EXEMPTION OF INCOME RECEIVED ON U.S. INVESTMENTS BY FOREIGN GOVERNMENT AGENCY PENSION TRUSTS

ISSUE

Whether the income received by a pension trust on certain United States investments is exempt from federal income taxation under section 892 of the Internal Revenue Code if nongovernmental employees are participants in the plan.

FACTS

A is an agency of foreign country, FC. A is an integral part of a foreign sovereign within the meaning of section 1.892-1(b)(2) of the Income Tax Regulations.

A has established a pension trust (Fund) for the benefit of its employees. The Fund, a defined benefit plan, provides definitely determinable benefits to its members. The Fund is administered by A's fiscal director. The income of the Fund is used solely to satisfy the obligation of A to participants in the Fund. The Fund's investments in the United States include only stocks and securities of certain United States corporations with regard to which the Fund receives dividend and interest income.

X, a not-for-profit corporation incorporated under the laws of FC, was established to provide certain social services to the residents of FC. In 1981 A admitted employees of X as participants in the Fund. Thus, X began making contributions to the Fund on behalf of its employees. X is neither an integral part of a foreign sovereign within the meaning of section 1.892-1(b)(2) of the regulations nor a controlled entity within the meaning of section 1.892-1(b)(3).

LAW AND ANALYSIS

Section 892 of the Code excludes from gross income and exempts from income taxation the income of foreign governments received from investments in the United States in stocks, bonds, and other domestic securities, from interest on United States bank deposits, and certain income from any other source within the United States.

Section 1.892-1(b)(1) of the regulations states, for the purposes of this section, that a foreign government consists only of integral parts or controlled entities of a foreign sovereign to the extent not engaged in commercial activities in the United States.

Section 1.892-1(b)(4) of the regulations provides that a pension trust established exclusively for employees, or former employees, of a foreign government is a controlled entity if certain requirements are met. These requirements are that the funds that comprise the trust are managed by trustees who are employees of, or persons appointed by, the foreign government and that the trust forming a part of the pension plan provides definitely determinable benefits (defined benefit plan) so that it may be concluded that the income of the trust satisfies the obligations of the foreign government to participants under the plan, rather than inuring to the benefit of a private person.

Since nongovernmental employees were admitted as participants in the Fund in 1981, the Fund can no longer be viewed as established exclusively for the benefit of employees, or former employees, of a foreign government. Therefore, the Fund is not a controlled entity and the dividend and interest income it receives from United States corporations is not exempt from taxation under section 892 of the Code.

HOLDING

The dividend and interest income received by the Fund in 1981 on certain United States investments is not exempt from taxation under section 892 of the Code because the Fund is not established exclusively for employees of A when nongovernmental employees become participants.