© 2025 by Michael Firth KC, Gray's Inn Tax Chambers
Contact: michael.firth@taxbar.com
F5. Residents
(Article 4)
RIGHT TO TAX RESIDENTS
- Nothing in convention affects ability to tax residents, save for specified provisions
"(3) This Convention shall not affect the taxation, by a Contracting State, of its residents except with respect to the benefits granted under paragraph 3 of Article 7, paragraph 2 of Article 9 and Articles 19, 20, 23 [A] [B], 24, 25 and 28." (Model Article 1(3))
US/UK Treaty
"(4)Notwithstanding any provision of this Convention except paragraph 5 of this Article, a Contracting State may tax its residents (as determined under Article 4 (Residence)), and by reason of citizenship may tax its citizens, as if this Convention had not come into effect.
(5) The provisions of paragraph 4 of this Article shall not affect:
(a) the benefits conferred by a Contracting State under
- paragraph 2 of Article 9 (Associated Enterprises),
- sub-paragraph b) of paragraph 1 and paragraphs 3 and 5 of Article 17 (Pensions, Social Security, Annuities, Alimony, and Child Support),
- paragraphs 1 and 5 of Article 18 (Pension Schemes) and
- Articles 24 (Relief From Double Taxation), 25 (Non discrimination), and 26 (Mutual Agreement Procedure) of this Convention; and
(b) the benefits conferred by a Contracting State under
- paragraph 2 of Article 18 (Pension Schemes) and
- Articles 19 (Government Service), 20 (Students), 20A (Teachers), and 28 (Diplomatic Agents and Consular Officers) of this Convention,
upon individuals who are neither citizens of, nor have been admitted for permanent residence in, that State.’" (US/UK Treaty, Article 1(4), (5))
AVOIDANCE THROUGH NON-RESIDENCE
- Former long term resident remaining resident for 10 years for certain purposes under some treaties
"(6) A former citizen or long-term resident whose loss of citizenship or long term resident status had as one of its principal purposes the avoidance of tax (as defined under the laws of the Contracting State of which the person was a citizen or long-term resident) shall be treated for the purposes of paragraph 4 of this Article as a citizen of that Contracting State but only for a period of 10 years following the loss of such status. This paragraph shall apply only in respect of income from sources within that Contracting State (including income deemed under the domestic law of that State to arise from such sources). Paragraph 4 of this Article shall not apply in the case of any former citizen or long-term resident of a Contracting State who ceased to be a citizen or long-term resident of that State at any time before February 6th, 1995." (US/UK Treaty, Article 1(6))
ARTICLE 4 (RESIDENCE)
"(1) For the purposes of this Convention, the term “resident of a Contracting State” means any person who, under the laws of that State, is liable to tax therein by reason of his domicile, residence, place of management or any other criterion of a similar nature, and also includes that State and any political subdivision or local authority thereof as well as a recognised pension fund of that State. This term, however, does not include any person who is liable to tax in that State in respect only of income from sources in that State or capital situated therein." (Model Article 4)
Liable to tax
- Not concerned with whether person is subject to tax, but whether they are liable to be liable to tax
"[54] In the context of corporations, the 'liable to tax' requirement is met under the Treaty where the domestic law of a contracting state exposes the corporation to full tax liability on its worldwide income because it has its residence in that state (see Crown Forest, at paras [40] and [45]). Liability to full taxation is established by the nexus between that State and the corporation's resident status. The 'liable to tax' requirement is often described in terms that may perhaps appear misleading, such as 'comprehensive taxation' or 'full liability to tax'. These terms convey the idea that residents enjoying tax holidays may be more suspicious than others. In reality, this requirement is not concerned with whether the person claiming benefits is in fact subject to taxation. Being liable to tax is better understood as being 'liable to be liable to tax', meaning that taxes are a possibility, regardless of whether the person actually pays any (R Couzin, Corporate Residence and International Taxation (2002), at p 107; see also pp 106 and 111). Therefore, corporate residents enjoying certain tax holidays, for example on capital gains, do not automatically lose their resident status under the Treaty because they are not subject to every possible form of taxation (Couzin, at pp 110–111 and 150). This can be contrasted with fiscally transparent vehicles like partnerships that are not exempted from taxation but, rather, are not exposed to tax at all, as their income is taxed in the partners' hands instead." (Alta Energy Luxembourg SARL v. R (2021) 24 ITLR 346, Supreme Court of Canada)
Types of connection
- Treaty does not establish specific standards for identifying residents
[55] Aside from the 'liable to tax' requirement, the purpose of art 4(1) is not to establish specific standards for defining residence. This provision expressly states that residence is to be defined by the laws of the contracting state of which the person claims to be a resident. This provision of the Treaty is modeled almost word for word on art 4(1) of the 1998 OECD Model Treaty, whose Commentary also made it clear that the intention was to leave the core definition of residence to domestic law, not to bilateral tax treaties:
'Conventions for the avoidance of double taxation do not normally concern themselves with the domestic laws of the Contracting States laying down the conditions under which a person is to be treated fiscally as “resident” and, consequently, is fully liable to tax in that State. They do not lay down standards which the provisions of the domestic laws on “residence” have to fulfil in order that claims for full tax liability can be accepted between the Contracting States. In this respect the States take their stand entirely on the domestic laws.' [Emphasis added.]
('Commentary on Article 4' of the 1998 OECD Model Treaty, at para 4)." (Alta Energy Luxembourg SARL v. R (2021) 24 ITLR 346, Supreme Court of Canada)
- Not an unfettered discretion to alter or redefine residence: must not take works unmistakably past accepted usage
"[59] Nonetheless, I acknowledge that treaty partners do not have the unfettered liberty to alter or redefine residence as they wish for the purposes of a tax treaty. The broader context of international tax law and the law of treaties helps to understand what was within the contemplation of Canada and Luxembourg when they drafted arts 1 and 4(1) of the Treaty. Pursuant to the principle of pacta sunt servanda, parties to a treaty must keep their sides of the bargain and perform their obligations in good faith (art 26 of the Vienna Convention). Domestic law definitions of residence should therefore broadly correspond to international norms and not have the effect of redefining residence in a way 'that takes the words unmistakably past their accepted usage' (Couzin, at p 136), including the definitions of residence that were in effect in the two states at the time the Treaty was drafted." (Alta Energy Luxembourg SARL v. R (2021) 24 ITLR 346, Supreme Court of Canada)
- Formal connections widespread due to their certainty and simplicity
"[61]...Although a formal criterion may sometimes be unable to capture the real location of a corporation's economic activities, it nevertheless became widespread internationally because of its certainty and simplicity, considerations that are vital to a well-functioning tax system based on the rule of law and the Duke of Westminster principle (Li and Cockfield, at p 77). Hence, the definition in Luxembourg law does not depart from accepted usage such that the bargain struck in the Treaty could be upheld only if Luxembourg residents claiming benefits have 'sufficient substantive economic connections' to their country of residence." (Alta Energy Luxembourg SARL v. R (2021) 24 ITLR 346, Supreme Court of Canada)
- No requirement for some minimum economic connection to country of residence
[62] Given this broad international acceptance of formal residency, if the drafters had truly intended to include only corporations with 'sufficient substantive economic connections' to their country of residence within the scope of the Treaty, they would have clearly signalled their intention to depart from a well-established criterion like the 'place of incorporation' or 'legal seat' rule. They would not have simply incorporated arts 1 and 4(1) of the OECD Model Treaty, which reflect an international consensus, with no alteration. This indicates, in my view, that the object of arts 1 and 4(1) is not to exclude all corporations with minimal economic connections to their country of residence, such as those whose residence is established solely on the basis of a formal, legal attachment. Access to the benefits of the Treaty by virtue of a domestic law definition of residence like the 'legal seat' rule is therefore entirely consistent with the spirit of these provisions.
...
[67] In sum, the object, spirit, and purpose of arts 1 and 4(1) are to allow all persons who are residents under the laws of one or both of the contracting states to claim benefits under the Treaty so long as their resident status could expose them to full tax liability (regardless of whether there is actual taxation). They are broadly consistent with international norms. This is normally the case for corporations that are residents by virtue of the 'place of incorporation' or 'legal seat' rule, unless they fall within the exclusion provided for in art 28(3). As a result, I conclude that the spirit of these provisions is not to reserve the benefits of the Treaty to residents that have 'sufficient substantive economic connections' to their country of residence." (Alta Energy Luxembourg SARL v. R (2021) 24 ITLR 346, Supreme Court of Canada)
- Factual connection not a deemed legal connection
"[122]...The US connections required by s.269B are limited to a) stapling of more than 50% by value of the foreign corporation's shares to those of a domestic corporation, and b) direct or indirect ownership as to 50% or more by US persons. Both of these requirements relate to the ownership and control of the relevant company. Neither requires any form of link between the company itself and the United States, whether a formal legal one (such as incorporation, the location of its registered office or similar) or a factual one (such as place of management). The facts that the entity to which the company is stapled is itself US incorporated and that both entities are ultimately US owned cannot suffice. In contrast, the criteria specified in Article 4(1) all describe legal or factual connections between the entity itself and the relevant Contracting State of a kind that may justify worldwide taxation." (HMRC v. GE Financial Investments [2024] EWCA Civ 797, Falk, Arnold, Whipple LJJ)
Link between the connection and liability to tax
- Liability to worldwide taxation must be the result of one of the connecting factors
"[63]...The critical point is that GEFI is in fact UK incorporated. It is liable to tax in the United States "by reason of" the application of s.269B, which provides that what it explicitly recognises to be a foreign corporation (that is, one not created or organised under US law) "shall be treated" as if it were a domestic corporation. It is not liable to tax by reason of actual incorporation in the United States or by virtue of any of the other enumerated criteria listed in Article 4(1). Although at one point the UT appeared to suggest that GEFI should effectively be assumed to be incorporated in the United States by virtue of s.269B, I did not understand Mr Baker to rely on such an analysis and I cannot see that it would have any evidential support.
...
[67] In my view that is not the natural meaning of the words used. Article 4(1) defines a resident of a Contracting State as a person "liable to tax… by reason of" having a particular status (domicile, residence etc.). The words "by reason of" make clear that liability to tax is the consequence of having the requisite status. It does not say that residence status is the result of, or equates to, being liable to tax. Further, the status in question comprises a list of specific connecting factors following by an express ejusdem generis provision. The fact that a list is included suggests that the individual items referred to in it were regarded as having significance. The choice of the words "of a similar nature", meaning (broadly) of the same kind or genus, is also relevant. Each of the listed factors is a type of substantive factual or legal connection between the person concerned and the State in question, strongly indicating that for another factor to be something of a similar nature it would also need to be a connection that has a similar character or quality.
[68] I agree with [HMRC] that if all that was intended to be covered was anything that resulted in worldwide taxation under domestic law then there would be no need for any specific list. The underlined text would much more straightforwardly have referred simply to unrestricted or worldwide taxation. If a list was nonetheless included then the words "of a similar nature" would have read something like "to the same effect" or "having the same consequence"." (HMRC v. GE Financial Investments [2024] EWCA Civ 797, Falk, Arnold, Whipple LJJ)
TIE BREAKER: INDIVIDUALS
"(2) Where by reason of the provisions of paragraph 1 an individual is a resident of both Contracting States, then his status shall be determined as follows:
a) he shall be deemed to be a resident only of the State in which he has a permanent home available to him; if he has a permanent home available to him in both States, he shall be deemed to be a resident only of the State with which his personal and economic relations are closer (centre of vital interests);
b) if the State in which he has his centre of vital interests cannot be determined, or if he has not a permanent home available to him in either State, he shall be deemed to be a resident only of the State in which he has an habitual abode;
c) if he has an habitual abode in both States or in neither of them, he shall be deemed to be a resident only of the State of which he is a national;
d) if he is a national of both States or of neither of them, the competent authorities of the Contracting States shall settle the question by mutual agreement." (Model Article 4)
TIE BREAKER: NON-INDIVIDUALS
(3) Where by reason of the provisions of paragraph 1 a person other than an individual is a resident of both Contracting States, the competent authorities of the Contracting States shall endeavour to determine by mutual agreement the Contracting State of which such person shall be deemed to be a resident for the purposes of the Convention, having regard to its place of effective management, the place where it is incorporated or otherwise constituted and any other relevant factors. In the absence of such agreement, such person shall not be entitled to any relief or exemption from tax provided by this Convention except to the extent and in such manner as may be agreed upon by the competent authorities of the Contracting States." (Model Article 4)