Xerox Corp. v. U.S., 93-5094

Citation41 F.3d 647
Decision Date06 December 1994
Docket NumberNo. 93-5094,93-5094
Parties-7097, 94-2 USTC P 50,623 XEROX CORPORATION, Plaintiff-Appellant, v. The UNITED STATES, Defendant-Appellee.
CourtUnited States Courts of Appeals. United States Court of Appeals for the Federal Circuit

H. Stewart Dunn, Jr., Ivins, Phillips and Barker, Washington, DC, argued for plaintiff-appellant. With him on the brief were Michael F. Solomon and Claude B. Stansbury, of counsel.

Thomas J. Clark, Atty., Dept. of Justice, Washington, DC, argued for defendant-appellee. With him on the brief were Michael L. Paup, Acting Asst. Atty. Gen., Gary R. Allen and David English Carmack, Attys.

Before RICH, NEWMAN, and PLAGER, Circuit Judges.

PAULINE NEWMAN, Circuit Judge.

This tax appeal has its origins in the United Kingdom system of corporate and shareholder taxation that was adopted in the Finance Act of 1972. The ensuing changes of tax structure in the United Kingdom resulted in renegotiation of the tax treaty between the United Kingdom and the United States, in order to obtain for United States The issue is whether Xerox Corporation is entitled, by virtue of the tax treaty, to an indirect foreign tax credit for tax year 1974 for certain Advance Corporation Tax ("ACT") that was paid in the United Kingdom by its affiliated company Rank Xerox Ltd. ("RXL"), on dividends that RXL paid to Xerox Corporation in 1974.

shareholders the avoidance of double taxation on dividends. This benefit had been made available to United Kingdom shareholders through a method of "imputation," enacted in the 1972 law.

We conclude that the tax treaty and revenue code allow the tax credit to Xerox for the tax year in which the ACT was paid or accrued in the United Kingdom, whether or not the ACT was offset against mainstream corporation tax in the United Kingdom, or was otherwise used or surrendered by RXL in accordance with United Kingdom law.

BACKGROUND

Xerox, a New York corporation, owned directly and indirectly the majority of the voting shares of RXL, a corporation of the United Kingdom. RXL had various subsidiary companies in the United Kingdom, including Rank Xerox Management Limited, Rank Xerox U.K. Limited, and Rank Xerox Ireland Limited. In 1974, the tax year here at issue, RXL paid a dividend distribution to Xerox and paid the requisite ACT in the United Kingdom on the distribution.

A portion of that ACT was set off in 1974 against RXL's mainstream corporation tax in the United Kingdom, as permitted by British law; the foreign tax credit for that portion of the 1974 ACT is not in dispute. However, a portion of the ACT was not used to offset RXL's mainstream tax. In 1980 this unused ACT was surrendered by RXL to its United Kingdom subsidiaries, again as permitted by British law. The United States Internal Revenue Service ("IRS") then withdrew the foreign tax credit for this portion of the ACT, credit that had been allowed to Xerox in 1974, and required payment of the corresponding income tax on the dividends received by Xerox in 1974. Xerox paid the tax and brought suit for refund in the Claims Court. Recovery was denied. Xerox Corp. v. United States, 14 Cl.Ct. 455 (1988). 1 Final Judgment was entered on Nov. 5, 1992. Xerox states that it has been allowed no foreign tax credit for this ACT, and that the same profits have thereby been taxed twice.

A. The United Kingdom Finance Act of 1972

The system of corporate taxation that was instituted by the United Kingdom Finance Act of 1972 was designed, inter alia, to eliminate double taxation of the same profits, at both the corporate and shareholder levels. This was achieved by "imputation" to resident shareholders of the tax paid by the corporation on distributions to the shareholders. In accordance with the Finance Act of 1972 a United Kingdom corporation must pay 1) mainstream corporation tax, which is a tax on corporate income, and 2) advance corporation tax (ACT), a tax on any qualifying distribution to shareholders. Section 85 of the Finance Act of 1972 provides that ACT payments can be used by a United Kingdom corporation to offset its mainstream corporation tax (the "Section 85 offset"). However, the ACT must be paid by the United Kingdom corporation when the shareholder distribution is made, regardless of the corporation's mainstream tax liability or offset opportunity.

The ACT is payable whether or not the corporation has any profits. ACT is not refundable, whether or not it is used as a Section 85 offset by the United Kingdom corporation that paid the tax. 2 Unused Section 85 offset can be carried back to the two preceding taxable periods or carried forward indefinitely.

Section 92 of the Finance Act of 1972 permits the distributing corporation that paid the ACT to surrender, at any time, all or Section 86 of the Finance Act of 1972 provides that a United Kingdom resident shareholder is entitled to a tax credit for the ACT paid by the corporation. This is called the "Section 86 credit":

part of its Section 85 offset to a United Kingdom subsidiary that is 51% or more owned by the distributing corporation. The subsidiary can then use the surrendered offset against its own mainstream corporation tax. The right to carry forward or surrender Section 85 offset to subsidiaries is useful, for example, when the United Kingdom parent corporation has excess foreign tax credits, because those credits must be used in the year they are earned.

86(1) [Entitlement to Credit] Where a company resident in the United Kingdom makes a qualifying distribution after 5th April 1973 and the person receiving the distribution is another such company or a resident in the United Kingdom, not being a company, the recipient of the distribution shall be entitled to a tax credit under this section....

86(2) [Purpose and amount of tax credit] The tax credit in respect of a distribution shall be available for the purposes specified in the section and the subsequent provisions of this Act, and shall be equal to such proportion of the amount or value of the distribution as corresponds to the rate of advance corporation tax in force for the financial year in which the distribution is made.

In this way double taxation on dividends is alleviated for United Kingdom residents. The Section 86 credit can not be withdrawn or withheld by the United Kingdom tax authorities.

The resident shareholder receives the Section 86 credit when the dividend is received. However, the Finance Act of 1972 excluded non-resident shareholders from this benefit. In a document entitled Reform of Corporation Tax Presented to the Parliament by the Chancellor of the Exchequer by Command of her Majesty, April 1972, at p. 11 p 32, it was stated that one of the reasons for denying non-resident shareholders the Section 86 credit was to require tax treaty partners to renegotiate the treaty terms, whereby the British government hoped to obtain balancing concessions.

B. The Renegotiated Tax Treaty

On enactment of the Finance Act of 1972, the United States requested renegotiation of the existing tax treaty. The purpose was to obtain the benefit of the shareholder tax credit for United States investors who receive dividends from United Kingdom companies, thereby avoiding double taxation of the same profits. See S.Exec.Rep. No. 95-18, 95th Cong., 2nd Sess., 22-24, 32-37 (1978), reprinted in 1980-1 C.B. 411, 420-21, 426-29; Statement of Assistant Secretary of the Treasury Laurence N. Woodworth, July 19, 1977, before the Senate Foreign Relations Committee, id. at 86, 89-90, reprinted in 1980-1 C.B. at 433, 435-36.

The renegotiated tax treaty was signed on December 31, 1975, and amended by diplomatic notes on April 13, 1976, First Protocol of August 26, 1976, Second Protocol of March 31, 1977, and Third Protocol of March 15, 1979, together comprising the Convention Between the Government of the United States of America and the Government of the United Kingdom of Great Britain and Northern Ireland for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital Gains, 31 U.S.T. 5668 (hereinafter the "Treaty"), reprinted in 1980-81 C.B. at 394. As was explained to the Senate during the ratification proceedings, Articles 10 and 23 of the Treaty were "designed to resolve the problems presented by the interaction of the U.S. system of corporate taxation and the new hybrid system adopted by the United Kingdom in 1973 [the Finance Act of 1972] which in part integrates corporate and shareholder taxation." S.Exec.Rep. No. 95-18 at 4, reprinted in 1980-81 C.B. at 413.

Treaty Article 10 is retroactive only to April 6, 1975, and thus does not apply to the ACT paid on Xerox's 1974 dividends. However, it is a guide to the purpose of the Treaty and the intent of its terms. The relevant portion is Article 10--Dividends

* * * * * *

(2)(a) In the case of dividends paid by a corporation which is a resident of the United Kingdom:

(i) to a United States corporation which either alone or together with one or more associated corporations controls, directly or indirectly, at least 10 percent of the voting stock of the corporation which is a resident of the United Kingdom paying the dividend, the United States corporation shall be entitled to a payment from the United Kingdom of a tax credit equal to one half of the tax credit to which an individual resident in the United Kingdom would have been entitled had he received the dividend, subject to the deduction withheld from such payment and according to the laws of the United Kingdom of an amount not exceeding 5 per cent of the aggregate of the amount or value of the dividend and the amount of the tax credit paid to such corporation;

The tax credit in Article 10 is paid to the United States corporate shareholder for the tax period in which the ACT is paid or accrued by the United Kingdom corporation on the dividend distribution; that is, the period in which the United Kingdom shareholder would have received...

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