The expression « l’esprit du texte », the spirit of the text, is very appropriate. This is the beacon to be followed in all efforts of treaty interpretation. This is what is meant by interpretation in good faith.

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Diverging treaty texts and article II §2 (the lex fori rule).

The initial statement by the SAC that both the Swedish and the Spanish texts are authoritative for interpretation purposes is of course correct. The following conclusion, however, that, by reference to article II § 2 of the treaty – the so called lex fori rule – the Swedish text shall have precedence when the treaty is applied in Sweden but that in cases of uncertainty the Spanish text, too, shall be considered is not.  The reason herefor is that the lex fori rule is an instrument for determining the meaning of terms that have not been defined in the treaty which may lead to the adoption of the internal law meaning of the term of the country applying the treaty and this has nothing to do with the interpretation problems stemming from divergent language versions. This is a different problem that shall be resolved by application of the above cited rules in article 33 of the Vienna Convention. And, in contrast to the conclusion of the SAC,  the fundamental principle of article 33 and the starting point for its application is the equality of the texts, not that any of them shall take precedence. Nor, of course, does article 33 of the Vienna Convention refer to any internal law meaning of the term being interpreted.

However, one must also keep in mind that the problem facing the interpreter in this case is indeed  also to determine the meaning of an undefined term in the treaty, namely the term “income from a source”. The interpretation task of the case is thus twofold; a) to solve, according to article 33 of the Vienna Convention, the problem of the diverging language meanings and b) to determine, according to article II § 2 of the treaty the meaning of an undefined term.  It is, however, a difficult task to separate these two sets of rules because it is likely even if  not intentional that the different languages of the contracting state will tend to reflect also these states’ domestic law meanings. But the fact that the SAC has based its interpretation approach only on the lex fori rule of the treaty nourishes the suspicion that the Court has not contemplated article 33 of the Vienna Convention at all.

In the ‘dilemma’ arising from the fact that both the lex fori rule of the tax treaty and article 33 of the Vienna Convention on plurilingual treaties come into play in this case, it is also well worth citing again  Peter Germer when, winding up his article, he concludes that “ the problems of interpretation that are related to plurilingual treaties present no essential difference from the problems of interpretation that are raised by treaties which only have one authentic text. It is always the duty of the interpreter to look for the meaning which the parties intended to be attached to the terms of the treaty; the same principles of interpretation apply whether a divergence arises from the plurilingual form of a treaty or is found to exist between different provisions of a treaty established in only one language”.

The SAC itself, which will be further explored below, has also established, and very eloquently for that matter, that the overriding purpose of treaty interpretation is the determination of the intention of the contracting parties.  So, the question to be answered in this case is if it was it the intention of Sweden and Peru to exclude capital gains from the scope of article XVII § 2 or not.

The meaning of  “income” and “from a source”.

Article 33 first advises the interpreter to attempt to remove the differences of meaning in a plurilingual treaty by applying the general rule of interpretation in article 31 and then the supplementary means of interpretation in article 32.

The main conclusion of article 31 is that one should adopt the ordinary meaning of the pertinent treaty. The following will represent a discussion to analyse the SAC’s interpretation  of  “income from sources (in Peru)” from this standpoint. Article 31 also proclaims that the ordinary meaning shall be considered “in its context and in the light of its object and purpose”. This will be more closely considered in a later section of this analysis.

a) “Income”
 
In what seems to be an attempt to apply the ordinary meaning according to the Vienna Convention to the term “income” in a tax treaty the ARB, as mentioned above, had no problems in establishing that this term comprised also capital gains.

A first reaction to the ruling given by the SAC, that came to the opposite conclusion, is their statement that  “income from sources in Peru” in its Swedish language version is “not conclusive” for determining whether it comprises capital gains. Only in the light of the Spanish version is it made clear that this is not the case. A supporting factor in this regard according to the SAC is also that Peru, as evidenced from the taxes covered article, makes a distinction in its internal law between income (rentas) and gains (ganancias).

The statement by the SAC that the Swedish language version of the treaty regarding the scope of the term “income” does not conclusively answer the question  whether or not capital gains are included therein is quite surprising because it completely ignores the explicit wording to the contrary in the text itself of article 2 subparagraph 2 of the OECD Model Tax Convention (already in its version of 1963 which thus existed when this treaty was negotiated ) and  is extensively discussed both in its Commentaries and in international tax doctrine. And what is quite ironic is that this conclusion  by the OECD is something that actually springs also from the taxes covered article itself, i.e. the article to which the SAC refers for its reason leading to  its contrary conclusion! Or in other words; where, on the one hand, the conclusion by the SAC that the term “income” excludes capital gains takes its justification from a distinction in the nature of the Peruvian taxes enumerated in the taxes covered-article, the authors of the OECD Model treaty, on the other hand, with reference to that same article thoroughly dismiss this approach.

According to the wording of article 2 subparagraph 2 of the OECD Model Treaty“there shall be regarded as taxes on income…all taxes imposed on total income…or on elements of  income…including taxes on gains from the alienation of movable or immovable property (emphasis added), taxes on total amounts of wages or salaries paid by enterprises, as well as taxes on capital appreciation”.

Therefore, and regardless of their nature or description under the domestic laws of the contracting parties,  the taxes enumerated in and covered by article 2 shall, for the purposes of application of the treaty, always be considered as taxes on “income”.

Klaus Vogel on “Double Taxation Conventions” (Kluwer 1991) at page 89 also comes out very strongly on this point. He concludes that “the context of the distributive rules of Arts. 6 to 22 MC reveals all the items which, according to MC, may be subjected to income tax. MC consequently presupposes that despite all the differences in the details of various arrangements, there is at international level a basic common understanding of what ‘income’, the French term ‘revenue’ , and the German term ‘Einkommen’ mean….The positive definitions of the term ‘income’ in national income tax legislation usually are much narrower than the widest of all definitions of the term. But that does not prevent the corresponding taxes from being subsumed under the treaty term ‘taxes on income’. It is also irrelevant whether the tax rate is applied to ‘income’ or ‘receipts’ or ‘yield’ or ‘profit’ or to any other less sophisticated yardstick as long as the aim is to cover income in the afore-mentioned widest sense, or essential elements thereof. Income also includes, as stressed by MC, gains from the alienation of movable or immovable property”.

It is quite common, especially in countries such as Peru which, at the time of the conclusion of the treaty, had a schedular tax system, that capital gains taxes are separately taxed from other types of income. This is also echoed by the preliminary remarks (paragraph 3) of the commentaries to article 13 on capital gains in the OECD Model Treaty regarding the variety of capital gains taxes in the internal laws of treaty making states together with a direct reference to article 2. Thus, according to the OECD Model Treaty commentaries of article 13 “It is understood that the Article must apply to all kinds of taxes levied by a Contracting State on capital gains. The wording of Article 2 is large enough to achieve this aim and to include also special taxes on capital gains.”

The list of situations where the term “income” must be given this all-encompassing meaning is very long. For instance, the avoidance of double taxation article (number 23 of the OECD Model) speaks only of “income” and it would be absurd to suggest that it would not provide for tax relief with regard to a double taxation of capital gains. When interpreting the full term “income from sources” for the purpose of determining residence under the treaty as it appears in article 4 subparagraph 1 of all OECD Model-based treaties this term must of course also cover capital gains. In article XVII § 3 of the Sweden-Peru treaty allowing Sweden to impose its graduated rate of tax, the text also mentions only “ income….exempted under this Agreement were included in the amount of total income…”   No serious treaty interpreter would suggest that this (exemption with progression) article were not applicable to an exempted capital gain just because Peru  taxes such gains under a special domestic tax law separately itemized in article I of the treaty. Nor, of course, would anyone dream of proposing that the Sweden-Peru treaty has not taken effect with regard to capital gains just because the relevant article (number XXI) only mentions “income derived on or after 1 January of the calendar  year …. etc” Also, generally, tax treaties include an “other income” article (number 21 of the OECD Model Treaty) referring to income not previously mentioned in the treaty. Certainly such “income” must comprise also capital gains for interpretation purposes.

Moreover, the Peruvian capital gains tax mentioned in the treaty no longer exists. Instead, today, capital gains taxation is included in the general Peruvian income tax act (Ley del impuesto a la Renta). Considering in this context a) that tax treaties shall apply also to any identical or substantially similar taxes that are imposed after the date of signature of the treaty in addition to, or in place of, the existing taxes and b) that an ambulatory approach shall be adopted when interpreting the meaning of treaty terms, it would seem bizarre , in a situation like this, to suggest that the nature of an abolished tax regime shall be decisive for determining the meaning of treaty terms as they are understood today.

b) “From a source”

Many analysts exploring the question of the source of an income are inclined to get involved in quite theoretical and academic considerations of the meaning of this term usually cog-wheeled some way or the other to domestic rules or to general economic theory[7].

This, however, is immaterial when applying this term in a tax treaty where the determination of the source of the taxable items under the treaty is quite straightforward and based on principles recognised by the OECD Model Convention, see Klaus Vogel,  page 1017  of “Double Taxation Conventions” (Kluwer 1991). This principle, which sometimes - especially in treaties with Anglo-American States - is embodied directly in the treaty, e.g. article 22 subparagraph 4 of the Sweden-UK treaty, ordains that whenever an income or a gain may be taxed under the treaty by the contracting state that is not the state of residence of the tax payer, the income or gain is also considered to have its source or is deemed to arise in that (source) state. If the right to tax is assigned primarily to the state of residence this will be the determining  justification  herefor and the matter of the source of the income becomes  irrelevant (see above the dissenting ruling by Mr Virin in the ARB).

Consequently,  in this case,  as the gain shall be taxed only in Peru under article X and is derived by a person resident in Sweden this will mean that the gain for treaty purposes also shall be deemed to arise or have its source in  Peru. For this reason the conclusion reached by  Wingren and Brydolf  in their dissenting opinion (see above) that the gain was not sourced in Peru must be rejected.

The interpretation of the term “income from a source” in the (1968) tax treaty between Sweden and the UK has been discussed extensively in RÅ 1987 ref. 162, see further below,  regarding the subject to remittance rule of that treaty in its application to a case where a UK resident did not remit the gains of the sale of Swedish shares to the UK. In this treaty there was no divergence between the two languages of the treaty . Instead the interpretation issue focused on article 3 § 2, the lex fori rule, regarding the extent to which the domestic (Swedish) law meaning of the term “income from a source”, should be adopted .  In its investigation hereof the SAC, convinced that this represented the common intention of the contracting states, ironically enough came to the conclusion that the term  should be given the meaning it had under the laws of the other country, the UK, which did not comprise capital gains, not under the laws prevailing in Sweden that was the state applying the treaty.

As gleaned from the above analysis the term “income from a source” in whatever context it appears should be given the meaning it has neither under Swedish nor UK nor Peruvian nor any other domestic tax law for that matter. It should be given the ordinary and well established meaning it has under ‘tax treaty law’ or, more appropriately, under the principles that exist and the experiences that can be drawn from tax treaty application and interpretation in general and in harmony with the OECD Model Convention in particular. “Income from a source”, as just mentioned, is a common term that can be found in each and every tax treaty. And there are no devious minds plotting to limit its application!  On the contrary, and responding to the very first dictum of the  Vienna Convention’s interpretation rules that one shall interpret international agreements “in good faith”, this term, if nothing to the contrary has been explicitly and clearly  determined by the contracting parties, should be understood in its widest sense, serving to its fullest the purpose of preventing both double taxation and double non-taxation.

The meaning of “réditos de fuente” in the Spanish text of the treaty.

The bottom line conclusion of the SAC ruling is that the Spanish term “rédito” in article XVII § 2 has a more limited scope than “inkomst” (income) in Swedish applying, as it seems, only to  taxable items that generate a current income from invested capital such as a dividend but not to the situation where an investment is alienated. And this according to the SAC is made especially clear by the existence in Peruvian tax law of a separate  regime for taxing “rentas”  and another  for imposing tax on “ganancias”, both  itemized in the taxes covered article in the treaty. The treaty term “réditos de fuente” in article XVII § 2 can thus be applied  only to such taxable items that are taxed under the income tax law (“impuestos sobre la renta “) but not to taxable items taxed under a capital gains tax law such as “impuesto a las ganancias (de capital provenientes de la transferencia de immuebles)”. The ruling thus focuses its attention on a distinction between on the one hand the Spanish meaning of a “renta” as it appears in the Peruvian income tax law  and on the other hand “ganancias” in the capital gains tax law.

As already mentioned Peru, at the time of the conclusion of the treaty, had a schedular tax system leading to a structural separation of its income tax and capital gains tax acts. This, however, is something that follows from general tax policy considerations, prevalent in less developed economies , and not from any theoretical perceptions of any differences between the nature of these two taxable items.

Without claiming any definite authority of the finer nuances or distinctions of the Spanish language, a webb-search of the “Diccionario de Sinónimos y Antónimos” at www.wordreference.com indicates, however, that the Spanish terms “renta”, “ganancia” and “réditos” are all synonymes.  For instance, in the present Sweden-Argentina treaty the Argentine income tax act is called in Spanish not “impuesto sobre la renta” as in the Sweden-Peru treaty but “impuesto a las ganancias”.  Consequently, there seems to be no such firm  distinction linguistically or otherwise between  the term “rentas” and “ganancias” nor any absolute language barrier to prevent the application of  “réditos” to both of these terms as suggested by the SAC. Besides, according to contemporary economic theory as reported at the Swedish website  www.finansportalen.se, priding itself of having the best economic word-list in Sweden on the Internet, the term “avkastning” (réditos),  is defined as “Income resulting from an investment. With regard to (company) shares it can arise from either dividends or from an increase of the share value”.

Also, according to reports by Peruvian tax expertise the term “réditos”  comprises for tax purposes both (current) income derived from business activities and capital investments on the one hand but also, on the other hand capital gains derived from the alienation of an investment.

Therefor, even if the authentic text of the treaty had been in Spanish only, it is not self-evident that the term “réditos de fuente” should be given a meaning excluding capital gains.

In an attempt to reconcile the relationship between  the different Spanish terms of the taxable items of the treaty and in observance of the general meaning of the term “avkastning” proposed by the SAC as the proper translation of “rédito”, it is suggested that the ordinary meaning under article 31 of the Vienna Convention of the term “rédito de fuente” in its context and in the light of its object and purpose in article XVII § 2 (see below) can indeed be applied also to a capital gain on the sale of shares and thus consonant with the Swedish text “inkomst från inkomstkälla” (income from a source).

Also telling is the English translation of the Sweden-Peru treaty published by the much  respected International Bureau of Fiscal Documentation (IBFD) in the Netherlands. To no surprise (see also above), the IBFD´s version of article XVII §2 based on both the Swedish and the Spanish texts also reads  “income from sources” corresponding to the Swedish text. No attention has been paid to the Peruvian text. The IBDF’s choice of the term “income from sources” is probably due to the fact, as already noted above, that it is a very common and ordinary expression in tax treaties, but it could of course also be because they have found that the Spanish term does not constitute a linguistic divergence. The English translations made by the IBFD, which are the result of work which has been carried out after the publication of the authentic texts, are of course no part of the preparatory work of the treaty nor formally authoritative for interpretation purposes, but considering the authority and experience of the IBFD in these matters and that this organisation is completely independent and un-biased, their English texts should nevertheless not be ignored in cases where a divergence between the authentic texts arises.

Supplementary means of interpretation according to article 32  of the Vienna Convention.

The next step in the process of interpreting plurilingual treaties under article 33 of the Vienna Convention is to determine if and to what extent article 32 can be helpful in removing any perceived differences of the authentic texts.

According to this article recourse is to be had to supplementary means of interpretation, including the preparatory work of the treaty in order
a) to confirm the meaning resulting from the application of article 31 and or
b) to determine the meaning when the interpretation according to article 31 leaves the meaning ambiguous or obscure or leads to a result which is manifestly absurd or unreasonable.

The preparatory works of tax treaties are very few. However, the negotiation of these treaties made by Sweden are always conducted in English and will thus always result in an initialled draft in that language[8]. The Swedish Government Bill (prop. 1967:26) of the Sweden-Peru treaty explicitly mentions the existence of this initialled English version. This draft of the treaty is clearly a part of the preparatory work thereof  and one would imagine that every responsible interpreter, facing a plurilingual treaty with a divergence in its  authentic texts, would jump at the opportunity to examine such a third English text.  However, and very regretfully, this has been neglected by the SAC.

Upon request, and after some difficulties, the English initialled draft of the Sweden-Peru treaty was retrieved from the Swedish National Archives, (Riksarkivet).[9] It contains interesting information not only regarding the divergence between the two texts of article XVII § 2 but it also casts light, as shall be duly reported, on the negotiation process which is of  interest in general to the understanding of  the final text(s).

And how then does article XVII § 2 read in this English text drafted by the negotiating teams, invariably consisting of very experienced international tax specialists and high-ranking government officials of  the contracting states and initialled (page by page) by their chairmen?  Does it read something like “yield/proceeds/return or earnings from sources in Peru” supporting the Spanish version of excluding capital gains? Of course it does not. Such an expression does simply not exist in the normal tax treaty vocabulary. No, and to no surprise, the English text of article XVII § 2 in the draft reads “income from sources in Peru”. This, as already mentioned above, is the ordinary and established term that will be commonly found in almost all tax treaties. Consequently, if the SAC had attempted to confirm its interpretation by taking recourse to the preparatory work of the treaty and the circumstances of its conclusion according to article 32 of the Vienna Convention they would have found no support for their conclusion giving primacy to the Spanish text. Quite the opposite, the initialled draft clearly confirms that the ordinary meaning that should be given to the term “income fro sources in Peru” is that which follows from the Swedish text. Under all circumstances, the conclusion to be drawn herefrom is that there was a consensus between the negotiating parties at the time of the initialling of the draft treaty and that the common intention then was to give the subject to tax rule in article XVII § 2 as wide a scope as possible encompassing all taxable items that could potentially go untaxed altogether. 
 
The Sweden-Peru draft was initialled  upon the conclusion of the (face to face) negotiations which took place in Lima in early 1964. During the subsequent exchange of letters two material changes of the initialled text took place, one regarding article XVII § 2, the subject to tax article and the other regarding article X the capital gains article, i.e. both of the articles which are at the centre of our interpretation efforts . As shall be demonstrated, no effort was undertaken during this phase of the negotiations to limit the scope of article XVII, which, if it had occurred, would of course have been reflected in the Swedish text also.
 
A further point worth mentioning regarding the initialled draft  is that the Peruvian taxes to be covered by the treaty  in article I were not at all mentioned therein. This was left open for further consideration. Thus, when negotiating and initialling a tax treaty for the avoidance of double taxation  on “income” (renta) as determined in the title of the treaty, there was no reason to believe that, at this point in time, the subsequent inclusion of the Peruvian  capital gains tax (ganancias) was intended to give rise to any limitations of the scope of article XVII § 2.

The translation of a treaty  into its authentic texts is always carried out separately by the contracting states after a final agreement is reached in what in this case was the English text. As established above the initialled text of article XVII was  “income from sources in Peru” which comprises also capital gains. It is therefore obvious that the problem of the diverging authentic texts, as perceived by the SAC, must have its root in the translation work. The Swedes, accustomed to this term from many previous treaties and suspecting no problems herewith, translated the English text of article XVII § 2 into “inkomst från inkomstkällor i Peru”, which of course gives rise to no problems. The Peruvians translated the English text into “réditos de fuente en el Peru”. Hereafter, which is the standard procedure, the two texts are exchanged for mutual scrutiny. Thereupon in Sweden the texts were submitted to the Stockholm Administrative Court of Appeal who found no differences between the two texts.  One must have a very conspiratorial mind to suggest that either of the contracting states at this stage of the treaty making process were engaged in any purposive effort of giving “income from a source” any other (limited) meaning. Rather, if “réditos” is accepted as a linguistic limitation, one is tempted to suspect that it is nothing but an innocent and - most importantly - unintentional translation error which, possibly due to the fact that this was the very first tax treaty ever made by Peru, resulted from inexperience with tax treaty matters.[10] 

The preceding investigation of the original English version drawn up at the negotiations and the subsequent events of the treaty making process is a good  example of an application of the rules of article 32 in the Vienna Convention according to which, for interpretation purposes, “recourse may be had to the circumstances of the conclusion of the treaty.“ An investigation of this kind also corresponds to the SAC’s own recommendation for the procedure to be followed regarding the interpretation of undefined treaty terms according to the lex fori rule, that one shall examine “the circumstances of the introduction of the treaty and its historical context”, (see below). It gives a much deeper understanding of the intentions of the contracting states than that which follows from a superficial textual analysis of, in this case, a perceived divergence of the treaty texts.

Under article 32 of the Vienna Convention recourse to preparatory materials  shall  be had not only to confirm the meaning reached according to the interpretation rules in article 31 but also in order to  determine whether this meaning  (a) appears ambiguous or obscure; or (b) leads to a result which is manifestly absurd or unreasonable.

It is noteworthy, not to say surprising, that the authors of the Vienna Convention have found that also a careful and conscientious interpretation under article 31 can indeed lead to a result which is manifestly absurd or unreasonable. The term “manifestly” even seems to imply a kind of qualified level of absurdity or unreasonableness.

In his pre-Vienna Convention study from 1948, “International Law: A treatise”, Lassa Oppenheim also concluded that treaties must be interpreted in their “reasonable, in contradiction to their literal sense” and , he went on: “If, therefore, the meaning of a stipulation is ambiguous, the reasonable meaning is to be preferred to the unreasonable, the more reasonable to the less reasonable, the adequate meaning to the meaning not adequate for the purpose of the treaty, the consistent meaning to the meaning inconsistent with generally recognised principles of International Law and with previous treaty obligations towards third States.” A favourite example hereof, quoted also by many other scholars, was when France, in the interest of Great Britain and in compliance with article 9 of the Peace Treaty of Utrecht in 1713, demolished the harbour and all its fortifications at Dunkirk, but at the same time started to construct an even larger naval base at Mardyck just a couple of miles down the Channel coast! (Great Britain, however, successfully protested that France hereby was in breach of “the reasonable if not the literal sense of the Peace at Utrecht.”)

So article 32  instructs the interpreter to contemplate the result of his interpretation. The provision can therefore be considered a “warning bell” which, if it chimes, should spur him to reconsider his interpretation effort. It is up to each and everybody’s judgment to determine if the SAC ruling is “manifestly absurd or unreasonable” but it is definitely in clear violation of the object and purpose of article XVII § 2 of the Sweden-Peru treaty and it disregards the functional approach to the structural composition or design of tax treaties. This will be explored in the following sections.

The object and purpose of the treaty.

As earlier mentioned article 33 of the Vienna Convention advises the interpreter first to solve the problem of divergent treaty languages by applying the normal rules of interpretation under articles 31 and 32. An important element in this process according to article 31is to determine the ordinary meaning of the terms of the treaty in their context and “in the light of their object and purpose”. If this does not remove the divergence one should adopt the meaning, which best reconciles the texts with “the object and purpose of the treaty”.  Interesting to note is thus that the object and purpose of the treaty comes into play under both these procedures emphasising the importance of this element in treaty interpretation in general.

The fact that one should interpret the treaty “in the light of” its object and purpose further suggests that this should continuously remain ‘the backdrop’ to the interpretation process. The determination of the object and purpose is something which should therefore be done at the very start of the interpretation. If subsequently the final result of the interpretation is incompatible with the object and purpose of the provision under scrutiny then one must re-examine one’s interpretation and investigate if something has been overlooked. One must thus make sure that all the options indicated in subparagraph 2 of article 31 in the Vienna  Convention have been considered and ask oneself if, according to article 32, there are any supplementary means of interpretation that should be observed such as the preparatory works of the treaty or any other circumstances prevailing at the time of its conclusion.  

As can be gleaned directly from the SAC ruling, the purpose of the interpretation process is to establish the common intention of the contracting parties. It is suggested that this approach means the same thing as saying that one should interpret the treaty in accordance with its object and purpose. They both represent the two sides of the same coin. In his recent dissertation “Taxation of Cross-border partnerships” (page 41) Jesper Barenfeldt“ convincingly argues that “the object and purpose of a treaty is a reference to the intention of the parties and that the object and purpose of a treaty can hardly be anything but the intended purpose of the parties”.

The intention of the contracting parties thus represents ‘the holy grail’ of treaty interpretation and this shall be sought by faithful and  continuous adherence to the object and purpose of the treaty.

So what then is the object and purpose of the subject to tax provision in article XVII § 2 of the Sweden-Peru treaty? The answer hereto is perfectly clear; it is to prevent double non-taxation. It is a well-known  fact that tax treaties, especially when the exemption method for eliminating double taxation is used, bears a high risk of giving rise to double non-taxation when, for some reason, the income is not taxed in the source state and therefore it is common practise to include subject to tax provisions in such treaties.[11] Apart from the very special situations regarding tax sparing provisions (see further below) or in such a case which follows for instance from article 26 subparagraph 3 in the Nordic treaty[12] , states that conclude treaties for the avoidance of double taxation never have the intention to allow double non-taxation or complete tax exemption. At IFA’s congress in 2004 on double non-taxation professor Hugh Ault at OECD’s Centre for Tax Policy and Administration and one of the members on the discussion panel, reminded the delegates of the 1927 League of Nation report that every effort should be made not only to avoid double taxation but also to ensure that all income be taxed once, and only once. The starting point of every tax treaty making process is of course that there is a tax claim in at least one of the contracting states. This is always reflected in the taxes covered article. And there is no intention that this single tax claim shall be wiped out entirely by the treaty.  The only and quite self evident situation where double non-taxation is  normal is where neither of the contracting states has a tax claim under its domestic tax laws.

This attitude to double non-taxation is reflected also in the Swedish Government Bill introducing the Nordic Multilateral Tax Treaty to Parliament (see pages 91-94 of Riksskatteverkets publication of that treaty 2000) where the government in a long statement regarding its general views of treaty interpretation addresses also the topic of the purpose of the treaties: “Moreover, the lodestar for the interpretation of tax treaties shall be to respect the purpose thereof i.e. that double taxation is avoided and that tax evasion and double non-taxation is prevented. The starting point of the interpretation process is thus that if Sweden according to its domestic laws may impose taxation of certain income or property and has not explicitly given up its right to such taxation then (then that income and property) should be taxed in Sweden”.

Moreover, with regard particularly to double non-taxation, one should also take into account the very special situation that follows from making a treaty with a country like Peru, which at the time of the conclusion of the treaty, (like several other states in South America at the time), operated a territorial tax system, meaning that all foreign or third state sourced income earned by Peruvian residents was exempt from tax. This fact is also mentioned in the Government Bill of the treaty. Such a tax system has the effect that if one makes a tax treaty with the country in question without a subject to tax clause and simultaneously adopts the exemption method for eliminating double tax, all third state income will automatically go untaxed. Consequently, when making a treaty with a country with a territorial tax system, the risk of double non-taxation is especially high, requiring always the inclusion of a general subject to tax rule. Sweden, like most other states, has been very observant in this matter always – there is not a single exception hereto - including subject to tax rules in treaties with countries operating territorial tax systems.[13] (Since 1993 Peru has switched to the world wide tax liability system granting a credit for foreign taxes to avoid double taxation.)

In her presentation of the case to the SAC Ms Wetterfors analysed the object and purpose of the treaty in order to establish the intentions of the contracting parties. According to the title of the treaty, she declared, the purpose thereof was to avoid double taxation, simultaneously pointing out that the purpose of preventing  tax avoidance was missing in the title. She noted that this latter purpose was missing also in the titles of the treaties with Argentina, Brazil and the U.S (of 1965) but was included in the title of the 1956 treaty with South Africa. The purpose, she finally concluded, of articles X and XVII § 2 of the Sweden-Peru treaty was likewise to avoid double taxation. No reference, however, was made to the purpose of the latter article to prevent double non-taxation.

It is true that the title (and the preamble) of international treaties can be a useful instrument for establishing the object and purpose thereof . This however shall not be understood that all the various objectives of a treaty must be included in its title to be recognised. An interesting illustration hereof is the fact that the OECD Tax Treaty Model  has chosen to refrain completely from mentioning any of its purposes in its title, simply referring to its function as a “Tax Convention on Income and on Capital”. A comparison of the preamble of the Sweden-Peru treaty with other treaties concluded by Sweden is thus of  little importance.

The purpose of preventing double taxation with regard to the vast majority of cases where Peru indeed taxes the income has already been determined, in this case in article X. Article XVII § 2 on the other hand is to take care of those cases where the income is untaxed in Peru. Or, in other words, article XVII § 2 is not an article to prevent double taxation, it is an article to impose taxation once in order to prevent double non-taxation. Therefore it must be considered negligent not to recognise the importance of this specific subject to tax element of article XVII §2. One must search for the object and purpose of the treaty not only in its title or preamble but also, as far as possible, in the provisions themselves and only after having considered the whole of the treaty is it possible to determine the full scope of its objects and purposes.

Nevertheless, and already during the proceedings  in the ARB, and evidenced especially by a document from the applicant companies, a discussion arose from the suggestion that article XVII indeed was not a subject to tax rule at all! This idea was subsequently endorsed also by Ms Wetterfors who concluded that “article XVII is not a subject to tax article as claimed by the tax authorities but that the treaty is a pure exemption-treaty rendering it irrelevant whether Peru exercises its taxing rights or not”.

This point of view, however, was rejected already by the ARB by their conclusion that the wording of  article XVII was quite clear and that any other interpretation would render it quite meaningless. Or, quite simply; a rule that explicitly stipulates a subject to tax condition is also a subject to tax provision. The nature of article XVII as a subject to tax rule is also confirmed by the SAC ruling, proving at the same time that the Court were perfectly aware of the fact that the purpose of the provision is to prevent double non-taxation.  Thus, firstly, the Court determines that the right of tax is assigned to Sweden “if Peru does not exercise” its (primary) right to impose tax. Secondly, in the last phrase of their ruling,  the Court concludes “that it is immaterial whether or not the gains have been effectively taxed in Peru.”

The language of the SAC in both these statements  reveals, however, a somewhat careless or imprecise approach to this problem disclosing a serious misunderstanding of the different meanings of  the just mentioned expressions.  The question whether Peru has or has not “exercised” its right of tax or whether or not the gains have been “effectively taxed” (in Peru)  is something which is completely different from the condition in article XVII that the income be“subject to tax” (in Peru). The first two situations are relevant when there is a possibility  impose tax under the laws of the state in question but where this for some reason has in fact not been effectively exercised [14], whereas on the other hand the subject to tax condition indicates that , in the absence of legislation, there is no such right to tax (in this case in Peru)[15]. As mentioned, for the purposes of the ruling itself, it was assumed that no taxing rights existed under Peruvian law with regard to the pertinent gains. In the citation above of Ms Wetterfors’ statement that article XVII § 2 is not a subject to tax rule the same confusion of these different tax conditions is revealed. For further study of the just mentioned distinctions, see the extensive discussion hereon in both the national and general reports of the 2004 IFA congress,  Cahiers de Droit Fiscal International , Volume 89a on “Double non-taxation”.

Double non-taxation.

The problems regarding double non-taxation have been extensively discussed in the last couple of years by the international tax community. Thus, it was the main subject of the congress held in 2004  by the International Fiscal Association (Cahiers de Droit Fiscal International, volume 89 a (Kluwer)) and discussed too by this author in a recent article, see www.skatter.se.

In many situations it is difficult to establish the object and purpose of specific tax treaty provisions. This, in particular, is the case regarding the distributive rules of the treaty (under chapter III of the OECD Model Treaty) dealing with the different classes of income. This is due to the reciprocal nature of these rules where the final outcome of which country shall have primary taxing rights will depend on which country is the state of residence of the tax payer and which state is the state of source of the income. Or, in other words, these articles merely provide the technical framework for the avoidance of double taxation and it is not possible to determine any specific intention by the contracting states in these matters for interpretation purposes. [16]

But, with regard to a subject to tax rule, the purpose thereof, which has already been explained, is quite clear ; namely the prevention of double non-taxation. At first glance article XVII § 2, however, gives, as it seems, a strange message in that it establishes that the residence state shall give exemption from tax where the other state has primary and sole taxing rights explicitly noted already in each and every distributive rule! Thus, article X for instance has already established that capital gains shall be taxed only in the state where the asset in question was situated at the time of sale etc. In such a situation a further general rule determining a tax exemption in the residence state seems superfluous. Why then is this exemption method nevertheless repeated in article XVII?  There answer hereto is twofold: Firstly  article XVII provides the  further qualification for the exemption already mentioned in the foregoing articles namely the subject to tax condition. Article X is thus the article that determines the treatment of gains that are subject to tax in Peru covering what is probably the vast majority of cases, whereas article XVII § 2 takes care of the situation where the gain has not been subjected to tax in Peru. This qualification could of course technically have been included in each and every ‘income’ article but such a repetitive method would be linguistically awkward and represents a technique which is simply not used in tax treaties. Subject to tax rules are thus always placed at the end of the treaty text,  naturally referring to all the preceding distributive rules of the treaty.  Secondly , and this is explicitly mentioned in section A of the Swedish general directives of the treaty with Peru, article XVII § 2 serves the purpose of determining that the exemption method shall apply to income (and gains) that have not been previously mentioned in the preceding articles of the treaty, including third state income.

An important observation of the SAC ruling is that also Swedish resident individuals may benefit from its double non-taxation consequences. Considering the Swedish tax system in general and Sweden’s treaty policy in particular, the suggestion that this was the result of a deliberate intention by the Swedish negotiators represents a serious mistrust of their competence! Such a sacrifice of  Swedish domestic tax claims has simply never occurred in the history of Swedish tax treaties. Therefore, a suggestion that our treaty negotiators would be chasing around the world intentionally putting in double exemptions of this nature in our treaties is, in the words of the Vienna Convention, truly “manifestly absurd and unreasonable”. 

Moreover, if in fact such a deliberate aberration had been made from Swedish tax treaty policy it would definitely have been mentioned in the Government Bill requesting  Parliament approval of the treaty. Anything else would have constituted a serious breach of duty by the Swedish Government. 

Structure of article XVII of the Sweden-Peru treaty

It is also necessary to investigate closer the ‘structure’ or the ‘building blocks’ of article XVII § 2 to fully understand its scope. This, together with the “systematic approach and  the function of the article in question”, is something that the SAC itself, (see again below regarding RÅ 1987 ref.162), has repeatedly underlined in earlier tax treaty interpretation cases. And here, again, the initialled draft of the Sweden-Peru treaty  provides interesting information!

As explicitly declared in the opening subordinate clause of article XVII § 2  – “subject to the provisions in article VIII…”(Där icke bestämmelserna I artikel VIII annat föranleda…)  -  royalties are exempted from its scope. Untaxed royalties in Peru shall thus be exempted from tax also by Sweden and consequently enjoy double non-taxation. This is perfectly intentional and a consequence of a deliberate desire to encourage the transfer of  Swedish know-how to Peru. At first glance, however, it seems completely unnecessary and contradictory to exclude royalties from article XVII as this type of income, in contrast to all the other types of income, may in fact be taxed under article VIII by Sweden (as the state of residence of the licensor) In such a  situation where Sweden effectively imposes tax, a double non-taxation will of course never occur. But the above mentioned desire to encourage a transfer of technology to Peru is instead accommodated by the tax sparing provision in article VIII § 4.  The reason, however, for excluding royalties from the subject to tax rule is  perfectly logical! It is there to cover the situation where a royalty income is attributable to a permanent establishment in Peru. Such a permanent establishment is taxed only in Peru under article III § 2 and exempted from tax in Sweden. If then in such a situation, Peru, for whatever reason, would not tax a royalty attributable to a permanent establishment it would be subject to tax in Sweden under article XVII if the exception therein regarding royalties had not been included.  The double non-tax situation which will thus occur according to the subordinate clause of the text reflects the intention by Sweden also in this permanent establishment context to grant special tax relief  to Swedish licensing  investments into Peru comparable to the tax sparing provision provided under the second sentence of article VIII § 4.

Consequently it is quite clear that royalties are not caught by article XII §2 and intentionally so. But, in addition hereto – and this indeed is the most important but also the most mysterious conclusion of the SAC – by virtue of its understanding and interpretation of the Spanish text of the treaty regarding the term “rédito de fuente”  the treaty includes an additional type of income which intentionally shall enjoy double non-taxation, namely capital gains!  But, instead of openly mentioning capital gains in the subordinate clause together with royalties to be protected from the subject to tax condition in article XVII § 2, the treaty negotiators have – one is tempted to say – ‘hidden’ this in the Spanish text! Or in other words, there are two limitations of the subject to tax provision in article XVII § 2, one explicitly mentioned in the subordinate clause regarding royalties and the other one in the Spanish text of the treaty regarding capital gains.

Apart from representing, generally, a quite awkward way of framing the scope of a treaty provision, a further comparison between the structure of the initialled draft of article XVII  § 2 of the treaty and the final text serves to discredit the idea of such a ‘hidden agenda’ in article XVII. Thus, in the initialled (English) text of the draft treaty not only royalty income under article VIII, but also dividend and interest income in articles VI and VII were excluded from the scope of the subject to tax condition. The article therefore read; “Subject to the provisions of Articles VI-VIII…” The reason herefor was that the draft treaty gave  Sweden the primary right of tax to all of these types of income and would credit any withholding tax due in Peru. Sweden was willing also in these cases to provide tax sparings. In the final agreement, however, which must have been the result of the exchange of letters that took place after the negotiation rounds, only royalties remained subject to this credit treatment whereas dividends and interest payments switched to the exemption method making them taxable only in the source state just like all other types of income (except royalties). This turnaround of the primary right of tax to dividends and interest income evidenced in the final texts of articles VI and VII, of course, had the consequence that the reference in the subordinate clause of article XVII § 2 to these articles must be deleted.  This again supports the validity of the explanation given above that any limitation of the scope of article XVII is embedded not in any  fancy interpretation of the Spanish term ”rédito de fuente en el Peru” but is explicitly spelled out and finally determined in the article itself, in this case by the introductory expression “subject to the provisions of article VIII…etc”. Therefore, if Sweden and Peru would  have had the common intention of excluding also capital gains from the scope of article XVII, they would have said so directly in the text, just as they did in the initialled draft regarding dividends and interest income.[17] Any other suggestion in this regard, with all respect, is based on an inadequate understanding of the structure of tax treaties.

Also one should  take into consideration that capital gains quite generally represents a type of income which, depending on the circumstances,  frequently is tax free according to domestic legislation and therefore most likely to be completely exempted from tax if the other state gives up its taxing rights in the treaty.  Therefore, if the negotiators had intended to allow double non-taxation with regard to capital gains it can be expected that this would have been very clearly indicated in the subject to tax article. ‘Surreptitiously’ tucking it away in an ambiguous Spanish text does simply not make sense.

A further point worth mentioning regarding the structure of the treaty is to take account also of its “systematic approach” and its “introduction and historical context” (see below). Adopting this recommendation it is especially interesting to note also what happened to article X, the capital gains article, during the course of the negotiations: In the initialled draft of that article the sole right of tax was assigned  (in conformity with the OECD Model Convention) to the state of residence of the seller of the capital assets which in this case would have been Sweden. But in the final treaty (see above) this was changed completely giving the right of tax only to the state where the assets were situated, which in this case meant Peru. At first glance this of course constituted a major sacrifice of Sweden’s domestic tax claims regarding capital gains, but only if the gains were taxed by Peru. If, on the other hand Peru did not tax the gain, which, at the time of the conclusion of the treaty, Peru did not, Sweden would retain its right to tax if article XVII § 2 covered such gains. But as Sweden - according to the SAC’s understanding of the Spanish text of this article - also excluded capital gains from the scope of article XVII  § 2 then there would be, not only a complete loss of Swedish taxing rights but it would also give rise to double non-taxation. Or in other words; Sweden during the course of the negotiations went from full Swedish tax on capital gains in the draft to full double non-taxation in the final agreement  derived by all Swedish resident tax payers!! In this context one should also remember that Sweden in the mid sixties was run by a social democratic government which at this time was in the process of abandoning a rather lenient tax regime regarding gains on shares allowing a five year tax exemption period and going to a system where gains would be taxed regardless of the length of the holding period. The suggestion that such a government simultaneously would make a tax treaty resulting in full double exemption is of such absurdity that it indeed must be considered “manifest”.
 

Reconciliation of the texts.

The above discussion has constituted an attempt to establish the meaning of article XVII § 2 of the Sweden-Peru treaty by applying the standard rules of interpretation in articles 31 and 32 of the Vienna Convention which under article 33 subsection 4 is the first measure to adopt  for the interpretation of a plurilingual treaty when confronted with a divergence between the different language versions. If such an investigation does not remove this difference of meaning article 33 stipulates that one should adopt “the meaning which best reconciles the texts, having regard to the object and purpose of the treaty”.

In this context it is interesting to observe that the SAC’s interpretation excluding capital gains from the scope of article XVII § 2 favours a restrictive understanding of that article.  Hereby the Court have – consciously or not – put their finger on an aspect of the ‘reconciliation process’ recommended under article 33 that has in fact been much debated in international treaty jurisprudence. Moreover, in this regard the SAC can also find support for its restrictive approach, and indeed from one of the most authoritative sources of international law in the world, namely the Permanent Court of International Justice in the Hague!

This emerged in the famous statement concerning interpretation of plurilingual instruments regarding the Mavrommatis Palestine Concession case, ((1924) P.C.I.J., ser.A, No.2) where the Court,  in connection with its examination of article II of the Mandate for Palestine conferred on His Britannic Majesty on July 24, 1922, declared:

“The Court is of opinion that, where two versions possessing equal authority exist, one of which appears to have a wider bearing than the other, it is bound to adopt the more limited interpretation which can be made to harmonize with both versions and which, as far as it goes, is doubtless in accordance with the common intention of the Parties”.

The debate on restrictive or extensive interpretation of plurilingual treaties in general and the Mavrommatis case in particular was given a lot of attention in the run-up to the Vienna conference. The International Law Commission (ILC)[18] in its commentary to the draft of the Vienna Convention rejected the idea that this case had intended to lay down a general rule that the more limited interpretation, which can be made to harmonize with both texts is the one which must always be adopted. Restrictive interpretation was justified in the special circumstances of the case, and it could therefore, in the opinion of the ILC, not be considered to call for a general rule establishing a presumption in favour of restrictive interpretation in case of an ambiguity in  plurilingual texts. But the Commission found that the case gave strong support for the principle of reconciliation of the texts. The aforementioned Swedish Foreign office report from the Vienna conference and the views of  Peter Germer in his article cited above also echo the opinion that there should be no general preference for a restrictive interpretation when interpreting plurilingual treaties.

The original version of the reconciliation  proposal presented by the ILC to the Vienna Conference did not refer to the object and purpose of the treaty but only mentioned that “a meaning which as far as possible reconciles the texts should be adopted”. This was however criticised by the United States during the course of the first session of the Conference suggesting that it be replaced by the formula “a meaning  shall be adopted which is most consonant with the object and purpose of the treaty”. The delegate of the United States explained that the proposal of the  ILC raised difficulty because it was merely an invitation to effect some sort of compromise but without any indication of the basis for their compromise. He also stated that in many cases a reconciliation of the texts was impossible.[19] After referring the problem to the Drafting Committee of the Conference and in what seems a compromise between the ILC proposal and the objections raised against it at the Conference, the final text of the Convention now provides that that when a  comparison of the authentic texts discloses a difference of meaning which the application of the standard rules of interpretation does not remove, the meaning which best reconciles the texts, having regard to the object and purpose of the treaty, shall be adopted. The original suggestion by the ILC that a reconciliation shall be effected thus remains as well as the US proposal that the object and purpose of the treaty should be the primary basis for such a reconciliation.

The reconciliation  process proposed by article 33, attractive as it may seem, is nevertheless problematic in practical application because it suggests that both the contracting parties should make some kind of sacrifice which normally would lead to an interpretation in favour of a (third) meaning  of the agreement never considered nor intended when the treaty was made. However, an examination of case law in these matters does not support such an approach. In the final analysis, see for instance the above cited Wemhoff, Bosch or Mavrommatis cases,  one will find that the courts and tribunals have always concluded that where a divergence exists between the authentic texts one or the other of them must prevail.  It is not possible to accommodate both the texts. And the same applies in this case.  One must make up one’s mind either that the term “income from a source in Peru” does in fact include a capital gain or that it does not. There is no third alternative.  However, by ‘amplifying’ the reconciliation process, as article 33 recommends in its final outline,  to take into account the object and purpose of the text, a useful mechanism is provided  to establish the intentions of the contracting parties.
 
In the analysis left above regarding the Sweden-Peru treaty it is suggested that the standard rules of treaty interpretation under articles 31 and 32 do in fact resolve the problems relating, in their context, to the understanding of the meaning of the term “income from a source in Peru”. If nevertheless the subsequent conciliatory process advocated in subsection 4 of article 33 of the Vienna Convention must be adopted and considering the intended object and purpose of article XVII § 2 in the Sweden-Peru treaty it seems obvious that this article of the treaty should be interpreted in such a manner that it includes also such capital gains that have not been subject to tax in Peru.

TREATIES WITH LESS DEVELOPED COUNTRIES AND TAX SPARING.

Also discussed during the court proceedings was a suggestion that one reason for giving article XVII § 2 a meaning whereby also capital gains would enjoy double non-taxation – this seems especially have been the focus of the dissenting members of the ARB, Wingren and Brydolf - was that the treaty was made (by Sweden) with an economically less developed country and thus reflected a wish to give Peru an economical favour in the nature of a matching credit or matching exempt provision (or tax sparing which is the term used by the OECD in its commentaries to the Model Treaty) regarding capital gains.

In this regard it should , however, be noted that tax sparing rules in our treaties, just like subject to tax rules, are also very detailed and carefully chiselled out, generally because they are of an irregular nature and represent exceptions from normal treaty practise (based on model conventions). Also, tax sparing rules are normally granted only with regard to interest or royalties and sometimes dividends paid from profits derived from specific and itemized activities[20]. Moreover, they usually apply only for a limited time period, of which article VIII § 4 of this treaty is a good example, and are subject to re-negotiation.  Sometimes, but very seldom, tax sparing may also be granted for taxes on permanent establishment income. Never, however, has  Sweden ever agreed to any  tax sparings with regard to capital gains on the sale of shares.[21]

Also, generally, the favours granted under tax sparing policies by Sweden will be considered only with regard to situations where the other state has adopted specific tax incentive measures for foreign investors for the promotion of its economic development but not to such cases where, according to a general domestic tax policy, a certain income or in this case a capital gain is not taxed. In the unlikely event that a tax sparing would in fact be granted in the future for capital gains taxes on stock holdings it will definitely be very narrowly construed and very clearly spelled out in the treaty text!

ARTICLE  3.2. (of the OECD model) AND TREATY PROVISIONS APPLICABLE BY ONLY ONE OF THE CONTRACTING STATES.

As mentioned earlier (and see also below) undefined terms of tax treaties based on the OECD Model may, under special conditions, be interpreted in line with the domestic law meaning of the state that applies the treaty. The main and natural justification herefor is of course that tax treaties are so closely related to the domestic tax systems of the contracting states. This specific character of tax treaties is something which sets them apart from other types of treaties, which mainly have been adopted exactly because there are no internal rules of the kind that these treaties are intended to address. Trade and peace agreements for instance are good examples hereof.

Another feature of tax treaties which to a certain extent also sets them apart from ‘ordinary’ international agreements is their reciprocal nature calling usually for equal tax sacrifices depending as the case may be on which state in the given situation is the state of residence of the tax payer and which state is the state of source of the income. This principle of reciprocity also means that the terms of the treaty shall be similarly interpreted by both the contracting states all of which of course  is in the interest of avoiding double taxation and preventing double non-taxation.

Sometimes, however, and not so seldom will this be specially mentioned in the Swedish government bills set forth for parliamentary approval, the rules of tax treaties are of such a ‘unilateral’ nature that it is quite clear that they can be applied by only one of the states or have been introduced solely in the interest of only one of them. This for instance is quite common regarding the avoidance of double tax provision. Indeed, when the contracting states adopt different methods for avoiding double tax, this is of course absolutely necessary. These types of provisions which have been adopted for ‘unilateral’ use by only one of the contracting states will often be closely geared to this state’s domestic rules of the same nature and/or , as mentioned, adopted to support a special requirement of that state. Therefore it seems quite appropriate that in these specific cases a preference be given to the internal law of that state when interpreting  the treaty provisions in question. This indeed is something, (see below under concluding remarks), which dovetails the statement made by the Swedish government when explaining their attitude to tax treaty interpretation in general and their approach to the language problems in particular.

Subparagraphs 1 and 2 of article XVII of the Sweden-Peru treaty are good examples of a treaty texts that have been drawn up in such a manner that they are to be applied separately by the two states. Subparagraph 1 is thus to be invoked  only by Peru when income has not been subject to tax in Sweden and subparagraph 2 applies in the reverse situation only to Sweden.

As shall be further explored in the following section the SAC in its application of the lex fori article has  concluded that the overriding purpose of treaty interpretation when faced with a term or an expression that has not been specifically defined in the treaty is to determine the common intention of the contracting parties and that the primary approach is to take into account the context in which the pertinent term appears. In this approach all circumstances shall be explored. It is suggested that the above mentioned ‘unilateral’ nature of a treaty provision shall be considered in this respect as an important element in establishing the context in which the relevant term appears. The result hereof will then be, which is also in line with the underlying purpose of article 3.2., that one shall allow for an interpretation in accordance with the domestic law meaning of the state applying the treaty and a meaning that complies with the purpose and intentions of this specific state when framing the provision in question. In this case regarding the Sweden-Peru treaty such an approach would of course also lead to an interpretation of the term “income from a source” that would include capital gains.

IN DUBIO, PRO TAX PAYER OR PRO FISCUS?

In his dissertation on the taxation of  cross-border partnerships (Volume 9, Doctoral Series. International Bureau of Fiscal Documentation – Academic Council) Jesper Barenfeld brings to attention a quite novel idea regarding tax treaty interpretation, the main conclusion beeing that (page 35) “in cases where neither the treaty text nor any of the supplementary sources recognised under the Vienna Convention on The Law of Treaties give a clear answer, much speaks for interpreting a treaty according to the alternative most favourable to the tax payer. Such an approach supports the objective of protecting the individual’s rights against the state’s powers to levy taxes in unclear cases. It also advocates the important aim of avoiding international juridical double taxation”.

An interpretation along these lines is of course desirable because it, too, supports an approach in accordance with the object and purpose of the treaty. However, there are several reasons why, nevertheless, it should be applied with great caution. Firstly it is not recognised by the Vienna Convention, (although, as just mentioned an observance of the object and purpose criteria of articles 31 and 33 when interpreting a tax treaty will in itself strengthen the taxpayers situation). Secondly it doesn’t answer the question which of the contracting states that should make the sacrifice. The state of residence of the tax payer or the source of the income state.  A third and most important reason for rejecting a pro tax payer approach as a general principle in tax treaty interpretation is that these treaties, (also in contrast to most other types of  international agreements), provide a special provision enabling the taxpayer, if a court decision is disadvantageous to his interests and results from actions that are not in accordance with the treaty, to apply for a competent authority ruling of his case under the mutual agreement procedure of the treaty (article 25 of the OECD Model).

Consequently, and in contrast to the suggestion by Mr. Barenfeld, the court, when in doubt, should adopt the opposite approach in favour of ‘in dubio pro fiscus’. This is also in accordance with the conclusion made by the Swedish government in the Nordic tax treaty bill (1989/90:33, page 33) mentioned above , that if  Sweden may impose taxation under its domestic laws and has not explicitly given up this tax claim in a treaty, then it shall be taxed in Sweden. If this leads to double taxation it should be removed by competent authority resolution according to the mutual agreement procedure.

Also worth considering is that a tax treaty, despite its formal incorporation in domestic Swedish law according to our monistic principle of ratification of international agreements, remains an agreement between the two contracting states which does not confer upon the taxpayer any categorical or absolute entitlement in all cases to the benefits of the treaty. In fact, the very presence of the mutual agreement article actually reflects the understanding that the court procedure will not always be adequate for a resolution of the dispute and that this is the reason for giving the taxpayer a further instrument for a solution of his problem. Again, however, it must be remembered that not even the competent authorities are obliged to reach a solution that does away with the double taxation. Mr. Barenfeld also seeks support in the famous maxim originating in Roman (criminal) law “in dubio mitius” and refers also to the position taken by the European Commission on Human Rights in the Golder case determining that the interests of the individual should override the sovereignty of the State(s). It should be remembered, however, that this case addressed the question of the human rights of Mr. Golder whereas, in contrast, the protection from double taxation in a tax treaty, as much as it is desirable, does not rank as such a human right.

Mr. Barenfeld also points out, and quite appropriately, that his ‘pro taxpayer principle’ does not apply in situations where an interpretation would lead to a double exemption “as this is not a benefit that the tax payer has any reasons to expect” (page 34). In such cases it therefore seems especially well-suited to apply a pro fiscus principle considering also that a  pro taxpayer decision by the court allowing a double non-taxation naturally would never be brought by any (sober) tax payer to a competent authority procedure.

CASE RÅ 1987 ref. 162

This  case which has been referred to several times previously in this article is a landmark decision in tax treaty interpretation matters in Sweden regarding the (terminated) 1968 Sweden-UK treaty . It includes a statement that can be regarded as the ‘bible’ of tax treaty interpretation addressing the much debated understanding of the lex fori article, (number 3.2 of the OECD Model Treaty) which has been referred to above.  The text of this article in the  Sweden-Peru treaty reads (Article II § 2): “In the application of the provisions of this Agreement by one of the Contracting States any term or expression not otherwise defined shall, unless the context otherwise requires, have the meaning which it has under the laws of that  State relating to the taxes which are the subject of this Agreement”.

This is how the SAC interpreted the corresponding treaty provision in the 1987 case, (the full text of which was  included in the file of this case for consideration by both the ARB and the SAC):