USA Law and Practice Contributed by: Devon M. Bodoh, Joseph M. Pari and Blake D. Bitter, Weil, Gotshal & Manges LLP
to treat the distribution (or the excess, in the latter case) as a return of capital, to the extent of the share - holder’s basis in the stock. Any distribution in excess of basis will be treated as gain from the sale of stock (which is generally taxed as capital gain). 2.4 Taxation of Non-Resident Individuals Dividends, Interest, Rents, Royalties, Etc Non-US tax residents are generally taxed in the US on US-source dividends, interest, rents, royalties and other “fixed or determinable annual or periodic gains, profits and income” (collectively referred to as “FDAP”), that is, generally investment income asso - ciated with passive assets, as long as such income is not effectively connected with the conduct of a US trade or business or attributable to a permanent establishment. FDAP is subject to a 30% gross basis withholding tax if paid to a non-US tax resident, unless reduced by an applicable income tax treaty. Capital Gains Generally, capital gains from sales of stocks, bonds or other personal property by non-US residents are exempt from US taxation and withholding (because the residence of the seller generally determines wheth - er such gain is foreign-sourced or US-sourced). Note that if a US office of the non-US tax resident plays a significant role in the acquisition or sale of such per - sonal property, such activity can, in certain instances, cause what would be foreign-source income to be US-source income that may be subject to US income tax. Sale of US Real Property The sale of exchange of a US real property interest (“USRPI”) by a non-resident individual is generally subject to tax under the Foreign Investment in Real Property Tax Act (“FIRPTA”). FIRPTA is enforced by a withholding regime that generally requires buyers to withhold 15% of the fair market value of the applicable USRPI from the purchase price. A USRPI includes an interest in the stock of a “US real property holding corporation” (“USRPHC”). A USRPHC is generally a US corporation that holds US real property whose fair market value is at least 50% of the fair market value of all its real property and assets used in its trade or business. Sellers of corporate stock may gener - ally provide a certification by the corporation upon
sale that the corporation is not a USRPHC and may thus avoid FIRPTA taxation and withholding. Publicly traded corporations are subject to certain exceptions from both the substantive tax and withholding require - ments of FIRPTA. 2.5 Tax Residence of Legal Entities The US generally determines tax residence of legal entities using a place-of-incorporation style rule. Under this rule, a legal entity that is created or organ - ised in the US under the law of the US, any US state or the District of Columbia is generally treated as a US entity (ie, corporation, partnership, etc, as applicable). 2.6 Definition of Permanent Establishment Under the Code, a non-US person (including an indi - vidual or entity) is generally subject to US federal income taxation to the extent that such person carries on a “trade or business” in the US. While the Code does not define what constitutes a US trade or busi - ness, the courts have generally found a US trade or business exists when a non-US person engages in activity in the US in pursuit of profit that is consider - able, continuous, regular and substantial. Accordingly, the US trade or business definition can be interpreted rather broadly. However, certain activities are more specifically excluded from this definition under the Code, Treasury Regulations and case law. For exam - ple, trading in securities or commodities on a taxpay - er’s own behalf or through a broker is not generally considered a US trade or business. Additionally, an individual performing personal services on behalf of a non-US employer is generally not regarded as a US trade or business unless such services occur for more than 90 days during a year and the compensation for such services is more than USD3,000. The definition of a permanent establishment under such treaties generally follows that in the OECD Model Convention (with some deviations where the US sticks to a more traditional version definition – eg, the US does not extend permanent establishment status to commissionaire relationships or to persons who mere - ly negotiate, as opposed to conclude, contracts in the US). Under US income tax treaties, a permanent establishment generally includes a fixed place of busi - ness in the United States through which a foreign per - son carries on a business. However, a foreign person
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