived by or though fiscally transparent entities.

As explained in section 3.1.1., the latter authors suggest that, as a “Step 1”, the beneficial owner should

be identified based on the qualification and attribution rules of the source state and, once the beneficial

owner has been identified, Article 1(2) should be applied as a “Step 2”. This could be a first indicator

that the misalignment approach could have been influenced by the U.S. treaty practice, though further

analysis may be done to secure that conclusion.

Once the rationale for the adoption of a pure source state approach has been discussed, it is important

to review how this approach is reflected in the U.S. treaty practice.

3.2.2. U.S. treaty practice

The 2006 U.S. Technical Explanation contemplates specific regulations with respect to the beneficial

ownership requirement and its application in the context of fiscally transparent entities.

The technical explanation on Article 10(2) establishes that the “…term "beneficial owner" is not defined

in the Convention, and is, therefore, defined as under the internal law of the country imposing tax

(i.e., the source country). The beneficial owner of the dividend for purposes of Article 10 is the person

to which the income is attributable under the laws of the source State”. 79

The quoted text suggests a double technique to define the “beneficial owner” term. First, as a general

rule, it makes clear that the “beneficial owner” term should have the meaning that it has under the internal

law of the source country. Second, it specifies that the beneficial owner in the case of dividends should

be the person to which the income is attributable under the laws of the source state. This second

approach ensures that a person will not be treated as the beneficial owner of the dividends unless such

person is considered to be the recipient of the income from the perspective of the source state. The

latter also implies that the domestic recharacterisation rules will be decisive for the identification of the

beneficial owner in the application of U.S. treaties.

Special rules are applicable if the dividends are received by or through fiscally transparent entities.80 In

these cases, it is established that the rules of Article 1(6)81 will apply to determine whether the dividends

should be treated as having been derived by a resident of a contracting state. If so, the source country

rules will be applied to determine whether that person, or another person of the other contracting state,

is the beneficial owner of the income.

These special rules set out the order in which one should apply the beneficial ownership test and Article

1(6) from a U.S. treaty perspective. The initial step is to identify the person who is deriving the income

through a fiscally transparent entity in accordance with the laws of the residence state. Once a resident

recipient is found, the source country rules should be used to verify whether that person is the beneficial

owner of the income. This path could lead to incompatible results in those cases where the contracting

states apply different attribution rules, being the source state who has the ultimate decision on the

79 Technical Explanation to the 2006 US Model, art. 10(2). 80 Id. 81 Article 1(6) of the 2006 U.S. Model reads as follows: “For the purposes of this Convention, an item of income,

profit or gain derived by or through an entity that is treated as wholly or partly fiscally transparent under the taxation laws of either Contracting State shall be considered to be derived by a resident of a Contracting State, but only to the extent that the item is treated for purposes of the taxation laws of such Contracting State as the income, profit or gain of a resident.”. This provision constitutes one of the major influences of Article 1(2) of the 2017 OECD Model.


entitlement to treaty benefits.

As it can be seen, by adopting a pure source state approach, the U.S. treaty practice departs from the

OECD autonomous interpretation of the “beneficial owner” term. Nevertheless, it should be noted that

the technical explanation under review was released prior to the incorporation of the international

meaning of beneficial ownership in the OECD Commentaries.82 Moreover, the 2016 U.S. Model Income

Tax Convention83 has not been accompanied with a revised version of its technical explanation which -

being extremely enthusiastic- could propose a new approach on the beneficial ownership requirement.

However, this paradigm shift appears difficult to occur as most of the U.S. treaty network has been

drafted with this source state policy in mind84 and recent efforts have been made to include it in the 2017

UN Model.

3.2.3. 2017 UN Model

The 2017 UN Model has an identical provision to Article 1(2) of the 2017 OECD Model. The discussion

held by the UN Tax Committee85 when drafting Article 1(2) is a valuable contribution for the analysis of

this thesis, as the source state approach was initially proposed by the U.S. committee member through

the revision of the UN Commentary to Article 1, though it was removed from its final version.

The UN discussion on the application of treaty provisions to hybrid entities commenced at the 2013

session of the UN Tax Committee.86 In this ninth session, it was recognised that the country differences

in the tax classification of entities have led to tax avoidance schemes, as such differences have been

exploited by taxpayers through the so-called “tax arbitrage”. A solution was then required in order to

achieve a coordinated tax treatment that could tackle these undesired results.

As a potential solution, the U.S. committee member presented its country approach on the application

of treaty provisions to payments made through hybrid entities. In particular, he explained that the

principles of the U.S. practice were the principles of the OECD Partnership Report and offered to draft

the modifications to the UN Model and the relevant Commentaries in such respect. The UN Tax

Committee accepted his offer but indicated that the new provision should be based on the provision on

hybrid entities that was being developed at that time by the OECD.87

The proposal prepared by the U.S. committee member was considerably discussed and revised

82 As mentioned in section 2.1.2., the autonomous interpretation was introduced in 2014 to the OECD

Commentary. 83 Released by the U.S. Treasury Department on February 17, 2016. 84 For instance, this position is clearly reflected in the tax treaty concluded by the U.S. with Poland. See the

Department of the Treasury Technical Explanation of the Convention Between the United States of America and the Republic of Poland for the Avoidance of Double Taxation and The Prevention of Fiscal Evasion with Respect to Taxes on Income (13 Feb. 2013), Treaties & Models IBFD, p. 33.

85 The UN Committee of Experts on International Cooperation in Tax Matters generates practical guidance to the relevant actors of the international tax community.

86 See: UN, Report on the ninth session of the Committee of Experts on International Cooperation in Tax Matters (21-25 Oct. 2013), available at:

https://www.un.org/development/desa/financing/sites/www.un.org.development.desa.financing/files/2020-03/N1422114.pdf.

87 The OECD Working Party 1 on Tax Conventions and Related Questions was working at the same time in current Article 1(2) of the 2017 OECD Model. After a discussion of the differences between the provision found in the U.S. tax treaties and the one being developed by the OECD, the UN Tax Committee concluded that the work on the new provision on hybrid entities should be based on the OECD version. See the background section of the following attachment to the tenth session of the UN Tax Committee: UN, New Provision for U.N. Model to Address Application of Tax Treaties to Payments through Hybrid Entities (E/C.18/2014/CRP.14) (30 Sept.

2014), available at: https://www.un.org/esa/ffd/wp-content/uploads/2014/10/10STM_CRP14_HybridEntities.pdf.

https://www.un.org/development/desa/financing/sites/www.un.org.development.desa.financing/files/2020-03/N1422114.pdf


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throughout the tenth and eleven sessions of the UN Tax Committee.88 The major concern of the

committee was the way in which the proposed principles would be applied in cases involving third

jurisdictions. When discussing potential hybrid scenarios during the eleventh session, the U.S.

committee member began to show signs of his country’s approach by stating that if certain residence

state treated a business trust as fiscally transparent “… then then the source country would apply the

treaty to the level of shareholders, after applying the criterion of beneficial ownership”.89

However, it was not until the revised proposal of the UN Commentaries was discussed at the twelfth

session of the UN Tax Committee, that the U.S. treaty practice was clearly reflected through the

incorporation of the following paragraph:

“As the first step in applying the benefits of the Convention, paragraph 2 identifies the resident of a contracting State that derives an item of income for which treaty benefits are sought. In order to be entitled to such benefits, such resident must also satisfy any additional requirements that are set forth in the applicable treaty, such as beneficially owning the item of income under the tax principles of the source State, any applicable requisite ownership thresholds (such as those found in subparagraph 2 (a) of article 10 (Dividends)) and either a principle purpose test or a limitation on benefits provision.” 90

In the fifteenth session of the UN Tax Committee, Dhruv Sanghavi was invited to explain his paper on

the proposed Article 1(2) of the UN Model and its related Commentary.91 In his paper, Sanghavi

expressed the following comments with respect to the quoted paragraph above: “It is also strange that

the commentary suggests that the beneficial owner should be determined exclusively in

accordance with the tax principles of the source state. A situation in which the source state

considers a partnership to be the beneficial owner of dividends, but the other state treats that partnership

as transparent would, absent unilateral relief, likely result in unrelieved double taxation because the

partnership would not qualify as a treaty resident. Indeed, article 1(2) would attribute the income to the

partners, but not the beneficial ownership”.92

Sanghavi touched a raw nerve of the U.S. treaty policy. The author easily identified a situation where

the source state approach could lead to unrelieved double taxation in the context of hybrid situations.

Although the conclusions reflected in his paper were not shared unanimously by the UN Tax

Committee,93 the source state approach in question was removed from the final version of the 2017 UN

88 See: UN, Report on the tenth session of the Committee of Experts on International Cooperation in Tax Matters

(27-31 Oct. 2014) and the UN, Report on the eleventh session of the Committee of Experts on International Cooperation in Tax Matters (19-23 Oct. 2015), available at:

https://www.un.org/development/desa/financing/sites/www.un.org.development.desa.financing/files/2020-03/N1469313.pdf and;


89 See: UN Report on the eleventh session, supra n. 88, at p. 8. 90 See: UN, Report on the twelfth and thirteen sessions of the Committee of Experts on International Cooperation

in Tax Matters (11-14 Oct. 2016 and 5-8 Dec. 2016), available at:

https://www.un.org/ga/search/view_doc.asp?symbol=E/2016/45. Also see the attachment to the twelfth session: UN, “Application of treaty rules to hybrid entities”

(E/C.18/2016/CRP.7) – Agenda item 3 (a) (i) (4 Oct. 2016), available at: https://www.un.org/esa/ffd/wp-content/uploads/2016/10/12STM_CRP7_Hybrids.pdf.

91 See: UN, Report on the fifteenth session of the Committee of Experts on International Cooperation in Tax Matters (17-20 Oct. 2016), available at:


Also see its attachment: UN, Treaty Rules to Hybrid Entities – Agenda item 5(c)(vi) (E/C.18/2017/CRP.28) (17 Oct. 2017), available at: https://www.un.org/esa/ffd/wp-content/uploads/2017/10/15STM_CRP28_Hybrid-Entities.pdf.

92 D. Sanghavi, BEPS Hybrid Entities Proposal: A Slippery Slope, Especially for Developing Countries in Tax Notes International 85, no. 4 (2017), p. 361.

93 See UN Report on the fifteenth session, supra n. 91, at point 60.





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Commentaries.94 Therefore, it is reasonable to conclude that the 2017 UN Model, deliberately, does not

follow the source state approach when identifying the beneficial owner in hybrid scenarios.

As a final remark, it should be noted that the efforts made by the U.S. committee member to introduce

the source state approach in the 2017 UN Commentaries, implicitly recognise that this approach could

only work if it is included as a special rule in the Commentaries or technical explanation instrument of a

treaty. The latter because the use of a source state approach clearly contradicts the international

consensus on the “beneficial owner” term, which requires an autonomous interpretation that does not

refer to the domestic law of the contracting states.95

3.3. Interim conclusion

The previous sections have noted that the misalignment approach finds compatibility problems in the

joint application of the beneficial ownership requirement and Article 1(2) of the 2017 OECD Model. In

the view of this line of thought, these problems arise from the fact that the beneficial ownership

requirement should be assessed under the source state’s rules while Article 1(2) has a clear residence

orientation which could lead to different outcomes.

After a brief review of the U.S. treaty practice, it is reasonable to conclude that the misalignment

approach could have been influenced by the former practice. In both approaches, the source state has

the ultimate decision on the entitlement to treaty benefits through the identification of the beneficial

owner. However, while the U.S. has a clear policy objective to support the referred approach -i.e. the

observance of its domestic anti-avoidance measures-, the misalignment approach came up to a similar

functioning under a questionable construction of the 2017 OECD Model and its Commentaries. This

interpretation will be subject to a greater scrutiny in the following chapter.

4. OECD compatibility analysis

The misalignment approach has raised diverse concerns on the joint application of the beneficial

ownership requirement and Article 1(2). This chapter has the purpose to discuss those issues under the

OECD approach described in chapter 2. If the analysis confirms the existence of compatibility problems,

it is clear that the OECD materials require to be revised to include suitable solutions. Nonetheless, if the

analysis of the OECD Model and its Commentaries do not support the existence of incompatibility

issues, the mission will consist in determining the causes that could have led to an erroneous

interpretation of the latter provisions.

4.1. The appropriateness of the burning question

As discussed in section 3.1.1., the burning question that has been posed by some scholars is whether

the beneficial ownership requirement and other attribution rules or principles (including anti-conduit

measures) should be applied “before” or “after” the application of Article 1(2).96 The principal task of this

94 The reports on the sessions held by the UN Tax Committee after the fifteenth session do not contain further

discussion on Article 1(2) of the 2017 UN Model. 95 The UN Tax Committee is currently discussing the possibility of revising the UN Model to clarify that the

“beneficial owner” term intends to clarify the use of the words “paid…to” and does not refer to any technical meaning that it could have had under the domestic law of a specific country. The latter proves that the UN favours an international meaning of the “beneficial owner” term. See the attachment to the Twelfth Session (22-26 June 2020): UN, “Update of the UN Model Double Tax Convention between Developed and Developing Countries – Beneficial Ownership” (6) – Provisional Agenda item 3 (b) (i) (8 May 2020), available at: https://www.un.org/development/desa/financing/sites/www.un.org.development.desa.financing/files/2020-05/CRP6%20Beneficial%20Owner.pdf

96 In particular, Nikolakakis et al. have posed this specific question, which has been recognised by other authors.


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section will be to review the validity of such enquiry considering the current OECD approach.

4.1.1. The order of application

The first aspect to underline is that the question at issue seems to confuse the beneficial ownership

requirement provided by the OECD Model (i.e. a treaty concept), with the beneficial owner rules and

anti-avoidance provisions that are contemplated domestically by the source state (i.e. domestic

concepts). The fact that the misalignment approach considers that the beneficial ownership requirement

should follow the source state’s attribution rules, should not imply whatsoever that such requirement

loses its treaty nature, i.e., it is still a condition to apply the relevant distributive rule contained in the

OECD Model97 and, as such, it is subject to the general order in which tax treaties are generally applied.

At first glance, it is strange that the misalignment approach suggests that the beneficial ownership

requirement, as a treaty concept, should be analysed “before” identifying who is the person resident in

a contracting state that has an initial access to the treaty. Article 1(2) confirms this preliminary admission

in the case of persons deriving income through fiscally transparent structures.

Although some scholars have questioned the need for Article 1(2),98 there can be no doubt that such

provision helps to delimit the personal scope of the treaty, by ensuring that the latter should apply to a

person that derives income by or through fiscally transparent entities, where such income is attributed

to that person in the state of residence. Therefore, it seems logical to first apply Article 1(2) to ensure

that a person falls within the personal scope of a specific tax treaty prior to analyse a particular

requirement provided by its distributive articles.

This logical order is implicitly recognised in the 2017 OECD Commentaries. As discussed in section

2.2.5.1., the commentary on Article 1(2) establishes that: “Whilst the paragraph ensures that the

various allocative rules of the Convention are applied… the paragraph does not prejudge the issue

of whether the recipient is the beneficial owner of the relevant income”.99 The quoted commentary

confirms that Article 1(2) should be viewed as a starting point that ensures the access to the various

allocative rules, it is from there where it passes the torch to the corresponding distributive rule to continue

with the relevant assessment (e.g. by identifying the beneficial owner of the income).100

The U.S. treaty practice also mandates to apply first Article 1(6) to hybrid entities and afterwards to

analyse the beneficial ownership requirement. As explained in section 3.2.2., the 2006 U.S. Technical

Explanation provides special rules when dividends are received by or through fiscally transparent

entities. In such respect, the initial step is to identify the person that derives income by or through fiscally

transparent entities and, once the recipient has been found, the source country rules are applied to

determine whether the recipient is the beneficial owner of the dividend.

The U.S. treaty practice constitutes one of the clearest examples of why it is relevant to clarify that the

provision on hybrid entities should be applied “before” the beneficial ownership test, as this order

becomes of greater importance when countries adopts a pure source state approach.

See: Nikolakakis et al., supra n. 39, at p. 496.

97 Namely, in Articles 10 (dividends), 11 (interest) and 12 (royalties) of the OECD Model. 98 These scholars consider that the connecting terms provided in some of the distributive articles such as “paid to”

and “derived by” might have an autonomous interpretation that allows subsuming the principles reflected in the OECD Partnership Report. See: Nikolakakis et al., supra n. 39, at p. 478.

99 Para. 13 OECD Model: Commentary on Article 1 (2017). 100 Parada, an author that mainly supports the misalignment approach, has recognised this order by stating that

once Article 1(2) has been applied “…it requires subsequent interaction with the respective allocative tax treaty rule in order to finally confirm that a person is granted the benefit of a tax treaty.” See: Parada, supra n. 47, at p.7.


As discussed in section 3.2.2., the “beneficial owner” term included in the U.S. Model expressly oblige

to revisit the domestic law of the source country to verify whether an item of income, that was first

attributed to a person under Article 1(6), is also allocated to that person under the laws of the source

state.101

The explicit reference to the order of application made by the 2006 U.S. Technical Explanation was not

made by coincidence, it tries to avoid discussions on treaty override situations. If the source state’s

attribution rules were applied first to identify a beneficial owner without ensuring that such rules are used

in a treaty context, any result that contradicts the outcome of Article 1(6) may seem to be overriding the

treaty. The U.S. found an elegant solution to avoid potential treaty override scenarios by ensuring that,

at a treaty level, the beneficial owner should be the person to which the income is attributable under the

laws of the source state. In certain way, the U.S. “beneficial owner” term works as a throwback rule to

its domestic legislation.

The latter situation explains why the U.S. member of the UN Tax Committee was very interested in

including this practice to the 2017 UN Commentaries (discussed in section 3.2.3.) through the proposal

of the following paragraph: “As the first step in applying the benefits of the Convention, paragraph 2

identifies the resident of a contracting State that derives an item of income for which treaty benefits are

sought. In order to be entitled to such benefits, such resident must also satisfy any additional

requirements that are set forth in the applicable treaty, such as beneficially owning the item of

income under the tax principles of the source State”102.

Based on the foregoing, it could be concluded that the beneficial ownership requirement should be

necessarily applied “after” the application of Article 1(2) to ensure that this requirement is assessed in a

treaty context and, consequently, that the creation of treaty override situations will be avoided. In the

OECD framework, this order will also ensure that the “beneficial owner” term is necessarily construed

as an autonomous international meaning, without referring to any technical meaning that it could have

under the domestic law of a specific jurisdiction.

4.1.2. The concern of domestic preservation

The question that remains to be answered is why the misalignment approach considers that the

beneficial owner should be analysed “before” the application of Article 1(2). The answer to such enquiry

could be found if one considers how certain scholars view Article 1(2). For instance, Nikolakakis et al.

have the following perspective:

“In the authors’ view, the aim of proposed article 1(2) is to mandate a two-step process for

the granting of treaty benefits. The first step is the application by the source state of its

usual approach to determining, in accordance with its domestic law, which non-resident

persons or entities and which events it seeks to tax. That is intended to remain unaffected

by proposed article 1(2). Once the relevant taxpayer(s) and relevant taxable event(s) have

been determined by the source state, the second step is for it to determine the extent to

which the relevant taxpayer(s) should be granted or denied treaty benefits with respect to

any income that may arise from its perspective as a result of the relevant taxable

event(s).”103

101 Technical Explanation to the 2006 US Model, art. 10(2). 102 See UN attachment to the twelfth session, supra n. 90. 103 Nikolakakis et al., supra n. 39, at p. 478.


This understanding has led Nikolakakis et al. to suggest that the source state should begin applying the

beneficial ownership test and other attribution rules or principles under its internal law (as a “Step 1”)

and only then apply Article 1(2) in relation to the entity to which the income is attributed under the first

set of rules or principles (as a “Step 2”).104 In certain way, it could be said that this line of thinking is

worried about the preservation of the taxation rules at source.

The latter concern should not be an issue if one considers the current OECD approach. First of all, the

2017 OECD Commentaries make clear that the application of Article 1(2) does not require a contracting

state to change the way in which it attributes income or characterises an entity under its domestic law

(see section 2.2.3. above). Therefore, the fact that the source state does not attribute an item of income

to the same person than the one identified by the residence state through Article 1(2), should not mean

whatsoever that the source state should be forced to adopt the residence state’s perspective

domestically. However, it does mean that the source state should consider the residence state’s

attribution rules for purposes of the treaty and, for instance, to consider that the dividends sourced in its

territory are “paid to” the resident of the other contracting state for purposes of such treaty (see section

2.2.4. above).

Secondly, once the source state has followed the residence state’s attribution rules for treaty purposes,

it should analyse the requirements provided by the applicable distributive rule to grant treaty benefits.

In the case of interest and dividends, the recipient of the income should be the beneficial owner pursuant

to Articles 10(2) and 11(2) of the 2017 OECD Model. As discussed in chapter 2, the “beneficial owner”

term has an autonomous international meaning that requires (i) to identify the person to whom an item

of income is paid from the perspective of the residence state and (ii) confirm that the forwarding and

conduit restrictions are fulfilled. This “autonomous” nature impedes the source state to identify the

beneficial owner under its domestic law, though such state will not remain defenceless as it could

analyse (a) the forwarding and conduit restrictions to ensure that the recipient has the legal and factual

control over the income105 and (b) other anti-avoidance measures contemplated by the treaty (e.g. the

LOB or principle purpose test).106

In view of the foregoing, the source rules on beneficial ownership (or similar anti-avoidance measures)

should not restrict the access to treaty benefits when those benefits are confirmed by Article 1(2) and

the beneficial ownership requirement set forth in the 2017 OECD Model. This latter conclusion is

supported by the 2017 OECD Commentaries as follows:

“Generally, where the application of provisions of domestic law and of those of tax treaties produces conflicting results, the provisions of tax treaties are intended to prevail. This is a logical consequence of the principle of “pacta sunt servanda” which is incorporated in Article 26 of the Vienna Convention on the Law of Treaties. Thus, if the application of specific anti-abuse rules found in domestic law were to result in a tax treatment that is not in accordance with the provisions of a tax treaty, this would conflict with the provisions of that treaty and the provisions of the treaty should prevail under public international law.”107

4.2. Source state perspective

Finally, further consideration should be given to the source state perspective adopted by the

misalignment approach. Although the analysis in chapter 2 has clarified that the “beneficial owner” term

104 Ibid. at p.497. 105 This approach is confirmed by the 2017 OECD Commentary. See: Para. 13 OECD Model: Commentary on

Article 1 (2017). 106 Article 29 OECD Model (2017). 107 Para. 70 OECD Model: Commentary on Article 1 (2017).


has to be interpreted autonomously and that its attribution-of-income function should be aligned with the

application of Article 1(2), this section will intend to reinforce these conclusions by referring to the OECD

Partnership Report.

To sum up, the misalignment approach adopts a source state perspective for two principal reasons.

First, because the beneficial ownership refers to treaty benefits that are granted in the source state, thus

this train of thought considers that “…it appears almost self-evident that the identification of the beneficial

owner should be an exclusive task of the source state”.108 Second, since paragraph 13109 (discussed in

section 2.2.5. above) establishes that Article 1(2) does not prejudge the issue of whether the recipient

is the beneficial owner of the relevant income, this suggests -in the view of some scholars- that the

source state should identify the beneficial owner based on its own qualifications and attribution rules,

regardless of the residence state’s qualifications and attribution.110 This approach creates incompatibility

problems with Article 1(2), as such article follows the domestic law of the residence state.

In such respect, there are sound arguments to sustain that the latter position should be erroneous if one

supports the conclusions set forth in chapter 2. As Brabazon states, “If one accepts that the primary

and positive meaning of beneficial ownership reflects residence state attribution, it will be seen

that the conditions for recognition of attribution of particular income to a resident of residence state R

under the transparent entity clause also establish the positive elements of beneficial ownership of

that income by a resident of R. Both tests end up depending on fiscal attribution under the law

of R.”.111

Brabazon coincides with the line of thinking suggested in this thesis, in the sense that the international

concept of beneficial ownership refers to the residence state’s attribution rules, even if it is qualified by

the forwarding and conduit restrictions which the author identifies as a negative condition that does not

refer to the internal law of a specific contracting state.112

Nonetheless, the winning hand in this debate is found in the OECD Partnership Report. As discussed

in section 2.2.2., scholars often underestimate the reference made by the 2017 OECD Commentaries

to such report. However, the interpretation criteria suggested by the Commentary on Article 1(2) is

crystal clear: “The provisions of the paragraph ensure that income of such entities or arrangements is

treated, for the purposes of the Convention, in accordance with the principles reflected in the 1999 report

of the Committee on Fiscal Affairs entitled “The Application of the OECD Model Tax Convention to

Partnerships”.113

This cross-reference ensures that any principle reflected in the OECD Partnership Report must be

observed when applying Article 1(2). Therefore, if the examples included in such report reflect that he

beneficial ownership requirement is aligned with Article 1(2), this alignment should be preserved in the

application of the latter provision.

108 See Parada, supra n. 47, at p. 9. 109 Para. 13 OECD Model: Commentary on Article 1 (2017). 110 Id. Also see Nikolakakis et al., supra n. 39, at sec. 5.8. 111 Brabazon, supra n. 38, at sec. 4.4.3. 112 Id. The treaty practice of some countries also reflects the same understanding. For instance, in order for a trust

to claim treaty benefits under the Portuguese treaty network, the Portuguese tax authorities require from such trust to deliver a certificate of residence issued by the other contracting state that establishes that the trust is treated as a taxable entity in the residence state, is fully subject to tax therein and is the beneficial owner of the relevant income. These requirements are proved by completing specific forms that were created by the Portuguese tax authorities and which need to be certified by the country of residence. See: F. de Sousa da Camara, The Taxation of Trusts in Portugal, 57 Eur. Taxn. 11 (2017), Journals IBFD (accessed 7 July 2020).

113 Para. 2 OECD Model: Commentary on Article 1 (2017).


In such respect, the OECD Partnership Report includes a triangle case that has a fact pattern

substantially similar to the example described in section 3.1.2. above (drawn in Figure 2), which was

proposed by Parada to illustrate the compatibility problems arising from the joint application of the

beneficial ownership requirement and Article 1(2). Therefore, it would be interesting to see the solution

proposed by the OECD Partnership Report on a similar scenario and identify its underlying principles,

as these principles must be observed when applying Article 1(2). The example 9 of the OECD

Partnership Report is illustrated below:114

The OECD Partnership Report considers this example as a case of double entitlement to treaty benefits

with respect to the same item of income.115 The Partnership should be considered by State S (source)

to be entitled to the benefits of the treaty between State P (residence 1) and State S (source), as it is

liable to tax on those dividends (in State P) and should therefore be considered the recipient and

beneficial owner of the income. Partners A and B should also be considered to be entitled to the benefits

of the treaty between State R (residence 2) and State S (source) with respect to the Partnership’s income

as they are also liable to tax with regard to such income (in State R). Thus, the report concludes that

both treaties will restrict State S (source) right to tax the dividends, regardless of whether State S

(source) taxes these dividends in the hands of the Partnership or of its partners A and B.116 The report

emphasises that “the tax treatment of partnerships in State S will not have any impact on this result so

that both conventions would still be applicable if State S treated partnerships as transparent rather than

taxable entities”.117

The principles adopted by the OECD Partnership Report clearly contradicts the building blocks of the

misalignment approach. First of all, it confirms that the beneficial owner should be identified by reference

to the residence state’s -and not the source state’s- attribution of income rules, as it suggests that a

person should be identified as a beneficial owner if it is liable to tax on the relevant item of income in the

residence state.

What is more important, though, is that the report confirms that the residence state approach should

prevail even in the context of hybrid situations. By concluding that both treaties will restrict the taxing

rights of States S (source), the report recognises the existence of two categories of beneficial owners

114 OECD Partnership Report (1999), supra n. 10, at Example 9. 115 OECD Partnership Report (1999), supra n. 10, at para. 73. 116 In this case, the OECD Partnership Report suggests that the double entitlement to treaty benefits will be satisfied

if State S (source) imposes the lowest amount of tax allowed under the two treaties. In the example proposed by Parada in Figure 2 above, it would imply the application of the lowest withholding rate of 5% provided by the treaty Z-X. See OECD Partnership Report (1999), supra n. 10, at para. 74.

117 OECD Partnership Report (1999), supra n. 10, at para. 73.

Figure 3. Example 9 of the OECD Partnership Report

Partnership

Company X

A B

State R

State P

State S

P: transparent

P: opaque

P: opaque

Dividends


over the same item of income. On the one hand, the Partnership as the beneficial owner of the treaty

between State P (residence 1) and State S (source); and, on the other hand, the partners A and B as

the beneficial owners of the treaty between State R (residence 2) and State S (source). This double

entitlement to treaty benefits could only exist if (i) the beneficial ownership requirement is necessarily

connected with the residence state’s attribution of income rules; and, (ii) both residence states consider

that the relevant recipient is liable to tax in their jurisdiction.

As a second matter, the OECD Partnership Report undermines the importance of the source state’s

qualifications and attribution rules by establishing that the tax treatment of the Partnership in the source

state will not have any impact on the result (i.e. double treaty entitlement). This clearly clashes with the

misalignment approach which suggests that the beneficial ownership test is a factual determination that

should be made by the source state; based on its own qualifications, attribution rules and principles;

and ignoring the residence state’s domestic law.

Indirectly, the OECD Partnership Reports also confirms that paragraph 13118 (discussed in section

2.2.5.) could not be construed as insinuating a source state approach when identifying the beneficial

owner, since this will clearly contradict the principles reflected in such report. These principles shall be

duly observed when applying Article 1(2) pursuant to the OECD Commentaries.119

In view of the foregoing, the following major conclusions could be drawn: first, that the misalignment

approach contradicts the approach suggested by the 2017 OECD Model and its Commentaries with

respect to the joint application of the beneficial ownership requirement and Article 1(2); and, second,

that the interpretation of the OECD materials should lead to compatible results when those provisions

interact amongst themselves, mainly by suggesting that a residence state approach should be followed

by both provisions, even in the context of hybrid scenarios.

The compatibility of the beneficial ownership requirement and Article 1(2) allows to perform an integrated

assessment of the treaty.120 In this regard, one could say that the source state’s taxing rights should be

restricted in terms of Articles 10(2), 11(2) and 12(1) in the context of fiscally transparent structures

whenever:

(i) A person resident in the other contracting state is identified as the recipient of the income

pursuant to the laws of the residence state.

(ii) The person identified in (i) fulfils with the forwarding and conduit restrictions.

(iii) The person or transaction complies with the anti-abuse measures contemplated in Article

29 of the 2017 OECD Model, as applicable.

Conclusions

The use of fiscally transparent structures is becoming more frequent by investors that are aiming to

preserve their domestic tax regime while investing abroad. These investors are required to analyse the

treaty provisions that are designed for addressing the fiscal situation of income obtained through fiscally

transparent entities, such as Article 1(2) of the OECD Model, and to ensure the fulfilment of the relevant

conditions to claim treaty benefits, such as the beneficial ownership requirement. The interaction of

those provisions faces difficulties because of the country differences in the tax classification of entities,

which leads to the existence of hybrid situations.

118 Para. 13 OECD Model: Commentary on Article 1 (2017). 119 Para. 2 OECD Model: Commentary on Article 1 (2017). 120 Brabazon also sees the possibility of applying the beneficial ownership requirement and Article 1(2) on a

harmonised fashion. See: Brabazon, supra n. 38, at sec. 4.4.4.


This thesis suggests that the analysis of the latter provisions should be careful not to confuse the

international rules that are proposed by the OECD through the 2017 OECD Model with the treaty

practice that has been adopted and developed by each jurisdiction. There are sound arguments to

sustain that, under a pure OECD approach, Article 1(2) to hybrid entities and the beneficial ownership

requirement set forth in Articles 10, 11 and 12 are compatible, mainly because both provisions attribute

income under the perspective of the residence state. This is not the case, though, in jurisdictions like

the U.S. whose treaty practice requires that the beneficial ownership requirement should be analysed

pursuant to the laws of the source state after applying the provision on hybrid entities. The U.S.

departure from the OECD approach pursues specific policy reasons and should not be considered

whatsoever as the general rule in the joint application of these provisions.

It is curious, not to say unrealistic, that the beneficial ownership requirement continues creating

contradictory positions as of these days. Although significant efforts were made in 2014 to ensure an

autonomous international meaning of the term “beneficial owner”, scholars are still tempted to refer to

the domestic law of the contracting states with the slightest hint they can find to do so. This reflects

somehow a bias in their analysis, as some authors try to find arguments to support what they think

should be the correct way of interaction between the provisions at issue and not what is necessarily

reflected in the 2017 OECD Model. It is not bad to propose the way in which the referred interaction

should work from a theoretical perspective, or even from the perspective of a particular jurisdiction,

though it should be clarified that the relevant analysis is prepared on these grounds and that does not

intend to address the most direct interpretation of the 2017 OECD Model. This clarification could

minimise confusions in the application of the beneficial ownership requirement and Article 1(2) by the

financial industry and tax authorities, which, in practice, do not have sufficient time to conduct a detailed

analysis and rely significantly in academic publications.

Finally, the different approaches that have arose for the identification of the beneficial owner in the

context of hybrid structures also raise the question on the usefulness of said requirement. The 2017

OECD Model has been enhanced through the incorporation of new GAARs, such as the LOB and PPT

clauses, and the introduction of stricter conditions for claiming treaty benefits (e.g. minimum holding

periods) that could work as a substitute of the beneficial ownership requirement; consequently, it is

questionable if the latter requirement is indispensable at this point in time, especially, if one considers

that it still creates difficulties on its application that could lead to the denial of treaty benefits in fiscally

transparent structures that were put in place for sound business reasons.


Bibliography

1. Avery Jones, John, Chapter 20: The Beneficial Ownership Concept Was Never Necessary in the Model in

Beneficial Ownership: Recent Trends (M. Lang et al. eds., IBFD 2013), Books IBFD (accessed 26 April 2020).

The author describes the origin of the beneficial ownership requirement in the OECD Model. This reference was included to understand the background of the aforesaid requirement; this is, that it was intended to be an alternative to a subject-to-tax clause required at that moment by the U.K.

2. Avery Jones, John, et al., OECD Discussion Draft “Clarification of the Meaning of Beneficial Owner” letter to the OECD (15 July 2011), available at: www.oecd.org/dataoecd/49/41/48420432.pdf. These authors suggested some amendments to the OECD Commentaries to, inter alia, clarify that the “beneficial owner” term requires that income should be attributed under the perspective of the residence state. This is in line with the approach adopted by the thesis in the sense that the “beneficial owner” term works as an attribution-of-income instrument that should be determined under the domestic law of the state of residence.

3. Brabazon, Mark, Application of Tax Treaties to Fiscally Transparent Entities – Global Tax Treaty Commentaries,

Global Topics IBFD (accessed 1 May 2020).

The author analyses the compatibility of Article 1(2) and the beneficial ownership requirement. The author coincides with the main conclusions of this thesis, as it supports that there should not be any compatibility problems if one holds the position that both provisions are mainly governed by the residence state’s law.

4. Brauner, Yariv, Chapter 9: Beneficial Ownership in and outside US Tax Treaties in Beneficial Ownership: Recent

Trends (M. Lang et al. eds., IBFD 2013), Books IBFD (accessed 5 May 2020).

The author analyses how the beneficial ownership requirement has been applied in the U.S. and indicates related case law. This chapter is important for the thesis as it recognises that the U.S. adopts a source state approach and that some domestic regulations (e.g. those coming from the IRC Section 7701(l)) have deviated from the generally accepted interpretation of the treaty beneficial ownership requirement.

5. Convention Between Canada and the United States of America With Respect to Taxes on Income and on Capital

(26 Sept. 1980) (as amended through 2007), Treaties & Models IBFD. This double tax convention is referred to by the thesis as, based on the position of some scholars, it includes provisions that address problems arising from the application of the beneficial ownership requirement and the article to hybrid entities.

6. Da Silva, Bruno & Van Wanrooij, Josine, Clarification of the Meaning of “Beneficial Owner” in the OECD Model

Tax Convention – discussion draft letter to the OECD (15 July 2011), available at

http://www.oecd.org/tax/treaties/48414319.pdf.

The letter sent by these authors to the OECD suggests to eliminate from the draft of the 2014 OECD Commentaries any reference to the domestic law of either Contracting State in order to achieve the desired consistency and an international tax meaning of the term “beneficial owner”. The autonomous interpretation of the beneficial ownership requirement is vital to achieve a harmonious application of Article 1(2) and the beneficial owner requirement. This letter supports the position that the OECD aims to have an autonomous interpretation of the term at issue.

7. Department of the Treasury Technical Explanation of the Convention Between the United States of America and

the Republic of Poland for the Avoidance of Double Taxation and The Prevention of Fiscal Evasion with Respect to

Taxes on Income (13 Feb. 2013), Treaties & Models IBFD.

This technical explanation confirms that the U.S. has adopted a source state approach when analysing the beneficial ownership requirement; specifically, it exemplifies that the indications made by the 2006 U.S. Technical Explanations with respect to the analysis of beneficial ownership in hybrid scenarios is included in the U.S. treaty network.

8. IBFD, International Tax Glossary, Glossary IBFD.

The IBFD Glossary was used to define the term of “transparency” used in the thesis from a theoretical standpoint. The content of such definition describes also the scope of a hybrid entity which is medullar for the thesis.

9. Jain, Kiran, The OECD Model (2017) and Hybrid Entities: Some Opaque Issues and Their Transparent Solutions,

73 Bull. Intl. Taxn. 3 (2019), Journals IBFD (accessed 1 May 2020). The author makes an analysis of issues arising for hybrid entities in the context of the 2017 OECD Model. In particular, the article addresses the issue of the interaction between Article 1(2) and the beneficial ownership requirement and sustains a position contrary to the criterion suggested in this work. The author supports the “misalignment approach” by considering that the beneficial ownership test should be done with the lens of the source state.

10. Li, Jinyan, Beneficial Ownership in Tax Treaties: Judicial Interpretation and the Case for Clarity in Tax Polymath:

A life in international taxation: Essays in honour of John F. Avery Jones (P. Baker & C.S. Bobbett eds., IBFD 2010),

Books IBFD (accessed 21 Apr. 2020). The author describes the different approaches that tax authorities and courts have adopted when applying the beneficial ownership requirement. As this article was prepared prior to the 2014 OECD Model it reflects the lack of uniformity and the need for an autonomous meaning of the term “beneficial owner”. This reinforces why it is important to avoid referring to the domestic law of countries when it comes to such term.

11. Martin Jimenez, Adolfo, Chapter 14: Beneficial Ownership as an Attribution-of-Income Rule in Spain: Source

http://www.oecd.org/dataoecd/49/41/48420432.pdf

http://www.oecd.org/tax/treaties/48414319.pdf


and Residence Country Perspectives sec. 14.4.1. in Beneficial Ownership: Recent Trends (M. Lang et al. eds.,

IBFD 2013), Books IBFD (accessed 26 Apr. 2020).

The author suggests that the beneficial ownership requirement implies an attribution-of-income function that should follow the residence state law. This approach supports the criterion adopted by the thesis in such regard, in addition, it provides arguments to establish that the source state may not be affected as it still has other anti-avoidance measures to protect its source’s taxing rights.

12. Meindl-Ringler, Angelika, Beneficial Ownership in International Tax Law, Kluwer Law International BV, 2016.

This book includes an excellent analysis in depth of the beneficial ownership requirement and describes the different approaches that have been adopted over time. This book is very relevant for the thesis because it establishes the potential rationale for the adoption of each approach and the position that has been taken by diverse countries, in particular, by the U.S. practice.

13. Mithe, Ameya, Critical Analysis of the Principal Purpose Test and the Limitation on Benefits Rule: A World

Divided but It Takes Two to Tango, 12 World Tax J. (2020), Journal Articles & Papers IBFD (accessed 5 May 2020).

The author describes how the U.S. anti-avoidance rules works together with the PPT and LOB in a treaty situation. This analysis is relevant because it suggests that the U.S. anti-conduit regulations should be applied first to identify the real transaction that should be considered for treaty purposes. The latter explains why the 2006 U.S. Technical Explanation requires to identify the beneficial owner of dividends pursuant to the domestic law of the source country as it intends to observe, inter alia, the U.S. anti-conduit regulations.

14. Navisotschnigg, Florian, Chapter 4: The Beneficial Ownership Test in Tax Treaty Entitlement (M. Lang et al.

eds., IBFD 2015), Books IBFD (accessed 21 Apr. 2020).

In this chapter the author addresses some questions that still arise from the application of the beneficial ownership requirement. The author identifies that currently there is a consensus in the international tax community in the sense that the “beneficial owner” term has to be interpreted autonomously. The latter recognition supports one of the building blocks of this thesis in the sense that the “beneficial owner” term should not be referred to the legislation of a specific contracting state.

15. Nikolakakis, Angelo, et al., Some Reflections on the Proposed Revisions to the OECD Model and

Commentaries, and on the Multilateral Instrument, with Respect to Fiscally Transparent Entities – Part 1 sec. 4, 71

Bull. Intl. Taxn. 9 (2017), Journals IBFD (accessed 27 Apr. 2020).

This is a broad and exhaustive article prepared by various well-known authors on the new provisions contained by the 2017 OECD Model with respect to fiscally transparent entities. This is the article that gave rise to the “misalignment approach” that is confronted by the position of this thesis and that supports that the beneficial ownership requirement should be analysed before the application of Article 1(2) and following the source rules.

16. United States Model Income Tax Convention: Technical Explanation (15 Nov. 2006), Treaties & Models IBFD.

This document is vital as it indicates that the beneficial ownership requirement should be addressed in accordance with the laws of the source state. In addition, it clarifies that the provision to hybrid entities (Art. 1(6)) should be applied first and before the referred requirement. This practice coincides with the “misalignment approach” that is described and confronted in the thesis.

17. OECD, 2014 Update to the OECD Model Tax Convention para. 34 (15 July 2014), available at:

http://www.oecd.org/tax/treaties/2014-update-model-tax-concention.pdf. This version contains a redline that reflects the changes that were included in the 2014 OECD Model; in particular, the amendments to the OECD Commentaries to include the new autonomous approach on the beneficial ownership requirement.

18. OECD, Clarification of the Meaning of "Beneficial Owner" in the OECD Model Tax Convention Discussion Draft (29 Apr. 2011), International Organizations’ Documentation IBFD. This draft was prepared and released for public discussion by the OECD to amend the scope of the “beneficial owner” term in the 2014 OECD Model with the aim of bringing more consistency on its application. This discussion draft included a minor reference to the domestic law of the contracting states which was eliminated in the final version of the 2014 OECD Model after receiving a great deal of criticism.

19. OECD, Double Taxation Conventions and the Use of Conduit Companies (27 Nov. 1986), International Organizations’ Documentation IBFD. The OECD Conduit Company Report addresses various issues with respect to the use of conduit companies in the context of tax treaties. This report is mentioned by the OECD Commentaries when clarifying that a conduit company may not qualify as a beneficial owner of an item of income.

20. OECD, OECD Model Convention on Income and on Capital (11 Apr. 1977), Models IBFD.

The 1977 OECD Model contains the beneficial ownership requirement for the first time. This Model was used in the thesis when describing the background of the requirement in question.

21. OECD, OECD Model Tax Convention on Income and on Capital (26 Jul. 2014), Models IBFD.

The 2014 OECD Model includes the new autonomous approach of the beneficial ownership which is analysed in the thesis.

22. OECD, OECD Model Tax Convention on Income and on Capital (21 Nov. 2017), Models IBFD.

The 2017 OECD Model is the legal framework in which the thesis is based. Articles 1(2), 10, 11 and 12 were analysed with their respective Commentary. Nonetheless, the thesis focuses on interest and dividends income, as these are the categories of yield that are commonly received through fiscally transparent structures in financing transactions.

23. OECD, The Application of the OECD Model Tax Convention to Partnerships, Issues in International Taxation

http://www.oecd.org/tax/treaties/2014-update-model-tax-concention.pdf


No. 6 (26 Aug. 1999), Primary Sources IBFD. The Partnership Report contains guidelines on how to apply the OECD Model in the context of fiscally transparent structures. This report is extremely important for the thesis as Commentary on Article 1(2) states that its application should ensure that the principles reflected in that report are duly observed.

24. OECD - 2014 Update to OECD Model – final approval by OECD Council (18 July 2014), News IBFD (accessed

23 Apr. 2020). This news was prepared by the IBFD and recognises that the revised version of the 2014 OECD Model includes a new autonomous approach in the application of the “beneficial owner” term.

25. OECD/G20, Neutralizing the Effects of Hybrid Mismatch Arrangements – Action 2: 2015 Final Report (OECD

2015), Primary Sources IBFD.

BEPS Action 2 addresses diverse issues arising from hybrid mismatch arrangements. This report is important for the thesis as Article 1(2) of the OECD Model was introduced upon the recommendations of the latter report.

26. Parada, Leopoldo, Chapter 1: Tax Treaty Entitlement and Fiscally Transparent Entities: Improvements or

Unnecessary Complications? in The Aftermath of BEPS (J. Wheeler ed., IBFD 2020), Books IBFD (accessed 10

Jan. 2020).

The author performed an analysis of the issues arising in fiscally transparent structures and the grating of treaty benefits. This chapter is relevant for the thesis as it supports the “misalignment approach” that sees incompatibility issues in the joint application of Article 1(2) and the beneficial

ownership requirement.

27. Rienstra, John G., United States - Business and Investment sec. 2.9.1., Country Tax Guides IBFD (accessed

22 May 2020). The author describes some of the most used investment vehicles in the U.S. and their applicable tax regime. This guide is relevant for the thesis as it proves that most of the investment vehicles in the world seek to have a fiscally transparent component that helps investor in avoiding tax leakage.

28. Sanghavi, Dhruv, BEPS Hybrid Entities Proposal: A Slippery Slope, Especially for Developing Countries in

Tax Notes International 85, no. 4 (2017).

The author analysed the draft that was discussed by the UN Tax Committee with respect to the incorporation of Article 1(2) to the 2017 UN Model. This analysis is relevant because the author questioned why it was proposed to include a source approach for the identification of the beneficial owner in hybrid situations. He also identified that such position could lead to cases of unrelieved double taxation.

29. De Sousa da Camara, Francisco, The Taxation of Trusts in Portugal, 57 Eur. Taxn. 11 (2017), Journals IBFD

(accessed 7 July 2020).

This article is relevant as it includes the Portuguese treaty practice which, inter alia, requires a certification from the residence state establishing that a recipient of income is the beneficial owner under its perspective. This practices is in line with the position of the thesis in the sense that the beneficial ownership test should follow the residence state’s attribution of income.

30. UN Model Double Tax Convention Between Developed and Developing Countries (2017), Models IBFD.

The 2017 UN Model has a provision identical to Article 1(2) of the OECD Model. The discussion of the UN Tax Committee when including such provision and its related commentaries were analysed in the thesis. The latter discussion is important because it expressly recognises that the beneficial ownership was not intended to follow the rules of the source state.

31. UN, New Provision for U.N. Model to Address Application of Tax Treaties to Payments through Hybrid Entities

(E/C.18/2014/CRP.14) (30 Sept. 2014), available at:

https://www.un.org/esa/ffd/wp-content/uploads/2014/10/10STM_CRP14_HybridEntities.pdf. This document constitutes an Annex to the Tenth Session of the UN Tax Committee and contains the proposal of the Commentary on Article 1(2) of the 2017 UN Model.

32. UN, Report on the ninth session of the Committee of Experts on International Cooperation in Tax Matters (21-

25 Oct. 2013), available at:

https://www.un.org/development/desa/financing/sites/www.un.org.development.desa.financing/files/2020-

03/N1422114.pdf. In this report the UN Tax Committee discussed the incorporation of Article 1(2) and its related Commentary to the 2017 UN Model. This process is relevant for the thesis as the U.S. Committee Member proposed to adopt the U.S. source approach when identifying the beneficial owner in hybrid structures. The specific features discussed in this meeting are detailed in the thesis.

33. UN, Report on the tenth session of the Committee of Experts on International Cooperation in Tax Matters (27-

31 Oct. 2014), available at:


03/N1469313.pdf

In this report the UN Tax Committee discussed the incorporation of Article 1(2) and its related Commentary to the 2017 UN Model. This process is relevant for the thesis as the U.S. Committee Member proposed to adopt the U.S. source approach when identifying the beneficial owner in hybrid structures. The specific features discussed in this meeting are detailed in the thesis.








34. UN, Report on the eleventh session of the Committee of Experts on International Cooperation in Tax Matters

(19-23 Oct. 2015), available at:


03/N1546004.pdf.

In this report the UN Tax Committee discussed the incorporation of Article 1(2) and its related Commentary to the 2017 UN Model. This process is relevant for the thesis as the U.S. Committee Member proposed to adopt the U.S. source approach when identifying the beneficial owner in hybrid structures. The specific features discussed in this meeting are detailed in the thesis.

35. UN, Report on the twelfth and thirteen sessions of the Committee of Experts on International Cooperation in

Tax Matters (11-14 Oct. 2016 and 5-8 Dec. 2016), available at:

https://www.un.org/ga/search/view_doc.asp?symbol=E/2016/45. In this report the UN Tax Committee discussed the incorporation of Article 1(2) and its related Commentary to the 2017 UN Model. This process is relevant for the thesis as the U.S. Committee Member proposed to adopt the U.S. source approach when identifying the beneficial owner in hybrid structures. The specific features discussed in this meeting are detailed in the thesis.

36. UN, Report on the fifteenth session of the Committee of Experts on International Cooperation in Tax Matters

(17-20 Oct. 2016), available at:

https://www.un.org/development/desa/financing/sites/www.un.org.development.desa.financing/files/2020-03/N1746399.pdf. In this report the UN Tax Committee discussed the incorporation of Article 1(2) and its related Commentary to the 2017 UN Model. This process is relevant for the thesis as the U.S. Committee Member proposed to adopt the U.S. source approach when identifying the beneficial owner in hybrid structures. The specific features discussed in this meeting are detailed in the thesis.

37. UN, Treaty Rules to Hybrid Entities – Agenda item 5(c)(vi) (E/C.18/2017/CRP.28) (17 Oct. 2017), available at:

https://www.un.org/esa/ffd/wp-content/uploads/2017/10/15STM_CRP28_Hybrid-Entities.pdf. This document is an Annex to the Fifteenth Session of the UN Tax Committee and contains the analysis made by Dhruv Sanghavi on the proposal of the Commentary on Article 1(2) of the 2017 UN Model. In his analysis, Dhruv questioned the source state approach suggested by the U.S. committee member.

38. UN, “Application of treaty rules to hybrid entities” (E/C.18/2016/CRP.7) – Agenda item 3 (a) (i) (4 Oct. 2016),

available at:

https://www.un.org/esa/ffd/wp-content/uploads/2016/10/12STM_CRP7_Hybrids.pdf. This document is an Annex to the Eleventh Session of the UN Tax Committee and contains some revisions on the proposal of the Commentary on Article 1(2) of the 2017 UN Model.

39. UN, Update of the UN Model Double Tax Convention between Developed and Developing Countries –

Beneficial Ownership – Provisional Agenda item 3 (b) (i) (8 May 2020), available at:


05/CRP6%20Beneficial%20Owner.pdf This document contains the proposal to revise the scope of the “beneficial owner” term included in the 2017 UN Model. It is aimed to include the clarification in the sense that the referred term should have an autonomous interpretation.

40. US: IRS, 26 CFR, sec. 1.1881-3 These regulations are applicable to withholding taxes imposed on income obtained by foreign corporations not concerned with U.S. businesses. The latter were used in the thesis as the U.S. conduit regulations could derive in disregarding entities for purposes of the IRC Section 881 and, thus, taking away the possibility for those entities to qualify as the beneficial owners in a treaty context.

41. US: IRS, 26 Internal Revenue Code, sec. 7701(l). This section contains the U.S. anti-conduit regulations which are used in this thesis to support the fact that the U.S. source position on the beneficial ownership requirement seeks to observe, inter alia, the preservations of these regulations.



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