Riggs Nat'l Corp. v. Comm'r

T.C. Memo. 2004-110

UNITED STATES TAX COURT

RIGGS NATIONAL CORPORATION & SUBSIDIARIES,
f.k.a. RIGGS NATIONAL BANK AND SUBSIDIARIES, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent*

Docket No. 24368-89. Filed May 3, 2004.

Joel V. Williamson, Thomas C. Durham, Gary S. Colton, Jr.,

Russell R. Young, Charles W. Hall, and Stephen M. Feldhaus, for

petitioner.

Theodore J. Kletnick and Courtney L. Shepardson, for

respondent.

*
This Supplemental Memorandum Findings of Fact and Opinion
supplements our Supplemental Memorandum Opinion in T.C. Memo.
2001-12, revd. and remanded 295 F.3d 16 (D.C. Cir. 2002), which
supplemented our Opinion in Riggs Natl. Corp. & Subs. v.
Commissioner, 107 T.C. 301 (1996), revd. and remanded 163 F.3d
1363 (D.C. Cir. 1999).
 - 2 -

SUPPLEMENTAL MEMORANDUM FINDINGS OF FACT AND OPINION

JACOBS, Judge: This case is before the Court on remand from

the U.S. Court of Appeals for the District of Columbia Circuit

for further consideration consistent with its opinion in Riggs

Natl. Corp. & Subs. v. Commissioner, 295 F.3d 16 (D.C. Cir. 2002)

(Riggs IV), revg. and remanding T.C. Memo. 2001-12 (Riggs III).

The sole issue to be decided on remand is whether, in

computing petitioner’s foreign tax credits under section 9011 for

1984 and 1985, Brazilian income taxes withheld by Banco Central

do Brasil (the Central Bank) must be reduced by the pecuniary

benefit (equal to 40 percent of those withheld Brazilian income

taxes) that the Central Bank received from 1984 through June 28,

1985.2

1
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure.
2
We have previously held that, in computing a U.S. lender’s
foreign tax credit, Brazilian taxes withheld and paid on behalf
of the lender must be reduced by the pecuniary benefit received
by the Brazilian borrower. Nissho Iwai Am. Corp. v.
Commissioner, 89 T.C. 765 (1987); Norwest Corp. v. Commissioner,
T.C. Memo. 1992-282, affd. 69 F.3d 1404 (8th Cir. 1995); First
Chicago Corp. v. Commissioner, T.C. Memo. 1991-44; Continental
Ill. Corp. v. Commissioner, T.C. Memo. 1988-318, affd. in part
and revd. in part 998 F.2d 513 (7th Cir. 1993), affd. per curiam
sub nom. Citizens & S. Corp. & Subs. v. Commissioner, 919 F.2d
1492 (11th Cir. 1990). In the cited cases, unlike here, the
withheld taxes were not paid, and the pecuniary benefit was not
received, by a tax-immune Brazilian governmental entity such as
the Central Bank.
 - 3 -

FINDINGS OF FACT

We incorporate herein the findings of fact set forth in

Riggs Natl. Corp. & Subs. v. Commissioner, 107 T.C. 301 (1996)

(Riggs I), revd. and remanded 163 F.3d 1363 (D.C. Cir. 1999)

(Riggs II), and Riggs III by this reference. We also incorporate

herein the stipulations and exhibits in Riggs I and Riggs III by

this reference. For ease of understanding, we repeat those facts

set forth in Riggs I and Riggs III which we deem necessary to

clarify the supplemental findings set forth herein and the

ensuing opinion involving the issue for decision.

In Brazil, the Central Bank performed a number of

governmental functions in conjunction with Banco do Brazil,

including the unified management and operation of Brazil’s

monetary and financial system under what was known as the caixa

unico system.3 From 1965 through 1986, Banco do Brazil had four

primary functions: (1) A commercial bank, (2) a monetary

authority, (3) management control and distribution of currency,

and (4) responsibility for bank clearing. Further, like the

Central Bank, Banco do Brazil functioned as: (1) A lender of last

resort to public-sector entities, (2) a development bank

responsible for various subsidized credit programs of the

Brazilian Government, and (3) a fiscal authority that managed the

3
Until the Central Bank was formed in 1965, Banco do Brazil
served as the country’s sole monetary authority.
 - 4 -

Brazilian Government’s budget. During the time relevant to this

case, Banco do Brazil was owned 51 percent by the Brazilian

Government and 49 percent by private shareholders.

During the years in issue, Banco do Brazil was the Brazilian

National Treasury’s agent for payment of taxes. The Central Bank

collected and paid over to Banco do Brazil, for the account of

the National Treasury, withholding taxes, export taxes, taxes on

financial operations, and social security taxes.

On its books, Banco do Brazil made entries reflecting the

following: (1) Transfers of Central Bank tax payments to Banco

do Brazil’s Banking Reserves Account at the Central Bank, (2)

collections of Federal Government tax receipts, and (3) deposits

of Federal Government revenues payable upon demand to the

National Treasury.

Brazil imposed restrictions on the receipt and exchange of

foreign currency. Law No. 4,131 (enacted on September 3, 1962,

and amended by Law No. 4,390 on August 29, 1964) established the

basic rules for foreign investments in Brazil and the remittances

of funds abroad with respect to such investments. Law No. 4,131

regulated and set conditions for loans made to a person or entity

residing or domiciled in Brazil by a person or entity residing or

domiciled abroad. By law, the Central Bank set the official

exchange rates and registered and approved all loans from foreign

lenders to Brazilian borrowers. Through the registration
 - 5 -

process, the Central Bank set the range of acceptable interest

rates and periodically established the minimum repayment terms of

loans. Once the Central Bank approved a loan, the foreign lender

remitted the proceeds in foreign currency to the Brazilian

borrower via a commercial bank in Brazil (the exchange bank).

The exchange bank converted the foreign currency into Brazilian

currency by means of an exchange contract, whereby the borrower

sold the foreign currency to the exchange bank in exchange for

Brazilian currency at the official exchange rate.

The Brazilian borrower received a Certificate of

Registration that enabled the borrower to effect payment of

interest and principal in the foreign currency in which the loan

was made. Remittances abroad required the recording of each

payment on a Certificate of Registration. The Certificate of

Registration had to be presented to the Central Bank for

approval. Before approving the payment of interest, the Central

Bank would verify that the amount of the interest payment

corresponded to the amount indicated on the Certificate of

Registration for that loan and that all required tax payments had

been made.

Brazilian law imposed a withholding tax on interest paid to

foreign lenders and prohibited remittance of an interest payment

to a foreign lender without proof of payment of the withholding

tax. Certain Brazilian commercial banks were authorized to
 - 6 -

collect the taxes so withheld (collecting banks). A collecting

bank was required to maintain an account for the Brazilian

Revenue Service (BRS). Taxes collected by the collecting bank

were deposited into the account of the BRS. Those amounts were

then transferred to Banco do Brazil.

Under Brazilian law, the borrower initiated payment of the

withholding tax by preparing four copies of a Documento de

Arrecadacao de Receitas Federais (DARF). The borrower submitted

the DARFs, along with the tax payment, to a collecting bank. The

collecting bank retained one copy of the DARF, returned to the

borrower two copies stamped to reflect the interest and tax

payments, and sent one copy to the BRS along with the taxes it

had collected.

The borrower paid the interest on the loans by purchasing

foreign currency at the official exchange rate, by means of an

exchange contract with the exchange bank handling the payment to

the lender. On each payment date, the borrower delivered a copy

of the DARF and the Certificate of Registration to the exchange

bank and instructed the bank to pay the interest. The exchange

bank then prepared an exchange contract that enabled the borrower

to purchase foreign currency to be paid to the foreign lender.

The exchange bank recorded the amount of interest and tax on the

Certificate of Registration and then submitted the certificate,

along with the exchange contract and the DARF, to the Central
 - 7 -

Bank for approval. Upon approval by the Central Bank, the

exchange bank tendered the foreign currency to the foreign lender

and returned to the Brazilian borrower the Certificate of

Registration (stamped to reflect the interest and tax payment), a

stamped copy of the DARF, and a copy of the exchange contract.

Most often, the collecting bank and the exchange bank were

one and the same. In that situation, the collection of the

withholding tax and payment to the foreign lender were transacted

simultaneously.

Many of the Brazilian companies that needed working capital

were unable to provide foreign lenders with adequate financial

information or proper guaranties to obtain a loan. As a result,

the Central Bank issued Resolution 63, which permitted certain

Brazilian banks (borrowing banks) to borrow funds from abroad for

the specific purpose of re-lending (repassing) the corresponding

borrowed funds in Brazilian currency to Brazilian companies

(repass borrowers). The loan between the foreign lender and the

borrowing bank (repass loan) was independent of the loan between

the borrowing bank and the repass borrower. The foreign lender

had no legal relationship with the repass borrower and normally

did not know the repass borrower’s identity.

Except for the term of the repass loan, Resolution 63

required all financial conditions between the borrowing bank and

the repass borrower to be the same as those between the foreign
 - 8 -

lender and the Brazilian bank. The charges paid by a repass

borrower to the borrowing bank were in the same proportion as the

charges paid by the borrowing bank to the foreign lender. If the

interest rate charged by the foreign lender to the Brazilian bank

was net of the Brazilian withholding tax, then the interest rate

payable by the repass borrower was net of the Brazilian

withholding tax.

Beginning in 1974, borrowing banks could deposit with the

Central Bank Resolution 63 funds not used in repass operations.

When such funds were so deposited, the Central Bank paid the

interest on the foreign loan; and if a net loan4 was involved, no

withholding tax was paid with respect to the Central Bank’s

interest payment.5

4
In a net loan, the borrower contractually agrees to pay
both the interest on the loan to the lender and any local (in
this case, Brazilian) tax that the lender incurs as a result of
the interest income. Under Brazilian law, when the Brazilian
borrower under a net loan assumes the burden of withholding tax,
the amount of interest remitted is considered net of tax and an
adjustment known as a "gross up" is required for purposes of
computing the withholding tax. This gross-up adjustment is
computed as follows:

grossed-up interest = net interest
1 - withholding tax rate
5
Art. 19 of the Brazilian Constitution prohibits the
Brazilian Government, States, and municipalities from taxing the
assets, income, and operations of public-sector entities,
including autarquias, like the Central Bank. The Brazilian
Supreme Court held that public-sector entities were not required
to pay withholding tax with respect to their net loan interest
remittances abroad, because they assumed the tax burden in such
(continued...)
 - 9 -

As a result of the historically high inflation in Brazil and

the periodic currency devaluations, the National Monetary Council

issued Resolution 432, which authorized borrowers of registered

foreign currency loans to hedge cruzeiros (intended to be used

for payments on the loans) against currency devaluations by

depositing foreign funds at the borrower’s Brazilian bank.

Pursuant to Resolution 432, the borrower would purchase the funds

to be deposited at its Brazilian bank at the official exchange

rate. The foreign funds remained on deposit until such time as

the borrower was required to make payment to the lender. The

foreign currency deposited at the borrower’s bank was then

transferred to the Central Bank which paid (2 days before the

date the borrower was required to make payment to the lender)

interest on the deposited funds at a rate equal to that payable

by the Brazilian borrower to the foreign lender (as set forth in

the Certificate of Registration). To the extent that interest was

paid to the foreign lender with funds deposited in the Central

Bank, the Brazilian borrower had no obligation to withhold income

taxes thereon.

5
(...continued)
cases and they were immune from taxation under the Brazilian
Constitution. The Brazilian Revenue Service specifically
authorized the Central Bank to waive the withholding of tax on
remittances abroad made by the Central Bank and/or other
public-sector entities that had assumed the tax burden (i.e.,
interest due on net loans).
 - 10 -

If the 432 program loan was a gross loan, the Central Bank

would pay the withholding tax due on the interest payable to the

foreign lender during the period the funds were deposited in the

Central Bank. If the 432 program loan was a net loan, the

Central Bank would pay no withholding tax with respect to the

interest payable to the foreign lender.

Some foreign lenders sought to have the Central Bank pay

withholding tax and issue them DARFs with respect to the Central

Bank’s 432 loan program net loan interest remittances, as this

would enable these foreign lenders to claim potential foreign tax

credits.6 Their efforts were unsuccessful, however, because the

Central Bank (a tax-immune governmental entity) was not required

to pay the withholding tax.

Decree-law 1,215, enacted May 4, 1972, gave the Brazilian

Minister of Finance discretion to grant a reimbursement or

reduction of, or exemption from, the withholding tax on interest.

Decree-law 1,351, enacted on October 24, 1974, as amended by

Decree-law 1,411, enacted July 31, 1975, authorized the National

Monetary Council to (1) reduce the income tax on interest,

commissions, and expenses remitted to persons resident or

6
Although, in the case of a net loan, the U.S. lender had to
pay U.S. income tax with respect to the additional interest
income resulting from the gross-up, the lender would receive a
foreign tax credit equal to the additional interest income that
would reduce the lender’s U.S. income tax liability dollar for
dollar.
 - 11 -

domiciled abroad or (2) grant pecuniary benefits to Brazilian

borrowers receiving loans in foreign currency.

Pursuant to that authority, borrowers taking out foreign

loans duly registered with the Central Bank were granted a

pecuniary benefit equal to 85 percent of the tax paid on the

interest, commissions, and expenses due on those loans.

Circular 266, issued by the Central Bank, set forth the

regulations governing the procedure for payment of the pecuniary

benefit:

(1) A DARF was to be used for the payment of the income tax

on interest paid on foreign currency loans;

(2) on the date of payment of the tax, the collecting

banking receiving the tax payment would, by means of a credit to

the borrower’s account, pay to the borrower the equivalent of 85

percent of the income tax;

(3) in the case of a Resolution 63 repass loan, on the date

of payment the borrowing bank would be obligated to transfer the

total value of the pecuniary benefit to the repass borrowers; and

(4) the collecting bank would debit the amount of the

pecuniary benefit to an account of the collecting bank entitled

“Pecuniary Benefit -- D.L. 1,411” (the pecuniary benefit

account), and on the same day as the payment of the tax to Banco

do Brazil the collecting bank would charge the pecuniary benefit

account against Banco do Brazil.
 - 12 -

The amount of the pecuniary benefit varied over the years.

From May 8, 1980, to July 27, 1985, the pecuniary benefit was 40

percent of the withheld tax. On June 28, 1985, it was reduced to

zero.

Brazil began experiencing problems in paying its foreign

debt in 1982. Petitioner was one of hundreds of banks involved

in the restructuring of Brazil’s foreign debt. As part of this

restructuring, the Central Bank served as the borrower under

certain restructuring debt loans it entered into with Brazil’s

foreign lenders. The Brazilian Government guaranteed the Central

Bank’s obligations to the foreign lenders under these

restructuring debt loans. All of these restructuring debt loans

were net loans (i.e, the Central Bank and the foreign lenders

agreed that all specified payments of principal and interest to

the foreign lenders, under the loan contracts, would be made net

of any applicable Brazilian taxes).

As relevant herein, the restructuring of Brazil’s foreign

debt was divided into three phases. The loans made to the

Central Bank under phase I and phase II were net loans that had

repayment terms of 7 to 9 years. In phase I and phase II,

certain funds lent to the Central Bank were to be re-lent by the

Central Bank to other Brazilian persons and companies. The phase

I and phase II loans provided that there would be an initial
 - 13 -

period of about 16 or 18 months during which funds could be re-

lent to other Brazilian persons and companies (the re-lending

period). Originally, the re-lending period was to end on June

30, 1985, but it was extended to March or April 1986.

On or about December 28, 1982, the head of the Central

Bank’s Department of Foreign Capital Fiscalization and

Registration (FIRCE) submitted a “consulta” or ruling request to

the BRS. FIRCE sought a ruling regarding the Central Bank’s

obligation to pay withholding taxes on interest paid on the

restructuring loans and its right to the attendant

subsidy/pecuniary benefit. In reviewing the ruling request, the

BRS formulated a theory that the Central Bank was required to pay

withholding tax on its restructuring debt interest remittances

during the re-lending periods because, until the expiration of

the applicable re-lending period, the loan funds were not

irrevocably committed to the Central Bank, and it, therefore, had

to pay withholding tax on behalf of future, unidentified

“borrowers-to-be” (the borrowers-to-be theory). The BRS

incorporated this borrowers-to-be theory into its draft ruling,

which ultimately became the final version of the ruling the BRS

issued to the Central Bank in March 1984.

By letter dated March 14, 1984, the Brazilian Finance

Minister forwarded the ruling by the BRS and his decision on the

ruling to the Central Bank’s president.
 - 14 -

The Finance Minister’s decision stated:

Case No.: Interested Party: CENTRAL BANK OF BRAZIL

DECISION: I agree fully with the conclusions of the
attached opinion of the * * * [BRS]. In view of item
13 of said opinion, I direct the Central Bank of Brazil
to implement the payment of income tax on or before the
last business day of the month following the month in
which the withholding is made.

Brasilia, March 14, 1984
/Ernane Galveas/ ERNANE GALVEAS Minister of Finance

The BRS ruling, which he enclosed to the Central Bank,

stated:

Federal Government Service Ministry of Finance * * *
[BRS]

OPINION

Income tax withheld on interest due to parties resident
or domiciled abroad * * * [FIRCE] of the Central Bank
of Brazil requests an opinion about the tax treatment
of Agreements * * * under which such government agency
(autarquia) is liable for the payments and remittances
pertaining to them, in the period of availability of
such funds for relending.

(2) By virtue of the special characteristics of these
transactions, the question arises as to whether there
is an incidence of income tax, in view of the
government agency’s (autarquia’s) assumption of the
burden, and if so whether,

(a) the DARFs may be issued in the name of the
agent bank centralizing each project, considering that
the large number of lenders makes it impractical to
complete one DARF for each of them;

(b) the tax rates established in the treaties
signed by Brazil to avoid double taxation may be
applied;

(c) the pecuniary benefit * * * applies;
 - 15 -

(d) it is possible to establish another period for
the payment of the tax, as from the date of remittance
of the interest to the foreign lenders, because of the
complex calculation of the interest and consequently of
the tax itself;

(e) it is possible, in space 31 of the DARF, to
indicate “Brazilian Financing Plan” as a reference,
given the absence of a Certificate of Registration for
these transactions;

(f) in the event that the income tax is paid late:

(f)(1) whether the Bank will nevertheless be
entitled to the above-mentioned pecuniary benefit;

(f)(2) whether it would be possible to waive
the monetary correction, delinquent interest and
penalty.

(3) Interest received by individuals or legal entities,
resident or domiciled abroad, from individuals or
entities resident or domiciled in Brazil, or received
from a permanent establishment located in Brazil, owned
by individuals or legal entities resident or domiciled
abroad, is subject to withholding tax at the rate of
25%, as provided for * * * [by law]. The contributor *
* * of this tax is an individual or legal entity,
resident or domiciled abroad, which has the legal
availability of the interest. Said tax must be
withheld at the time of payment or credit by the
interest paying source bearing in mind that the
contributor * * * individual or legal entity, resident
or domiciled abroad--does not file an income tax return
in Brazil. Said tax must be withheld even if the
paying source is a legal entity of public law with tax
immunity, because this is not a tax on the entity of
public law that has immunity but rather on parties
resident or domiciled abroad.

(4) It is obvious that, if the party resident or
domiciled abroad, the interest creditor, is immune or
exempt from this tax, on account of international
treaty or domestic legislation, the tax should not be
withheld. In the case of the interest paid by the
Central Bank * * *, there is an atypical situation. *
* * [The Central Bank] is a federal government agency
(autarquia) responsible, among other duties, for
 - 16 -

issuing currency, acting as depositary of the official
gold and foreign currency reserves, providing for the
placement of domestic and foreign loans, furthering the
normal function of the exchange market, acting as a
monetary policy instrument of the government and
exercising control over credit in all its forms.

(5) The financial transactions conducted by * * * [the
Central Bank] are, in general, conducted on behalf of
the Federal Union or in its interest. In loan
transactions, agreed upon with a net interest rate, the
financial burden of the tax is transferred to the
borrower. When the borrower assumes the tax burden,
what actually happens is a gross-up of the income of
the beneficiary lender. For this reason and in order
to calculate the gross income obtained, the law
determines that the basis of calculation of the
tax--the amount of interest--be grossed up. In this
way, the borrower pays the income tax to the Union on
behalf of the lender, ensuring the net rate promised to
the lender by means of the payment of a greater amount.

(6) Following the same reasoning, * * * it is possible
to deduct, as an expense of a legal entity, the amount
of tax incident on income tax paid to third parties,
when the legal entity contractually assumes the burden
as it is a supplemental expense and not a withholding
tax.

(7) Now, when * * * [the Central Bank] acts on behalf
of the interest of the Federal Union, in cases of
transactions agreed upon with net interest rates, it
could claim a reimbursement for the amount paid in the
form of income tax. In reality, * * * [the Central
Bank] would pay the tax to the Federal Union and the
Federal Union could return it to * * * [the Central
Bank]. Under this scenario, the payment of tax, as it
would be a simple accounting transaction, could be
waived.

(8) It should be noted that, as regards the possibility
mentioned-- loans of funds which must be relent to
borrowers in Brazil--said Bank must, in substitution of
the future not yet identified debtors of the tax, pay
the income tax on the interest paid during the period
in which the funds remained available for relending.
The fact is that, since the loan benefits persons which
have not yet been identified from whom the payment of
 - 17 -

withholding tax is stipulated law, * * * [the Central
Bank] must in practice perform these acts on behalf of
such persons.

(9) Considering, therefore, the peculiarity of the
relationship * * * the Central Bank/Federal Union and
the Central Bank/Final borrowers of the relent funds, I
believe that, as regards the funds that must be
released to those as yet unidentified borrowers in
Brazil, * * * [the Central Bank] must as a substitute
for such borrowers pay the income tax incident on the
interest from January 1, 1984 to the end of the period
of availability for such funds to be relent.

(10) On account of the foregoing, there are the
following consequences to the transactions in question:

(a) payment of withholding tax is due and the
calculation base should be adjusted * * * [i.e.,
grossed up];

(b) as there are innumerable lenders and income is
received through an agent bank which will then
distribute it, the DARF may be issued in the name of
the agent to simplify the payment;

(c) if there is a Convention to avoid double
income taxation signed with countries in which
beneficiaries are domiciled, the rates established in
the conventions shall be applied to that portion of the
income corresponding to each;

(d) once the tax has been made, the pecuniary
benefit established in * * * Decree-law No. 1351/74 is
applicable, with the wording given by * * * Decree-law
No. 1411/75;

(e) in completing the DARF, the code to be used is
code 0393 and, as no Certificate of Registration is
issued in these transactions, “Brazilian Financing
Plan” may be indicated in the appropriate space, as the
reference to the certificate is merely a control
requirement.

(11) As regards the delay in paying the tax not
withheld, if the taxable event occurs while the inquiry
is pending, the tax must be paid with monetary
correction and without penalties * * *.
 - 18 -

(12) As the term for payment of the tax is suspended,
as far as the taxable events occurring while the
inquiry is pending are concerned, as a consequence, the
pecuniary benefit will be applicable in relation to the
tax paid by the thirtieth day from the date of
knowledge of the decision.

(13) As far as the extension of the tax payment period
is concerned, this matter falls under the authority of
the Minister of Finance * * *.

For higher consideration.
Brasilia, /Eivany Antonio da Silva/ Assistant Secretary
of * * * [the BRS]

I agree with the above Opinion, which I approve. For
the consideration of the Minister of Finance. Brasilia,
/Luiz Romero Patury Accioly/ Acting Secretary of * * *
[the BRS]

The ruling issued to the Central Bank was a private ruling

that was given limited circulation.7

Beginning in 1984, the Central Bank issued DARFs to the

agent banks of the foreign lenders to whom it transmitted loan

payments, reflecting its withholding tax payments on

restructuring debt interest remittances during the re-lending

periods of the loans. From 1984 through 1988 the Central Bank

issued a total of 324 DARFs to these agent banks. The Central

Bank did not issue a separate DARF to each foreign lender

specifying the withholding tax that had been paid by the Central

Bank on each foreign lender’s behalf on the interest remittance.

Rather, each DARF covered the collective withholding tax the

7
The ruling was not made available to the public and was not
published in the Brazilian Government’s Official Gazette.
 - 19 -

Central Bank had paid on behalf of an entire group of foreign

lenders subject to a particular withholding tax rate (i.e., a

12.5-percent withholding tax rate, a 15-percent withholding tax

rate, or a 25-percent withholding tax rate).

The Central Bank sent to Morgan Bank (which served as the

agent bank of foreign lenders that included petitioner) group

DARFs reporting the aggregate withholding tax the Central Bank

had paid on behalf of that group of lenders. The Central Bank

enclosed with the DARFs supporting schedules setting forth with

respect to each foreign lender: (1) The net interest remitted,

(2) the grossed-up interest; (3) the withholding tax imposed, (4)

the 40-percent pecuniary benefit the Central Bank received, and

(5) the “60-percent balance of actual withholding tax paid”.

Notwithstanding that on June 28, 1985, the pecuniary benefit had

been reduced to zero, the Central Bank continued to report to the

foreign lenders that it received a pecuniary benefit equal to 40

percent of the withholding tax imposed on its post-June 28, 1985,

interest remittances to them.

The supporting schedules reported that the Central Bank

withheld and paid Brazilian income taxes of $166,415 for 1984 and

$181,272 for 1985 in connection with debt interest remittances to

petitioner. The supporting schedules reported that the Central

Bank received pecuniary benefits of $66,566 for 1984 and $72,509
 - 20 -

for 1985 before June 1985 with respect to those interest

remittances.

On its 1980 through 1986 income tax returns, petitioner

generally reported its interest income and withholding tax

payments with respect to its Brazilian loans on a cash basis.

Petitioner claimed a foreign tax credit and reported grossed-up

interest income. On its returns covering the period from 1980

through June 28, 1985, petitioner reduced the amount of foreign

tax credit it claimed in connection with its Brazilian loans by

an amount equal to the pecuniary benefit provided by the

Brazilian Government to Brazilian borrowers.

In its amended petition, petitioner asserted, among other

things, that the foreign tax credit for Brazilian taxes withheld

by the Central Bank otherwise allowable to it for 1980 through

1986 should not be reduced by the pecuniary benefit provided to

Brazilian borrowers.

OPINION

As relevant here, sections 901(b) and 903 permit a domestic

corporation to receive a tax credit in the amount of any income

tax, or any tax paid in lieu of a tax on income, that is paid or

accrued during the taxable year to a foreign country. A foreign

levy is a tax if it requires a compulsory payment pursuant to the

authority of a foreign country to levy taxes. Sec.

1.901-2(a)(2)(i), Income Tax Regs. Credit is not allowed,
 - 21 -

however, for an amount of tax paid by a taxpayer to a foreign

country that is used, directly or indirectly, by the foreign

country to provide a subsidy by any means to the taxpayer. Sec.

1.901-2(e)(3), Income Tax Regs.8

The purpose of the foreign tax credit is to protect against

the double taxation of foreign income. United States v. Goodyear

Tire & Rubber Co., 493 U.S. 132, 139 (1989); Am. Chicle Co. v.

United States, 316 U.S. 450, 451 (1942). As an exemption from

tax, the credit provisions of section 901 are to be strictly

construed. Inland Steel Co. v. United States, 230 Ct. Cl. 314,

677 F.2d 72, 79 (1982); Bank of Am. Natl. Trust & Sav.

Association v. United States, 61 T.C. 752, 762 (1974), affd.

without published opinion 538 F.2d 334 (9th Cir. 1976).

In Riggs I, we determined that the Central Bank was not

required, under Brazilian law, to pay withholding tax on its

interest remittances to petitioner and that the withholding tax

paid by the Central Bank was a noncompulsory payment, rather than

a tax. Thus, we concluded that petitioner was not “legally

liable” for the Central Bank’s withholding tax payments and held

8
The position set forth in the regulation regarding
subsidies has been codified in sec. 901(i), which is effective
for foreign taxes paid or accrued in taxable years beginning
after Dec. 31, 1986. Tax Reform Act of 1986, Pub. L. 99-514,
sec. 1204(a), 100 Stat. 2532; Nissho Iwai Am. Corp. v.
Commissioner, 89 T.C. at 777 n.17.
 - 22 -

that the withholding tax payments were not creditable to

petitioner.

On appeal, in Riggs II, the U.S. Court of Appeals for

District of Columbia Circuit concluded that petitioner was

legally liable for the withholding tax payments made by the

Central Bank because the March 1984 ruling constituted an order

by the Finance Minister, treated as an act of state, that the

Central Bank pay the withholding taxes. Riggs II, 163 F.3d at

1365-1369. The Court of Appeals remanded the case to us to

determine, among other things: (1) Whether the Central Bank in

fact paid withholding taxes on petitioner’s behalf; and if so,

(2) whether, in determining petitioner’s creditable amount, the

Brazilian withholding tax paid by the Central Bank must be

reduced by the amount of any pecuniary benefit that the Central

Bank may have received. Id. at 1369.

In Riggs III, we determined that petitioner had failed to

establish that the withholding taxes were paid by the Central

Bank as required under section 905(b). We questioned the

reliability of the schedules accompanying the DARFs and found

inexplicable the Central Bank’s reporting that it had received a

pecuniary benefit after June 28, 1985, the date on which the

pecuniary benefit was eliminated. Consequently, we held that

petitioner was not entitled to any credit for taxes purportedly

withheld by the Central Bank.
 - 23 -

On appeal, in Riggs IV, the Court of Appeals concluded that

the Brazilian taxes were withheld and paid by the Central Bank.

The Court of Appeals explained that the DARFs issued by the

Central Bank constituted official tax receipts of the Brazilian

Government and were entitled to a presumption of regularity. It

reasoned that respondent had failed to rely on clear and specific

evidence necessary to rebut this presumption of regularity

attaching to the DARFs. The Court of Appeals remanded the case

to us to decide whether, in determining petitioner’s creditable

amount under section 901, the withheld taxes paid by the Central

Bank should be reduced by any pecuniary benefit received by the

Central Bank. Riggs IV, 295 F.3d at 22.

We begin the task assigned to us in Riggs IV by reviewing

section 1.901-2, Income Tax Regs., which provides detailed

interpretations of the foreign tax credit provisions. Paragraphs

(a), (b), and (c) of section 1.901-2, Income Tax Regs., define an

income tax for purposes of section 901; paragraph (e) “contains

rules for determining the amount of tax paid by a person”; and

paragraph (f) “contains rules for determining by whom foreign tax

is paid.” Sec. 1.901-2(a)(1), Income Tax Regs.
 - 24 -

As effective for, and applicable to, 1984 and 1985, section

1.901-2(e)(3), Income Tax Regs.,9 provides the following rules

for determining the amount of tax paid by a person:

(e) Amount of income tax that is creditable.--

* * * * * * *

(3) Subsidies.--(i) General rule. An amount is
not an amount of income tax paid by a taxpayer to a
foreign country to the extent that–

(A) The amount is used, directly or indirectly, by
the country to provide a subsidy by any means (such as
through a refund or credit) to the taxpayer; and

(B) The subsidy is determined, directly or
indirectly, by reference to the amount of income tax,
or the base used to compute the income tax, imposed by
the country on the taxpayer;

(ii) Indirect subsidies. A foreign country is
considered to provide a subsidy to a taxpayer if the
country provides a subsidy to another person that–

(A) Owns or controls, directly or indirectly, the
taxpayer or is owned or controlled, directly or
indirectly, by the taxpayer or by the same persons that
own or control, directly or indirectly, the taxpayer,
or

(B) Engages in a transaction with the taxpayer,
but only if the subsidy received by such other person
is determined, directly or indirectly, by reference to
the amount of income tax, or the base used to compute
the income tax, imposed by the country on the taxpayer
with respect to such transaction.

9
For earlier years an identical provision was found in sec.
4.901-2(f)(3)(ii)(B), Temporary Income Tax Regs., 45 Fed. Reg.
75647 (Nov. 17, 1980). Although amended regulations under sec.
901(i) were issued in 1991, those regulations are not effective
for, or applicable to, petitioner’s 1984 and 1985 taxable years.
 - 25 -

(iii) Example. The provisions of this paragraph
(e)(3) may be illustrated by the following example:

Example. Country X imposes a 30-percent tax on
interest received by non-resident lenders from
borrowers who are residents of country X, and it is
established that this tax is a tax in lieu of an income
tax within the meaning of § 1.903-1(a). Country X
remits to resident borrowers an incentive payment for
engaging in foreign loans, which payment is an amount
equal to 20 percent of the interest paid to non-
resident lenders. Because the incentive payment is
based on such interest, it is determined by reference
to the base used to compute the tax in lieu of an
income tax that is imposed on the nonresident lender.
Under paragraph (e)(3)(ii)(B) of this section, the
incentive payment is considered a subsidy provided
indirectly to the nonresident lender since it is
provided to a person (the borrower) that engaged in a
business transaction with the lender and is based on
the amount of tax in lieu of an income tax that is
imposed on the lender with respect to the transaction.
Therefore, two-thirds (20 percent/30 percent) of the
amount withheld by a resident borrower from interest
payments to a non-resident lender is not tax in lieu of
an income tax that is paid by the lender under
paragraph (e)(3)(i) of this section and § 1.903-1(a).

The regulation deems the taxpayer to have been subsidized if

the country provides a subsidy to a person with whom the taxpayer

engages in a business transaction, provided the subsidy is

determined directly or indirectly by reference to the amount of

income tax, or to the base used to compute the income tax,

imposed by the country on the taxpayer with respect to the

transaction. The existence of an indirect subsidy does not

depend upon a finding that the U.S. taxpayer derived an actual

economic benefit; it is sufficient that another person who

engages in a transaction with the U.S. taxpayer has received a
 - 26 -

subsidy that was based on the amount of tax paid. Norwest Corp.

v. Commissioner, 69 F.3d 1404, 1409-1410 (8th Cir. 1995), affg.

T.C. Memo. 1992-282; Continental Ill. Corp. v. Commissioner, 998

F.2d 513, 519-520 (7th Cir. 1993), affg. in part and revg. in

part on another ground T.C. Memo. 1988-318; Riggs I, 107 T.C. at

362. This Court, the U.S. Court of Appeals for the Eighth

Circuit, and the U.S. Court of Appeals for the Seventh Circuit

have held that the regulation is valid and applies to the

Brazilian subsidy at issue here. Norwest Corp. v. Commissioner,

supra at 1408-1410; Continental Ill. Corp. v. Commissioner, supra

at 519-520; Nissho Iwai Am. Corp. v. Commissioner, 89 T.C. 765,

775-777 (1987). Brazil provides the subsidy to a Brazilian

borrower who engages in a business transaction (the loan) with

the U.S. taxpayer lender. The subsidy provided to the Brazilian

borrower is 40 percent of the tax imposed by Brazil on the U.S.

lender’s Brazilian income (the interest paid on the loan), and

thus, the subsidy is measured by that tax.

In Nissho Iwai Am. Corp. v. Commissioner, supra at 777, we

stated:

payment of the tax and receipt of the subsidy are in
lockstep. Commonsense dictates that payment of the tax
and receipt of the subsidy be viewed together in
determining the amount of foreign taxes creditable for
purposes of section 901. If we accept payment of the
Brazilian tax as one transaction and receipt of the
subsidy as another, we would ignore the true unity of
the transaction and elevate form over substance; this
we shall not do.
 - 27 -

In Riggs IV, 295 F.3d at 22, the Court of Appeals stated:

“As we understand the Brazilian tax system, a borrower paid the

entire amount of interest owed on a foreign debt and then later

received a credit equal to the amount of the pecuniary benefit.

Such a system necessitates two separate and independent

transactions.”

With due respect, we wish to clarify that the Brazilian

borrower paid the withholding tax and simultaneously received the

pecuniary benefit before paying the interest to the foreign

lender. The Brazilian borrower paid the interest by purchasing

foreign currency at the official exchange rate by means of an

exchange contract with the exchange bank handling the payment of

the interest to the lender. The borrower could not pay the

interest without a copy of the DARF evidencing the payment of

withheld tax. On each payment date, the borrower delivered a

copy of the DARF and the Certificate of Registration to the

exchange bank. The exchange bank then prepared an exchange

contract that enabled the borrower to purchase foreign currency

to be paid to the foreign lender. The exchange bank recorded the

amount of interest and tax on the Certificate of Registration and

submitted the certificate, along with the exchange contract and

DARF, to the Central Bank for approval. Before approving the

payment of interest, the Central Bank would verify that the

amount of the interest payment corresponded to the amount
 - 28 -

indicated on the Certificate of Registration for that loan and

verify that any required tax payments had been made. Upon

approval by the Central Bank, the exchange bank tendered the

foreign currency to the foreign lender and returned to the

Brazilian borrower the Certificate of Registration (stamped to

reflect the interest and tax payments), a stamped copy of the

DARF, and a copy of the exchange contract. Thus, the borrower

was required to pay the withholding tax before the interest owed

on a foreign debt could be paid.

At the time of payment of the withholding tax, the Brazilian

borrower automatically and immediately received a credit from the

tax collecting bank in the amount of the subsidy.

Mechanically, the tax-collecting bank credited the
account of the National Treasury for the entire tax due
and simultaneously debited (reduced) the account of the
National Treasury for the amount of the subsidy. The
effect of this accounting procedure was that the
National Treasury was credited only with the amount by
which the withholding tax exceeded the subsidy.

Nissho Iwai Am. Corp. v. Commissioner, supra at 770.

As explained by the U.S. Court of Appeals for the Eighth

Circuit in Norwest Corp. v. Commissioner, supra at 1409-1410:

The regulation reasonably views the payment of the
local tax and the receipt of the pecuniary benefit or
subsidy together in order to determine the amount of
foreign taxes creditable for purposes of 26 U.S.C. §
901. See Nissho, 89 T.C. at 777, (viewing payment of
tax and receipt of subsidy as “in lockstep”). This
interpretation is also consistent with the intent of
Congress to reduce international double taxation. * *
* [The taxpayer] can claim a foreign tax credit for the
amount of Brazilian taxes it paid, that is * * * the
 - 29 -

amount of the local tax reduced by the pecuniary
benefit or subsidy. * * * [The taxpayer] is not
subject to double taxation because the pecuniary
benefit or subsidy was not paid to the Brazilian
government. This is because the pecuniary benefit or
subsidy operated as a rebate * * * of the local tax, in
effect reducing the tax rate * * *. See Continental,
998 F.2d at 519.

* * * * * * *

The reduction in the local tax rate constituted an
indirect subsidy within the plain language of the
regulation: it is provided to the Brazilian borrower
that engaged in a business transaction with the
taxpayer and is calculated as a specific percentage of
the tax imposed on the payment to the taxpayer.

In Riggs I, we held that (1) the withholding taxes that non-

tax-immune Brazilian borrowers had paid from 1980 through 1986 on

their net loan interest remittances to petitioner were creditable

to petitioner, Riggs I, 107 T.C. at 338-340, and (2) in

determining petitioner’s creditable taxes, the withholding taxes

had to be reduced by the pecuniary benefit that the non-tax-

immune Brazilian borrowers received, id. at 361-363; see also

Norwest Corp. v. Commissioner, supra at 1407-1410; Continental

Ill. Corp. v. Commissioner, supra at 519-520; Nissho Iwai Am.

Corp. v. Commissioner, supra at 775-777. Petitioner did not

appeal the latter holding.

The courts have applied the subsidy provisions of section

1.901-2(e)(3), Income Tax Regs., to repass loans. In such cases,

“when the primary borrower made the interest payment to the

foreign lender, it received the subsidy which it was required to
 - 30 -

pass along to the repass borrowers by Brazilian law.” Norwest

Corp. v. Commissioner, 69 F.3d at 1410. Those repass loans “fell

within the letter as well as the spirit of the subsidy

regulation.” Continental Illinois Corp. v. Commissioner, 998

F.2d at 520; see also Norwest Corp. v. Commissioner, supra at

1410.

As a threshold matter, petitioner maintains that this Court

should find that the Central Bank did not receive any pecuniary

benefit from 1984 through September 28, 1985. According to

petitioner, in Riggs I, this Court found that the record does not

contain any evidence that the Central Bank received a pecuniary

benefit with respect to the tax that it withheld for interest

remittance to Riggs. Petitioner further argues that: (1) There

has been no new evidence submitted that would contradict this

Court’s prior finding, (2) the Court of Appeals did not reach,

and thus did not reverse, this Court’s factual finding that the

pecuniary benefit had not been paid, (3) the Court of Appeals

made no finding as to whether the pecuniary benefit actually had

been paid to the Central Bank, and (4) if there was no pecuniary

benefit paid to the Central Bank, there can be no subsidy.

Petitioner concludes that, unless this Court decides to reverse

its prior finding, petitioner is entitled to the full amount of

the foreign tax credit claimed.
 - 31 -

Petitioner points to Riggs I, 107 T.C. at 335, where we

said: “We are unable to ascertain * * * whether the Central Bank

received the pecuniary benefit based on those withholding tax

payments.” This sentence, however, is taken out of context; it

does not represent a prior factual finding of this Court that the

Central Bank from 1984 through September 28, 1985, received no

pecuniary benefit. The paragraph in our Riggs I findings

containing this sentence reads:

On the record presented in this case it is
impossible to determine what entries were made on the
respective books of the Central Bank and the National
Treasury to reflect the Central Bank’s payment of
withholding tax on the restructuring debt interest
remittances. We are unable to ascertain what, if any,
entries were made to determine: (1) Whether the
Central Bank was reimbursed by the National Treasury
for its withholding tax payments; or (2) whether the
Central Bank received the pecuniary benefit based on
those withholding tax payments. The Central Bank’s
ruling request raised these two matters, and the March
1984 Brazilian IRS ruling discussed the two
possibilities. [Id.; fn. ref. omitted.]

See also id. at 323 n.13, 361 n.47, 363. A virtually identical

paragraph appears in our Riggs III findings.

Contrary to petitioner’s argument, in Riggs I and Riggs III

we did not expressly find that the Central Bank did not receive a

pecuniary benefit with respect to those Brazilian taxes it

withheld and paid from 1984 through June 28, 1985. In Riggs I

and Riggs III, we did not reach, and did not have to decide, the

issue of whether the pecuniary benefit the Central Bank

reportedly received with respect to those Brazilian taxes must
 - 32 -

reduce petitioner’s foreign tax credits for those Brazilian

taxes. Indeed, in Riggs I, 107 T.C. at 363, we stated: “we need

not reach the issue of whether any pecuniary benefit the Central

Bank received represents an indirect subsidy for purposes of

section 1.901-2(e)(3)(ii), Income Tax Regs.”; we made a similar

statement in Riggs III.

Petitioner bears the burden of proof. On the basis of the

record herein, we conclude that petitioner has failed to

establish that the Central Bank during 1984 and 1985 did not in

fact receive a pecuniary benefit.

Until June 28, 1985, the pecuniary benefit provided to

Brazilian borrowers with foreign loans had been equal to 40

percent of the withheld Brazilian tax on their foreign loan

interest remittances. The March 1984 ruling specifically

provided that the pecuniary benefit applied to taxes withheld by

the Central Bank on behalf of the borrowers-to-be, and the

schedules attached to the DARFs issued by the Central Bank

reported that the Central Bank received a 40-percent pecuniary

benefit with respect to those Brazilian taxes withheld and paid

by the Central Bank from 1984 through June 28, 1985.10 Since the

10
In Riggs III, we gave no weight to the schedules because
they reported that the Central Bank continued to receive a
pecuniary benefit equal to 40 percent of the withholding tax
imposed on post-June 28, 1985, interest remittances. In Riggs
IV, 295 F.3d at 20-22, the Court of Appeals opined that, at best,
the schedules reflected clerical errors; at worst, they reflected
(continued...)
 - 33 -

DARFs, the official tax receipts, report only the aggregate

amount of tax paid for all lenders, it is the schedules

accompanying the DARFs upon which petitioner relies to establish

its portion of the withheld taxes, i.e., the amount of

withholding tax the Central Bank paid on interest remitted to

petitioner, $166,415 for 1984 and $181,272 for 1985, for which it

is seeking the foreign tax credit. The schedules established,

and consequently we find, that the Central Bank received

pecuniary benefits of $66,566 for 1984 and $72,509 for 1985.

Petitioner alternatively maintains that Amoco Corp. v.

Commissioner, 138 F.3d 1139 (7th Cir. 1998), affg. T.C. Memo.

1996-159, controls and is dispositive of the issue to be herein

resolved. Petitioner contends that the Central Bank is to be

considered part of the Brazilian Government. Petitioner asserts

that the transaction between petitioner and the Central Bank

complies with section 1.901-2(f)(2)(ii), Example (3), Income Tax

Regs., and is specifically exempted from the subsidy rules of

section 1.901-2(e)(3), Income Tax Regs. Accordingly, petitioner

posits that its 1984 and 1985 foreign tax credits for the

10
(...continued)
the receipt of an erroneous pecuniary benefit after June 28,
1985. Since the parties have reached an agreement as to
petitioner’s foreign tax credit for amounts withheld after June
28, 1985, we need not decide whether the Central Bank made a
clerical error or received an erroneous pecuniary benefit for
that period. We have no reason to question the accuracy of the
schedules with respect to the amount of the pecuniary benefit
received by the Central Bank on or before June 28, 1984.
 - 34 -

withholding taxes paid by the Central Bank should not be reduced

by the pecuniary benefit received by the Central Bank.

Respondent on the other hand contends that Amoco was wrongly

decided and should not be followed in this case. Specifically,

respondent argues that in Amoco this Court and the U.S. Court of

Appeals for the Seventh Circuit misapplied section 1.901-

2(f)(2)(ii), Example (3), Income Tax Regs., to exempt the

transaction involving a corporation owned by the Egyptian

Government and the U.S. taxpayer from the subsidy rules of

section 1.901-2(e)(3), Income Tax Regs.

Alternatively, respondent argues that this case is

distinguishable from Amoco. Respondent suggests that, consistent

with the borrowers-to-be theory used in the Brazilian Finance

Minister’s March 1984 ruling, the borrowers-to-be (on whose

behalf the ruling concluded the Central Bank must act in paying

the withholding tax), and not the Central Bank, were the

recipients of the pecuniary benefit the Central Bank received.

And respondent concludes such borrowers-to-be are private parties

who cannot be considered part of the Brazilian Government.

Because we agree that the facts in this case are

distinguishable from those in Amoco, it is not necessary for us

to reconsider the holding in that case.

Petitioner argues that the pecuniary benefit at issue here

was provided by the Brazilian Government to its own
 - 35 -

instrumentality, the Central Bank, and, thus, in accordance with

Amoco and section 1.901-2(f)(2)(ii), Example (3), Income Tax

Regs., the foreign tax credit should not be reduced.

Paragraph (f) of section 1.901-2, Income Tax Regs.,

“contains rules for determining by whom foreign tax is paid.”

Sec. 1.901-2(a)(1), Income Tax Regs. Section 1.901-2(f), Income

Tax Regs., provides in pertinent part:

(f) Taxpayer--(1) In general. The person by whom
tax is considered paid for purposes of sections 901 and
903 is the person on whom foreign law imposes legal
liability for such tax, even if another person (e.g., a
withholding agent) remits such tax. * * *

(2) Party undertaking tax obligation as part of
transaction--(i) In general. Tax is considered paid by
the taxpayer even if another party to a direct or
indirect transaction with the taxpayer agrees, as a
part of the transaction, to assume the taxpayer’s
foreign tax liability. The rules of the foregoing
sentence apply notwithstanding anything to the contrary
in paragraph (e)(3) of this section. See § 1.901-2A
for additional rules regarding dual capacity
taxpayers.[11]

(ii) Examples. The provisions of paragraphs
(f)(1) and (f)(2)(i) of this section may be illustrated
by the following examples:

Example (1). Under a loan agreement between A, a
resident of country X, and B, a United States person, A

11
A “dual capacity taxpayer” is a person who is subject to a
levy of a foreign state and who also, directly or indirectly,
receives a specific economic benefit from the state or an
instrumentality of the state. Sec. 1.901-2(a)(2)(ii)(A), Income
Tax Regs. Specific economic benefits are economic benefits that
foreign governments do not make available on substantially the
same terms to substantially all persons subject to the generally
imposed income tax, e.g., a concession to extract government-
owned petroleum. Sec. 1.901-2(a)(2)(ii)(B), Income Tax Regs.
 - 36 -

agrees to pay B a certain amount of interest net of any
tax that country X may impose on B with respect to its
interest income. Country X imposes a 10 percent tax on
the gross amount of interest income received by
nonresidents of country X from sources in country X,
and it is established that this tax is a tax in lieu of
an income tax within the meaning of § 1.903-1(a).
Under the law of country X this tax is imposed on the
nonresident recipient, and any resident of country X
that pays such interest to a nonresident is required to
withhold and pay over to country X 10 percent of the
amount of such interest, which is applied to offset the
recipient’s liability for the tax. Because legal
liability for the tax is imposed on the recipient of
such interest income, B is the taxpayer with respect to
the country X tax imposed on B’s interest income from
B’s loan to A. Accordingly, B’s interest income for
federal income tax purposes includes the amount of
country X tax that is imposed on B with respect to such
interest income and that is paid on B’s behalf by A
pursuant to the loan agreement, and, under paragraph
(f)(2)(i) of this section, such tax is considered for
purposes of section 903 to be paid by B.

Example (2). The facts are the same as in example
(1), except that in collecting and receiving the
interest B is acting as a nominee for, or agent of, C,
who is a United States person. Because C (not B) is
the beneficial owner of the interest, legal liability
for the tax is imposed on C, not B (C’s nominee or
agent). Thus, C is the taxpayer with respect to the
country X tax imposed on C’s interest income from C’s
loan to A. Accordingly, C’s interest income for
federal income tax purposes includes the amount of
country X tax that is imposed on C with respect to such
interest income and that is paid on C’s behalf by A
pursuant to the loan agreement. Under paragraph
(f)(2)(i) of this section, such tax is considered for
purposes of section 903 to be paid by C. No such tax
is considered paid by B.

Example (3). Country X imposes a tax called the
“country X income tax.” A, a United States person
engaged in construction activities in country X, is
subject to that tax. Country X has contracted with A
for A to construct a naval base. A is a dual capacity
taxpayer (as defined in paragraph (a)(2)(ii)(A) of this
section) and, in accordance with paragraphs (a)(1) and
 - 37 -

(c)(1) of § 1.901-2A, A has established that the
country X income tax as applied to dual capacity
persons and the country X income tax as applied to
persons other than dual capacity persons together
constitute a single levy. A has also established that
that levy is an income tax within the meaning of
paragraph (a)(1) of this section. Pursuant to the
terms of the contract, country X has agreed to assume
any country X tax liability that A may incur with
respect to A’s income from that contract. For federal
income tax purposes, A’s income from that contract
includes the amount of tax liability that is imposed by
country X on A with respect to its income from the
contract and that is assumed by country X; and for
purposes of section 901 the amount of such tax
liability assumed by country X is considered to be paid
by A. By reason of paragraph (f)(2)(i) of this
section, country X is not considered to provide a
subsidy, within the meaning of paragraph (e)(3) of this
section, to A.

Section 1.901-2(g)(2), Income Tax Regs., defines the term

“foreign country” as “any foreign state, any possession of the

United States, and any political subdivision of any foreign state

or of any possession of the United States.”

In Amoco Corp. v. Commissioner, T.C. Memo. 1996-159, an

affiliate of Amoco Corp. (Amoco Egypt) entered into an

arrangement with the Egyptian General Petroleum Corp. (EGPC).

Under the agreement, EGPC assumed and paid tax Amoco owed to the

Egyptian Government on its income. EGPC erroneously claimed a

credit against its Egyptian income taxes for the tax paid on

Amoco Egypt’s behalf. The expiration of the limitations period

barred the Egyptian Government from recovering the tax

erroneously claimed as a credit by EGPC. The Commissioner

asserted that the tax credit claimed by EGPC was an indirect
 - 38 -

subsidy to Amoco Egypt that reduced the amount of Amoco Egypt’s

creditable foreign tax payments.

This Court held, and the U.S. Court of Appeals for the

Seventh Circuit agreed, that Amoco Egypt’s foreign tax credit was

not to be reduced by EGPC’s tax credit, because the transaction

between Amoco Egypt and EGPC complied with the terms of section

1.901-2(f)(2)(ii), Example (3), Income Tax Regs., and, thus, was

specifically exempted from the subsidy rules of section 1.901-

2(e)(3), Income Tax Regs. In reaching this holding, we concluded

that, for purposes of applying section 1.901-2(f)(2)(ii), Example

(3), and (g)(2), Income Tax Regs., EGPC was to be considered part

of the Egyptian Government, notwithstanding that EGPC was a

separate legal entity under Egyptian law.12

The fact that a governmental instrumentality may be treated

as part of the government with respect to certain matters does

not necessarily mean that the instrumentality will be treated as

such in all circumstances. Compare Lebron v. Natl. R.R.

Passenger Corp., 513 U.S. 374 (1995), where the Supreme Court

held that the National Railroad Passenger Corporation, commonly

12
In affirming our decision, the U.S. Court of Appeals for
the Seventh Circuit specifically focused on “the twin facts that
EGPC is an instrumentality of the Egyptian government (though not
"the country" itself) and that it was the sole entity that
received the benefit of the (erroneous) tax credit.” Amoco v.
Commissioner, 138 F.3d 1139, 1148 (7th Cir. 1998), affg. T.C.
Memo. 1996-159. The Court of Appeals found it “clear that any
benefit to EGPC is a benefit to the government of Egypt, and vice
versa”. Id.
 - 39 -

known as Amtrak, was part of the Government for purposes of the

First Amendment to the U.S. Constitution, with Hrubec v. Natl.

R.R. Passenger Corp., 49 F.3d 1269 (7th Cir. 1995), where the

Court of Appeals held that employees of Amtrak are not “employees

of the United States” for purposes of punishing unauthorized

disclosures of an individual’s income tax return under section

7431. Generally, an instrumentality may be treated as part of

the government in circumstances where the instrumentality acts as

an agent on behalf of the sovereign. Transamerica Leasing, Inc.

v. La Republica de Venezuela, 200 F.3d 843, 847 (D.C. Cir. 2000).

In this case, although the Central Bank frequently acts on

behalf of the Brazilian Government, the Finance Minister’s ruling

indicates that, with respect to withholding taxes, there is “an

atypical situation” when interest is paid by the Central Bank

because the Central Bank is:

a federal government agency (autarquia) responsible,
among other duties, for issuing currency, acting as
depositary of the official gold and foreign currency
reserves, providing for the placement of domestic and
foreign loans, furthering the normal function of the
exchange market, acting as a monetary policy instrument
of the government and exercising control over credit in
all its forms.

The ruling recognizes that, although financial transactions

conducted by the Central Bank generally are conducted on behalf

of the Brazilian Government or in its interest, some transactions

are conducted by the Central Bank on behalf of private

individuals. Furthermore, the ruling makes clear that the
 - 40 -

Central Bank’s obligation to withhold taxes is determined by the

person upon whose behalf the Central Bank is conducting the

transaction. Specifically, when the Central Bank acts on behalf

of the interest of the Brazilian Government, it could claim a

reimbursement for the amount paid. In reality, the Central Bank

would pay the tax to the Brazilian Government and the Brazilian

Government could return it to the Central Bank. The ruling

concludes that, under that scenario, the payment of tax would be

a simple accounting transaction and could be waived. The ruling

notes, however, that, with respect to loans of funds that were to

be re-lent, the Central Bank was required to:

in substitution of the future not yet identified
debtors of the tax, pay the income tax on the interest
paid during the period in which the funds remained
available for relending. The fact is that, since the
loan benefits persons which have not yet been
identified from whom the payment of withholding tax is
stipulated law, * * * [the Central Bank] must in
practice perform these acts on behalf of such persons.

(9) Considering, therefore, the peculiarity of the
relationship * * * the Central Bank/Federal Union and
the Central Bank/Final borrowers of the relent funds, I
believe that, as regards the funds that must be
released to those as yet unidentified borrowers in
Brazil, * * * [the Central Bank] must as a substitute
for such borrowers pay the income tax incident on the
interest from January 1, 1984 to the end of the period
of availability for such funds to be relent. [Emphasis
supplied.]

The Finance Minister’s ruling makes clear that when the

Central Bank paid the withholding taxes, it was not acting on
 - 41 -

behalf of the Brazilian Government, but rather it was acting on

behalf of the borrowers-to-be.

As pointed out by the U.S. Court of Appeals for the District

of Columbia Circuit in Riggs II, 163 F.3d at 1366:

The Minister deemed it appropriate to “look through”
the Central Bank to those ultimate private
borrowers--so-called “borrowers-to-be”-- for purposes
of deciding the proper tax treatment of the loans. * *
* The Minister concluded that the “borrowers-to-be”
aspect of the loans compelled an analogy to the garden
variety private borrower situation * * *. [Emphasis
supplied.]

The Court of Appeals further stated: “The Minister’s order to the

Central Bank to withhold and pay the income tax on the interest

paid to the Bank goes beyond a mere interpretation of law. * * *

Such an order has been treated as an act of state.” Id. at 1367.

With respect to the pecuniary benefit, the Finance

Minister’s ruling holds that once the tax has been paid, the

pecuniary benefit is applicable in accordance with Brazilian law.

Under Brazilian law, borrowers were granted a pecuniary benefit

equal to a percentage of the withholding tax paid on the interest

due on net loans. In the case of repass loans, where the

borrower is a bank but the funds are re-lent to Brazilian

persons, the borrowing bank collects the tax from the repass

borrowers and is obligated to transfer the total value of the

pecuniary benefit to those repass borrowers. The Finance

Minister’s ruling treats the Central Bank as a borrowing bank in

a repass loan transaction. The Central Bank must pay the
 - 42 -

withholding tax on behalf of the borrowers-to-be, and we believe

it receives the pecuniary benefit on behalf of the borrowers-to-

be. Otherwise, if the receipt of the pecuniary benefit is

separated from the payment of tax, and the Central Bank is

entitled to receive the pecuniary benefit from the Brazilian

Government on behalf of the Brazilian Government, the Central

Bank could return it to the Brazilian Government. Thus, under

the rationale of the Finance Minister’s ruling, the payment of

the pecuniary benefit would be “a simple accounting transaction”

and “could be waived.”

Having concluded that the Central Bank did not receive the

pecuniary benefit as an agent of the Brazilian Government, but

rather on behalf of the borrowers-to-be, a finding of a subsidy

would not mean that the Brazil was subsidizing itself. Under the

facts of this case, we believe that it is proper to treat the

Central Bank as separate from the Brazilian Government and

therefore as “another person” for purposes of determining the

existence of a subsidy.

Since the Central Bank was acting on behalf of the

borrowers-to-be, rather than the Brazilian Government, the

instant case is closer to Example (1), than to Example (3), of

section 1.901-2(f)(2)(ii), Income Tax Regs. Both the payment of

the withholding tax and the Central Bank’s receipt of the subsidy

were inextricably linked to the transaction between petitioner
 - 43 -

and the Central Bank. Hence, the provisions of section

1.901-2(e)(3), Income Tax Regs., are applicable to the loans, and

the subsidies paid to the Central Bank on behalf of the

borrowers-to-be reduce petitioner’s foreign tax credit. To

conclude, we hold that petitioner’s potential foreign tax credits

for 1984 and 1985 for Brazilian taxes withheld by the Central

Bank are to be reduced by the pecuniary benefit the Central Bank

received with respect to those Brazilian taxes; i.e., petitioner

is entitled to a foreign tax credit of $99,849 ($166,415 -

$66,566) for 1984 and $108,763 ($181,272 - $72,509) for 1985 with

respect to the Brazilian withholding taxes.

To reflect the foregoing and concessions by the parties,

Decision will be entered

under Rule 155.