• Paragraph 1
• Paragraph 2
• Paragraph 3
• Paragraph 4
• Paragraph 5
• Relation to Other Articles

ARTICLE 21 -- Offshore Activities

This Article deals exclusively with the taxation of activities carried on by a resident of one of the States on the continental shelf of the other State in connection with the exploration or exploitation of the natural resources of the shelf, principally activities connected with exploration for oil by offshore drilling rigs. This differs from the U.S. and OECD Models in which the income from these activities is subject to the standard rules found in the other articles of those Convention (e.g., the business profits and personal services articles).

Paragraph 1

Paragraph 1 states that the provisions of Article 21 apply notwithstanding the provisions of Articles 4 through 20 of the Convention, which deal with the taxation of various classes of income. The most important of the other articles, in this context, over which this Article takes precedence, are Articles 5 (Permanent Establishment), 7 (Business Profits), 14 (Independent Personal Services) and 15 (Dependent Personal Services). For example, if a drilling rig of a U.S. enterprise is present on the continental shelf of Latvia for 5 months, and would not, therefore, constitute a permanent establishment under article 5, because of the 6-month construction site rule of paragraph 3 of that article, the rig would, nevertheless, be deemed to be a permanent establishment under paragraph 2 of this Article.

Paragraph 2

Paragraph 2 provides that a resident of a Contracting State that is carrying on activities offshore in the other Contracting State, in connection with the exploration or exploitation of the seabed and subsoil and their natural resources, will be deemed to be carrying on a business in that other State through a permanent establishment or a fixed base situated in that other State. Thus, as noted above, even if under the rules of Articles 5 and 7 a resident of a Contracting State engaged in offshore drilling activities in the other State would not have a permanent establishment in the host State, according to paragraph 1, the rules of Articles 5 and 7 are overridden by this Article, and a permanent establishment would be deemed to exist under the rules of paragraph 2 of this Article. Whether a permanent establishment or fixed base would, in fact, be deemed to exist under this paragraph is subject to several conditions spelled out in paragraphs 3 and 4 of this Article.

Paragraph 3

Paragraph 3, first of all, sets a time threshold test for the application of paragraph 2. The provisions of paragraph 2 (i.e., the presence of a permanent establishment) will apply when offshore activities are carried on in the host State for a period or periods aggregating more than 30 days in any 12-month period.

Subparagraphs (a) and (b) of paragraph 3 set further conditions for the application of paragraph 2. Under subparagraph (a), if a resident of a Contracting State is carrying on offshore activities in the other Contracting State, and another person that is associated with the first-mentioned resident is also carrying on offshore activities of essentially the same kind as the activities carried on by the first-mentioned resident, that other person's activities will be regarded as having been carried on by the first-mentioned resident. This rule is intended to prevent taxpayers from avoiding the time threshold by artificially splitting activities between different entities. Accordingly, the rule will not apply, however, to the extent that the activities of the two persons are being carried on at the same time. If the principal and the related person each exceed the time threshold, both will be considered to have a permanent establishment. If the principal is present on the offshore sector for, say, 25 days, and the related party is present for 10 days, during which time period the principal is not present, the principal will have a permanent establishment, but the related party will not.

Subparagraph (b) defines ``associated persons'' for purposes of subparagraph (a). Two persons will be considered as associated if one is controlled directly or indirectly by the other, or if both persons are controlled directly or indirectly by a third person or persons.

Paragraph 4

Paragraph 4 identifies three classes of activities to which the provisions of this Article do not apply. Subparagraph (a) excludes the activities mentioned in paragraph 4 of Article 5 (Permanent Establishment) that do not give rise to a permanent establishment under that Article even if they are carried on through a fixed place of business. Subparagraph (b) excludes towing or anchor handling by ships primarily designed for that purpose, and other activities performed by such ships. Subparagraph (c) excludes any transport by ships or aircraft of supplies or personnel in international traffic. The activities described in subparagraphs (a) and (c) will be exempt from tax by the host country under Articles 7 (Business Profits) and 8 (Shipping and Air Transport), respectively, whether or not the income is attributable to a permanent establishment. Activities under group (b) are subject to the normal rules of Articles 5 and 7, i.e., if the income is not attributable to a permanent establishment there will be no host country tax.

Paragraph 5

Paragraph 5 provides rules for the taxation of income from personal services performed in connection with offshore activities. Subparagraph (a) provides, as a general rule, that the host State may tax wages, salaries and similar remuneration derived by an individual who is a resident of the other State in respect of employment exercised in connection with the offshore activities described in the preceding paragraphs of the Article, to the extent that the duties are performed offshore in the host State. If, however, the employment is carried on offshore for an employer who is not a resident of the host State, and it is carried on for a period or periods aggregating 30 days or less in any 12-month period, the subparagraph provides that only the residence State of the employee, and not the host State, may tax the income of the employee. This may in certain circumstances give a taxing right that would not exist under Article 15 (Dependent Personal Services).

Subparagraph (b) of paragraph 5 deals with the taxation of income from employment exercised on a ship or aircraft that is transporting supplies or personnel to a site on the offshore sector where exploration or exploitation activities are being carried on, or between such sites. The rule of subparagraph (b) also applies to employment exercised aboard tugboats or similar vessels that are auxiliary to activities on the offshore sector. Under this subparagraph such employment income may be taxed in the Contracting State in which the employer is resident. This does not grant an exclusive taxing right to the residence State of the employer.

Relation to Other Articles

This Article is subject to the saving clause of paragraph 4 of Article 1 (General Scope). Thus, the United States may tax the income of a resident of Latvia who is a U.S. citizen even if, under the provisions of this Article, a resident of Latvia would not be subject to U.S. tax. As with any benefit of the Convention, a person claiming a benefit under this Article must be entitled to the benefit under the provisions of Article 23 (Limitation on Benefits).

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