DOJ Argues Tax Credit in Treaty Is Subject to Limitations on FTCs

MATTHEW CHRISTENSEN, KATHERINE KAESS CHRISTENSEN,
Plaintiffs-Appellees
v.
UNITED STATES,
Defendant-Appellant

IN THE UNITED STATES COURT OF APPEALS
FOR THE FEDERAL CIRCUIT

ON APPEAL FROM THE JUDGMENT OF THE UNITED STATES COURT OF FEDERAL CLAIMS NO. 20-935; SENIOR JUDGE MARIAN BLANK HORN

BRIEF FOR APPELLANT UNITED STATES

DAVID A. HUBBERT
Deputy Assistant Attorney General

JACOB EARL CHRISTENSEN (202) 307-0878
KATHLEEN E. LYON (202) 307-6370
Attorneys
Tax Division
Department of Justice
Post Office Box 502
Washington, D.C. 20044
April 22, 2024

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TABLE OF CONTENTS

Table of contents

Table of authorities

Statement of related cases

Glossary

Jurisdictional statement

Statement of the issue

Statement of the case

Summary of argument

Argument:

The tax credit referenced in Article 24(2)(b) of the Treaty is subject to the Internal Revenue Code's limitations on foreign tax credits

Standard of review

Conclusion

Addendum

Certificate of compliance

TABLE OF AUTHORITIES

Cases:

Abbott v. Abbott, 560 U.S. 1 (2010)

Adams Challenge (UK) Ltd. v. Commissioner, 154 T.C. 37 (2020)

Air France v. Saks, 470 U.S. 392 (1985)

Attorney General of Canada v. R.J. Reynolds Tobacco Holdings, Inc., 268 F.3d 103 (2d Cir. 2001)

Garcia v. Commissioner, 140 T.C. 141 (2013)

GE Energy Power Conversion France SAS, Corp. v. Outokumpu Stainless USA, LLC, 140 S. Ct. 1637 (2020)

Great-West Life Asur. Co. v. United States, 678 F.2d 180 (Ct. Cl 1982)

GSS Holdings (Liberty) Inc. v. United States, 81 F.4th 1378 (Fed. Cir. 2023)

Kolovrat v. Oregon, 366 U.S. 187 (1961)

Maximov v. United States, 373 U.S. 49 (1963)

Mazurek v. United States, 271 F.3d 226 (5th Cir. 2001)

Medellin v. Texas, 552 U.S. 491 (2008)

Nat'l Westminster Bank, PLC v. United States, 512 F.3d 1347 (Fed. Cir. 2008)

O'Connor v. United States, 479 U.S. 27 (1986)

Rabassa v. United States, No. 23-12445, 2024 WL 1435103 (11th Cir. Apr. 3, 2024)

Sanders v. Commissioner, 161 T.C. No. 8, 2023 WL 7220014 (Nov. 2, 2023)

Shnier v. Commissioner, 151 Fed. Cl. 1 (2020)

Smith v. Commissioner of Internal Revenue, No. 5191-20, 2022 WL 3654871 (T.C. Aug. 25, 2022)

Sumitomo Shoji Am., Inc. v. Avagliano, 457 U.S. 176 (1982)

Toulouse v. Commissioner, 157 T.C. 49 (2021)

United States v. Stuart, 489 U.S. 353 (1989)

Vento v. Commissioner, 147 T.C. 198 (2016)

Water Splash, Inc. v. Menon, 581 U.S. 271 (2017)

Xilinx, Inc. v. Commissioner, 598 F.3d 1191 (9th Cir. 2010)

Statutes:

Internal Revenue Code (26 U.S.C.):

28 U.S.C.:

Health Care and Education Reconciliation Act of 2010, Pub. L. No. 111-152, §1402(a)(1), 124 Stat 1029

Regulations:

Treasury Regulations (26 C.F.R.):

Miscellaneous:

1994 Treaty (Convention between the Government of the United States of America and the Government of the French Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital, signed on August 31, 1994), 1963 U.N.T.S. 67

Article 24

Article 24(2)

Article 24(2)(a)

Article 24(2)(b)

Article 24(2)(b)(i)

Article 24(2)(b)(ii)

Article 24(2)(c)

Article 24(2)(d)

Article 24(2)(e)

8 Mertens Law of Federal Income Taxation §32:59 (2024)

12 Mertens Law of Federal Income Taxation §45D:62 (2024)

Andersen: Foreign Tax Credits (WG&L) ¶ 1.03[1], Section 904 Limitation (2023)

Dirk Suringa, The Foreign Tax Credit Limitation Under Section 904, 6060 T.M. (BNA 2016)

Federal Rule of Appellate Procedure 4(a)(1)(B)

H.R. Conf. Rep. No. 108-755 (2004)

Kellar and Browne Jr., 6875-2nd T.M., U.S. Income Tax Treaties — Benefits Provided by a Country to Its Own Residents and Citizens, (2019)

Lori Hellkamp & Alden Dilanni-Morton, Demystifying the Saving Clause and Re-Sourcing Rules in Treaties, Tax Notes Federal, vol. 172, August 16, 2021

Michael J. Graetz & Michael M. O'Hear, The “Original Intent” of U.S. International Taxation, 46 Duke L.J. 1021, 1054-56 (1997)

New York State Bar Association Tax Section, Report on Treaty Re-Sourcing Rules, Rep. No. 1313 (November 24, 2014)

S. Budget Comm., Tax Expenditures: Compendium of Background Material on Individual Provisions, S. Prt. 111-58 (Comm. Print 2010)

S. Exec. Rep. No. 96-4 (June 15, 1979)

S. Exec. Rep. No. 104-7 (Aug. 10, 1995)

Stephanie H. Simonard, Newly Revised Income Tax Treaty with France: A Breakthrough in U.S. Tax Treaty Law, 2 Nw. J. Int'l L. & Bus. 455, 457-59 (1980)

Treasury Department Technical Explanation of The Convention Between the Government of the United States of America and the Government of the French Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital Signed at Paris on August 31, 1994

STATEMENT OF RELATED CASES

This case has not previously been before this or any other appellate court, and counsel for the United States are aware of no other case that will directly affect or be directly affected by this Court's decision in this case.

GLOSSARY

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JURISDICTIONAL STATEMENT

On January 8, 2020, Matthew and Katherine Christensen filed a federal income tax refund claim for $3,851 for the 2015 tax year, which the IRS disallowed on February 20, 2020. (Appx920, Appx922, Appx991-993.)¹ On July 31, 2020, the Christensens filed a timely refund suit in the U.S. Court of Federal Claims (CFC) seeking that refund. (Appx920-921.) The CFC had jurisdiction under 28 U.S.C. §1491(a). Although the suit involves a treaty-based claim, and such claims are generally beyond the jurisdiction of the CFC, 28 U.S.C. §1502, a provision of the Internal Revenue Code (I.R.C.) (26 U.S.C.) provides an exception for treaty-based tax refund claims. See I.R.C. §7422(f)(1) (providing that a tax-refund suit may be brought against the United States “notwithstanding the provisions of section 1502 of such title 28 (relating to certain treaty cases)”).

On September 13, 2023, on the parties' cross-motions for partial summary judgment, the CFC issued an opinion holding that the Christensens were entitled to their 2015 refund claim. (Appx1-92.) On October 20, 2023, the court entered a stipulated judgment for the Christensens. (Appx93.) That judgment was a final order resolving all claims of all parties. On December 18, 2023, within 60 days after entry of the judgment, the United States filed a notice of appeal (Appx919), which was timely under 28 U.S.C. §2107(b) and Federal Rule of Appellate Procedure 4(a)(1)(B). This Court has jurisdiction under 28 U.S.C. §1295(a)(3).

STATEMENT OF THE ISSUE

Whether the CFC erred in ruling that Article 24(2)(b) of the income tax treaty between the United States and France allows U.S. citizens residing in France to claim a foreign tax credit against the net investment income tax imposed by §1411 of the Internal Revenue Code, even though the Code itself would not allow such a credit.

STATEMENT OF THE CASE

The Christensens, U.S. citizens living in France, filed an amended joint federal income tax return for 2015 claiming a foreign tax credit against taxes they had previously paid to the United States on their net investment income. Although the Internal Revenue Code does not permit a foreign tax credit against the net investment income tax, the Christensens claimed that a 1994 income tax treaty between the United States and France permitted the claimed credit, independent of any provisions or limitations in the Internal Revenue Code. The IRS denied the refund claim, and the Christensens filed this refund suit in the CFC. The parties filed cross-motions for partial summary judgment.

In a decision reported at 168 Fed. Cl. 263 (2023), the CFC determined that the Christensens were entitled to the claimed refund on the ground that the treaty provided an independent foreign tax credit not subject to the provisions or limitations of the Internal Revenue Code.

A. Background

1. The foreign tax credit in the Internal Revenue Code

The United States taxes its residents and its citizens, wherever they reside, on their worldwide income, and it taxes non-residents on their income from U.S. sources. I.R.C. §§1, 61, 871. This scheme results in situations where both the United States and another country may seek to tax the same income — a phenomenon known as double taxation. To relieve U.S. taxpayers of some of the burden of double taxation, the Internal Revenue Code generally allows U.S. taxpayers a credit against their federal income tax for the amount of income tax paid to a foreign country. I.R.C. §27. For example, suppose a U.S. citizen earns $100 from a foreign source, which the foreign country taxes at a rate of 10% and which the United States taxes at a rate of 12%. The Code would allow a $10 foreign tax credit for the tax paid to the foreign country against the U.S. tax liability of $12, resulting in U.S. tax due of $2. Section 986 provides rules for converting the foreign tax payment into U.S. dollars to determine the amount of the credit.

But there are various limitations on the foreign tax credit, see I.R.C. §§901-909, two of which are relevant here. First, the credit is available only against taxes imposed by Chapter 1 of the Internal Revenue Code, which imposes various kinds of income tax. See I.R.C. §27 (providing that the foreign tax credit applies “against the tax imposed by this chapter,” i.e., Chapter 1); I.R.C. §901(a) (similar); see also 26 C.F.R. §1.1411-1(e). This means the foreign tax credit cannot be taken against taxes imposed elsewhere in the Code, including the tax on net investment income imposed by I.R.C. §1411 in Chapter 2A. Toulouse v. Commissioner, 157 T.C. 49, 55-56 (2021).

Second, the foreign tax credit is subject to a source-based limitation that distinguishes between income from sources outside the United States (foreign-source income) and income from sources inside the United States (U.S.-source income). See I.R.C. §904(a); see also id. §§861-865 (rules for determining the source of income). Section 904(a) provides that the foreign tax credit cannot exceed the same proportion of U.S. tax which the taxpayer's income from foreign sources bears to his entire taxable income for the year. That is, the credit cannot be more than the total U.S. tax liability multiplied by a fraction, where the numerator of the fraction is taxable income from foreign sources and the denominator is total taxable income from both U.S. and foreign sources. See 12 Mertens Law of Federal Income Taxation §45D:62 (2024). This limitation places a cap on the foreign tax credit equal to the U.S. tax that would otherwise be due on the taxpayer's income from foreign sources, thereby protecting the United States' ability to collect its full tax on income from domestic sources. Vento v. Commissioner, 147 T.C. 198, 204-05 (2016) (“A taxpayer's overall section 904 limitation for a given year equals the portion of the taxpayer's precredit U.S. tax liability attributable to foreign source income. The limitation prevents taxpayers from using foreign tax credits to reduce their U.S. tax on U.S. source income.”); H.R. Conf. Rep. No. 108-755, at 381 (2004) (“The foreign tax credit generally is limited to the U.S. tax liability on a taxpayer's foreign-source income, in order to ensure that the credit serves its purpose of mitigating double taxation of cross-border income without offsetting the U.S. tax on U.S.-source income.”); see also 8 Mertens Law of Federal Income Taxation §32:59 (2024). See generally Michael J. Graetz & Michael M. O'Hear, The “Original Intent” of U.S. International Taxation, 46 Duke L.J. 1021, 1054-56 (1997) (discussing the history of the foreign tax credit limitation).

To illustrate §904(a)'s source-based limitation, assume the same facts as in the example above in which a U.S. citizen earns $100 from a foreign source, except that the tax rate of the foreign country on the foreign-source income is 15% (instead of 10%) and, in addition to the $100 in foreign-source income, the U.S. citizen also has $100 in income from U.S. sources. Although the U.S. citizen must pay $15 in tax on the foreign income to the foreign country, his foreign tax credit is limited to $12, which is derived from multiplying the total U.S. tax liability of $24 ($200 taxed at a U.S. rate of 12%) by 0.5 ($100 foreign income (the numerator) divided by $200 total taxable income (the denominator)). Section 904(c) would permit the excess $3 of unused foreign tax to be carried back as a credit in the prior year and then carried forward for the succeeding 10 years until absorbed.²

2. The 1994 Treaty

The Internal Revenue Code provisions governing foreign tax credits were substantially the same in 1994 when the United States and France signed a tax treaty titled the “Convention between the Government of the United States of America and the Government of the French Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital,” signed on August 31, 1994 (hereinafter “the Treaty”) (reproduced at Add1-42).³ 1963 U.N.T.S. 67. At that time, France, like the United States, taxed its residents on their worldwide income, and both countries taxed non-residents on income from sources within its own territory, creating the potential for double taxation. Relief from double taxation under the Treaty was principally achieved by each country agreeing to limit its right to tax income derived from sources within its territory by residents of the other country, thus yielding primary taxing rights to the country of residence. (See Articles 6-23). But the country of source retained a limited right to tax income derived by residents of the other country in some situations, such as where a permanent establishment or fixed base was maintained in the source country. (See, e.g., Articles 7 and 10.) In those situations, the Treaty generally provided relief from double taxation by requiring the country of residence either to grant a credit against its tax for the taxes paid to the source country or to exempt that income from its tax altogether. (Article 24.) See generally S. Exec. Rep. No. 104-7, at 1-2 (Aug. 10, 1995) (reproduced at Appx287-322).

The Treaty was amended by protocols in 2004 and 2009, see T.I.A.S. Nos. 06-1221.1 and 09-1223, but the substantive amendments made by those protocols are not relevant here.⁴

Article 24 (Relief from Double Taxation) sets forth the specific manner in which each country has undertaken to relieve double taxation. Paragraph 1 of Article 24, as renumbered by the 2009 Protocol (see footnote 4), addresses France's obligations and provides in pertinent part:

3. The net investment income tax

In 2010, Congress enacted I.R.C. §1411 and placed it in a new Chapter 2A of the Internal Revenue Code. Health Care and Education Reconciliation Act of 2010, Pub. L. No. 111-152, §1402(a)(1), 124 Stat 1029, 1061. Section 1411 in general imposes a 3.8% tax on the net investment income of individuals, trusts, and estates. The net investment income tax “was enacted . . . in order to raise revenue that is intended to offset increased expenditures for expanded health insurance coverage” under the Affordable Care Act. S. Budget Comm., Tax Expenditures: Compendium of Background Material on Individual Provisions, S. Prt. 111-58, at 414 (Comm. Print 2010). The Government acknowledged in its briefing below that this new §1411 tax is a “covered tax” under Article 2 of the Treaty.

4. The Christensens' original and amended joint federal income tax returns for 2015

Matthew and Katherine Christensen, a married couple, are U.S. citizens who resided in France throughout the year 2015. (Appx32-33, Appx920.) As U.S. citizens, they were subject to U.S. federal income taxes. They filed a joint U.S. federal income tax return (Form 1040) for 2015 on which they reported having received wage income from foreign sources and investment income (i.e., dividends, interest, royalties, rents, or annuities) from both foreign and U.S. sources. (Appx33-34.)⁶ They reported income tax of $76,287 (see I.R.C. §1), alternative minimum tax of $89 (see I.R.C. §55), and a foreign tax credit of $75,859 under I.R.C. §§27 and 901, resulting in total income tax due of $517 under Chapter 1 of the Internal Revenue Code. (Appx34.)

In addition to the tax imposed by Chapter 1, the Christensens also reported tax of $4,155 imposed by I.R.C. §1411 in Chapter 2A. (Appx34.) They did not seek to apply any foreign tax credit against the §1411 tax on their original return. But they later filed an amended return (Form 1040X) claiming they were entitled to a foreign tax credit of $3,851 against their §1411 tax for foreign tax paid to France on their investment income. (Appx922-923, Appx952.) In asserting this claim, the Christensens did not rely on the Code provision authorizing foreign tax credits, I.R.C. §27, which authorizes foreign tax credits only against the tax imposed by Chapter 1 of the Code. Rather, they maintained that Article 24 of the Treaty between the United States and France allowed a foreign tax credit against their §1411 tax that was not subject to the provisions and limitations of the Internal Revenue Code. (Appx923, Appx926, Appx954-955.)

B. Proceedings in the CFC

The IRS denied the Christensens' refund claim, after which they filed this suit in the U.S. Court of Federal Claims. (Appx991-993, Appx920-921.) The CFC ruled for the Christensens on the parties' cross-motions for partial summary judgment. (Appx1-92.) The court agreed with the Government that Article 24(2)(a) of the Treaty did not authorize a foreign tax credit against the §1411 tax because the credit described in subparagraph (a) is expressly made subject to the provisions and limitations of the Internal Revenue Code, which do not permit foreign tax credits against taxes imposed outside of Chapter 1 of the Code. (Appx84-86.) But the court went on to construe Article 24(2)(b) of the Treaty as allowing a foreign tax credit against the §1411 tax because the language in subparagraph (a) restricting any credit according to the provisions and limitations of the Code was not repeated in the reference to a credit in subparagraph (b). (Appx86-92.) The court declined to give any deference to the U.S. Treasury Department's contemporaneous explanation of the Treaty's provisions and instead applied a rule of liberal construction to achieve the Treaty's purported purpose of avoiding double taxation, including under the circumstances of this case. (Appx54-58, Appx75-77, Appx82-83.) The court thus held that Article 24(2)(b) of the Treaty allowed a treaty-based foreign tax credit that was not subject to the limitations of the Internal Revenue Code and that could, therefore, be applied against the Christensens' §1411 tax. (Appx86-92.)

On October 20, 2023, the CFC granted the Christensens' refund claim of $3,851, plus interest, in a stipulated judgment that reserved the Government's right to appeal. (Appx93, Appx995.) The Government timely filed a notice of appeal on December 18, 2023. (Appx919.)

SUMMARY OF ARGUMENT

Article 24(2)(a) of the Treaty provides that a U.S. citizen or resident may claim a foreign tax credit against U.S. income tax “[i]n accordance with the provisions and subject to the limitations of the law of the United States.” The CFC erred in holding that, because that language is not expressly repeated in subparagraph (b) addressing the case of an individual who is both a resident of France and a U.S. citizen, the credit referenced in subparagraph (b) that is available to such individuals is not subject to the Internal Revenue Code's limitations on foreign tax credits.

1. Both the text and context of Article 24(2) demonstrate that subparagraph (a)'s introductory language restricting the foreign tax credit “[i]n accordance with the provisions and subject to the limitations of the law of the United States” applies equally to the credit against U.S. tax that is referenced in subparagraph (b). In holding otherwise, the CFC improperly read subparagraph (b)(i) in isolation, while ignoring subparagraph (b)(ii). Subparagraph (b)(ii) is a re-sourcing rule that treats U.S.-source income as French-source income in order to “give effect” to the credit referenced in subparagraph (b)(i), on which the CFC relied. The drafters' inclusion of this re-sourcing rule in (b)(ii) makes sense only if they understood that the credit referenced in (b)(i) was subject to the Internal Revenue Code's source-based limitation on foreign tax credits in I.R.C. §904(a), such that a special re-sourcing rule was required in the Treaty to treat U.S.-source income as foreign-source income in order to give effect to the intended credit referenced in (b)(i). The CFC's conclusion that Article 24(2)(b) provides a foreign tax credit that is unmoored from the Internal Revenue Code renders the re-sourcing provision in subparagraph (b)(ii) entirely superfluous.

The CFC's interpretation also leads to other anomalous results making its interpretation implausible. Under the CFC's interpretation, U.S. citizens residing in France can claim a double tax benefit by excluding their “foreign earned income” from U.S. tax under I.R.C. §911(a), while also claiming a foreign tax credit under Article 24(2)(b) for the tax paid to France on that excluded income — a significant windfall for the taxpayer that is normally precluded by I.R.C. §911(d)(6). The CFC's interpretation also provides U.S. citizens residing in France with a far more generous foreign tax credit under Article 24(2)(b) than is available to U.S. citizens residing in the United States, whose foreign tax credit is subject to the Code's limitations under Article 24(2)(a). An interpretation that assumes the signatories intended these and other anomalies, or failed to account for them, is implausible and should be rejected.

2. The Technical Explanation of the Treaty prepared by the U.S. Treasury Department supports the Government's interpretation. It confirms that the Government's interpretation is in fact how the United States understood Article 24(2)(b) contemporaneously when the Treaty was executed. The CFC erred by failing to give any deference to the Technical Explanation, as required by precedent of both this Court and the Supreme Court.

3. Finally, the Government's interpretation is also consistent with the purposes of the Treaty to avoid double taxation and to prevent fiscal evasion of tax. While the Treaty aims to relieve double taxation, its text demonstrates that it does not, and was never intended to, eliminate double taxation in all circumstances. U.S. citizens residing in the United States may claim a foreign tax under Article 24(2)(a) that is nevertheless subject to the Internal Revenue Code's limitations, and Article 24(2)(b) should be interpreted consistently as it applies to U.S. citizens residing in France. Such a consistent interpretation cannot offend the general purpose of the Treaty to relieve double taxation even though it would not eliminate double taxation in every instance.

The CFC's interpretation of Article 24(2)(b), on the other hand, is inconsistent with the Treaty's additional purpose of preventing fiscal evasion of tax because it allows U.S. citizens residing in France to claim double tax benefits against their U.S. tax, resulting in a windfall for the taxpayer at the expense of the U.S. Treasury.

The CFC's judgment was erroneous and should be reversed.

ARGUMENT

The tax credit referenced in Article 24(2)(b) of the Treaty is subject to the Internal Revenue Code's limitations on foreign tax credits

Standard of review

This Court “review[s] de novo a grant and denial of summary judgment by the [Court of Federal Claims].” GSS Holdings (Liberty) Inc. v. United States, 81 F.4th 1378, 1381 (Fed. Cir. 2023) (citation omitted).

A. The text and context of Article 24(2) demonstrate that the provisions and limitations of the Internal Revenue Code apply to the foreign tax credit referenced in Article 24(2)(b)

The text and context of Article 24(2) of the Treaty demonstrate that the provisions and limitations of the Internal Revenue Code apply to the foreign tax credit that is referenced in Article 24(2)(b), on which the CFC relied. The CFC improperly read subparagraph (b)(i) in isolation while ignoring subparagraph (b)(ii), and its erroneous interpretation renders subparagraph (b)(ii) superfluous and produces other anomalous results that the drafters did not intend.

1. The CFC erroneously read subparagraph (b)(i) in isolation and rendered the special re-sourcing rule in subparagraph (b)(ii) superfluous

The interpretation of a treaty “must begin . . . with the text of the treaty and the context in which the written words are used.” Air France v. Saks, 470 U.S. 392, 396-97 (1985); see also Water Splash, Inc. v. Menon, 581 U.S. 271, 276 (2017) (same) (quotation and citation omitted). The text and context of Article 24(2) demonstrate that there is no foreign tax credit independent of the provisions and limitations of the Internal Revenue Code.

In Article 24(2)(a), the United States agreed to allow a U.S. citizen or resident a credit against U.S. income tax for the French income tax paid to France. Article 24(2)(a) is explicit, however, that such credit is allowed only “[i]n accordance with the provisions and subject to the limitations of the law of the United States,” which means it cannot be applied against taxes imposed outside of Chapter 1 of Internal Revenue Code, including the I.R.C. §1411 tax at issue here. The Tax Court so held in, Toulouse v. Commissioner, 157 T.C. 49 (2021), and the CFC agreed (Appx83-86).⁷ But the CFC went on to hold in this case that the absence of such restricting language in Article 24(2)(b) means that the separate reference to a credit in subparagraph (b)(i) supports the allowance of an independent, treaty-based credit that is not subject to the limitations of the Internal Revenue Code.

The fundamental flaw in the CFC's interpretation of Article 24(2)(b) is that it reads subparagraph (b)(i) in isolation and completely ignores subparagraph (b)(ii). As we will explain, the drafters' inclusion of a special re-sourcing provision in (b)(ii) shows they understood that subparagraph (a)'s introductory language restricting the foreign tax credit (“In accordance with the provisions and subject to the limitations of the law of the United States”) applied to the credit referenced in subparagraph (b)(i) as well. Under this interpretation, Article 24(2)(a)'s introductory language establishes the context for what follows in the rest of paragraph 2, including for the credit referenced in Article 24(2)(b)(i), on which the CFC relied. In contrast, the CFC's interpretation renders the re-sourcing provision in Article 24(2)(b)(ii) superfluous, violating the rule that treaties should not be interpreted in a manner that makes terms meaningless. See Water Splash, 581 U.S. at 277-78 (rejecting an interpretation of the Hague Service Convention that would render a provision superfluous).

a. The origin of Article 24(2)(b)

Article 24(2)(b) addresses the specific situation of “an individual who is both a resident of France and a citizen of the United States.” This provision has its origin in the 1978 Protocol amending the previous treaty between the United States and France in response to a change in French domestic law that, for the first time, subjected U.S. citizens resident in France to French tax on their worldwide income, including income from U.S. sources. (Prior to that time, such individuals were taxed by France on only their French-source income.) See 1978 Protocol, T.I.A.S. No. 9500, §10, art. 23(3) (reproduced at Add43-51); S. Exec. Rep. No. 96-4, at 1, 11-12 (June 15, 1979) (reproduced at Add52-75). As recognized at the time, France's new law created considerable potential for taxation by both the United States and France of the U.S.-source income of U.S. citizens residing in France because the U.S. statutory foreign tax credit “does not apply to foreign taxes on U.S.-source income.” S. Exec. Rep. No. 96-4, at 11. To alleviate the impact of France's new law, the 1978 Protocol divided the tax revenue from these individuals' U.S.-source income between the U.S. and French Treasuries, which was accomplished “by French agreement to exempt part of the income from, or to give a partial credit against, its tax and U.S. agreement to treat part of the income as if from French sources, making French taxes on it eligible for the U.S. foreign tax credit.” Id. at 1, 11; see also id. at 17 (“the U.S. foreign tax credit limitationagreed (Appx83-86). would ordinarily prevent a credit against U.S. tax” in the absence of a re-sourcing rule, added by the protocol, “to treat part of the income as from French sources, increasing the recipient's foreign tax credit limitation, and thereby, as a practical matter, allowing French tax on the income to be credited against the individual's U.S. tax liability”); 1978 Protocol, T.I.A.S. No. 9500, §10, art. 23(3)(b) (providing that certain U.S.-source income “shall be considered as from sources within France”).

The re-sourcing rule introduced by the 1978 Protocol to treat U.S.-source income as foreign source so that it would fit within the U.S. statutory foreign tax credit limitation was heralded as a breakthrough in U.S. tax treaty law. Stephanie H. Simonard, Newly Revised Income Tax Treaty with France: A Breakthrough in U.S. Tax Treaty Law, 2 Nw. J. Int'l L. & Bus. 455, 457-59, 468 (1980) (reproduced at Add135-156).

b. Subparagraph (b)(i)'s ordering rule

Article 24(2)(b) today reflects the same approach in addressing the situation of an individual who is both a resident of France and a U.S. citizen. In that situation, the United States has limited rights under the Treaty to tax certain items of the individual's U.S.-source income,⁸ France may tax the individual's worldwide income based on hisresidence in France, and the United States may likewise tax the individual's worldwide income based on his U.S. citizenship.⁹ Given the countries' competing rights of taxation, subparagraph (b)(i) (colloquially called the “three-bite rule”) lays out the order and priority of the foreign tax credits that must be allowed by both countries in this situation:

(i) the United States shall allow as a credit against the United States income tax the French income tax paid after the credit referred to in subparagraph (a)(iii) of paragraph [1]. . . .

As set forth in the yellow highlighted text, this ordering provision gives first priority to the United States' right under the Treaty to tax certain U.S.-source income, i.e., that described in subparagraph (a)(iii) of paragraph 1 (the “first bite”); and France must allow a credit for such tax against the French income tax that it imposes on the individual's worldwide income based on his residence in France (the “second bite”). As set forth in the green highlighted text, the United States must then allow a credit for the French income tax paid when it computes the residual U.S. tax imposed on worldwide income based on the individual's U.S. citizenship (the “third bite”). It is this latter credit against U.S. tax that the CFC erroneously held in this case is unrestricted by the limitations of the Internal Revenue Code.

c. Subparagraph (b)(ii)'s re-sourcing rule

Subparagraph (b)(ii) goes on to provide the re-sourcing rule that is critical to the proper interpretation of the credit referenced in subparagraph (b)(i). Subparagraph (b)(ii) says that the individual's U.S.-source income — both the portion that the United States may tax and the portion that France may tax under the Treaty — “shall be considered income from sources within France to the extent necessary to give effect to the provisions of subparagraph (b)(i).” This language reflects the signatory parties' shared understanding that, in order to “give effect to the provisions of subparagraph (b)(i),” which provide for the credit here in dispute, the individual's U.S.-source income must be “considered income from sources within France” — that is, foreign-source income.

Crucially, the only reason this re-sourcing rule would be necessary is if the drafters believed that the credit against U.S. income tax referenced in subparagraph (b)(i), on which the CFC relied, was in the first place subject to the Internal Revenue Code's source-based limitation in §904(a). Under §904(a), taxes paid to a foreign country on U.S.-source income cannot give rise to a foreign tax credit against U.S. tax. That is because §904(a) limits the foreign tax credit to the proportion of U.S. tax equal to the ratio of the taxpayer's foreign-source income to total income. See discussion supra pp. 5-7. Consequently, the contracting parties had to include a special re-sourcing rule in subparagraph (b)(ii) to treat the individual's U.S.-source income as foreign-source income “to the extent necessary to give effect to” the foreign tax credit against U.S. income tax that is described in subparagraph (b)(i). Had the drafters instead believed, as the CFC held, that Article 24(2)(b)(i) provided an independent credit unrestricted by the provisions and limitations of the Internal Revenue Code, then there would have been no reason for them to include subparagraph (b)(ii) in the Treaty because the source of the income would not have mattered for purposes of the credit.

The drafters' inclusion of the re-sourcing rule in subparagraph (b)(ii) shows — unmistakably — that the contracting parties understood that Article 24(2)(a)'s introductory language restricting the foreign tax credit “[i]n accordance with the provisions and subject to the limitations of the law of the United States” applied to the credit against U.S. income tax referenced in subparagraph (b)(i). Under this interpretation, Article 24(2)(a)'s introductory language — inserted at the very outset of paragraph 2 — establishes the context for what follows in the rest of paragraph 2, including for the credit referenced in subparagraph (b)(i). This conclusion is further reinforced by subparagraphs (c) and (d) of the original 1994 Treaty, which similarly provided re-sourcing rules that were necessary only if the drafters believed that subparagraph (a)'s introductory language applied to the specific situations addressed in those subparagraphs.¹⁰

In a nutshell, Article 24(2) sets forth the United States' obligation to relieve double taxation in the following manner. Subparagraph (a) sets forth the central rule for doing so by allowing a foreign tax credit subject to “the provisions and limitations of” U.S. law for certain income taxes paid to France. Subparagraphs (b)-(d) describe special rules for each of three unique situations in which subparagraph (a)'s overarching rule continues to apply: the case of an individual who is both a resident of France and a U.S. citizen (subparagraph (b)); the case of an individual who is both a resident and citizen of the United States and a national of France (subparagraph (c), now deleted); and the case of a partnership of which an individual member is a resident of France (subparagraph (d)).¹¹ Subparagraphs (b)(ii), (c), and (d) all re-source income by treating U.S.-source income as if it were French-source income for purposes of determining relief via the foreign tax credit. These re-sourcing provisions make sense only if the drafters understood that subparagraph (a)'s introductory language applied throughout paragraph 2. None of these provisions can be read independently.

In a closely analogous case arising under the Panama Canal Treaty between the United States and Panama, the Supreme Court held that express limiting language in the first paragraph of a treaty article addressing taxation applied to the entire article. In O'Connor v. United States, 479 U.S. 27 (1986), U.S. citizen employees of the Panama Canal Commission and their spouses sought a refund of U.S. income taxes collected on salaries paid by the Commission. Id. at 28. Article III. of the treaty provided that the rights and legal status of U.S. government employees operating in Panama were governed by an “Agreement in Implementation” of Article III. Id. at 29. Article XV(1) of the Agreement provided an exemption “from payment in the Republic of Panama of all taxes . . . on their activities or property.” Id. at 29 (emphasis added). Article XV(2) provided that “United States citizen employees . . . shall be exempt” from any taxes on income from their work for the Commission, and Article XV(3) provided that “United States citizen employees . . . shall be exempt” from certain other taxes under certain conditions. Id. The CFC agreed with the petitioners in that case that Article XV(2) constituted an express exemption of their Commission salaries from both Panamanian and U.S. taxation. Id. at 30.

This Court reversed, and the Supreme Court affirmed this Court's decision. The Supreme Court held that Article XV(1), “which confers . . . an exemption 'from payment in the Republic of Panama of all taxes' . . ., establishes the context for the discussion of tax exemptions in the entire Article” such that the exemption language in Articles XV(2) and (3) “are understood to be dealing only with taxes payable in Panama.” 479 U.S. at 30. Although the Court found some “subtle” textual evidence in Article XV(3) limiting taxation to Panamanian taxes, it held that “the contextual case for limiting Article XV to Panamanian taxes” was “[m]ore persuasive than the textual evidence, and in our view overwhelmingly convincing.” Id. at 31. In reference to the language in paragraphs (2) and (3) that “United States citizen employees . . . shall be exempt” from taxes, the Court explained that “[u]nless one posits the ellipsis of failing to repeat, in each section, §1's limitation to taxes 'in the Republic of Panama,' the Article takes on a meaning that is utterly implausible and has no foundation in the negotiations leading to the Agreement.” Id. at 31. The Supreme Court held that petitioners' reading of Article XV(2) was “unnatural” and would render other language in that article “superfluous,” and it rejected the “verbal distortions necessary to give plausible content” to petitioners' interpretation. Id. at 32-33.

Here, it is equally “implausible” to interpret Article 24(2)(b) of the Treaty to provide a foreign tax credit that is not “[i]n accordance with the provisions and subject to the limitations of the law of the United States” as set out in Article 24(2)(a). Again, there would be no reason for the drafters to re-source U.S.-source income as French-source income in subparagraph (b)(ii) unless they understood that the limitations of the Internal Revenue Code applied to the credit referenced in subparagraph (b)(i) and that §904(a) of the Code would defeat the intended credit in the absence of a special re-sourcing rule in the Treaty. The CFC's conclusion that Article 24(2)(b) provides a foreign tax credit that is unmoored from and unrestricted by the Internal Revenue Code improperly renders the re-sourcing provision in subparagraph (b)(ii) entirely “superfluous.” See O'Connor, 479 U.S. at 32; Water Splash, 581 U.S. at 277-78.

The CFC acknowledged, but never addressed, the Government's argument that interpreting Article 24(2)(b) to allow an unrestricted foreign tax credit “would render meaningless the resourcing rule in subsection (2)(b)(ii), which is premised on the application of the foreign-tax-credit limitation in I.R.C. §904.” (Appx69.) The CFC instead said repeatedly that §904's limitation on foreign tax credits was not even relevant to the issues in this case. (Appx69-70, Appx25, Appx50 n.23.) As we have demonstrated, the CFC's failure to recognize and consider the clear implications of Article 24(2)(b)(ii)'s re-sourcing rule and its relation to §904's source-based limitation on foreign tax credits resulted in the CFC's erroneous interpretation.

2. The CFC's interpretation produces other anomalous results

In addition to rendering Article 24(2)(b)(ii) superfluous, the CFC's interpretation produces other anomalous results that are unprecedented in any other U.S. income tax treaty and that were not intended by the contracting parties.

As one egregious example, under the CFC's interpretation, a U.S. citizen residing in France can claim a double tax benefit by electing to exclude his “foreign earned income” from U.S. tax under I.R.C. §911(a), while at the same time claiming a foreign tax credit under Article 24(2)(b) of the Treaty for the amount of tax paid to France on that excluded income. In other words, not only does the taxpayer avoid paying any U.S. tax on his foreign earned income, as a result of the exclusion allowed under §911(a), but the taxpayer also gets a treaty-based credit for taxes paid to France on that excluded income — a credit the taxpayer can then use to offset U.S. tax imposed on his other income, including unrelated U.S.-source income. Such a windfall for the taxpayer at the expense of the U.S. Treasury is normally precluded by §911(d)(6), entitled “denial of double benefits,” which disallows a foreign tax credit that is “allocable to or chargeable against amounts excluded from gross income under subsection (a).” If, however, as the CFC held, the foreign tax credit in Article 24(2)(b) were not subject to the Code's limitations, then §911(d)(6)'s denial of double tax benefits would not apply, and taxpayers who are U.S. citizens residing in France would reap a windfall.

Another anomaly in the CFC's interpretation is that it would provide U.S. citizens residing in France with a far more generous foreign tax credit than would be available to U.S. citizens residing in the United States. U.S. citizens residing in the United States are subject to the Code's limitations in claiming a foreign tax credit under Article 24(2)(a), but U.S. citizens residing in France would not be subject to such limitations under Article 24(2)(b) if the CFC's ruling prevails. Thus, §904(a)'s source-based limitation, §904(d)'s rules preventing cross-crediting (see supra p. 7, footnote 2), and §911(d)(6)'s denial of double tax benefits, as just a few examples, would not apply to them. No evidence in the record suggests that the parties to the Treaty meant to give such preferential treatment to a subset of U.S. citizens.

Still, other, perhaps less consequential, issues that are dealt with by the Code would remain unanswered if the credit allowed by the Treaty were unmoored from the Code's provisions, such as the proper method for translating foreign taxes into U.S. dollars in determining the amount of the foreign tax credit that is normally governed by §986.

The CFC dismissed these concerns by noting simply that “[n]one of the scenarios . . . appear to be before this court based on the facts presented” in this case. (Appx69-70, Appx246.) But an interpretation of the Treaty that assumes the signatory parties intended all of these anomalies, or simply failed to account for them, is utterly implausible. And such an interpretation should be avoided regardless of whether the taxpayers in this case have chosen to take advantage of the windfall anomalies created by the CFC's decision. See Maximov v. United States, 373 U.S. 49, 55 (1963) (declining to read the United States' tax treaty with the United Kingdom “to accord unintended benefits inconsistent with its words and not compellingly indicated by its implications” and explaining that “[o]ur interpretation [of the treaty] affords every benefit negotiated for by the parties to the Convention on behalf of their respective residents and prevents an unintended tax windfall to a private party.”) Nothing in the Treaty suggests that the United States or France intended to undermine the highly articulated statutory framework in the Code on which the foreign tax credit is based, and no such intent should be inferred or imputed.

In sum, the text and context of Article 24(2) demonstrate that subparagraph (a)'s introductory language restricting the foreign tax credit “[i]n accordance with the provisions and subject to the limitations of the law of the United States” applies to the credit referenced in Article 24(2)(b)(i), on which the CFC relied. Consequently, the foreign tax credit referenced in Article 24(2)(b) cannot be applied against taxes imposed outside of Chapter 1 of the Internal Revenue Code, including the tax on net investment income imposed by I.R.C. §1411 in Chapter 2A, because the Code limits foreign tax credits to the taxes imposed in Chapter 1. See I.R.C. §§27, 901(a). The CFC's contrary decision was in error.

B. The U.S. Treasury Department's Technical Explanation of the Treaty supports the Government's interpretation

Other aids to treaty interpretation confirm the Government's textual interpretation of Article 24(2) set forth above. See GE Energy Power Conversion France SAS, Corp. v. Outokumpu Stainless USA, LLC, 140 S. Ct. 1637, 1645-46 (2020) (“Because a treaty ratified by the United States is an agreement among sovereign powers, we have also considered as aids to its interpretation the negotiation and drafting history of the treaty as well as the postratification understanding of signatory nations.”) (internal quotations omitted). In particular, as the agency charged with negotiating and drafting the Treaty, the U.S. Treasury Department prepared a Technical Explanation for the Senate prior to the Treaty's ratification.¹² (Appx323-381); see S. Exec. Rep. No. 104-7, at 35 (referring Senate members to the Technical Explanation for a detailed explanation of the proposed treaty). The Technical Explanation serves as “an official guide to the Convention” that “reflects the policies behind the particular Convention provisions, as well as understandings reached with respect to the application and interpretation of the Convention.” (Appx323.)

In discussing Article 24, the Technical Explanation says explicitly that the foreign tax credit authorized under Article 24(2) is determined by the provisions of the U.S. Code and that a special re-sourcing rule was included in subparagraph (b) so that the credit would fit within I.R.C. §904(a)'s source-based limitation:

The credits provided under the Convention are allowed in accordance with the provisions and subject to the limitations of U.S. law. . . . Thus, although the Convention provides for a foreign tax credit, the terms of the credit are determined by the provisions of the U.S. statutory credit at the time a credit is given. The limitations of U.S. law generally limit the credit against U.S. tax to the amount of U.S. tax due with respect to net foreign-source income within the relevant foreign tax credit limitation category (see Code section 904(a)). . . .

* * *

Subparagraph 1(b) [now 2(b)] also provides that certain U.S.-source income will be treated as French source income to permit the additional credit to fit within the foreign tax credit limitation of Code Section 904.

(Appx361) (emphases added). Again, the re-sourcing rule in Article 24(2)(b)(ii) would not have been necessary had the drafters believed that the credit referenced in subparagraph (b)(i) was free from the restrictions of the Internal Revenue Code, as the CFC held. Treasury's explanation confirms that the Government's textual interpretation of Article 24(2)(b) set forth above, including the applicability of Article 24(2)(a)'s introductory language, is in fact how the United States understood the agreement when the Treaty was executed.

Notably, the Government is not alone in this understanding of the re-sourcing provision's purpose, which is shared by legal commentators and practicing tax lawyers alike.¹³

The Supreme Court has repeatedly held that “the meaning attributed to treaty provisions by the Government agencies charged with their negotiation and enforcement is entitled to great weight.” Sumitomo Shoji Am., Inc. v. Avagliano, 457 U.S. 176, 184-85 (1982) (citing Kolovrat v. Oregon, 366 U.S. 187 (1961)); accord Abbott v. Abbott, 560 U.S. 1, 15 (2010) (noting the “well-established canon of deference” that “the Executive Branch's interpretation of a treaty 'is entitled to great weight'”) (internal quotation and citation omitted); Medellin v. Texas, 552 U.S. 491, 513 (2008) (same); United States v. Stuart, 489 U.S. 353, 369 (1989); see also Nat'l Westminster Bank, PLC v. United States, 512 F.3d 1347, 1358 (Fed. Cir. 2008); Xilinx, Inc. v. Commissioner, 598 F.3d 1191, 1196-97 (9th Cir. 2010) (“A tax treaty is negotiated by the United States with the active participation of the Treasury. The Treasury's reading of the treaty is 'entitled to great weight.'”) (quoting Stuart, 489 U.S. at 369).

In contravention of these authorities, the CFC declined to accord any deference to Treasury's Technical Explanation because the record did not include evidence that France agreed with, or did not object to, Treasury's interpretation. (Appx57-58.) But that is not the rule. The Supreme Court has not conditioned deference to the Executive branch's interpretation of a treaty on proof of the other contracting party's acquiescence or agreement. See Sumitomo, 457 U.S. at 184-85; Kolovrat, 366 U.S. at 194; Abbott, 560 U.S. at 15; Stuart, 489 U.S. at 369. Executive branch interpretations of a treaty are legitimate “aids to treaty interpretation” in themselves. Stuart, 489 U.S. at 369. The Supreme Court has given “great weight” to the Executive's views of a treaty even when presented in an amicus brief requested by the Court, long after a treaty was entered. See Sumitomo, 457 U.S. at 184-85 n.10; Kolovrat, 366 U.S. at 194; Abbott, 560 U.S. at 15; Medellin, 552 U.S. at 508, 513.

Further, a Technical Explanation is not merely an expression of the views of the Executive branch. Senate ratification documents, including the Technical Explanation at issue here, are presented to the Senate in connection with ratification and, as such, are legitimate aids to treaty interpretation. Medellin, 552 U.S. at 507, 509-10, 514; Stuart, 489 U.S. at 366-68. Here, the Senate Committee on Foreign Relations expressly relied on the Technical Explanation of the 1994 treaty throughout its Executive Report in which it recommended ratification of the treaty. See S. Exec. Rep. 104-7, at 35 (endorsing the “detailed article-by-article explanation of the proposed tax treaty” in the Technical Explanation); id. at 6, 9, 13, 19, 20 n.9, 34.

This Court has explained that interpretation of a tax treaty requires “'examin[ing] not only the language, but the entire context of [the] agreement'” — including Treasury's Technical Explanation submitted to the Senate as part of the ratification process. Nat'l Westminster, 512 F.3d at 1353 (quoting Great-West Life Asur. Co. v. United States, 678 F.2d 180, 183 (Ct. Cl 1982)). Indeed, other courts have properly looked to Treasury's Technical Explanations to aid in interpreting a tax treaty's (or related protocol's) provisions, the parties' understandings, and the negotiating or drafting history. See, e.g., Toulouse, 157 T.C. at 61; Mazurek v. United States, 271 F.3d 226, 233 (5th Cir. 2001) (holding that U.S. Competent Authority has broad discretion under U.S.-France tax treaty when considering an information request by France where “specific commentary and advice” in the Technical Explanation indicated that Treasury intended that approach and where Technical Explanation “does not restrict the plain meaning of the Treaty language in any way”); Attorney General of Canada v. R.J. Reynolds Tobacco Holdings, Inc., 268 F.3d 103, 121 (2d Cir. 2001) (concluding, based on its review of negotiators' understanding as reflected in Technical Explanation of 1995 Protocol to U.S.-Canada tax treaty, that the U.S. “carefully considered whether and to what extent extraterritorial tax enforcement was advisable” before entering the protocol); Rabassa v. United States, No. 23-12445, 2024 WL 1435103, at *3 (11th Cir. Apr. 3, 2024) (finding that the court's interpretation of U.S.-Spain tax treaty's exchange-of-information agreement to apply to taxpayers who are not residents of either the United States or Spain was “consistent with” Treasury's understanding set forth in Technical Explanation); Smith v. Commissioner of Internal Revenue, No. 5191-20, 2022 WL 3654871, at *5 n.11 (T.C. Aug. 25, 2022) (“We have found the Treasury Department's technical explanations of income tax treaties helpful in interpreting treaty provisions.”) (citing Adams Challenge (UK) Ltd. v. Commissioner, 154 T.C. 37, 66 (2020), and Garcia v. Commissioner, 140 T.C. 141, 160 (2013)). The CFC erred by failing to give any deference to the Technical Explanation.

As explained above, the drafters' inclusion of the re-sourcing rule in Article 24(2)(b)(ii) is itself clear evidence of the United States' and France's mutual understanding at the time that the credit described in subparagraph (b)(i) was subject to subparagraph (a)'s introductory language restricting the foreign tax credit allowed under the Treaty “in accordance with and subject to the provisions of” U.S. law, which includes I.R.C. §904(a)'s source-based limitation and the foreign tax credit's inapplicability to taxes imposed outside of Chapter 1 of the Internal Revenue Code. Treasury's Technical Explanation — upon which the Senate relied when ratifying the Treaty, see S. Exec. Rep. No. 104-7, at 35 — confirms that understanding. (Appx361.)

Indeed, the fact that Treasury's contemporaneous explanation aligns with a plain-language reading of the Treaty's text is compelling. In such situations, “it is particularly inappropriate for a court to sanction a deviation from the clear import of a solemn treaty,” as the CFC did here, “when, as here, there is no indication that application of the words of the treaty according to their obvious meaning effects a result inconsistent with the intent or expectations of its signatories.” Maximov, 373 U.S. at 54 (emphasis added); see also Sumitomo, 457 U.S. at 180 (“The clear import of treaty language controls unless application of the words of the treaty according to their obvious meaning effects a result inconsistent with the intent or expectations of its signatories.”) (emphasis added and internal quotation omitted). These authorities suggest that what is relevant is the absence of any evidence of an inconsistent understanding by France, not the lack of evidence that France agrees with or does not object to the United States' contemporaneous understanding of the treaty provision at issue, as the CFC held (Appx56-57).

To be sure, this Court has held that the Executive branch's position “merits less deference where an agency and another country disagree on the meaning of a treaty” and when “Treasury's contemporaneous interpretation . . . conflict[s] with the contemporaneous intent of the Senate.” Nat'l Westminster, 512 F.3d at 1358 (quotations and citations omitted). But neither concern is raised in this case, where there is no indication that France disagrees with the Government's position and where the Senate expressly relied on the Treasury's Technical Explanation during the ratification process.

Therefore, the CFC erred by failing to give any deference to the Technical Explanation, which confirms the Government's interpretation of Article 24(2)(b) is correct.

C. The Government's interpretation of Article 24(2)(b) is consistent with the Treaty's purposes

The Government's interpretation of Article 24(2)(b) is also consistent with the Treaty's purposes, while the CFC's interpretation is not.

The Treaty's title indicates dual purposes of “the avoidance of double taxation” and “the prevention of fiscal evasion” with respect to taxes on income and capital. Article 24's own heading further indicates that while the Treaty's aim was to provide “relief from double taxation,” the purpose was not to eliminate double taxation in every instance (see Article 24 (“Relief from Double Taxation”)). See Toulouse, 157 T.C. at 60 (stating that the U.S.-France tax treaty “provide[s] for general protection against double taxation,” but “do[es] not provide absolute protection”); id. at 61 (“There is nothing in . . . article 24(2)(a) of the U.S.-France Treaty . . . that entitles U.S. taxpayers to an elimination of all double taxation.”). Indeed, the Treaty expressly recognizes that the parties did not eliminate double taxation altogether. See Article 26(3) (flush language) (“They [i.e., the U.S. and French competent authorities] may also agree to eliminate double taxation in cases not provided for in the Convention.”).

For example, Article 24(2)(a) allows a foreign tax credit subject to the provisions and limitations of the Internal Revenue Code. Consequently, a U.S. citizen residing in the United States cannot claim a foreign tax credit in excess of §904(a)'s source-based limitation and will, therefore, be subject to double taxation to the extent that taxes paid to France exceed the limit. This situation could arise where income classified as U.S.-source under the Code is taxable by France under the Treaty, but for which no re-sourcing provision applies. See New York State Bar Association Tax Section, Report on Treaty Re-Sourcing Rules, Rep. No. 1313, at 26 (November 24, 2014) (see Add123). Similarly, Article 24(2)(a) does not allow a U.S. citizen residing in the United States a credit against the §1411 tax imposed outside of Chapter 1, with the result that such individual's net investment income will be subject to simultaneous taxes imposed by both France and the United States. See Toulouse, 157 T.C. at 60-61.

The Government interprets Article 24(2)(b) of the Treaty similarly with respect to the subset of U.S. citizens described in subparagraph (b) — i.e., those resident in France. Under the Government's interpretation, the credit allowed to U.S. citizens resident in France under Article 24(2)(b) is subject to Article 24(2)(a)'s introductory language restricting the credit just the same as is the credit allowed to U.S. citizens residing in the United States; therefore, it likewise may not eliminate double taxation in all circumstances. But interpreting the Treaty to achieve the same consistent result among U.S. citizens, whether they reside in France or in the United States, cannot be said to offend the purpose of the Treaty to provide general relief from double taxation.

Further, double taxation does not necessarily result from the disallowance of foreign tax credits against the tax imposed by §1411. The Code's remedy for double taxation includes generous foreign-tax-credit carryover and carryback rules that permit excess credits to be carried over and used to reduce regular U.S. income tax in eleven additional tax years. To the extent that foreign income tax on the investment income were to exceed the Chapter 1 income tax on the same income, the excess credits would be eligible under I.R.C. §904(c) to be carried back one year and forward ten years to reduce Chapter 1 taxes on other income in the carryover years. The generous foreign-tax-credit carryover rules provide further relief for any potential double taxation.

Finally, it bears noting that here, even without a treaty-based credit against the §1411 tax, the Christensens received substantial relief from double taxation. Their original return reported $478,702 in worldwide income in 2015, from which they claimed a foreign-earned income exclusion of $148,172, a deduction of $12,600, and an exemption of $16,400, thereby reducing their taxable income to $301,530. (Appx33-34.) On that taxable income of $301,530, the Christensens reported a U.S. income tax of $76,287 and an alternate minimum tax of $89, against which they claimed a foreign tax credit of $75,859, resulting in an income tax liability of $517 under Chapter 1 of the Code. (Appx34.) They also reported paying $4,115 in net investment income tax under Chapter 2A of the Code. (Id.) Taking the Chapter 1 and 2A tax liabilities together ($517 + $4,155, respectively), the Christensens reported a total tax liability of only $4,672 for 2015 on their original return — less than 1% of their total worldwide earnings. (Id.) The Code therefore provided them with substantial tax relief, requiring them to pay only a minor sum of tax in consideration for the privilege of their U.S. citizenship. This confirms that the U.S. statutory foreign-tax-credit provisions referenced in Article 24(2) are, by any reasonable measure, consistent with an objective of relieving double taxation.

Conversely, the CFC's interpretation of Article 24(2)(b) is inconsistent with the Treaty's additional purpose to prevent fiscal evasion of income tax. As explained supra pp. 34-35, the CFC's ruling permits U.S. citizens resident in France to reap a significant windfall by both excluding their foreign earned income from U.S. tax under §911 and simultaneously claiming a treaty-based credit against U.S. tax (imposed on other income) for the tax paid to France on the excluded income. That result is the essence of fiscal evasion of U.S. income tax, which the Treaty was designed to prevent. But the CFC's interpretation improperly allows it.

In sum, the text and context of Article 24(2)(b) demonstrate that the foreign tax credit referenced in subparagraph (b)(i), on which the CFC relied, is subject to subparagraph (a)'s language restricting the credit “[i]n accordance with the provisions and subject to the limitations of” U.S. law. That interpretation is confirmed by the U.S. Treasury Department's contemporaneous Technical Explanation explaining the Treaty's terms, and it is consistent with the Treaty's purposes. Therefore, the credit referenced in Article 24(2)(b) is subject to the provisions and limitations of the Internal Revenue Code and cannot be applied against taxes imposed outside of Chapter 1 of the Code, including the tax on net investment income imposed by I.R.C. §1411 in Chapter 2A. The CFC's invention of an independent, treaty-based foreign tax credit in Article 24(2)(b) that is not subject to the provisions or limitations of the Internal Revenue Code cannot withstand scrutiny.

CONCLUSION

The judgment of the Court of Federal Claims was erroneous and should be reversed, with instructions that the Christensens' complaint be dismissed.

Respectfully submitted,

DAVID A. HUBBERT
Deputy Assistant Attorney General

Kathleen E. Lyon
JACOB EARL CHRISTENSEN
(202) 307-0878
KATHLEEN E. LYON
(202) 307-6370
Attorneys
Tax Division
Department of Justice
Post Office Box 502
Washington, D.C. 20044

APRIL 22, 2024