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D.C. Circuit: Tax Court Erred in Its Analysis of U.S.-France Totalization Agreement

(Parker Tax Publishing August 2016)

The D.C. Circuit Court reversed a Tax Court holding that certain French taxes paid by a couple were taxes covered by the U.S. - France Totalization Agreement and thus were not eligible for foreign tax credits. According to the D.C. Circuit, the totalization agreement must be interpreted in light of its full text and the shared expectations of the contracting governments and the Tax Court committed legal error by only analyzing the agreement in the context of U.S. law. Eshel v. Comm'r, 2016 PTC 291 (D.C. 2016).

In 1987, the United States and France entered into a social security totalization agreement. Totalization agreements permit workers who divide their careers among and pay taxes to multiple countries to combine periods of payment into different countries' social security systems to eventually become eligible to receive benefits under a signatory country's system. Workers' wages and self-employment income are generally exempt from U.S. social-security tax to the extent that they are subject to foreign social-security tax. However, taxes paid to a foreign country in accordance with a social security totalization agreement are not eligible for a foreign tax credit.

The U.S. - France totalization agreement identifies the laws of each country under which qualifying taxes may be paid. The covered U.S. laws include the Social Security Act and the Internal Revenue Code. The covered French laws include eight enumerated categories of French social security laws. The totalization agreement also covers taxes paid under "legislation which amends or supplements the laws specified."

Ory Eshel and his wife are dual United States and French citizens. In 2008 and 2009, they lived in France and Eshel earned a salary for services performed in France. The couple paid various French taxes, including (1) Contribution Sociale G(General Social Contribution or "CSG"), and (2) Contribution pour le Remboursement de la Dette Sociale (Contribution for the Repayment of Social Debt or "CRDS"). Both were enacted after the totalization agreement went into effect. Because Eshel worked for a non-American employer, he was not required to pay social security taxes to the United States.

As U.S. citizens, the Eshels were liable for U.S. income taxes for 2008 and 2009. They timely filed their federal income tax returns for both years, claiming foreign tax credits for French income tax, French unemployment tax, CSG, and CRDS. The CSG and CRDS credits amounted to approximately $19,000 for 2008 and $33,000 for 2009. The IRS initially denied the entire credit for both years, but later conceded that all of the claimed credits were valid except for CSG and CRDS. The Eshels disagreed and took their case to the Tax Court, which granted summary judgment for the IRS.

Because both CSG and CRDS were adopted after the totalization agreement went into effect, the central question was whether the laws adopting those two taxes "amended or supplemented" the French laws enumerated in the agreement, and thus were ineligible for the foreign tax credit. To answer that question, the Tax Court turned to four American dictionaries to define "amend" and "supplement," and on the basis of those definitions concluded that the phrase should mean (1) formally altering one or more of these laws by striking out, inserting, or substituting words; (2) adding something to make up for a lack or deficiency in one or more of these laws; or (3) adding something to extend or strengthen the French social security system as a whole.

The Tax Court reasoned that CSG and CRDS "amend or supplement" the designated French laws as long as they "add something to extend or strengthen the French social security system as a whole." The Tax Court also noted that both taxes are administered by French social security officials and are collected in the same manner as French social security taxes. The court then determined that CSG "amends" the French social security laws because it adds words to the Code de la SSociale, where most French social security laws are codified. The Tax Court also decided that CSG and CRDS "supplement" the French social security laws because they fund some benefits under laws identified in Article 2 and discharge debt previously incurred to pay social security benefits. The Tax Court accordingly ruled that, because CSG and CRDS "amend or supplement" the French social security laws specified in the totalization agreement, they qualify as payments made in accordance with the totalization agreement and could not be credited against U.S. income tax liability. The Eshels appealed.

The D.C. Circuit Court reversed the Tax Court, finding that because the totalization agreement is an international executive agreement that must be interpreted in light of its full text and the shared expectations of the contracting governments and that the Tax Court committed legal error in its analysis of those questions. Where the Tax Court went astray, the court said, was in the sources of legal authority on which it relied. The court found that, rather than looking to the text of the totalization agreement or the signatory countries' shared understanding, the Tax Court asked only what "amends or supplements" means in domestic dictionaries, as it might do if construing a purely domestic statute. The court noted that the text of the agreement strongly suggested that the question whether CSG and CRDS amend or supplement the designated French laws - which is fundamentally an inquiry into the content and meaning of the textually enumerated French laws - should have involved reference to French law. Instead of heeding this instruction, the court said, the Tax Court consulted outside sources that were not reliable expressions of either textual construction or the signatories' intent.

Because the Tax Court failed to inquire properly into the meaning of an international agreement, the D.C. Circuit remanded the case back to the Tax Court.

For a discussion of taxes eligible for the foreign tax credit, see Parker Tax ¶101,910.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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