Rev. Rul. 85-4

ISSUE

Whether a corporation which operates a race track must withhold U.S. income tax on purses paid to nonresident alien racehorse owners pursuant to section 1441 of the Internal Revenue Code under the circumstances described below.

FACTS

X, a domestic corporation, operates a race track in State A. In 1985 X made numerous purse payments to Canadian nonresident alien racehorse owners whose horses raced at X's race track. X did not withhold United States income tax from the winner's purses paid to those Canadian nonresident alien racehorse owners who filed Form 1001 (Ownership, Exemption, or Reduced Rate Certificate) with X to claim an exemption from United States income tax withholding on their purse income by reason of Article VII of the United States-Canada Income Tax Convention, signed on September 26, 1980, as amended by the Protocols of June 14, 1983 and March 28, 1984, and entered into force on August 16, 1984, Treasury News Release, R-2817, issued August 16, 1984. X had information concerning the race horses' racing histories in the papers provided in entering the horses in their races.

LAW AND ANALYSIS

Section 1441(a) of the Code and section 1.1441-2(a) of the Income Tax Regulations generally provide for withholding at the source of United States income tax at the rate of 30 percent on items of fixed and determinable annual or periodical gains, profits, or income from sources within the United States paid to a nonresident alien, except as otherwise provided in section 1441(c) dealing with income effectively connected with a United States business.

Section 1.1441-6(a) of the regulations provides that the withholding rate of 30 percent set forth in section 1441(a) shall be reduced as may be provided by a tax convention with any country.

Section 1.1441-6(c)(1) of the regulations provides that to secure the reduced rate of, or exemption from withholding of United States income tax at the source, the recipient shall, if entitled to such treatment pursuant to a tax convention, file Form 1001 with the withholding agent. Each form shall also contain a statement that the owner of the income is entitled to a reduced rate of, or exemption from, United States income tax pursuant to a tax convention. If, after filing Form 1001, the owner ceases to be eligible for the benefits of the tax convention with respect to such income, the owner shall promptly notify the withholding agent.

Article VII(1) of the Convention provides that the business profits of a resident of Canada shall be taxable only in Canada unless the resident carries on business in the United States through a permanent establishment in the United States. Article VII(1) further provides that if the resident carries on, or has carried on, business as aforesaid, the business profits of the resident may be taxed in the United States but only so much of them as is attributable to that permanent establishment.

Article V(2) of the Convention provides, in part, that the term `permanent establishment` includes a place of management, a branch, an office and certain other fixed places of business.

In Rev. Rul. 58-63, 1958-1 C.B. 624, a nonresident alien individual who owned a racing stable in France and engaged in the operation of the stable for profit, entered a horse in a single race in the United States during the taxable year. That revenue ruling concludes that any winnings received by the stable owner as a result of racing the horse in the United States constitute industrial and commercial profits for purposes of the former United States-France Income Tax Convention, 1946-1 C.B. 134. However, Rev. Rul. 58-63 holds that the individual's winnings are exempt from federal income tax under the income tax treaty between the United States and France because the nonresident alien individual maintains no permanent establishment in the United States.

Rev. Rul. 60-249, 1960-2 C.B. 264, amplified Rev. Rul. 58-63 to hold that, in the absence of definite information that a nonresident alien individual does not intend to enter a horse in more than one race in the United States during the taxable year, United States income tax must be withheld from the winnings received by the taxpayer from the entry of a horse in a race in this country, even though such winnings may ultimately be exempt from federal income tax under the provisions of a tax convention.

Rev. Rul. 76-224, 1976-1 C.B. 268, holds that a domestic corporation is not liable for failure to withhold federal income tax on interest and commitment commissions paid to foreign banks that have provided the corporation with completed Forms 1001 stating that they have complied with all the requirements for a reduced rate of, or exemption from, United States income tax under a tax convention, provided the corporation does not have any reason to know of any changes in the circumstances of the owners of the income that may have since rendered the previously filed Forms 1001 ineffective. In addition, Rev. Rul. 76-224 states that it is implicit in section 1.1441-6(c)(1) of the regulations that the responsibility of the withholding agent to withhold in a proper case, and the agent's liability therefor, are not diminished by a failure of the owner of income to notify the agent by letter that the owner is no longer eligible for the tax convention benefit. When a withholding agent has reason to know that an owner is no longer eligible for a tax convention benefit a previously filed Form 1001 will no longer be effective whether or not the withholding agent has been notified by letter. However, prior to the time when a withholding agent has reason to have such knowledge, the agent is not responsible for misstatements on a Form 1001 by an owner of income.

X, as withholding agent, is required, pursuant to section 1441(a) of the Code, to withhold tax a rate of 30 percent on purses paid to nonresident alien racehorse owners. Section 1.1441-6 of the regulations provides, however, that if a non-resident alien is entitled to an exemption from United States income tax withholding at the source under a provision of an income tax convention, then Form 1001 may be filed to secure such exemption.

Pursuant to Rev. Rul. 60-249, X must withhold tax at a rate of 30 percent on any purse paid to a nonresident alien racehorse owner in the absence of definite information filed on Form 1001 that such owner has not raced, or does not intend to enter, a horse in another race during the taxable year. However, Rev. Rul. 76-224 limits X's reliance on a filed Form 1001, indicating that section 1.1441-6(c)(1) of the regulation requires X to withhold in a proper case when, for example, X has reason to know that the owner of income is no longer eligible for an income is no longer eligible for an income tax convention benefit. In such a case, the previously filed Form 1001 will no longer be effective. For example, the entering of a horse in a race in the United States requires a racehorse owner to provide the race track with information concerning the horse's racing history. X was provided with this information. If that information indicates that the racehorse owner has raced a horse in more than one race in the United States during the taxable year, then any Forms 1001 filed for such year will be rendered ineffective.

HOLDING

X must withhold tax at the rate of 30 percent on any purse paid to a nonresident alien racehorse owner in the absence of definite information filed on Form 1001 that such owner has not raced, or does not intend to enter, a horse in another race during the taxable year. If, however, X has information that the owner has raced a horse in another race during the taxable year (e.g., from the racing history papers provided X upon entry of a horse in a race), then X has reason to know that a horse was previously entered in a race during the taxable year and any Form 1001 filed will no longer be effective.

If the nonresident alien racehorse owner is found to have a permanent establishment in the United States, the owner may be exempt from withholding of tax at 30 percent on purses paid to such owner, provided the owner files a statement or Form 4224 with the holding agent, pursuant to section 1.1441-4(a) of the regulations, to the effect that the income described therein is effectively connected with the conduct of a trade or business within the United States and that such income is includible in the taxpayer's gross income. See Situation (3) of Rev. Rul. 70-543, 1970-2 C.B. 172, 174, modifying Rev. Rul. 60-249.

This revenue ruling addresses only the issue of withholding of United States income tax at the source and is not determinative of any racehorse owner's ultimate United States income tax liability for any particular taxable year.

EFFECT ON OTHER REVENUE RULINGS

Rev. Rul. 60-249, 1960-2 C.B. 264, is amplified.