Full text of Press Releases of the United States Department of the Treasury : Volume 292

View original document

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

7re*5<
lo

.fi/Sff
v. 2U

LIBRARY
ROOM 50'?0
f "AP

TREASURY DEPARTMENT

TREAS.
HJ
10
.A13P4
v.292

U.S. DEPARTMENT OF THE TREASURY

PRESS RELEASES

TREASURY NEWS

Department of the Treasury • Washington, D.C. • Telephone 566PREPARED STATEMENT OF R. RICHARD NEWCOMB
DIRECTOR, OFFICE OF FOREIGN ASSETS CONTROL
DEPARTMENT OF THE TREASURY
before the
SUBCOMMITTEE ON INTERNATIONAL DEVELOPMENT, FINANCE,
TRADE AND MONETARY POLICY
COMMITTEE ON BANKING, FINANCE AND URBAN AFFAIRS
U.S. HOUSE OF REPRESENTATIVES
WASHINGTON, D.C.
August 1, 1989
U.S. Bank Loans to South Africa
Chairman Fauntroy and Members of the Subcommittee:

Introduction

Good morning. My name is Richard Newcomb. I am the
Director of the Office of Foreign Assets Control (FAC) of the
Treasury Department. It is a pleasure to testify before the
Subcommittee on International Development, Finance, Trade and
Monetary Policy on regulatory and enforcement issues arising from
our responsibilities under the Comprehensive Anti-Apartheid Act
of 1986 (the "Act") and rescheduling of South African debt under
the Act.

II. Overview of FAC and the Act

A. FAC Background

FAC is the office within Treasury responsible for
implementing the import, financial, and new investment
NB-398

- 2 -

prohibitions of the Comprehensive Anti-Apartheid Act of 1986 (the
"Act").

I would like to give you a brief overview of FAC and our

implementation of the Act in general, and then to comment more
specifically on the legal requirements of the Act and U.S. policy
towards South African debt rescheduling under the Act.

FAC's experience in sanctions enforcement dates back to
World War II following the German invasion of Norway and Denmark.
The assets of these countries were blocked to prevent their
forced repatriation by the Germans.

Similarly, the assets of the

Baltic countries located in the U.S. were blocked following their
annexation by the Soviet Union.

During the war, sanctions were

implemented against the Axis powers.

Sanctions were implemented

against China and North Korea in 1950, Rhodesia in 1965, and
against Iran during the hostage crisis of 1979.

Certain aspects

of the first Iranian sanctions program are still in place today
as an adjunct to the implementation of the Algiers Accords and
the administration of the Iran-US Claims Tribunal.

FAC has nine

other programs in place today in addition to the South African
sanctions program.

They are against North Korea, which has been

in place since 1950, Cuba since 1963, Vietnam since 1964,
Kampuchea since 1975, Nicaragua since 1985, Libya since 1986,
Iran a second time in 1987, and now against Panama, invoked by
President Reagan on April 8.

We also administer certain

residual assets controls involving the Baltic Republics and East
Germany, as well as restrictions on exports of strategic
materials to communist nations.

- 3 -

FAC's sanctions against South Africa actually pre-dated the
Act.

The 1985 FAC South African Sanctions Program was

implemented under the International Emergency Economic Powers Act
(IEEPA) pursuant to Executive Order.

These sanctions prohibited

financial institutions in the U.S. from making or approving loans
or other extensions of credit to the Government of South Africa,
and prohibited imports of South African Krugerrands.

Congress

incorporated and expanded these sanctions in the Comprehensive
Anti-Apartheid Act of 1986.

It also prohibited loans by all U.S.

nationals to both public and private entities in South Africa,
and imports of all South African gold coins as well as various
other South African products, into the United States.

B. Import Prohibitions

In addition to South African Krugerrands and other gold
coins minted in South Africa, the list of other South African
products subject to the Act's import prohibitions includes
agricultural products and food, iron ore, iron, steel, sugar,
uranium ore, uranium oxide, coal, and textiles, and products from
parastatal entities (i.e., organizations owned or controlled by
the Government of South Africa).

In enforcing these import

prohibitions, FAC works closely with U.S. Customs.

You should

know that we are enforcing all of the Act's prohibitions
vigorously, taking a pro-active enforcement posture in all areas
of responsibility.

I will explain FAC's enforcement program in

greater detail in a moment.

- 4 -

Prohibitions on Loans and New Investment

The Act prohibits U.S. nationals from making any new
investment in South Africa directly or through another person.
(22 U.S.C. 5060).

"New investment" is defined as "a commitment

or contribution of funds or other assets" and "a loan or other
extension of credit." (22 U.S.C. 5001).

Under these provisions,

a disinvesting U.S. parent corporation may not extend credit to
corporations or individuals in South Africa (other than firms
owned exclusively by black South Africans) to facilitate their
purchase of its South African subsidiary.

In addition, a U.S.

parent corporation may not contribute or lend working capital to
its South African subsidiary unless it is necessary to enable it
to operate in an economically sound manner without expanding its
operations, a strictly interpreted exception subject to
registration requirements.

The Act also contains certain exceptions to the prohibition
on new investment.

New investment does not include the

reinvestment of profits generated by a controlled South African
entity into that same controlled South African entity; or the
investment of such profits in another private South African
entity? or the ownership, control, or transfer of preenactment
South African debt and equity interests (i.e., those issued prior
to October 2, 1986).

The only other exception to the new

investment prohibition is for investment in firms owned by black
South Africans. To date, we have had only a few registrations
under this provision.

- 5 -

Moreover, the definition of "loan" does not include normal
short-term trade financing, such as letters of credit or similar
trade credits; sales on open accounts where those sales are
normal business practice; or the rescheduling of existing loans,
provided that no new funds or credits are thereby extended to a
South African entity or to the Government of South Africa. (22
U.S.C. 5001).

The legislative history of the loan rescheduling

exception indicates that it is quite broad, and that it includes
substitution of private sector borrowers as well as substitution
under South Africa's debt moratorium measures, of a governmental
body called the Public Investment Commissioners, or "PIC", as the
obligor on a private sector loan.

I will discuss this more fully

in a moment.

III. FAC Enforcement of Loan and New Investment Prohibitions

A. Overview of FAC Enforcement of the Act

Enforcement of the South African sanctions is among FAC's
top priorities.

Customs, which provides assistance to FAC in

enforcing the import prohibitions, has initiated 24
investigations concerning alleged violations of the sanctions
since the Act's enactment.

Of the 10 investigations closed, one

investigation resulted in the seizure of a shipment of
agricultural products valued at $75,000.00.

The case settled

with a penalty payment of $15,000.00 and the shipment was
released and exported.

- 6 -

The investigation of the Air Ground Equipment Sales Corp. by
U.S. Customs JFK International Airport Enforcement Office
resulted in the seizure and forfeiture of four jet engines valued
at $7 million.

The company fraudulently entered the engines

which were sold by a South African parastatal.

The case further

resulted in the first criminal indictment for violations of the
Act.

The company and its chief executive officer entered guilty

pleas.

The company was fined $1 million, and the officer was

sentenced to imprisonment and given a $100,000.00 fine.

A third investigation which is currently active resulted in
the arrest of four persons including two South Africans. The
case involves the alleged illegal importation of South African
manufactured handguns. The Customs Service has also made six
commercial seizures of merchandise imported from South Africa in
violation of the Act.

In addition to Customs' assistance in enforcing import
prohibitions under the Act, FAC utilizes its own independent
authority to addresss possible violations and, if necessary, to
assess penalties against violators. Accordingly, we have our own
staff of professionals in our enforcement and penalties divisions
whose responsibilities are to identify potential violators of the
Act who attempt to circumvent the import and new loan
prohibitions.

Penalties for individuals and corporations range

from $50,000.00 to $1,000,000.00 in fines and/or up to 10 years
in prison.

This year we have already assessed five civil

- 7 -

penalties against violators of the Act's import prohibitions
which have resulted in the payment of over $27,000.00.

We will continue to pursue vigorously possible violations of
all prohibitions under the Act both civilly and criminally, as
appropriate, to the full extent of the law.

B. Loan and New Investment Compliance Programs

I would now like to describe our South African compliance
programs:

Our compliance staff monitors compliance with the Act by
U.S. nationals.

In order to more effectively monitor compliance

with the prohibitions against loans and new investments, we have
initiated a written dialogue with all U.S. corporations and
financial institutions doing business in South Africa.

First, we

sent out over 250 letters to all known U.S. corporations with
operations in South Africa advising them of the Act's
restrictions on capital contributions, loans, or other extensions
of credit in the context of their subsidiaries' on-going
operations or disinvestment.

Responses to these compliance

letters were closely monitored for possible violations.

In many cases, follow-up phone calls were made to these
companies to ensure complete compliance. In cases where the
disinvestment strategy or other financial transactions involved a

- 8 -

possible prohibited payment or loan, letters were sent to
violating companies demanding that they cease illegal acts and/or
that they restructure their agreements of sale or other violating
transactions to bring those companies into compliance.

In June 1987, we sent many of the largest U.S. banks and
brokerage houses a letter containing responses to several
frequently-asked questions on permissible transactions involving
PIC loans and South African securities.

We have sent letters to over 200 brokerage houses, stock
exchanges, broker/dealers, asset management firms, and U.S.
traders of mutual funds, gold funds, international funds and
money market funds to ensure that they are on written notice
about the Act's restrictions on investment in South African
securities.

Generally, only trading in preenactment (pre-October

2, 1986) securities, including American Depository Receipts
evidencing preenactment issues, is permitted.

In addition, while

U.S. nationals may trade in futures and options contracts on
South African commodities, many commodities, such as agricultural
commodities, and gold bullion marketed by the South African
Reserve Bank (a parastatal organization) are subject to U.S.
import restrictions under the Act. We asked that those companies
engaged in South African securities transactions provide us with
a complete description of their compliance procedures.

- 9 -

We have worked with the Securities and Exchange Commission
and the National Association of Securities Dealers so that we can
identify others who may be affected by the Act.

We are actively

pursuing information which may lead us to potential problems in
this area and investigating all cases which are brought to our
attention.

We have developed training programs for enforcement,

banking, and corporate personnel to ensure that they know about
the CAAA's prohibitions.

We have also advised banks of the Act's prohibitions on
loans and other extensions of credit to the South African
government or its controlled entities, or to any person or entity
in South Africa.

The prohibition on loans to the South African

government became effective November 11, 1985, under sanctions
which pre-dated the Act.

To ensure that this is enforced, we

have been working closely with the bank supervisory agencies.

have developed a special publication entitled Foreign Assets
Control Regulations for the Financial Community, containing a
special section on "South African Transactions Regulations for
the Banking Community."

We have taken steps to distribute these

publications to financial institutions throughout the United
States in cooperation with the Comptroller of the Currency, the
Federal Reserve Bank, the FDIC, and the Federal Home Loan Bank
System.

State regulatory bodies, such as the State of New York

Banking Department, have cooperated with us, as have various
industry groups—including the Council on International Banking

- 10 -

and the Institute of International Bankers—in notifying their
members about our program.

A special course module is also being

developed to train Federal Bank Examiners in our FAC regulations.

As part of our South African compliance programs,
professionals from our enforcement and compliance divisions have
provided briefings and participated in panels and seminars for
U.S. Customs, financial institutions, international delegations,
and the import/export community on the South African sanctions.
In addition, we maintain daily telephone communication with U.S.
corporations, individuals, and financial institutions both to
monitor their activities and to provide accurate information on
questions of compliance with the South African sanctions.

IV. Rescheduling is not Contrary to Spirit and Intent of Law

Section 3(3)(B)(iii) of the Comprehensive Anti-Apartheid Act
of 1986 states that the term "loan," for purposes of the
prohibitions of the Act, "does not include —

. . .rescheduling

of existing loans, if no new funds or credits are thereby
extended to a South African entity or the Government of South
Africa."

22 U.S.C. 5001(3)(B)(iii). This provision was

contained in S. 2701, the bill later enacted, as it emerged from
the Senate Foreign Relations Committee.

- 11 -

Senator Lugar, Committee Chairman and Senate floor manager
of the bill, discussed the intent behind this rescheduling
exclusion in his introductory explanation of the bill on the
Senate floor. 132 Cong. Rec. S11627 (daily ed. Aug. 14, 1986).
Congressman Roth did so as well during House debate on the bill.
132 Cong. Rec. H6765 (daily ed. Sept. 12, 1986). Both gentlemen
indicated that the provision was necessary to avoid penalizing
Americans, rather than South Africa, in implementing the
sanctions program. In House debate, Congressman Roth stated, in
part:

In August 1985, South Africa declared a moratorium on
payment of short-term debt owed by South African residents
to foreign creditors. South African debt outstanding and
subject to the moratorium totalled approximately $14
billion. The reason for the suspension of payments was that
South Africa lacked the aggregate foreign exchange for South
African private and public sector debtors to meet all
payments owed in foreign exchange when due.
Such a unilateral suspension of payments clearly was
untenable from the viewpoint of the creditors, who
immediately began pressing the South African authorities to
resume repayments on an orderly schedule at the earliest
possible date, and made clear that no new foreign exchange
would be provided. The result of these efforts was as
follows:
South Africa provided to its public and private sector
debtors a repayment of 5 percent of the principal amounts
covered by the moratorium and maturing beginning April 15,
1986.
South Africa committed to provide foreign exchange to
South African debtors so they could continue to make
interest payments on the debt. Moreover, South Africa
agreed that interest could be charged and paid at up to a 1
percent spread over the rates then in place, reflecting
increasing risk on the credits.
South Africa agreed that the remainder of outstanding
principal would be paid June 30, 1987.

- 12 -

South Africa further provided that: (1) the foregoing
commitments would apply even where a creditor chose to
substitute one private sector borrower for another on
outstanding debt (for example, a creditor could substitute a
more creditworthy borrower); and (2) the South African
government (through the Public Investment Commissioners
[PIC]) would assume a private sector debt directly if the
creditor so chose (for example, during such time as a
substitution of one private debtor for another is being
arranged)•
H.R. 4868 allows restructured loans, under the foregoing
arrangements, to remain outstanding, and, if appropriate,
for further restructurings to be arranged that are aimed at
achieving full repayment to foreign creditors. Failure to
make these exceptions to the prohibitions on loans to the
private and public sector in South Africa would grant a
windfall financial benefit to South Africa, since South
Africa could refuse to make the repayments.
As no South Africa loan presently is in default, U.S.
creditors at this time would have no legal basis on which to
demand payment — by litigation or otherwise — on the
loans: rather, the effect would be outright debt
forgiveness to South Africa.
Moreover, even if there were some legal basis for suit
now, or in the future, the expenses of international
litigation and the limited amount of South African assets
located outside South Africa on which a recovery might be
sought (relative to the aggregate outstanding debt) indicate
that U.S. creditors would suffer extensive losses from which
South Africa directly would gain.
Accordingly, the exceptions to the prohibition on loans
to South African residents created for rescheduled loans
(including the substitution of debtors on outstanding loans)
avoids unjustified financial losses to creditor
institutions, and has a corresponding financial cost to
South Africa.
FAC's implementation of the Act's two prohibitions on new
132 Cong. Rec. H 6765 (daily ed. Sept. 12, 1986).
lending—section 305 prohibitions on loans to the South African
Government and section 310 prohibitions on loans to any person
public or private, located in South Africa—has been entirely

- 13 -

consistent with the legislative intent behind the rescheduling
exclusion as set forth in the statements of Congressman Roth and
Senator Lugar.

Thus, so long as no new credits or funds are

extended to the borrowers, rescheduling of pre-enactment loans
for the benefit of the South African public sector or private
sector South African residents is permissible under the Act and
FAC's implementing South African Transactions Regulations.

This

is true whether the rescheduling affects the original borrowers
or substituted borrowers under the PIC loan program.

The Treasury Department believes that this treatment of
rescheduling, mandated by the Act, is the correct policy to
maintain for the future.

The determination made by this

Congress in 1986 was based upon preventing windfalls to South
Africa through loan defaults —

windfalls which undermine the

economic impact of our sanctions program, and corresponding
losses which injure American financial institutions.

We believe

that the statutory provision that avoids this result cannot
properly be seen as a "loophole," since there is no benefit to
the target of sanctions through the policy.

Indeed, if this is

viewed as a loophole, closing it would strengthen South African
interests at the expense of American interests —

a result we can

all agree would be wrong.

Since the 1985 moratorium and so-called Interim Arrangements
during 1985-87 did not enable South Africa to fully repay its
outstanding public and private sector foreign debts, a further

- 14 -

set of reschedulings was negotiated between South Africa and the
foreign banks in 1987: the Second Interim Arrangements.

This

program provides for repayment of 13% of the outstanding
principal on South African loans over the 3-year period from
July 1, 1987 through June 30, 1990 on loans maturing during this
period.

Current interest is also payable on the rescheduled

principal.

Finally, a creditor wishing to ensure full repayment

of principal backed by governmental guarantees can do so by
rescheduling the loan to be payable over 10 years, receiving 13%
of principal between the conversion date and June 30, 1990, no
further principal through 1992, and then 10 equal semiannual
installments of the remaining principal running through 1997.

It is generally agreed that South Africa will not be in a
position to repay its outstanding debts by June 30, 1990, so that
the foreign bank creditors anticipate that a Third Interim
Arrangement will be promulgated.

The reschedulings under each of these interim arrangements
have assisted foreign banks, including U.S. banks, to keep their
South African loans performing.

Payments of interest and

principal under the interim arrangements continue to remove hard
currency resources from South Africa's economy, consistent with
the pressure intended by enactment of the sanctions.

Some $2.6 billion in unpaid principal remained outstanding
to U.S. financial institutions at the end of March 1989. Were

- 15 -

this amount to be simply defaulted on by the South African
borrowers because U.S. lending institutions were prevented by
Congress from participating in further reschedulings, the benefit
to the South African economy is evident.

Equally evident is the

loss such defaults would entail for U.S. financial institutions,
their shareholders, and federal, state, and local taxing
authorities.

Banks could lose the $2.6 billion already loaned to

South Africa prior to the Act, plus the interest income that
would derive from those loans.
most adversely affected.

The money center banks would be

The nine largest U.S. banks held 74% of

total U.S. banks claims on South Africa.
3.4% of their capital base.

This amount represents

Such a capital loss would impair

these banks' ability to comply with regulatory and market
pressures to increase capital strength.

Other U.S. borrowers could also be adversely affected. U.S.
bank claims on South Africa are primarily concentrated within
the banking community, with claims on bank borrowers constituting
63% of total U.S. claims in South Africa for the year ending
1988.

Public borrowings accounted for 26% of total claims, with

the remaining 11% of claims on private non-bank borrowers.

The process of gradual divestiture is already taking place
quite rapidly and effectively.

U.S. bank claims on South

African borrowers have already been declining steadily over the
last few years.

From year end 1984 to March of this year, such

- 16 -

claims have declined $1.8 billion from $4.3 billion.

Since the

end of 1986 to the first quarter of 1989, a period of two and
one-quarter years, such claims have fallen $447 million.

In addition, U.S. bank claims on South Africa have been
declining vis-a-vis bank claims on South Africa of other
countries.

Bank claims on South African borrowers totaled $14.6

billion on a global basis as of year end 1988.

Since 1986, the

U.S. portion of such global claims on South Africa has declined
from 19% to 17%.

Finally, a substantial amount of U.S. bank claims on South
Africa are expected to mature within the next five years. As of
year end 1988, 39% of claims were due within a year or less, 25%
due in a one to five year period, and 36% due in over five years.
Thus, it is reasonable to expect a continued gradual decline in
U.S. bank claims to South African based borrowers if claims are
paid according to their scheduled maturities.

The deleterious consequences on U.S. banks and other
creditors that would be caused by an outright prohibition on
reschedulings which I have outlined above bear no reasonable
relation to the stated goals of the Comprehensive Anti-Apartheid
Act of 1986. The Treasury Department believes, therefore, that
Congress should not fix what is not broken, and strongly urges
that this Subcommittee endorse the existing implementation of the
Act's prohibitions on loans to South Africa.

- 17 -

Additional Measures to Strengthen Enforcement Under the Act

You have asked for comments on additional measures that can
be taken to terminate U.S. lenders' ability to reschedule
existing loans.

Again, I would repeat that the current sanctions

are having their intended effect on U.S. bank claims—the trend
is clearly down.

As I have said in previous testimony before

this Committee regarding pending legislation to enact new
sanctions, any new measures to end U.S. lenders* ability to
reschedule loans made in South Africa prior to the Act would harm
American, not South African, interests.

My view was then, and

remains, that the termination of this protection would force U.S.
banks to provide, in effect, debt relief to South Africa and
subsidies to those who purchase the claims at the discounted
prices that would ensue as loans were sold at what would likely
be firesale prices.

U.S. banks would lose all leverage in

seeking repayment, without any corresponding damage to the South
African borrowers.

The losses to the banking community could be substantial and
they would be concentrated in the nine money center banks.
Although the level of exposure has been declining in recent
years, it remains substantial at $2.6 billion.

Of that total,

the money center institutions hold about $2.2 billion or about
3.4% of their capital.

As this Committee knows, there is strong

regulatory and market pressure on these banks to increase
capital.

Efforts to end the current ability to reschedule South

African debt would undercut that effort.

- 18 -

Let me say again, however, that should new measures be
enacted to terminate the present provision on rescheduling, we
would, of course, vigorously enforce those measures.

SOUTH AFRICA
Adjusted Claims {1} of U.S. Banks on South Africa ($ millions/percent where indicated)
1984 1985 1986 1987 1988
All Banks {2} [number involved]
Outstanding Claims at end period
Change in claims during period
Claims as % of Cap. at end period

1989
I Qtr.
[205]
4,324
(98)
4.7

[199]
3,273
(1,051)
3.1

[187]
2,998
(275)
2.6

[182]
2,939
(59)
2.2

[181]
2,583
(356)
1.9

[172]
2,551
(32)
1.9

{1} Includes adjustments to reflect guarantees and indirect borrowings.
{2} Includes all banks that have, on a fully consolidated basis, total outstanding claims on residents of foreign countries exceeding $30 million.
SOURCE: Country Exposure Lending Survey, Federal Financial
Institutions Examination Council.

IIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIIMIIIIIIIIIIIIIIIIIIIM
Claims {3} of International Banks on South Africa ($ millions/percent where indicated)
Dec.
1986

% of
Total

Dec.
1987

% of
Total

Dec.
1988

% of
Total

All reporting banks {4}

15,618

100%

16,027

100%

14,582

100%

U.S. banks
Other banks

2,957
12,661

19%
81%

2,888
13,139

18%
82%

2,510
12,072

17%
83%

{3} Unadjusted - does not reflect guarantees and indirect borrowings.
{4} Banks whose positions are included in reports prepared by
Bank for International Settlements.
SOURCES: BIS: "The Maturity Distribution of International Bank Lending".
USA: Country Exposure Lending Survey(Federal Financial
Institutions Examination Council).
International Banking and
Portfolio Investment
July 28, 1989

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
L!^PA?Y.R00H 5310
August 1, 1989
{4: f»

«.

• .' U

Harvey S. Rosen
Appointed Deputy Assistant Secretary
for Tax Analysis
Secretary of the Treasury Nicholas F. Brady today announced the
appointment of Harvey S. Rosen, Professor of Economics at
Princeton University, as Deputy Assistant Secretary of the
Treasury for Tax Analysis, effective August 7, 1989.
Mr. Rosen, 40, will serve as the economic deputy to Assistant
Secretary Kenneth W. Gideon, who has principal responsibility
for formulation and execution of United States domestic and
international tax policy.
Mr. Rosen earned a B.A. degree in economics from the University
of Michigan in 1970 and a Ph.D. from Harvard University in
1974. He has taught economics and public finance at Princeton
for 15 years, published a textbook on public finance, and
authored or co-authored over 40 articles in scholarly journals.
Mr. Rosen is married to Marsha E. Novick. They have two
children, Lynne and Jonathan.

NB-399

TREASURY IMEWS^

Department of the Treasury • Washington, D.C. • Telephone 56
XCM 5310
CONTACT: Office of Financing
. ..
202/376-4350
FOR RELEASE AT 4:00*)R.ND. \ i\ .-.''J
August 1, 1989
'"^ l
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$13,200 million, to be issued August 10, 19 89.
This offering
will result in a paydown for the Treasury of about $1,250 million, as
the maturing bills are outstanding in the amount of $14,443 million.
Tenders will be received at Federal Reserve Banks and Branches and
at the Bureau of the Public Debt, Washington, D. C. 20239, prior to
1:00 p.m., Eastern Daylight Saving time, Monday, August 7, 1989.
The two series offered are as follows:
91-day bills (to maturity date) for approximately $6,600
million, representing an additional amount of bills dated
May 11, 19 89,
and to mature November 9, 19 89
(CUSIP No.
912794 TD 6), currently outstanding in the amount of $7,095 million,
the additional and original bills to be freely interchangeable.
182-day bills for approximately $6,600 million, to be dated
August 10, 19 89,
and to mature February 8, 19 90
(CUSIP No.
912794 TQ 7).
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing August 10, 1989.
Tenders from Federal Reserve
Banks for their own account and as agents for foreign and international monetary authorities will be accepted at the weighted
average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities, to
the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them. Federal
Reserve Banks currently hold $1,905 million as agents for foreign
and international monetary authorities, and $4,058 million for their
own account. Tenders for bills to be maintained on the book-entry
records of the Department of the Treasury should be submitted on Form
PD
(for 13-week series) or Form PD 5176-2 (for 26-week series).
NB-45176-1
00

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This information should reflect positions held as of one-half hour
prior to the closing time for receipt of tenders on the day of the
auction. Such positions would include bills acquired through "when
issued" trading, and futures and forward transactions as well as
holdings of outstanding bills with the same maturity date as the
new offering, e.g., bills with three months to maturity previously
offered as six-month bills. Dealers, who make primary markets in
Government securities and report daily to the Federal Reserve Bank
of New York their positions in and borrowings on such securities,
when submitting tenders for customers, must submit a separate tender
for each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an agreement,
nor make an agreement to purchase or sell or otherwise dispose of
any noncompetitive awards of this issue being auctioned prior to
the designated closing time for receipt of tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained on
the book-entry records of the Department of the Treasury. A cash
adjustment will be made on all accepted tenders for the difference
between the par payment submitted and the actual issue price as
determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches. A deposit of
2 percent of the par amount of the bills applied for must accompany
tenders for such bills from others, unless an express guaranty of
payment by an incorporated bank or trust company accompanies the
10/87
tenders.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page"3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection of
their tenders. The Secretary of the Treasury expressly reserves
the right to accept- or reject any or all tenders, in whole or in
part, and the Secretary's action shall be final. Subject to these
reservations, noncompetitive tenders for each issue for $1,000,000
or less without stated yield from any one bidder will be accepted
in full at the weighted average bank discount rate (in two decimals)
of accepted competitive bids for the respective issues. The calculation of purchase prices for accepted bids will be carried to
three decimal places on the basis of price per hundred, e.g.,
99.923, and the determinations of. the Secretary of the Treasury
shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the maturing
bills accepted in exchange and the issue price of the new bills.
In addition, Treasury Tax and Loan Note Option Depositaries may
make payment for allotments of bills for their own accounts and
for account of customers by credit to their Treasury Tax and Loan
Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
10/87
the Public Debt.

TREASURY-NEWS _
Department of the Treasury • Washington, D.C. • Telephone 566-2041
'i 53?.0

FOR IMMEDIATE RELEASE
August 1, 1989

CONTACT:

LARRY BATDORF

(202) 566-2041
&fcPARTX..j-

PROTOCOL TO U.S.-BELGIUM INCOME TAX TREATY RATIFIED
The Treasury Department today announced that on July 19, 1989
in Brussels, instruments of ratification were exchanged to the
Supplementary Protocol and Related Exchange of Notes, signed at
Washington on December 31, 1987, modifying and supplementing the
Convention Between the United States of America and the Kingdom
of Belgium for the Avoidance of Double Taxation and the
Prevention of Fiscal Evasion with Respect to Taxes on Income,
signed in Brussels on July 9, 1970.
The Protocol provides for a reduced rate of tax at source of
5 percent on direct investment dividends and introduces rules to
ensure that the benefit of the reduced withholding rates on
dividends, interest and royalties provided in the treaty accrue
only to persons intended to enjoy those benefits.
The Protocol and exchange of notes will enter into force on
August 3, 1989. The provisions will have effect, retroactively,
with respect to dividends, interest and royalties paid or
credited on or after January 1, 1988.
o 0 o

NE-401

TREASURY NEWS

Department of the Treasury • Washington, D.C. • Telephone
: *A. '-RCC" 5310
FOR RELEASE AT 4:00 P.M.
August 1, 1989

CONTACT:

Office of Financing
202/376-4350

fii;fi 2 Vn AM 33
-*•,

:>*•••

TREASURY OFFERS $5,000 MILLION
OF 45-DAY CASH MANAGEMENT BILLS
The Department of the Treasury, by this public notice, invites
tenders for approximately $5,000 million of 45-day Treasury bills
to be issued August 7, 1989, representing an additional amount of
bills dated March 23, 1989, maturing September 21, 1989 (CUSIP No.
912794 SY 1).
Competitive tenders will be received at all Federal Reserve
Banks and Branches prior to 1:00 p.m., Eastern Daylight Saving time,
Thursday, August 3, 1989. Each tender for the issue must be for
a minimum amount of $1,000,000. Tenders over $1,000,000 must be
in multiples of $1,000,000. Tenders must show the yield desired,
expressed on a bank discount rate basis with two decimals, e.g.,
7.15%. Fractions must not be used.
Noncompetitive tenders will not be accepted. Tenders will not
be received at the Department of the Treasury, Washington.
The bills will be issued on a discount basis under competitive bidding, and at maturity their par amount will be payable
without interest. The bills will be issued entirely in book-entry
form in a minimum denomination of $10,000 and in any higher $5,000
multiple, on the records of the Federal Reserve Banks and Branches.
Additional amounts of the bills may be issued to Federal Reserve
Banks as agents for foreign and international monetary authorities
at the average price of accepted competitive tenders.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This information should reflect positions held as of 12:30 p.m.,
Eastern time, on the day of the auction. Such positions would
include bills acquired through "when issued" trading, futures,
NB-402

- 2 and forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills with
three months to maturity previously offered as six-month bills.
Dealers, who make primary markets in Government securities and
report daily to the Federal Reserve Bank of New York their positions in and borrowings on such securities, when submitting tenders
for customers, must submit a separate tender for each customer
whose net long position in the bill being offered exceeds $200
million.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities. A deposit of 2 percent of the par amount
of the bills applied for must accompany tenders for such bills from
others, unless an express guaranty of payment by an incorporated
bank or trust company accompanies the tenders.
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Those
submitting tenders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly reserves
the right to accept or reject any or all tenders, in whole or in
part, and the Secretary's action shall be final. The calculation
of purchase prices for accepted bids will be carried to three
decimal places on the basis of price per hundred, e.g., 99.923.
Settlement for accepted tenders in accordance with the bids must
be made or completed at the Federal Reserve Bank or Branch in cash
or other immediately-available funds on Monday, August 7, 1989.
In addition, Treasury Tax and Loan Note Option Depositaries may
make payment for allotments of bills for their own accounts and
for account of customers by credit to their Treasury Tax and Loan
Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76 and 27-76, and this notice, prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars may be obtained from any Federal Reserve Bank or
Branch.

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
4

' <-

-»

PREPARED STATEMENT OP R. RICHARD NEWCOMB "
DIRECTOR, OFFICE OF FOREIGN ASSETS CONTROL
DEPARTMENT OP THE TREASURY
C

'"• %0- ft 5ol0

^ / 9 H :'H "Q

b«for* the
._,
SUBCOMMITTEE ON HUMAN RIGHTS AND INTERNATIONAL ORGANIZATIONS
SUBCOMMITTEE ON WESTERN HEMISPHERE AFFAIRS
SUBCOMMITTEE ON INTERNATIONAL ECONOMIC POLICY
COMMITTEE ON FOREIGN AFFAIRS
U.S. HOUSE OP REPRESENTATIVES
August 2, 1989
U.S. Policy Toward Cuba: The A^"pn. titration'1 a Perspective
Chairman Yatron, Chairman Crockett, Chairman Gejdenson, and
Members of the Subcommittees:

My name is R. Richard Nevcomb, and I am the Director of the
Treasury Department's Office of Foreign Assets Control. I am
pleased to be with you today to discuss the U.S. Government's
sanctions against Cuba. I have been asked this morning to
discuss the U.S. embargo on Cuba and to answer certain questions
concerning changes in the Cuban Assets Control Regulations
required by the Omnibus Trade and Competitiveness Act of 198 8,
as well as trade with Cuba by foreign subsidiaries of U.S.
companies.

I. FAC Background

The Office of Foreign Assets Control ("FAC") has primary
responsibility within the Executive branch for administering
financial and trade sanctions against foreign countries under the
'.•3-403

- 2 -

authority of the Trading with the Enemy Act ("TWEA"), the
International Emergency Economic Powers Act ("IEEPA"), the
Comprehensive Anti-Apartheid Act of 1986, and the International
Security and Development Cooperation Act.

Currently, FAC is

responsible for administering assets freezes and economic
embargoes against Cuba, North Korea, Vietnam, Cambodia, Libya,
and Panama, and trade and economic sanctions against Iran,
Nicaragua, and South Africa.

In addition, FAC administers

certain residual assets controls involving Iran, East Germany,
and the Baltic Republics, as well as restrictions on U.S.
persons' ability to finance and deal in exports of strategic
materials from foreign countries to certain Eastern Bloc
nations.

Powers under TWEA and IEEPA to prohibit or regulate
commercial or financial transactions with specific foreign
countries have been employed in two principal ways.

First, they

have been used to "freeze" assets of designated nations, by
prohibiting transfer of those assets which are subject to U.S.
jurisdiction, or in the possession or control of U.S. persons.
Frozen assets (e.g., property and bank deposits) cannot be paid
out, withdrawn, set off, or transferred in any manner without a
Treasury license.

Second, the powers under TWEA and IEEPA also can be used to
impose economic sanctions against designated foreign nationals

3 -

including prohibitions on financial transactions, such as bank
lending.

These embargoes may be either selective, prohibiting a

specific class of economic transactions or, as in the case of
Cuba, comprehensive, prohibiting all unlicensed economic
transactions involving the designated country or its nationals.

II. Cuba Embargo Background

Since 1963, the United States has maintained an economic
embargo against Cuba under the authority of the Trading with
the Enemy Act.

The Cuban Assets Control Regulations prohibit

virtually all direct or indirect commercial or financial
transactions by persons subject to the jurisdiction of the United
States with Cuba or with Cuban nationals, including the
importation of Cuban-origin merchandise without a license
issued by the Department of the Treasury.

The embargo on Cuban imports and exports and the
restrictions on the amount of money Cuba can earn from U.S.
visitors serve to deny the Cuban government the opportunity to
earn hard currency through trade and tourism transactions with
its largest and most natural market—the United States.
Restricting the resources available to Cuba helps to limit the
Castro regime's ability to pursue policies inimical to U.S.
national interests, including human rights violations, a
military presence in Africa and the Middle East, Cuban

adventurism in this Hemisphere and support for subversive
groups seeking to destabilize democratic governments in Latin
America.

The comprehensiveness of the trade restrictions and the
geographical proximity of Cuba, just 90 miles from Key West,
have aided the effectiveness of the U.S. embargo in denying
Cuba hard currency earnings.

The inability of Cuba to trade

with the country that, by reasons of geography and history,
otherwise would be its major trading partner compounds the
difficulties the country already experiences as a result of its
inefficient state-owned economic system.

The current embargo

inflicts obvious hard currency shortages and other costs on the
Cuban economy.

I emphasize that the Cuban embargo is an

instrument of foreign policy, so that positive changes in Cuban
behavior on vital U.S. interests could lead tp changes in our
program.

III. Elements of the Program

A. Exceptions

There are four principal exceptions to the embargo.

1. Family Remittances - U.S. persons may send up to $500
every three months to the household of a close relative in Cuba

- 5 -

and up to $500, on a one-time basis, to enable a close relative
to emigrate from Cuba.

U.S. persons may also pay the travel

expenses for a Cuban national, who has already obtained an
entry visa from the State Department to visit the United
States.

Those funds are limited.

No other money may be sent

to Cuba for any other reason without special permission from
the U.S. Treasury.

2. Travel - Spending money related to Cuban travel is
restricted to five authorized categories.

Individuals falling

into these categories may do so without special permission from
FAC.

These categories are:

a. Family visit to visit close relatives in Cuba

b. Official government business

c. News gathering

d.
Professional
research which is specifically related to
Cuba and the product of which is very likely to be disseminated;
and

Fully hosted or sponsored travel (i.e., that which is
paid for entirely by the Cuban government or a non-U.S.
entity).

No services may be provided to Cuba during the visit.

3. Subsidiary Trade - You have requested the Administration's position on Senator Mack's amendment to the State
Department Authorization bill which would prohibit foreign
subsidiaries of U.S. companies from trading with Cuba. As
this bill has only recently passed the Senate, we have not
had sufficient time to formulate an official position on it;
however, I can explain how our current policy developed as
well as the scope of this particular type of trade.

From the inception of the Cuban embargo in July 1963,
until October 1975, the Cuban Assets Control Regulations
effectively prohibited virtually all trade transactions by
foreign subsidiaries of U.S. firms with Cuba. However,in the
mid-1970's, a South American subsidiary of a U.S. firm received
a valuable order from Cuba for a shipment of trucks. Its
application for a license to make the shipment was denied.
This resulted in strong diplomatic protests, adding to existing
pressures on the United States Government to modify provisions
of the Cuban Assets Control Regulations affecting foreign
subsidiaries of U.S. firms. At the same time, the Organization
of the American States, which had formerly supported the
embargo against Cuba, softened its stand with respect to trade
with Cuba.

In light of these pressures, Treasury published a

regulation (31 C.F.R. section 515.559) setting forth terms and
conditions under which specific licenses would be granted for

7 -

certain kinds of foreign subsidiary trade with Cuba.

The

essential requirements of the policy are as follows:

(i) The transactions must be by a U.S. subsidiary, thatas,
a foreign-incorporated American-owned or controlled firm
operating in a third country.

If the foreign entity does not

have a separate foreign legal personality but is merely a branch,
office, or agency, trade transactions (and other transactions)
involving Cuba cannot be licensed.

(ii) Goods exported must be non-strategic. "Strategic
goods" are defined as items designated with the letter "A" on
the Commerce Department's Control List, signifying strategic or
sensitive items, as well as items subject to State Department
munitions controls, or to regulations relating to the export of
nuclear energy facilities or materials.

(iii) No transfer of U.S.-origin technical data (other
than maintenance, repair, and operations data) is authorized.

(iv) Any U.S.-origin parts or components must be
separately licensed by the Department of Commerce.

Commerce

will generally license re-export if the U.S.-origin components
do not constitute more than 20% of the value of the finished
product.

- 8 -

(v) No U.S. dollar accounts or dollar financing may be
involved.

(vi) No person within the U.S. may be involved; the
subsidiary must act on its own and conduct the transaction
completely offshore.

Involvement includes assistance or

participation by a U.S parent firm, or any officer or employee
thereof, in the negotiation or performance of a licensed
transaction.

(vii) The subsidiary must be generally independent of the
U.S.-based parent firm in the conduct of transactions of the
type for which the license is being sought in such matters as
decision-making, risk-taking, negotiation, financing, and
performance.

(viii) The law or policy of the country in which the
subsidiary is incorporated must require or favor trade with
Cuba.

(ix) Both imports from and exports to Cuba may be
authorized.

Service contracts can also be authorized.

Between fiscal years 1982 and 1987, FAC received a total of
1,279 applications for licenses for subsidiaries to engage in
trade with Cuba. This constituted an average of 213 applications

- 9 -

per year, with the number of denials of licenses ranging from
none in 1982 to two in 1984.

Few licenses are denied, in large

part due to self-selection prior to the filing of applications
by persons not meeting the above-mentioned criteria.

The attached statistical summaries provide an analysis of
licenses issued for fiscal years 1982 through 1987.

Table I of

the summaries lists the types of goods and commodities licensed
for export to Cuba each year, broken down by consumable and
non-consumable categories.

From 1982 through 1986 a higher

percentage of licensed exports in terms of dollar value were
consumables, such as grain and wheat, while in 1987 the value of
non-consumable exports was greater.

The total value of

licensed exports to Cuba each year ranged from a low of $87
million in 1983 to a high of $162 million in 1985.

The average

amount exported per year was $114 million.

As far as imports are concerned, Table I indicates that
the two primary categories of commodities licensed for
importation by foreign subsidiaries were sugar and naphtha.
Relatively small amount of molasses and tobacco were also
license for importation during this period.

The total value

of licensed imports from Cuba to countries where foreign
subsidiaries of U.S. firms are importing from Cuba ranged from
a low of $55 million in 1983 to a high of $161 million in 1982,
The average amount imported per year was $14 5 million.

- 10 -

The value of exports to Cuba from third countries where
U.S. subsidiaries are located exceeded that of imports to U.S.
subsidiaries in third countries from Cuba in four of the six
years for which statistics are available.

It should be noted

that wide fluctuations have occurred in the total value of
licensed exports and imports, which may be due to international
shortages and surpluses of certain agricultural crops such as
sugar and wheat.

For example, 1986 experienced a 23 percent

increase in total exports and imports over 1985, while 1987
experienced a 31 percent decline in total exports and imports
from 1986.

In descending order of value, foreign subsidiaries in the
United Kingdom, Switzerland, Canada, and Argentina have had
the greatest dollar value of licensed trade with Cuba, as is
indicated in Table II of the summaries.

These countries,

however, are not necessarily the source of the ultimate
destination of the commodities, as the companies operating in
them may merely be acting as brokers for goods originating from
or destined to another location.

4. Publications and other Informational Material Section 2502(a) of the Omnibus Trade and Competitiveness Act,
Pub.L. No. 100-416, 102 Stat. 1107 (the "Trade Act"), the
so-called Berman Trade Act Amendments amended the Trading with
the Enemy Act by restricting the President's authority under
section 5(b). The amendment provides that the President may

11 -

not regulate or prohibit, directly or indirectly, the
importation or exportation of publications, films, posters,
phonograph records, photographs, microfilms, microfiche, tapes
and other informational materials.

Prior to the amendment,

absent a specific license from FAC, importation of informational material from Cuba was restricted to single copies.
Commercial importation was permitted, but payment for such
importation had to be made into a blocked account.

Exportation

of U.S. publications to Cuba was permitted under a general
license administered by the Commerce Department.

On February 2, 1989, FAC amended the Cuban Assets Control
Regulations to reflect the change contained in the Trade Act
amendment.

All financial and other transactions directly

incident to the physical importation and exportation of
informational materials are now authorized.

In drafting the

Regulations, we paid careful attention to the legislative history
of the amendment.

Our review of this material, as well as the

plain language of the statute, led us to define "informational
materials" as including tangible items that are fully created and
in existence at the time of the proposed transaction.

The goal of the amendment is to permit physical
importation and exportation of publications and similar items;
it is not to dismantle the current embargo.

So, while a U.S.

person may engage in any financial transaction necessary to

- 12 -

import a Cuban film, for example: he could not commission the
creation of a film under the authority of the Trade Act
amendment because the commissioning of a work goes far beyond
mere importation and necessarily involves countless transactions in which Cuban nationals would have an interest, and
which are not incidental to the actual importation of the film
into the United States.

Similarly, our Regulations exclude telecommunications
transmissions from the definition of "informational materials."
This decision reflects both our reading of the legislative
history, and the longstanding definition of "publications" and
similar materials used in other FAC sanctions programs.

Congress

commented favorably on the treatment of "publications" under both
the Libya and the Nicaragua sanctions programs.

In both cases,

the importation and exportation of publications were permitted,
but the definition of "publications," which covered each category
of informational materials cited in the Trade Act amendment, was
limited to tangible items.

The Libyan sanctions have a

separate general license for telecommunications, wholly
unrelated to the exemption for publications.

Telecommunications transmissions, are intangible and
cannot be "imported" in the traditional meaning of the word.
Nor is it possible to determine until after a transmission is
completed whether the transmission complies with the

- 13 -

restrictions in the Trade Act amendment on materials containing
sensitive and controlled information.

We believe Congress

intended the amendment to be administrable.

The authority of

the Trade Act amendment cannot, in our view, be stretched to
authorize the type of transactions that result from the
instantaneous transmission of events from an embargoed country.

Given the plain language of the statute and legislative
history citing the publications exemptions in our other
sanctions programs, it is apparent that Congress intended to
cover the movement of ideas contained in existing works.
Telecommunications transmissions include both live and
prerecorded works, and thus do not, as a class, fit the "work
in being" criterion.

The exception for the importation and exportation of
publications and other informational materials must be
reconciled with the existing embargo on Cuba.

In satisfying

our obligation to accommodate the free flow of informational
materials, we must insure that we do not inadvertently damage
the integrity of the existing economic sanctions against Cuba.
The inclusion of telecommunications in the scope of the Trade
Act authorization would have that effect; it would result in a
substantial flow of hard currency to Cuba to permit
instantaneous transmission of information that could otherwise
be made readily available in tangible form in a short time.
Practically, this means that a videotape of a Cuban cultural

- 14 -

event already in existence may be imported into the U.S. under
the exemption, but transactions for a live broadcast of the
event are not permitted without a specific license.

Such

transactions have on occasion in the past been given a specific
license.

In amending the Regulations to reflect the Trade Act
amendment, we specifically stated that the importation and
exportation of informational materials did not alter the
existing prohibition on travel related transactions.

This

matter is currently the subject of a case brought by a poster
seller who asserts tht the amendment exempts travel for the
purchase of these materials (Walsh v. Bradv).

It is our

position that travel-related transactions are too tangential to
the act of physical importation and exportation to be swept
into the authorization of the Trade Act.

Moreover, the Libyan Sanctions Regulations, cited favorably
in the legislative history, include a complete ban on travelrelated transactions despite the authorization of the
importation of publications.

Permitting unfettered travel to

Cuba any time an individual states that he intends to purchase
publications will effectively eliminate the travel transaction
restrictions contained in the Regulations.

Those restrictions

have been upheld against constitutional challenge by the
Supreme Court.

The denial of this important and desirable

15 -

source of hard currency is an important aspect of the embargo,
and we do not believe that Congress mandated its elimination so
indirectly.

The enforcement of the restrictions on travel-related
transactions does not represent a new policy on the part of
FAC. These restrictions have been in effect since 1982 when
President Reagan limited the transactions that are generally
authorized for travel.

B. Prohibitions

Other than the four limited categories I have just
discussed, all other commercial, financial and trade relations
of any nature are prohibited.

These prohibitions affect all

U.S. citizens and permanent residents wherever they are
located, all people and organizations physically in the United
States, and all branches and subsidiaries of U.S. organizations
throughout the world.

All of the following are prohibited: all imports,
exports, financial transactions, bank lending, sending money to
Cuba for any reason other than for families in limited amounts
as discussed earlier.

There is a total freeze on assets in the

U.S., both Government and private.

Any Cuban property or

property in which Cuba has an interest coming into the U.S.
will be blocked by operation of law.

16 -

All transactions with Cuba anywhere in the world by a U.S.
person are prohibited.

Anyone in the world acting for or on

behalf of Cuba is considered a Specially Designated National of
Cuba.

IV. Programs

Now I would like to turn to several FAC Enforcement and
Licensing programs that are of special concern to us at this
time.

A. Specially Designated Nationals of Cuba

Individuals or organizations who act on behalf of Cuba
anywhere in the world are considered by the U.S. Treasury
Department to be "Specially Designated Nationals" of Cuba.
When identified, their names are published in the Federal
Register,

The listing, however, is a partial one, and any U.S.

individual or organization engaging in transactions with
foreign nationals must take reasonable care to make certain
that such foreign nationals are not specially designated.

Specially Designated Nationals of Cuba operating in the
United States are subject to criminal prosecution and U.S.
individuals or organizations who violate the Regulations by
transacting unauthorized business with them are also subject to

- 17 -

criminal prosecution.

All prohibitions of the embargo apply to

SDN's as though they were physically located on the island of
Cuba.

FAC is continually updating this list to enhance the
effectiveness of the embargo—currently, it contains 258 names.
Over the past several months we have published the names of 51
vessels that are Cuban-owned but flying a non-Cuban flag.
These vessels are prohibited from entering U.S. ports or
conducting any transport or services whatsoever on behalf of
U.S. persons.

This message was sent clearly to Havana last

year when the foreign flagged Cuban-owned ship, the ACEFROSTY,
entered a U.S. port and was seized.

B. Family Remittance Forwarders and Travel Service
Providers

As I mentioned earlier, transmission of funds and travel
to Cuba are restricted.

To insure that only permissible

payments are being forwarded to Cuba, on November 23, 1988, we
initiated a program to effectively regulate all entities that
are providing these types of services.

The program:

1. Requires that persons engaged in service transactions
related to travel to Cuba obtain specific licenses from FAC for
such transactions and provides that such licenses will be

- 18 -

available only for persons who do not participate in
discriminatory practices of the Cuban government against
residents and citizens of the United States; and

2. Requires that persons wishing to provide commerical
services related to the collection or forwarding of remittances
to close relatives in Cuba obtain specific licenses from FAC.

We are currently in the middle of this licensing process.

The changes in the Regulations institute a specific
licensing program which applies to those persons engaged in or
intending to become engaged in the provision of family
remittance forwarding or provision of travel services.

a. Travel and Carrier Service Providers. Under the
Regulations, transactions of travel service providers are
authorized only in connection with arranging and assisting
persons whose travel to, from, and within Cuba is authorized
pursuant to one of the general or specific licenses.

It is the

responsibility of travel service providers, as well as the
individual traveler, to ensure that all travel to, from, and
within Cuba is within one of these authorizations.

Prior to the recent changes, transactions of travel
service providers assisting authorized travelers to, from, and
within Cuba were permitted under a general license.

Such

- 19 -

service providers did not need to file a written application
and receive a specific license from FAC in order to engage in
these activities.

Now, as a result of the amendment, the

general license provisions have been removed and a requirement
has now been imposed that a specific written license be sought
and obtained in order to provide any type of travel service
with respect to Cuba.

Under the Regulations, there are many

procedures and responsibilities, including recordkeeping and
reporting, which licensed service providers must follow.

b. Family Remittance Forwarders. As I mentioned earlier,
the Regulations authorize individuals to make remittances to
their close relatives in Cuba in amounts not to exceed $500 in
any consecutive 3-month period to any one payee or household.

addition, remittances may be made for the purpose of enabling
emigration from Cuba on a one-time basis in an amount not to
exceed $500 to any one payee.

Now, however, the amendment

requires specific licensing of persons who provide the service of
forwarding family remittances to Cuba for others.

Such

remittance forwarding services were not previously subject to a
specific licensing requirement under the Regulations.

Banks are

exempt from this provision and, thus, are not required to obtain
a specific license from FAC.

Currently, there are 52 entities that have been extended
provisional authority to provide the services outlined above.
FAC will act on each full and complete application as

- 20 -

expeditiously as possible to provide the applicant with either
a license or denial decision.

C. Cuban Bank Accounts and Other Assets

Any property of Cuba whatsoever which comes into the U.S.
is blocked.

There is a total freeze on Cuban assets, both

governmental and private, and on financial dealings with Cuba;
all property of Cuba, of Cuban nationals, and of Specially
Designated Nationals of Cuba in the possession of U.S. persons
is "blocked." Any property in which Cuba has an interest which
comes into the United States will automatically be blocked.
While Cuba or the Cuban national continues to own the property,
blocking imposes a complete prohibition against transfer or
transactions of any kind. No payments, transfers, withdrawals,
or other dealings may take place with regard to blocked
property unless authorized by the Treasury Department.

Since July 8, 1963, the Treasury Department has blocked
all property subject to the jurisdiction of the United States
in which a direct or indirect Cuban interest exists. This
includes all public and private Cuban-titled bank deposits and
other properties actually in the U.S. on July 8, 1963, and all
Cuban-titled properties and funds, including third-party funds
to the extent to which a Cuban interest in the funds exists,
which have come within the United States since that date. The

- 21 -

blocked property, which consists of approximately 1,550
accounts at 85 different U.S. financial institutions, now
totals over $77 million.

Another important objective of the sanctions is to
maintain the U.S.-located assets of Cuba in a blocked status as
a bargaining chip for use in negotiating an eventual normalization of relations and claims settlement.

The assets constitute

important collateral for the settlement of U.S. private
property claims for expropriation, defaulted bank loans, unpaid
U.S. exports and other claims.

D. General Enforcement Program

I will now highlight briefly those general law enforcement
matters that are of concern to us.

1. Illegal importations into the U.S. of Cuban origin
merchandise, such as artwork, cigars and agricultural
commodities, such as sugar, nickel, seafood and tobacco.

2. Illegal exportation of U.S. merchandise to Cuba,
directly, or indirectly via third countries, including not only
strategic items such as high tech goods, but also merchandise and
commodities of any nature whatsoever.

22 -

The illegal transmission and facilitation of family

remittances to Cuba in excess of amounts authorized.

4. The extortion of monies from the Cuban community by
the Cuban Government or by its agents or sympathizers residing
in the U.S. or abroad, or by specially designated nationals of
Cuba, which results in the transfer of money or anything of
value either directly or indirectly to Cuba.

5. The unauthorized travel to Cuba by persons who do not
qualify for general licenses or who do not hold specific
licenses issued by FAC.

6. The illegal arranging, promoting or facilitating of
travel to Cuba by travel service providers for unauthorized
travelers.

7. The transaction of business with firms which are
owned, controlled or acting for or on behalf of the Government
of Cuba or nationals thereof, i.e., Specially Designated
Nationals.

8. The transfer of currency to or from Cuba either
directly or through third countries for any reason whatsoever
other than a purpose authorized under the Cuban Assets Control
Regulations or with approval of FAC.

- 23 -

Enforcement Activities

Over the past year, FAC has been developing and
instituting joint procedures with other Federal agencies for
the early and continuous coordination of investigative
information, program development, technical assistance, case
monitoring, effective prosecution and penalties for violations
of controls.

We have coordinated our efforts with the U.S. Customs
Service; the Department of Commerce; the Federal Bureau of
Investigation; the Justice Department's Criminal Division; and
the United States Attorneys' offices around the nation.

FAC has also been developing and instituting a program for
the systematic training of inspectors, agents, and other
Customs personnel in the scope and nature of the economic
embargo and sanctions programs which the office enforces.

The office also has developed and instituted a program of
"public awareness" for both public and private sectors.

This

effort has enabled FAC to identify areas where violations are
most likely to occur and to publicize FAC requirements more
widely to selected target groups.

- 24 -

VI.

Enforcement Results

The following actions are representative of the results of
recent enforcement initiatives undertaken by FAC:

A. Individuals pled guilty to conspirary to violate the
Trading With the Enemy Act in connection with the exportation
of computer equipment to Cuban front companies located in
Panama.

B. A Cuban-owned merchant vessel the ACEFROSTY was
blocked in the port of Savannah, Georgia for entering U.S.
territorial waters and subsequently released under an agreement
to forfeit a $250,000 bond.

C. An aircraft belonging to a specially designated
national of Cuba, American Airways Charter, was seized and
subsequently sold at auction and the proceeds were placed in a
blocked bank account in the United States.

D. A third country-flag oil tanker was seized in Puerto
Rico for carrying Cuban-origin cargo into the United States in
violation of the Trading With the Enemy Act.

- 25 -

In addition to these enforcement results, I should mention
that we have several other ongoing investigations and court
actions.

I am not at liberty to discuss these matters.

shall enforce this program fairly and equitably and to the
fullest extent possible under existing law.

U.S. FOREIGN SUBSIDIARY TBADS WITH CUBA
FISCAL TEAMS /<?0Z * /<?87
TABLZ Z
STTXMARY OP LICENSTO P.S. PQRFTrniTORSTPTARYTRADE WITH CUBA
A.

ipptTeiTToiw n ma rr ma

EXJUUI

n int fXL22Z

»BS

1. Application. If 3 1& 243 245 247 /<?8
Approved
2. Application* 0^210 2.
denied
3. Application* 7 « 3 10 2 \
net acted upon
TOTAL APPLICATIONS 170 153 2S0 2S« 24» ^Q\
B.

EXPORTS TO

enrnx

p. a. DOLLARS* AMP AS A raegNTASF.
OF TOTAL TRADE
$48
$ SS
$ 12
$ lot
$ St
19 %
39 %
30 t
31 %
16 %

TW MTIT/TOWS OF

1. Grain, Wheat,
and other
consumable*
2. Industrial
$ 44
$32
$ 34
$ 53
$ 49
and other
17 t
23 %
12 %
11 %
14 t
non-consumables
Subtotal exports
$ 92
$ S7
$ IIS
$ 142
$ 99
34 %
42 %
42 %
34 %
30 %
C.

TMPORTS FROM

anx rw wrT.T.Tnww a» p.s. POUARS*
OF TOTAL TRAPS

* S"+
2X7.
i 76
3i %
*I23
^ */0

AWP AS A PERCENTAGE

1. Naphtha $ 54 $ 28 $ 120 $ 35 $ 65
31 %
20 %
44 %
2. Sugar $ 105 $ 26 $ 39 $ 91 $ 181
42 %
IS %
14 %
3. Tobacco $ 0.7 $ 0.4 $ 0.2 $ 0.2 $ 0.3
0.2%
0.3%
0.07%
4. Holaasaa $1 $0 $0 $0 $0
0.4%
0 %
0 %
S. Others $0 $ 0.7 $ 0 $0 $0
0 %
0.5%
0 %
Subtotal Zsports $ 161 $ 55 $ 159 $ 126 $ 254
64 %
38 %
58 %
0. TOTAL EXPORTS $ 253 $ 142 $ 275 $ 288 $ 354
k IMPORTS
PERCENT INCREASE
21 %
(44) %
94 %
(DECREASE)
B. EXPORT/DtPOKT 36/ 62/ 42/ 54/ 30/ 5.V
RATIO
64
38
58
SOURCE; U.S. TREASURY DEPARTMENT
Office of Foreign Assets Control
NAY *•#» /<708
•-Numbers are rounded. Items say not add to totals
due to rounding.

S 33
12 %

18 %

52 t

181
33 %
io.Z

0 %

f 0
0%

0 %

44 %

70 %

* 2*3
5 %

23 %

oox
S^l

TABLZ II
U.S. DOLLAR VALUES OP LICENSED U.S. SUBSIDIARY TRANSACTIONS WI TH CUBA
(IN MILLIONS 07 DOLLARS*)
PY 1984

PY 1985

110.00

$12.00

131.69

0.40

Austria

0.10

Belgian

0.10

Bermuda

COUNTS!

rr 1982

PY 1983

Argentina

122.00

Australia

PY 1986

PIVE YEAR FYF7
TOTAL

$22.35

$103.04

.40

2.39

2.49

0.10

0.11

.36

• 64

1.31

/.3«

53.00

47.00

€5.00

165.00

Brazil

0.02

. 0

.02

Canada

45.00

29.40

40.20

33.35

63.38

Casta Rica

0.02

1.35

1.37

Cenaart

0.50

.50

18.00

0.03

0.20

1.29

5.06

.67

.48 6.i£

Trinci
Italy

0.10

0.09

0.08

.11

0.70

0.73

9.50

4.98

Netherlands

0.10

0.20

0.83

0.60

.87

Panaaa

1.00

0.50

25.00

Spain

€.00

4.00

S.00

7.59

10.93

Sweden

0.20

0.10

0.26

5.73

.09

17.00

•2.03

63.30

76.34

United Xlngdoa 107.00

31.00

43.08

130.47

168.54

0.10

0.50

0.40

1.00

1.02

.17

$253.00

$142.00

5275.00

$288.72

S354.13

Japan
Mexico

Switzerland

Venezuela
Vest Germany
TOTALS

n • negligible (less th an $ 10,000)
• • Number* are rounded , therefore totals aa y not add.
SOURCE; TREASURY DEPARTMENT
Office of Poreign Assets Control
MA? ***?-/<?&&

***

211.33 -».#

24.58 10-01
o

15.91 3.SC
2.60

26.50 t o
22.59 ?.<tf
6.38

O.H

238.77 Si ^5
480.09 JOf.fZ
.10 M. £
3.29

<?.?/

$13 0 7.42 J*.7<

TABLE lit
rnxiiap u.s. D M J A R

VRUUB*

row

LIOHSBD

pttOKT/pgQRT

TRANSACTIONS WITH O B A ST U.B. SUBSIDIARIES

(in millions or dollars)
PY 1982
CGDM

COUNTRY
Argentina

PY 1983
Cuban Cuban
Imports Exports

QEan

Impacts Exports
CON.

N-OON.

4.M

U.U

CON.

N-CON.

10. M

PY 1984
Cuban Cuban
Imports Exports
CON. N-OON.

rra—rwr

PY 1905
Cuban Cuban
Importa Exports
CON. N-OON.
31.70 9.99

PY 1984
F^
Cuban Cuban
Imports Exports
J>p E*t\. *
CON. N-OON.
Ct»i N'C

Australia

0.44

0.20

Austria

•

8.18

Belgium

•

0.10

0.11

0.12 0.24

Bermuda

SJ.00 0

0.02

Brasll
Canada '
Costa Ilea

.00 29.00 19.00
0

27.00 20.0
0
.40 16.0
0

0
0
13.00
0

€5.00
0

0.20 21.00 19.00
0

0.02

2.19

15.49 17.49
0

11.42 tl. 5-*>,?/,</
0
0
0
O

0 o
o

1.1$

Italy

1.00

0.01

0.20

Mexico

Netherlands

0.10

00 0

0
.20 0

o.n I T

$.06

0.67

o.u

o o.iS

0.71

•

9.50

4.90

o 3,5*

0.10

0.01

0.29 0.10

0.07

25.00

o 0
o o

0.$

Spain

6.00

4.00

$.00

2.44 5.12

0.02 10.91 O

Sweden

0.20

0.10

0.26

2.46 1.27

•vltiarlana

17.0

55.00 27.00

0.01

25.81 8.46

.0 11.14

1.00

39.00

0.08

4.00

17.06 1.21

14 .16 0.60

0.09 o

United llngdom 105 00 0
0
Venezuela

2.00
0

0.10

o o

Heat Germany

0.JO

0.40

1.00

1.02

•

•
CON. •
N-OON. •
n
«

0.70

.00 2.0

1.29

Japan

Panama

o
17.00

14.81 17.00 10.1$ 0,1 1^.5" 113

Denmark
franco

Numbars rounded. Items may not add to totals dot to rounding.
Consumable goods
ltor»-<bnaumable goods
Negligible

80U1CBI 1TOASURY OEFMrPtafT
Office of Foreign

MAY i*t* nee

O.U

»*'3

0.0%

15.0 JA?

2.$7 16.0 £5*25.3

o
0*17 0

ts Control

o iH.*
O 0.<\

TREASURY NEWS ISP

Department of the Treasury • Washington, D.C. • Telephone 566FOR RELEASE WHEN AtITribRIZE^C^5i^SS CONFERENCE
August 2, 1989
CONTACT:
fllG 4

3 11 ;H : 3

Office of Financing
202/376-4350

TREASURY AUGUST QUARTERLY FINANCING
The Treasury will raise about $13,600 million of new cash
and refund $15,904 million of securities maturing August 15,
1989, by issuing $10,000 million of 3-year notes, $9,750 million
of 10-year notes, and $9,750 million of 30-year bonds. The
$15,904 million of maturing securities are those held by the
public, including $2,151 million held, as of today, by Federal
Reserve Banks as agents for foreign and international monetary
authorities.
The three issues totaling $29,500 million are being offered
to the public, and any amounts tendered by Federal Reserve Banks
as agents for foreign and international monetary authorities
will be added to that amount. Tenders for such accounts will be
accepted at the average prices of accepted competitive tenders.
In addition to the public holdings, Federal Reserve Banks
hold $3,134 million of the maturing securities for their own
accounts, which may be refunded by issuing additional amounts of
the new securities at the average prices of accepted competitive
tenders.
The Treasury will postpone these auctions unless it has
assurance of enactment of legislation to raise the statutory debt
limit before the scheduled auction dates.
The 10-year note and 30-year bond being offered today will
be eligible for the STRIPS program.
If. under Treasury's usual operating procedures, the
auction of 3-year notes results in the same interest rate as the
outstanding 7-1/4% bonds of August 15. 1992. the new notes will
be issued with a 7-1/8% or a 7-3/8% coupon. The 7-1/8% coupon
will apply if the auction results in a yield in a range of 7.13%
through 7.31%.
Details about each of the new securities are given in the
attached highlights of the offering and in the official offering
circulars.
oOo
Attachment
NB-404

HIGHLIGHTS OF TREASURY OFFERINGS TO THE PUBLIC
AUGUST 1989 QUARTERLY FINANCING
Amount Offered to the Public
Description of Security;
Term and type of security
Series and CUSIP designation

$10,000 million

3-year notes
Series T-1992
(CUSIP No. 912827 XV 9)
CUSIP Nos. for STRIPS Components.. Not applicable

Issue date August 15, 1989
Maturity date
Interest rate

August 15, 1992
To be determined based on
the average of accepted bids
Investment yield
To be determined at auction
Premium or discount
To be determined after auction
Interest payment dates
February 15 and August 15
Minimum denomination available.... $5,000
Amount required for STRIPS
Not applicable
Terms of Sale:
Method of sale
Yield auction
Competitive tenders
Must be expressed as
an annual yield with two
decimals, e.g., 7.10X
Noncompetitive tenders
Accepted in full at the average price up to $1,000,000
Accrued interest
payable by investor
None
Payment Terms:
Payment by non-institutional
investors
Full payment to be
submitted with tender
Payment through Treasury Tax
and Loan (TT&L) Note Accounts
. Acceptable for TT&L Note
Option Depositaries
Deposit guarantee by
designated institutions
Acceptable
Key Dates:
Receipt of tenders
Tuesday, August 8, 1989,
prior to 1:00 p.m., EDST
Settlement (final payment
due from institutions):
a) funds immediately
available to the Treasury
Tuesday, August 15, 1989
b) readily-collectible check
Friday, August 11, 1989

$9,750 million

August 2, 1989
$9,750 million

10-year notes
Series C-1999
(CUSIP No. 912827 XU 7)
Listed in Attachment A
of offering circular
August 15, 1989
August 15, 1999
To be determined based on
the average of accepted bids
To be determined at auction
To be determined after auction
February 15 and August 15
$1,000
To be determined after auction

30-year bonds
Bonds of 2019
(CUSIP No. 912810 ED 6)
Listed in Attachment A
of offering circular
August 15, 1989
August 15, 2019
To be determined based on
the average of accepted bids
To be determined at auction
To be determined after auction
February 15 and August 15
$1,000
To be determined after auction

Yield auction
Must be expressed as
an annual yield with two
decimals, e.g., 7.10X
Accepted in full at the average price up to $1,000,000

None

Full payment to be
submitted with tender

Acceptable for TT&L Note
Option Depositaries

Acceptable

Wednesday, August 9, 1989,
prior to 1:00 p.m., EDST

Thursday, August 10, 1989,
prior to 1:00 p.m., EDST

Tuesday, August 15, 1989
Friday, August 11, 1989

TREASURY NEWS

apartment of the Treasury • Washington, D.C. • Telephone 566-2041
-AR?,R0CM 5310
For Release Upon Delivery
Expected at 2:00 p.m. EST
August 3, 1989

u.,i, , 3 •]. -U tf

STATEMENT OF
KENNETH W. GIDEON
ASSISTANT SECRETARY (TAX POLICY)
DEPARTMENT OF THE TREASURY
BEFORE THE
SUBCOMMITTEE ON ENERGY AND AGRICULTURE
COMMITTEE ON FINANCE
UNITED STATES SENATE
Mr. Chairman and Members of the Subcommittee:
I am pleased to have this opportunity to present the views of
the Treasury Department regarding the tax implications of S. 828,
the "Enhanced Oil and Gas Recovery Tax Act of 1989." The bill
would amend the Internal Revenue Code of 1986 (the "Code") to
provide incentives for the removal of crude oil and natural gas
through enhanced oil recovery techniques.
The bill, as introduced, has three major components: (1) an
increased depletion rate of 27.5 percent for domestic oil and gas
recovered through enhanced recovery techniques, phased-down as
the price of crude oil increases above $30 per barrel (adjusted
for inflation); (2) an exception from the alternative minimum tax
rules for excess depletion and excess intangible drilling costs
("IDCs") incurred with respect to domestic properties that
produce oil and gas through the use of enhanced recovery
techniques if the average annual removal price of oil for the
taxpayer is less than $30 per barrel (adjusted for inflation);
and (3) a 10-percent research and development tax credit for
research to discover or improve tertiary recovery methods. In
addition, the bill generally would not treat barrels of enhanced
domestic tertiary oil and gas produced by an independent producer
or royalty owner as barrels of oil or gas produced by such person
m applying the 1,000 barrel-per-day limitation on the percentage
depletion deduction. Finally, the bill would increase the net
income limitation from 50 percent to 100 percent of net income in
the case of depletable property which produces domestic
incremental tertiary crude oil or natural gas during the enhanced
recovery period. The increase would apply to both independent
and integrated producers.
NB-405

-2As you are aware, the President proposed in his budget for
fiscal year 1990 a new incentive program for the oil and gas
industry which would provide tax incentives for both the removal
of crude oil and gas through enhanced recovery techniques and the
exploration for new oil and gas fields. Under the President's
proposal, the Code would be amended to: (1) allow a temporary
10-percent tax credit for the first $10 million of expenditures
(per year per company) on exploratory IDCs and a 5-percent credit
for the balance; (2) allow a temporary 10-percent tax credit for
all capital expenditures on projects that represent new
application S of tertiary enhanced recovery techniques to a
property; (3) eliminate the "transfer rule," which discourages
the transfer of proven properties to independent producers and
royalty owners; (4) increase the percentage depletion deduction
limit for independent producers to 100 percent of the net income
of each property; and (5) eliminate 80 percent of current
alternative minimum tax ("AMT") preference items generated by
exploratory IDCs incurred by independent producers. The
temporary tax credits would be phased out if the average daily
U.S. wellhead price of oil is at or above $21 per barrel for a
calendar year. These proposals would take effect on January 1,
1990. The President's initiative will be detailed in a bill
currently under preparation.
The President's proposal and S. 828 share the goal of
increasing domestic oil and gas reserves as a means of improving
our energy security. While we prefer the proposals outlined in
the budget, we believe that alternative proposals, such as S. 828
should be explored. Indeed, S. 828 and the President's program
have many similar features. Like the President's proposal, the
bill addresses the need to increase the percentage depletion
deduction limit, although we would apply the increase to
independent producers with respect to all domestic oil and gas
projects. In addition, we are encouraged to learn that
modifications suggested by Senator Domenici and his staff to
S. 828 would limit the amount of the bill's depletion incentive
to recovery of investment in a tertiary project and would replace
the R&D credit for tertiary recovery methods with a more general
credit for capital expenditures on tertiary projects. As
modified, either of these provisions would be more closely
aligned with the President's proposed tax credit for tertiary
projects.
We believe, however, that a tax credit, whether along the
lines of the President's proposal or the bill's credit
provisions (if modified as suggested), would provide a more
effective incentive than the 27.5 percent depletion rate
proposal, because the credit corresponds directly to the
expenditure. We would not favor providing both a credit and
increased depletion.
It is also our belief that oil and gas tax provisions should
not be limited to encouraging the reclamation of old fields but

-3also should encourage exploratory drilling. The bill focuses the
depletion incentive and tax credit on tertiary recovery projects.
The President's program goes a step further and encourages
exploratory drilling with a combination of temporary IDC credits,
less restrictive rules for_the use of percentage depletion and
AMT relief. These incentives are targeted particularly to
independent producers, which have historically drilled a majority
of our exploratory wells.
In addition to these substantive views, we have several
technical comments on S. 828. I will discuss these in more
detail after reviewing the provisions of the bill.
Provisions of the Bill
Increased Depletion Rate. Under percentage depletion, 15
percent of the taxpayer's gross income from an oil- or gasproducing property is allowed as a deduction in each taxable
year. The amount deducted cannot exceed 50 percent of the
taxable income from the property for the taxable year, computed
without regard to the depletion deduction (the "net income
limitation"). Under present law, only independent producers and
royalty owners may use percentage depletion, for up to 1,000
barrels of average daily domestic crude oil production, or an
equivalent amount of domestic natural gas. Integrated producers,
those that refine or retail oil or gas, must use generally less
favorable cost depletion for oil and gas production. Percentage
depletion is not allowed with respect to the transferee of a
transferred proven oil- or gas-producing property.
Under present law, the cost of certain tertiary injectants is
deductible. Such cost includes any cost paid or incurred for a
tertiary injectant which is used as part of a tertiary recovery
method. A tertiary recovery method is any method enumerated in
subparagraphs (1) through (9) of section 212.78(c) of the June
1979 energy regulations. A taxpayer may also use any method
approved by the Secretary.
S. 828 would amend section 613A of the Code to permit all
taxpayers (including both independent and integrated producers)
to use percentage depletion with respect to the production of
domestic "incremental tertiary crude oil and natural gas" during
the "enhanced recovery period." The depletion- rate would be
increased to 27.5 percent, the historic rate for oil and gas
which was in effect for 43 years until 1969. Under the bill, the
27.5 percent rate would be phased-down to 15 percent by one
percentage point for every dollar that the taxpayer's average
removal price of oil for the calendar year exceeds $30 per
barrel, a ceiling which would be indexed for inflation.
Under the bill, the term "incremental tertiary oil or gas"
means production eligible for incentive depletion. The increased
depletion rate would be allowed for production of incremental
tertiary oil or gas during a limited period, the "enhanced

-4recovery period." The enhanced recovery period would be
determined under a schedule published by the Secretary of the
Treasury. The schedule would be designed to establish the
average period of time necessary for a taxpayer to recover the
investment in an enhanced recovery project. The schedule would
specify enhanced recovery periods for each type of enhanced
recovery project, and would also take into account any variations
among regions of the country that might affect the length of the
enhanced recovery period. A tertiary project qualifying for
accelerated depletion would be defined under the provisions of
the now repealed windfall profit tax, with certain modifications.
In addition, the bill would increase the net income
limitation from 50 percent to 100 percent of net income in the
case of depletable property which produces domestic incremental
tertiary crude oil or natural gas during the enhanced recovery
period.
The provision would be effective for oil and gas production
after the date of enactment and before January 1, 2010. The
provision would apply after December 31, 1999, only to production
from a project begun before January 1, 2000. Expansion of a
project begun on or after the date of enactment would be treated
as a separate project. In the case of production from a project
begun on or before the date of enactment, the rate for percentage
depletion would be 18 percent rather than 27.5 percent.
Alternative Minimum Tax. Under present law, the deduction
for depletion is an item of tax preference for purposes of the
individual and corporate alternative minimum taxes, to the extent
that the depletion deduction constitutes excess percentage
depletion. Excess percentage depletion is defined as the excess
of the taxpayer's allowable depletion deduction for the taxable
year with respect to a particular oil- or gas-producing property
over its adjusted basis in such property at the end of the year
(prior to adjusting the basis for current year allowable
depletion). The deduction for IDCs on successful oil and gas
wells is also an item of tax preference for purposes of the
individual and corporate alternative minimum taxes, to the extent
that the taxpayer's excess IDCs exceed 65 percent of its net
income from oil and gas properties.
S. 828 would repeal the treatment of excess depletion and
excess IDCs as items of tax preference with respect to domestic
properties that produce oil and gas through the use of enhanced
tertiary recovery techniques if the average annual removal price
of oil for the taxable year is less than $30 per barrel, a
ceiling which would be indexed for inflation. These provisions
would be effective for costs paid or incurred after the date of
enactment.
Tax Credit. Under present law, a credit is allowed with
respect to certain costs incurred by taxpayers for increasing
qualified research activities (the "R&D credit"). The amount of

-5the credit is equal to 20 percent of the excess of current
qualified research expenses over the average of such expenses
incurred by the taxpayer over the preceding three taxable years.
A 20-percent credit is allowed for certain costs incurred
domestically for an original investigation for the advancement of
scientific knowledge which does not have a specific commercial
objective. There are not any special rules which apply
specifically to research relating to tertiary recovery methods.
The bill, as introduced, provides that research to discover or
improve tertiary recovery methods for domestic crude oil or
natural gas will be treated as research which qualifies for the
R&D credit if the research is based on accepted principles of
engineering. The rules (including computation of base period
amounts) would be applied separately to such research activities.
The credit percentage applicable to such tertiary research would
be 10 percent, rather than the 20-percent credit generally
applicable under current law.
Discussion
I would now like to turn to a discussion of the specific
provisions of the bill and offer some technical considerations.
Depletion Incentives. First, it is not clear under the bill,
as introduced, whether the amount of percentage depletion will be
limited to the recovery of the expenses of the qualified tertiary
project involved, a so-called "pay-back" concept, or whether the
amount of percentage depletion allowable may be higher than the
taxpayer's investment. Proposed section 613A(e)(1)(A) states
that the increased allowance for depletion "shall be computed in
accordance with section 613." Under current law, section 613
does not have any limitation related to investment in a project.
If a "pay-back" limitation on the bill's depletion incentive is
intended, the bill should be modified to include such a
limitation.
Second, the system of enhanced recovery periods set forth in
the bill raises many questions. Proposed section 613A(e)(4)
states that the schedule of enhanced recovery periods to be
published by the Secretary will be "based on the average period
which is required for a project to recover the expenses of the
type of qualified tertiary recovery project involved." Rather
than reliance on a schedule, we believe that each taxpayer's
advanced recovery period should be determined by the actual
length of time it takes to recover the taxpayer's investment. In
our view, it will be difficult to provide a uniform schedule
which treats taxpayers fairly without being extremely complex.
The schedule may have to take into account variations in the
price of oil, project size, regional variations, and, possibly,
differences among major fields or producing areas in the same
region. Given the wide fluctuations in oil prices in recent
years, it will be necessary to revise the schedule fairly often,
resulting in little uniformity in recovery periods and making the
law difficult for taxpayers and the Service to apply. In

-6addition, under a uniform schedule, taxpayers whose projects do
not conform to the anticipated recovery period may recover
significantly more or less accelerated depletion than their
actual investment. Taxpayers will have an incentive to try to
produce as much oil as possible within the enhanced recovery
period, rather than by planning production based upon the field
and specific project.
We believe it would not be difficult to define by statute the
types of costs eligible for the credit. These types of projects
tend to be large, expensive undertakings that taxpayers would
normally account for in a comprehensive manner. Limitation of
increased depletion to actual investment should not be an
excessive burden.
Third, the phaseout provisions need modification. Under the
bill, the phaseout with respect to any given taxpayer is
dependent on the price at which the taxpayer actually sells oil
during the year. While that may be the most accurate manner in
which to measure the effect of rising prices on any particular
taxpayer, it introduces an unnecessary level of complexity into
the system. This is especially true since the phaseout is one
percent for each dollar above $30 per barrel. Accordingly, a
number of different depletion rates could apply for different
taxpayers in a single year. It would be easier to administer the
phaseout by tying it to a national price, so that the applicable
depletion rate could be determined on a nationwide basis. It
might also be preferable to adjust the depletion rate
prospectively; thus, any year's depletion rate would be based on
the prior year's prices. This would afford taxpayers certainty
in planning for any given year.
Finally, the definition of a tertiary project should be
updated. For its basic definition of a tertiary project, the
bill refers to the now repealed windfall profits tax statute,
which in turn refers to obsolete regulations that were issued by
the Department of Energy in 1979 and were subsequently withdrawn.
While the basic definition provided by this approach may well be
reasonable, we believe it would be preferable to provide a
definition in the statute. We would be pleased to work with the
Subcommittee if it should decide to formulate a statutory
definition of a tertiary project.
Alternative Minimum Tax Provisions. Although the
Administration favors modifying the AMT provisions to encourage
an increase in domestic reserves, we believe that such relief
should be targeted to exploratory drilling, as we have proposed.
We also have a number of technical suggestions with respect
to the AMT relief provisions of S. 828. Such relief is
completely phased out for any year in which the taxpayer's
average selling price exceeds $30 per barrel. As with the bill's
depletion incentive, we believe that any such phaseout should be
based on national prices rather than on the taxpayer's own

-7selling price for oil. We also believe that the phaseout should
be made effective commencing with the year following the year in
which prices exceed $30 per barrel. Since this credit is reduced
to zero when prices exceed $30 per barrel, taxpayers are entitled
to know well in advance whether their investment in tertiary
activities will be eligible for the credit.
Tax Credit. The Administration does not support the concept
of an R&D credit targeted specifically to tertiary recovery
methods. Under the bill, as introduced, the credit would only be
available with respect to research to discover or improve a
tertiary recovery method. Furthermore, the credit would be
limited to expenses in excess of a base period limitation. We
believe that a credit for investment in tertiary projects should
be enacted. However, we believe it should be enacted in its own
section and should not be made part of the general R&D credit.
Furthermore, we believe it should function as an incentive for
all investment in tertiary projects, not merely research and
development.
We appreciate the opportunity to appear before your
Subcommittee to discuss S. 828 and the President's energy
proposals. I will be happy to answer any questions you may have
about these matters.

TREASURY NEWS HP

Department of the Treasury • Washington, D.c. • Telephone 566FOR RELEASE WHEN AUTHORI2ED3A$ PRESS CONFERENCE
August 2, 1989
CONTACT: Office of Financing
fr .
202/376-4350
CLPAR TREASURY OFFERS $10,000 MILLION
OF 247-DAY CASH MANAGEMENT BILLS
The Department of the Treasury, by this public notice,
invites tenders for approximately $10,000 million of 247-day
Treasury bills to be dated August 15, 1989, and to mature
April 19, 1990 (CUSIP No. 912794 UA 0).
Tenders will be received at Federal Reserve Banks and
Branches prior to 12:00 noon, Eastern Daylight Saving time,
Thursday, August 10, 1989. The bills will be issued on a discount basis under competitive and noncompetitive bidding, and
at maturity their par amount will be payable without interest.
This series of bills will be issued entirely in book-entry form
in a minimum amount of $10,000 and in any higher $5,000 multiple
on the records of the Federal Reserve Banks and Branches.
Tenders will not be accepted for bills to be maintained on
the book-entrv records of the Department of the Treasury
(TREASURY DIRECT). Tenders will not be received at the
Department of the Treasury, Washington.
Additional amounts of the bills may be issued to Federal
Reserve Banks as agents for foreign and international monetary
authorities at the average price of accepted competitive tenders.
The Treasury will postpone this auction unless it has
assurance of enactment of legislation to raise the statutory debt
limit before the scheduled auction date.
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must be
in multiples of $5,000. Competitive tenders must also show the
yield desired, expressed on a bank discount rate basis with two
decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This
NB-406information should reflect positions held as of 11:30 a.m.,
Eastern time, on the day of the auction. Such positions would
include bills acquired through "when issued" trading, futures,

2 and forward transactions. Dealers, who make primary markets in
Government securities and report daily to the Federal Reserve Bank
of New York their positions in and borrowings on such securities,
when submitting tenders for customers, must submit a separate
tender for each customer whose net long position in the bill
being offered exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise
dispose of any noncompetitive awards of this issue being auctioned
prior to the designated closing time for receipt of tenders.
No deposit need accompany tenders from incorporated banks and
trust companies and from responsible and recognized dealers in
investment securities. A deposit of 2 percent of the par amount
of the bills applied for must accompany tenders for such bills from
others, unless an express guaranty of payment by an incorporated
bank or trust company accompanies the tenders.
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Those
submitting competitive tenders will be advised of the acceptance
or rejection of their tenders. The Secretary of the Treasury
expressly reserves the right to accept or reject any or all
tenders, in whole or in part, and the Secretary's action shall
be final. The calculation of purchase prices for accepted bids
will be carried to three decimal places on the basis of price
per hundred, e.g., 99.923. Settlement for accepted tenders in
accordance with the bids must be made or completed at the Federal
Reserve Bank or Branch in cash or other immediately-available funds
on Tuesday, August 15, 1989. In addition, Treasury Tax and Loan
Note Option Depositaries may make payment for allotments of bills
for their own accounts and for account of customers by credit to
their Treasury Tax and Loan Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which the
bill matures. Accrual-basis taxpayers, banks, and other persons
designated in section 1281 of the Internal Revenue Code must
include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76 and 27-76, and this notice, prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars may be obtained from any Federal Reserve Bank or
Branch.

TREASURY NEWS

Department of the Treasury • Washington, D.C. • Telephone 566-2
LiC^iRY ROOM 5310
FOR IMMEDIATE RELEASE
August 3, 1989

CONTACT:

Office of Financing
202/376-4350

ft;/. 1 9 n JH 'S3
vivMi'iteLH: it*

t. !Ri» ->t^

RESULTS OF TREASURY'S AUCTION
OF 45-DAY CASH MANAGEMENT BILLS
Tenders for $5,002 million of 45-day Treasury bills to
be issued on August 7, 1989, and to mature September 21, 1989,
were accepted at the Federal Reserve Banks today. The details
are as follows:
RANGE OF ACCEPTED COMPETITIVE BIDS
Discount
Rate
Low
High
Average

Investment Rate
(Equivalent CouDon--Issue Yield)

7.95%
8.00%
7.98%

8.14%
8.19%
8.17%

Price
99.006
99.000
99.003

Tenders at the high discount rate were allotted 22%.
TOTAL TENDERS RECEIVED AND ACCEPTED
BY FEDERAL RESERVE DISTRICTS
(In Thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
TOTALS

NB-407

AcceDted

Received
$

20,705,000
-—
—
--

1,950,000
--

15,000
-—

3,809,560
-—
—
--

461,000
-----

1,185,000

731,500

$23,855,000

$5,002,060

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041

FOR RELEASE AT 3;00 PM
August 4, 1989

Contact: Peter Hollenbach
(202) 376-4302

TREASURY ANNOUNCES ACTIVITY FOR
SECURITIES IN THE STRIPS PROGRAM FOR JULY 1989
The Department of the Treasury announced activity figures for the
month of July 1989, of securities within the Separate Trading of
Registered Interest and Principal of Securities program, (STRIPS).
Dollar Amounts in Thousands
Principal Outstanding
(Eligible Securities)

$346,648,886

Held in Unstripped Form

$265,160,196

Held in Stripped Form

$81,488,690

Reconstituted in June

$2,092,400

The attached table gives a breakdown of STRIPS activity by
individual loan description.
The Treasury now reports reconstitution activity for the month
instead of the gross amount reconstituted to date. These monthly
figures are included in Table VI of the Monthly Statement of the
Public Debt, entitled "Holdings of Treasury Securities in Stripped
Form." These can also be obtained through a recorded message on
(202) 447-9873.
oOo

NB-408

TABLE VI-HOLDINGS OF TREASUBY SECURITIES IN STRIPPED FORM, JULY 31, 1989
(In thousands)
Principal Amount Outstanding
Loan Description

Maturity Date

Portion Held m
Unstripped Form

Reconstituted
This Month'

Portion Held in
Stripped Form

11-5/8% Note C-1994

11/15/94

$6,658,554

$5,562,554

$1,096,000

11-1/4% Note A-1995

.2/15/95 .

6.933.861

6.228.101

705.760

$44,000

-0-

11-1/4% Note B-1995

5/15/95

7,127,086

5.337.806

1.789.280

49.600

10-1/2% Note C-1995

8/15/95

7,955,901

7,143.501

812.400

20.000

9-1/2% Note D-1995 .

11/15/95

7,318.550

6,477.750

840.800

60.000

8-7/8% Note A-1996

2/15/96

8.411.839

8,109,439

302.400

-0-

7-3/8% Note C-1996

5/15/96

20,085,643

19,882,443

203.200

-0-

7-1/4% Note D-1996

.11/15/96

20.258.610

20.147,610

111,200

32.000

8-1/2% Note A-1997

5/15/97

9,921.237

9.776,037

145.200

-0-

8-5/8% Note B-1997 . .

8/15/97

9,362.836

9.362.836

-0-

8-7/8% Note C-1997

11/15/97.

9,808.329

9.793,929

14,400

20.800

2/15/98 .

9.159.068

9,158,428

640

-0-

.5/15/98 .

9,165.387

9.135,387

30,000

-0-

11.342.646

11.221,046

121.600

-0-

9,902.875

9.902.875

-0-

-0-0-

8-1/8% Note A-1998 . .
9 % Note B-1998
9-1/4% Note C-1998 . .

8/15/98

8-7/8% Note D-1998 . .

11/15/98.

8-7/8% Note A-1999 .

.2/15/99

9,719.628

9.719,628

-0-

9-1/8% Note B-1999 .

5/15/99

10,047,103

10.047,103

-0-

.11/15/04

8.301,806

3.447,406

4,854.400

180.800

5/15/05

11-5/8% Bond 2004. . .
1 2 % Bond 2005

-0-

4,260,758

1.857.908

2,402.850

57.000

10-3/4% Bond 2005...

.8/15/05 .

9.269.713

7,220,913

2.048.800

80,000

9-3/8% Bond 2006 ...

.2/15/06 .

4,755,916

4.755,916

11-3/4% Bond 2009-14

.11/15/14.

6,005.584

1.616,584

4.389.000

11-1/4% Bond 2015...

.2/15/15 .

12,667,799

2.830,839

9,836,960

10-5/8% Bond 2015...

.8/15/15 .

7.149.916

1.847,516

5.302.400

-0-

9-7/8% Bond 2015. ...

.11/15/15.

6,899.859

2,354.259

4.545,600

12.800

9-1/4% Bond 2016

.2/15/16 .

7.266,854

5.196.454

2,070,400

32,000

7-1/4% Bond 2016.. . .

.5/15/16 .

18.823.551

15,905.951

2.917,600

389.600

11/15/16

204.400

-0-

-0238,200
-0-

18.864,448

9,892.368

8.972,080

.5/15/17

18.194,169

7.469,049

10.725,120

23.200

8-7/8% Bond 2011....

.8/15/17 .

14,016,858

9.348.058

4,668,800

344.000

9-1/8% Bond 2018 . ..

.5/15/18

8.708.639

4,782,239

3.926.400

-0-

9 % Bond 2018

.11/15/18.

9.032,870

4,201,470

4.831.400

80.000

8-7/8% Bond 2019 . .

.2/15/19 .

19,250,793

15,426,793

3,824,000

224.000

346,648.886

265.160,196

81,488,690

2.092.400

7-1/2% Bond 2016.
8-3/4% Bond 2017

Total
1

Effective May 1, 1987, securities held in stripped form were eligible for reconstitution to their unstripped form.

Note: O n the 4th workday of each month a recording of Table VI will be available after 3:00 pm. The telephone number is (202) 447-9873.
The balances in this table are subject to audit and subsequent adjustments.

TREASURY NEWS

itportment of the Treasury • Washington, D.C. • Telephone 566-2041
REVISED

FOR IMMEDIATE RELEASE
August 4, 1989

Contact: Peter Hollenbach
(202) 376-4302

CORRECTIONS TO JULY STRIPS DATA
The Department of the Treasury announced that July reconstitution
activity figures for securities in the Separate Trading of
Registered Interest and Principal of Securities program, (STRIPS)
were published in error. The correct summary data is:
Dollar Amounts in Thousands
$346,648,886
Principal Outstanding
(Eligible Securities)
Held in Unstripped Form

$265,160,196

Held in Stripped Form

$81,488,690

Reconstituted in June

$3,334,000

The reconstitution activity of the following loans was reported
incorrectly. The correct amounts, in thousands, for reconstitution
activity in July are:
Reconstituted this Month
10-3/4% Bond 2005
$753,600
7-1/4% Bond 2016
$957,600
Corrections will be noted in the Monthly Statement of the Public
Debt of the United States.
oOo

NB-409

TABLE VI—HOLDINGS OF TREASUBY SECURITIES IN STRIPPED FORM, JULY 31, 1989
(In thousands)

Principal Amount Outstanding
Maturity Date

Loan Description

Total
1

Portion Held m
Unstripped Form

•

Portion Held in
Stripped Form

j
i

Reconstituted
This Month'

11-5/8% Note C-1994

11/15/94.

S6.658.554

$5,562,554

$1.096.000

11-1/4% Note A-1995

2/15/95

6.933.861

6.228.101

705.760

11-1/4% Note B-1995

5/15/95

7.127,086

5.337,806

1.789.280

49.600

10-1/2% Note C-1995 .

8/15/95

7,955.901

7,143.501

812.400

20.000

-0$44,000

9-1/2% Note 0-1995

11/15/95

7.318.550

6,477,750

840.800

60.000

8-7/8% Note A-1996

2/15/96

8.411.839

8.109.439

302.400

-0-

7-3/8% Note C-1996

5/15/96

20.085,643

19.882.443

203.200

-0-

...11/15/96.

20.258.810

20,147,610

111.200

32.000

5/15/97

9.921.237

9.776,037

145.200

-0-

.8/15/97

9.362.836

9,362.836

-0-

14,400

20.800

7-1/4% Note 0-1996 . .
8-1/2% Note A-1997
8-5/8% Note B-1997 .
8-7/8% Note C-1997

11/15/97

9.808.329

9,793,929

8-1/8% Note A-1998

2/15/98

9.159.068

9.158.428

640

-0-

9 % Note 8-1998

5/15/98

9,165.387

9.135.387

30.000

-0-

8/15/98

11,342.646

11.221.046

121.600

-0-

9.902.875

-0-

2/15/99

9.719.628

-0-

9-1/4% Note C-1998 ..

. . 11/15/98

8-7/8% Note 0-1998
8-7/8% Note A-1999

9-1/8% Note 8-1999

5/15/99

10,047.103

10.047.103

11-5/8% Bond 2004

. . .11/15/04 .

8.301.806

3.447,408

4,854.400

180.800

5/15/05

4.260.758

1.857.908

2.402.850

57.000

10-3/4% Bond 2005

8/15/05

9.269.713

7.220.913

2.048.800

80.000

9-3/8% Bond 2006

2/15/06

4.755.916

11-3/4% Bond 2009-14

11/15/14.

6,005.564

1.616.584

4.389.000

238.200

12.667.799

2.830,839

9.836.960

-0-

7.149.918

1.847.516

5,302.400

-0-

6.899.859

£354,259

4,545.600

12.800

12%

Bond 2005

2/15/15

11-1/4% Bond 2015
..

10-5/8% Bond 2015

.8/15/15 ...

-0-

9-7/8% Bond 2015

11/15/15

9-1/4% Bond 2016

2/15/16 ....

7.266.854

5.196,454

2.070.400

32.000

7-1/4% Bond 2018

5/15/16

18.823.551

15.905.961

2.917.600

389.600

7-1/2% Bond 2016

11/15/16

18.864.446

9.892.366

8.972.080

204.400

8-3/4% Bond 2017

5/15/17

18,194.169

7.469.048

10.725.120

23,200

14.016.858

9.348.056

4.668.800

344.000

5/15/18

8.708.639

4.782.239

3.926.400

-0-

11/15/18

9.032.870

4,201.470

4.831.400

80.000

19.250.793

15.426.793

3.824.000

224.000

346.648.886

265.160.196

81.488.690

2,092.400

. . . .8/15/17

8-7/8% Bond 2017
9-1/8% Bond 2018
9 % Bond 2018..
8-7/8% Bond 2019.
Total
1

2/15/19

Effective M a y 1, 1987. securities held in stnpped form were eligible for reconstitution to their unstripped form.

Note: On the 4th workday of each month a recording of Table VI will be available after 3:00 pm. The telephone number ts (202) 447-9873.
The balances in this table are subject to audit and subsequent adiustments.

TREASURY NEWS

Department of the Treasury • Washington, D.c. • Telephone 566FOR IMMEDIATE RELEASE CONTACT: Office of Financing
August 7, 1989
202/376-4350
AMENDMENT TO TREASURY'S AUCTION OF 247-DAY CASH MANAGEMENT BILLS
The Treasury's announcement of $10,000 million of 247-day
cash management bills to be dated August 15, 1989, and to mature
April 19, 1990, is amended to increase the amount offered by
$5,000 million to $15,000 million.
The $5,000 million increase in the amount offered is
necessary to provide Treasury with cash for use by the Resolution
Trust Corporation under the recently enacted thrift legislation,
Financial Institutions Reform and Recovery Act of 1989.
oOo

NB-410

TREASURY NEWS

Department of the Treasury • Washington, D.C. • Telephone 566-2041
FOR IMMEDIATE RELEASE
August 7, 1989

CONTACT: Office of Financing
202/376-4350

TREASURY AUGUST QUARTERLY FINANCING SCHEDULE
The Treasury announced that Congressional action to increase
the debt limit permits the Treasury to proceed with the auctions
of 3-year notes on August 8, 10-year notes on August 9, and 30year bonds and 247-day cash management bills on August 10. All
of these issues will settle on August 15, 1989.
oOo

NB-411

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone
CONTACT: Office of Financing
FOR IMMEDIATE RELEASE
202/376-4350
August 7, 1989
RESULTS OF TREASURY'S WEEKLY BILL AUCTIONS
Tenders for $6,605 million of 13-week bills and for $6,601 million
of 26-week bills, both to be issued on August 10, 1989,
were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

Low
High
Average

13-week bills
maturing November 9, 1989
Discount Investment
Rate
Rate 1/
Price
7.90%
7.96%
7.94%

8.17%
8.24%
8.21%

26-week bills
maturing February 8, 1990
Discount Investment
Rate
Rate 1/
Price

98.003
97.988
97.993

7.66%
7.71%
7.70%

8.08%
8.13%
8.12%

96.127
96.102
96.107

Tenders at the high discount rate for the 13-week bills were allotted 42%
Tenders at the high discount rate for the 26-week bills were allotted 98%

.
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Type
Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS

TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Received
Accepted
33,835
19,391,805
19,300
42,205
38,255
25,780
1,069,165
28,200
10,845
45,840
17,530
788,845
640,810

$
33,835
5,530,805
19,260
42,205
38,255
25,780
44,165
28,200
10,845
45,840
17,530
123,545
640,810

$6,605,425

. $22,152,415

$6,601,075

$19,773,225
1,210,695
$20,983,920

$3,496,215
1,210,695
$4,706,910

$17,434,565
:
1,209,650
: $18,644,215

$2,083,225
1,209,650
$3,292,875

2,058,515

1,858,515

2,000,000

1,800,000

40,000

1,508,200

$23,082,435

$6,605,425

: $22,152,415

$6,601,075

$
36,095
20,113,335
17,370
36,880
45,375
26,045
1,225,055
30,855
11,160
34,460
21,290
927,540
556,975

$
36,095
5,570,835
17,370
36,880
45,365
26,045
102,555
30,855
11,160
34,460
21,290
115,540
556,975

$23,082,435

1/ Equivalent coupon-issue yield.

NB-412

Accepted

2041

TREASURY NEWS
Department of the Treasury •STATEMENT
Washington,
D.C. • Telephone 566-2041
OF
TREASURY SECRETARY NICHOLAS BRADY
Monday, August 7, 1989
For Release 8:00 a.m.
Mexico City, Mexico
Good morning. As you know, there will be a series of
meetings with Mexican officials today. We will be discussing a
number of important issues, including the recently concluded
debt agreement between Mexico and the commercial banks.
Additionally, we will be discussing investment and financial
issues, as well as joint efforts on money laundering and customs
cooperation in our determined fight to curb the flow and use of
illegal drugs.
This is a particularly interesting and exciting period in
U.S.-Mexican relations. Great progress has been made in
economic and financial fields that are important to our two
countries.
In Mexico, foreign investment is now welcome. Foreign
investment from the U.S. totaled more than $1.5 billion
last year and aggregate U.S. investment in Mexico is
about $16 billion.
Mexican trade practices have been liberalized in an
impressive fashion. Trade between our two countries
has been increasing at an annual rate of more than 25
percent.
Mexican tax reform in the last few years has made great
strides:
Corporate tax rates have been cut from 42 to 37
percent.
Personal taxes have been lowered to a maximum of
40 percent.
For individual taxes, the number of brackets has
been reduced from 12 to 6.
I commend President Salinas and his cabinet for the
progress made in these and other areas of reform,
deregulation and market liberalization.

MB-413

- 2 The significance of the debt agreement between Mexico and
its commercial banks is that it responds to a new reality and
incorporates debt and debt service reduction as an integral part
of the agreements between commercial banks and the heavily
indebted countries. The agreement gives banks three options:
an exchange of existing debt for bonds at a 35 percent discount;
debt service reduction with a fixed interest rate of 6.25
percent; and/or new money.
We are particularly pleased with the immediate market
reaction to the agreement. As evidence of increased Mexican and
international confidence, significant amounts of capital have
been moving back to Mexico and domestic interest rates have
fallen sharply.
During the meetings today, I will also be emphasizing the
importance of addressing problems of money laundering associated
with narcotics trafficking. We want to work with the Mexican
government to attack the problem of money laundering and to make
offenders extraditable. We will also be offering U.S. Customs
cooperation in our mutual effort to fight drug trafficking. I
believe both our governments recognize the importance of close
cooperation in this crucial endeavor.
Now I will be happy to take your questions.

TREASURY NEWS
lepartment of the Treasury • Washington, D.C. • Telephone 566-2041
FOR IMMEDIATE RELEASE
August 8, 1989

CONTACT:

Office of Financing
202/376-4350

SALE OF STATE AND LOCAL GOVERNMENT SECURITIES RESUMED
Following enactment of legislation to raise the
public debt limit, the Treasury has authorized the
resumption of delivery of all issues of time deposit State
and Local Government Series securities, effective today,
August 8, 1989. Subscribers for securities who were
affected by the sales suspension and still desire to obtain
the securities should contact their Federal Reserve Bank or
Branch for instructions for filing amended subscriptions, or
they may call the Office of the Chief Counsel, Bureau of the
Public Debt, on 202/376-4320. New subscriptions will be
processed normally.
oOo

NB-414

TREASURY NEWS

Department of the Treasury • Washington, D.C. • Telephone 566-2
CONTACT: Office of Financing
202/376-4350
FOR RELEASE AT 4:00 P.M.
August 8, 1989
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$14,400 million, to be issued August 17, 1989.
This offering
will result in a paydown for the Treasury of about $ 475 million, as
the maturing bills are outstanding in the amount of $ 14,883 million.
Tenders will be received at Federal Reserve Banks and Branches and
at the Bureau of the Public Debt, Washington, D. C. 20239, prior to
1:00 p.m., Eastern Daylight Saving time, Monday, August 14, 1989.
The two series offered are as follows:
91-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated
May 18, 1989,
and to mature November 16, 1989 (CUSIP No.
912794 TE 4), currently outstanding in the amount of $6,928 million,
the additional and original bills to be freely interchangeable.
182-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated
February 16, 1989, and to mature February 15, 1990 (CUSIP No.
912794 TR 5), currently outstanding in the amount of $9,088 million,
the additional and original bills to be freely interchangeable.
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing August 17, 1989.
Tenders from Federal Reserve
Banks for their own account and as agents for foreign and international monetary authorities will be accepted at the weighted
average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities, to
the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them. Federal
Reserve Banks currently hold $ 2,796 million as agents for foreign
and international monetary authorities, and $ 4,083 million for their
own account. Tenders for bills to be maintained on the book-entry
NB-415
records of the Department of the Treasury should be submitted on Form
PD 5176-1 (for 13-week series) or Form PD 5176-2 (for 26-week series).

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This information should reflect positions held as of one-half hour
prior to the closing time for receipt of tenders on the day of the
auction. Such positions would include bills acquired through "when
issued" trading, and futures and forward transactions as well as
holdings of outstanding bills with the same maturity date as the
new offering, e.g., bills with three months to maturity previously
offered as six-month bills. Dealers, who make primary markets in
Government securities and report daily to the Federal Reserve Bank
of New York their positions in and borrowings on such securities,
when submitting tenders for customers, must submit a separate tender
for each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an agreement,
nor make an agreement to purchase or sell or otherwise dispose of
any noncompetitive awards of this issue being auctioned prior to
the designated closing time for receipt of tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained on
the book-entry records of the Department of the Treasury. A cash
adjustment will be made on all accepted tenders for the difference
between the par payment submitted and the actual issue price as
determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches. A deposit of
2 percent of the par amount of the bills applied for must accompany
10/87
tenders for such bills from others, unless an express guaranty of
payment by an incorporated bank or trust company accompanies the
tenders.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection of
their tenders. The Secretary of the Treasury expressly reserves
the right to accept or reject any or all tenders, in whole or in
part, and the Secretary's action shall be final. Subject to these
reservations, noncompetitive tenders for each issue for $1,000,000
or less without stated yield from any one bidder will be accepted
in full at the weighted average bank discount rate (in two decimals)
of accepted competitive bids for the respective issues. The calculation of purchase prices for accepted bids will be carried to
three decimal places on the basis of price per hundred, e.g.,
99.923, and the determinations of the Secretary of the Treasury
shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the maturing
bills accepted in exchange and the issue price of the new bills.
In addition, Treasury Tax and Loan Note Option Depositaries may
make payment for allotments of bills for their own accounts and
for account of customers by credit to their Treasury Tax and Loan
Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
10/87
of
the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
CONTACT:

FOR IMMEDIATE RELEASE
August 8, 1989

Office of Financing
202/376-4350

RESULTS OF AUCTION OF 3-YEAR NOTES
The Department of the Treasury has accepted $10,0 31 million
of $28,608 million of tenders received from the public for the
3-year notes, Series T-1992, auctioned today. The notes will be
issued August 15, 1989, and mature August 15, 1992.
The interest rate on the notes will be 7-7/8%. The range
of accepted competitive bids, and the corresponding prices at the
7-7/8% rate are as follows:
Yield
Price
Low
7.92%*
99.882
High
7.94%
99.829
Average
7.9 3%
99.856
*Excepting 2 tenders totaling $975,000.
Tenders at the high yield were allotted 9%.
TENDERS RECEIVED AND ACCEPTED (In Thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
Totals

AcceDted

Received
$

18,940
26,162,245
18,295
33,510
33,330
17,515
1,332,885
45,395
17,810
49,985
22,515
806,135
49,810
$28,608,370

18,940
9,510,430
18,295
33,510
24,230
17,465
154,535
29,395
17,810
47,935
12,515
96,460
49,810
$10,031,330

The $10,0 31
million of accepted tenders includes $56 6
million of noncompetitive tenders and $9,465 million of
competitive tenders from the public.
In addition to the $10,031 million of tenders accepted in
the auction process, $9 22
million of tenders was awarded at the
average price to Federal Reserve Banks as agents for foreign and
international monetary authorities. An additional $2,534
million
of tenders was also accepted at the average price from Federal
Reserve Banks for their own account in exchange for maturing
securities.
NB-416

TREASURY NEWS
department of the Treasury • Washington, D.C. • Telephone 566-2041
FOR IMMEDIATE RELEASE
August 9, 1989

CONTACT:

Office of Financing
202/376-4350

RESULTS OF AUCTION OF 10-YEAR NOTES
The Department of the Treasury has accepted $9,763 million
of $ 18,682 million of tenders received from the public for the
10-year notes, Series C-1999, auctioned today. The notes will be
issued August 15, 1989, and mature August 15, 1999.
The interest rate on the notes will be 8 %. The range
of accepted competitive bids, and the corresponding prices at the
8 %
interest rate are as follows:
Yield Price
Low
8.02%*
99.864
High
8.05%
99.661
Average
8.03%
99.796
•Excepting 1 tender of $10,000.
Tenders at the high yield were allotted 4%.
TENDERS RECEIVED AND ACCEPTED (In Thousands)
Location
Received
AcceDted
Boston
$
14,731
$
14,731
New York
16,968,360
9,136,400
Philadelphia
1,512
1,512
Cleveland
11,903
11,903
Richmond
7,114
7,114
Atlanta
7,370
7,370
Chicago
1,045,869
477,069
St. Louis
18,152
10,152
Minneapolis
3,204
3,202
Kansas City
7,364
7,364
Dallas
7,829
7,829
San Francisco
587,929
78,314
Treasury
392
392
Totals
$18,681,729
$9,763,352
The $9,763 million of accepted tenders includes $344
million of noncompetitive tenders and $9,419 million of competitive tenders from the public.
In addition to the $9,763 million of tenders accepted in the
auction process, $400 million of tenders was also accepted at the
average price from Federal Reserve Banks for their own account in
exchange for maturing securities.
1/ The minimum par amount required for STRIPS is $25,000.
Larger amounts must be in multiples of that amount.

NB-417

ETP
H

Resolution Trust Corporation
112 3 C O N N E C T I C U T AVENUE. N. W.

WASHINGTON. D. C. 20232

FOR IMMEDIATE RFT.FASE,

Text as prepared

Remarks by
Chairman of the Oversight Board
Nicholas F. Brady
at a Press Conference
Washington, D.C.
August 9, 1989
This morning President Bush signed into law the most
comprehensive reform of the thrift industry since its founding
more than 50 years ago. Just a few minutes ago, the Oversight
Board of the Resolution Trust Corporation concluded its initial
meeting during which it took the first steps necessary to
implement those reforms.
This afternoon, the RTC Board will hold its first meeting.
We invited FDIC Chairman William Seidman to attend our Oversight
Board meeting because the FDIC will have the day-to-day
operational responsibility for the RTC under policies set by the
Oversight Board.
With these steps, we*ve begun fulfilling the promise made by
the President in February when he announced his program and
pledged to act quickly once legislation was passed. The
legislation, which enjoyed broad bipartisan support in the
Congress, will help protect depositors and taxpayers against
future losses, overhaul the regulatory mechanism, provide stiff
new penalties for those who would abuse the system, and resolve
the problem of the insolvent thrifts.
It's the resolution of insolvent S&Ls that is the mission of
the RTC. Today the Oversight Board took several actions that
will permit the RTC to begin this work immediately.
The first actions taken were organizational. The Oversight
Board adopted bylaws and named John Robson, the Deputy Secretary
of the Treasury, to act as interim CEO for the Oversight Board.
He'll continue to fulfill his duties as Deputy Secretary during
this period. John brings considerable experience to the task as

2
a former CEO of a Fortune 500 company, corporate lawyer and
occupant of several high federal government jobs. The search for
a permanent CEO, which John will lead, is already underway.
John Robson has already recruited a small interim staff from
within the government to get the board's operations underway
until a permanent staff can be hired. The Oversight Board
authorized the CEO to enter into arrangements as necessary for
office space and equipment. The board staff will be housed here
in this building at 1825 Connecticut Avenue, N.W.
In addition to its organizational work, the Oversight Board
also adopted initial policies that will permit the RTC to begin
relatively simple case resolutions immediately. A funding
request from the RTC for handling the first cases was also
approved.
The Oversight Board established a Joint Policy Development
Task Force with personnel from both the Oversight Board and the
RTC to make recommendations to the oversight Board on overall
strategies, policies and goals. Procedures for approving future
RTC funding requests were approved by the Oversight Board.
The Oversight Board also adopted policies providing interim
ethics and conflict of interest standards and providing
guidelines for the use of private contractors.
In addition, the Oversight Board adopted a policy requiring
the RTC to provide by September 30 an initial draft of the
methodology to be used in analyzing the 1988 FSLIC deals.
Similarly, the Oversight Board asked the RTC to provide by
September 30 a proposal for the appropriate disposition of the
Federal Asset Disposition Association.
In other actions today, the new Office of Thrift Supervision
(OTS) has taken over as federal regulator of federally and state
chartered institutions. The OTS, which will have offices in the
old Federal Home Loan Bank Board building, has become an office
of the Treasury Department.
As of today, the Savings Association Insurance Fund (SAIF),
replaces the Federal Savings and Loan Insurance Corporation
(FSLIC). SAIF has been placed under the FDIC, which will
maintain separate thrift and bank insurance funds. The result is
one strong, independent insurer managing both funds.
The Federal Housing Finance Board has been formed to
supervise the 12 regional Federal Home Loan Banks, and the
Federal Home Loan Mortgage Corporation (Freddie Mac) becomes an
independent government-sponsored enterprise subject to the
oversight of the Department of Housing and Urban Development.

3
We've taken seriously President Bush's promise to the
American people to move swiftly but with care to return the
thrift industry to a sound condition. With the adoption of the
legislation and the actions initiated today, we're off to a good
start. We're committed to work diligently until we complete the
task.
I'd like to thank Chairman Greenspan and Secretary Kemp for
their contributions to our initial efforts and John Robson for
agreeing to take on the initial organizational tasks. And I'd
like to acknowledge the fine work done by Under Secretary Bob
Glauber and Assistant Secretary David Mullins and a number of
other people who worked with such dedication on the initial
proposal and the legislation.

Resolution Trust Corporation
1S2S CONNECTICUT AVENUE. N.W. WASHINGTON. D.C 20232

FOR RELEASE: CONTACT PERSON: Art Siddon
August 9, 1989, 12:45 P.M.
Oversight Board
Treasury Department

387-7667
566-5252

POLICIES FOR RTC ESTABLISHED AT FIRST OVERSIGHT BOARD MEETING

Establishment of joint Oversight Board-RTC policy
development task force.

2. Procedures and documentation for approving RTC funding
requests and the use of notes and guarantees.
3. Priorities for initial case resolutions.
4. Interim ethics and conflicts of interests standards.
5. Utilization of private sector.
6. Restructuring 1988 FSLIC deals to save taxpayer costs.
7. Disposition of Federal Asset Disposition Association
(FADA).
8. Adoption of existing FDIC policies for RTC in other
areas until the Oversight Board establishes appropriate
general policies.

Resolution Trust Corporation
1823 CONNECTICUT AVENUE. N.W. WASHINGTON. D. C. 20232

FOR RELEASE:
August 9, 1989, 12:45 P.M.

CONTACT PERSON: Art Siddon
Oversight Board
387-7667
Treasury Department
566-5252

ORGANIZATION AND STRUCTURAL FACT SHEET
Oversight Board of the Resolution Trust Corporation
o The Oversight Board of the RTC will establish general
policies for the RTC and oversee RTC activities.
o The Board will consist of the Secretary of the Treasury
(chairman), the Chairman of the Federal Reserve Board,
the Secretary of Housing and Urban Development, and two
public members to be appointed by the president.
o Offices will be located at 1825 Connecticut Avenue,
N.W., Washington, D.C.
o The Oversight Board will establish a National Advisory
Board to assist and advise on policies for the
disposition of real estate assets held by the RTC.
The National Advisory Board will consist of a
chairman appointed by the Oversight Board and
the chairpersons of any regional boards.
The Oversight Board also may establish no
less than six regional boards of up to five
members each.
Regional boards can be established
in any region determined to have a
significant portfolio of real
estate assets held by the RTC.
Members will be residents of the
region with knowledge of and
experience regrading business,
financial and real estate matters.
o

The Oversight Board will report annually to Congress.

2
Resolution Trust Corporation
o

o
o

(RTC)

The RTC will resolve all thrifts that have failed or
will fail between January 1, 1989, and August 9, 1992,
using $30 billion raised by the Resolution Funding
Corporation (REFCORP) with industry funds, and $20
billion raised by the industry and Treasury.
The Federal Deposit Insurance Corporation (FDIC) shall
be the exclusive manager of the RTC subject to
oversight by the Oversight Board to resolve failed
thrifts.
The RTC will handle all specific cases and have all
day-to-day operating responsibilities. However, it
will not establish the general policies, which will be
set by the Oversight Board of the RTC.
The directors of the FDIC will serve as the board of
directors of the RTC. The chairman of the FDIC will be
the chairman of the RTC.
The RTC will have no employees of its own, although it
may use personnel from other agencies or private
contractors.
The RTC will review and analyze all assistance
agreements entered into by the Federal Savings &
Insurance Corporation from January 1, 1988, to
January 1, 1989, and will take appropriate steps
restructure these agreements if taxpayer savings
be achieved.
No later than April 30 of each year the RTC will
provide an annual report of its operations, activities,
budget receipts and expenditures for the preceding
calender year, as well as reports throughout the year.
The RTC will -terminate on December 31, 1996.
RTC offices will be located at 801 17th Street, N.W.,
Washington, D.C.

3
Office of Thrift Supervision
o Will replace the Federal Home Loan Bank Board as the
new thrift regulator.
o Will become an office in the Department of the Treasury.
o The Director of the Office of Thrift Supervision will
be the current chairman of the Federal Home Loan Bank
Board.
o Offices will be located in the current Federal Home
Loan Bank Board offices at 1700 G Street, N.W.,
Washington, DC.
Savings Association Insurance Fund (SAIF)
o Will replace the Federal Savings & Loan Insurance
Corporation (FSLIC) as the thrift industry insurance
fund.
o Will be supervised by the FDIC but will be kept
separate from the fund insuring banks.

Federal Home Loan Mortgage Corporation (Freddie Mac)
o Will become an independent government-sponsored
enterprise.
o Will be subject to oversight by the Department of
Housing and Urban Development.
o Offices are located 1776 G Street, N.W.,
Washington, D.C.

Organization
Oversight Board
Resolution Trust Corporation

Oversight Board
Advisory Board(s)

Resolution Trust Corporation

Office of the President
Oversight Board

General Counsel

Office of
Administration
& Control

Office of
Audits & Review

Office of Finance
and
Administration

Office of
Policy & Finance
Analysis

Executive Secretariat

Office of Public
and Congressional
Affairs

Office of
Public Affairs

Office of
Congressional
Affairs

Resolution Trust Corporation
1825 C O N N E C T I C U T A V E N U E . N.W.

W A S H I N G T O N , D.C. 20232

J£ZL*d
r

^^r^
OFFICIAL SEAL

THE WHITE HOUSE
Office of the Press Secretary
For Immediate Release

August 9, 1989

FACT SHEET
Key Provisions of the Financial Institutions
Reform. Recovery and Enforcement Act of 1989
STRONG THRIFT CAPITAL REQUIREMENTS
o The bill was designed to require thrifts to meet generally
the same capital and accounting standards as national banks.
In addition to new, tougher minimum capital requirements for
thrifts, the bill provides other new standards which reflect
national bank capital provisions.
o The bill also creates a tangible capital requirement of at
least three percent of assets. This will prevent the
current situation in which institutions with an enormous
negative tangible net worth are able to comply with minimum
capital rules and continue active expansion. All
"supervisory goodwill" must be phased out by January 1,
1995.
o Investments in thrift subsidiaries engaging in
nontraditional activities must be deducted from capital.
This will prevent the risk of sudden failure of insured
institutions as a result of losses in subsidiary businesses.
o Growth by undercapitalized firms will be strictly limited or
prohibited.
o Brokered deposits will not be permitted for undercapitalized
thrifts.

2
ESTABLISHMENT OF NEW DEPOSIT INSURANCE FUND
o Deposit insurance for thrifts will be provided by a new
insurance fund, called the Savings Association Insurance
Fund (SAIF). SAIF will replace the current Federal Savings
and Loan Insurance Corporation. The SAIF fund will be
directed and administered by the Federal Deposit Insurance
Corporation, although it will be separately maintained from
the existing bank insurance fund.
o SAIF will continue to receive assessments paid by its
members after 1991, and should it become necessary, Treasury
payments to maintain the Fund's net worth at specified
levels.
RESOLUTION TRUST CORPORATION (RTC1 AND RTC OVERSIGHT BOARD
o The RTC will be established to merge or liquidate all
existing failed thrifts, as well as any thrifts that fail
prior to August, 1992.
o The RTC Oversight Board will establish general policies for
the RTC and oversee its activities. Members of the
Oversight Board will be the Secretary of the Treasury
(Chairman), the Chairman of the Federal Reserve Board, the
Secretary of Housing and Urban Development and two public
members appointed by the President.
o The Federal Deposit Insurance Corporation (FDIC) will be the
exclusive manager of the RTC, handling day-to-day
operations.
FINANCING FOR CLOSING AND RESOLUTION OF FAILED THRIFTS
o The bill will establish the Resolution Funding Corporation
(REFCORP) to fund the case resolutions undertaken by the
RTC. Refcorp will be headed by a three member Directorate,
and it will be authorized to issue up to a $30 billion
principal amount of long-term bonds to pay the costs of
closing down or otherwise resolving insolvent thrifts.
o For current cases, the bill provides $20 billion to pay for
resolution activities in FY 1989, including $18.8 billion
from Treasury funds, and $1.2 billion from Federal Home Loan
Banks.
o The bill provides $32 billion in public and private funds to
resolve thrifts that fail from 1992-1999, and to capitalize
the new SAIF.

3
o

The bill provides all necessary funds for FSLIC cases
resolved before January 1, 1989.

REGULATORY RESTRUCTURING
o The FDIC will be given independent enforcement authority to
take action against violations of safety and soundness
requirements by any insured thrift. This will enable the
FDIC to act to protect the insurance fund against risks
allowed by chartering or supervisory agencies.
o Under the legislation, the Federal Home Loan Bank Board will
be abolished. Its former activities will be divided into
several functions.
o The primary function of examining and supervising both
federally and state-chartered thrifts and their holding
companies will be performed by a new agency, the Office of
Thrift Supervision (OTS). The OTS will be an office of the
Department of the Treasury. As an office of the Treasury
Department, the interests of taxpayers and the general
public can be more fully protected.
o The Federal Savings & Loan Insurance Corporation will be
replaced by SAIF, which will be administered by the FDIC.
o The Federal Housing Finance Board will supervise the credit
activities of the 12 regional Federal Home Loan Banks.
o The Federal Home Loan Mortgage Corporation (Freddie Mac)
will become an independent government-sponsored enterprise.
RESTRICTIONS ON THRIFT POWERS
o The FDIC will have authority to prohibit or limit activities
of state-chartered thrifts that it determines involve
unacceptable risk levels.
o Investments in junk bonds, either directly or through a
subsidiary, will be prohibited, but may be placed in a
separately capitalized affiliate where insured deposits will
not be at risk.
o Equity investments (such as direct real estate investments)
will be prohibited within federally-insured thrifts.
o Loans to one borrower will be generally limited to the
amount allowed for national banks.

4
QUALIFIED THRIFT LENDER fOTLl TEST
o Thrifts must maintain 70 percent of their assets in housingrelated loans and other qualified assets.
o Thrifts that fail the QTL test must convert to a bank
charter or be subject to certain restrictions.
HOUSING
o Federal Home Loan Banks will be required to contribute
least $100 million a year by 1995 to subsidize interest
rates on advances to member institutions that make loans
low and moderate income housing.
o The RTC must provide a three-month "first look" period
qualified buyers of single family homes held by the RTC,
similar opportunities for qualified buyers of eligible
multi-family housing extending up to 135 days.

at
for
to
and

ENFORCEMENT
o Maximum sentences for major financial institution crimes,
such as bribery and fraud, are increased to 20 years in
prison. The maximum criminal fine for these violations is
increased to $1 million.
o The basis for civil penalties imposed by the regulators is
expanded, and current generally low penalties are increased
to a maximum penalty of $1 million per day.
o The Department of Justice will be authorized to receive
substantial new appropriations to enable it to more than
double investigators and prosecutors of financial fraud
cases.
STUDIES
o The Treasury, in consultation with the depository
institutions regulators and others, will conduct major
studies on the federal deposit insurance system as well as a
study on the risk exposure to the federal government of
government-sponsored enterprises.
###

Removal Notice
The item identified below has been removed in accordance with FRASER's policy on handling
sensitive information in digitization projects due to copyright protections.

Citation Information
Document Type: Transcript

Number of Pages Removed: 11

Author(s):
Title:

Resolution Trust Corporation Oversight Board Press Briefing

Date:

1989-08-09

Journal:

Volume:
Page(s):
URL:

Federal Reserve Bank of St. Louis

https://fraser.stlouisfed.org

TREASURYJMEWS
Mpartmont of tho Treasury • Washington, D.C. • Tolophono 566-2041
FOR IMMEDIATE RELEASE
August 10, 1989

i .>^ CONTACT^. l(Pff ice of Financing
t.» •->••---•
202/376-4350

RESULTS OF TREASURY'S AUCTION
OF 247-DAY CASH MANAGEMENT BILLS
Tenders for $15,020 million of 247-day Treasury bills to be
issued on August 15, 1989, and to mature April 19, 1990, were
accepted today. The details are as follows:
RANGE OF ACCEPTED COMPETITIVE BIDS:
Discount Investment Rate
Rate
(Equivalent Coupon-Issue Yield)
Low 7.87% 8.34% 94.600
High
7.90%
Average
7.88%

8.38%
8.36%

Price
94.580
94.593

Tenders at the high discount rate were allotted 7%.
TOTAL TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
TOTALS

Received
$
1,040
42,829,745
1,420

Acceoted
40
$
14,,774,335
1,420

11,000
2,050
1,232,000
5,000
--

10,100
--

1,000
190
60,600
---

3,450
--

1,220,020

179,270

$45,312,375

$15,,020,305

The $15,020 million of accepted tenders includes $14
million of noncompetitive tenders and $15,006 million of
competitive tenders from the public.

NB-418

TREASURY.NEWS _
lopartmont of tho Troasury • Washington, o.c. • rolophono soo-2041
FOR IMMEDIATE RELEASE
August 10, 1989

CONTACT:
00! 5310

Office of Financing
202/376-4350

RESULTS* OF AUCTION OF 30-YEAR BONDS
The Department of the Treasury has accepted $9,752 million of
$20,100 million of tenders received from the public for the 30-year
Bonds auctioned today. The bonds will be issued August 15, 1989,
and mature August 15, 2019.
The interest rate on the bonds will be 8-1/8%.
The range
of accepted competitive bids, and the corresponding prices at the
8-1/8% interest rate are as follows:
Yield
Price
Low
8. 13%
99.944
High
8. 15%
99.721
Average
8. 14%
99.833
Tenders at the high yield were allotted 53%.
TENDERS RECEIVED AND ACCEPTED (In Thousands)
Location
Accepted
Received
$
Boston
1,065
$
1,065
New York
18 ,628,214
9,273,932
Philadelphia
180
180
Cleveland
3,273
3,273
Richmond
3,512
3,042
Atlanta
4,350
4,350
Chicago
789,683
372,423
St. Louis
13,999
5,999
Minneapolis
8,165
5,815
Kansas City
3,061
3,061
Dallas
3,020
3,020
San Francisco
641,459
75,909
Treasury
167
167
Totals
$20 ,100,148
$9,752,236
The $9,752 million of accepted tenders includes $374
million of noncompetitive tenders and $9,378 million of competitive tenders from the public.
In addition to the $9,752 million of tenders accepted in the
auction process, $ 200 million of tenders was also accepted at the
average price from Federal Reserve Banks for their own account in
exchange for maturing securities.
1/ The minimum par amount required for STRIPS is $320,000.
Larger amounts must be in multiples of that amount.

NB-419

Unnumbered press release:

Aten, Robert H.
"State and local finance in a command economy: the case
of the Soviet Union.
INTERNATIONAL JOURNAL OF PUBLIC ADMINISTRATION Vol. 13, 503-535,
May 1990

Final Report
to The Congress on
Life Insurance Company Taxation

Department of the Treasury
August 1989

THE SECRETARY OF THE TREASURY
WASHINGTON

AUG 111989

The Honorable Dan Rostenkowski
Chairman
Committee on Ways and Means
House of Representatives
Washington, DC 20515
Dear Mr. Chairman:
Section 231 of Public Law 98-369 the Deficit Reduction
Act of 1984 (the "1984 Act") provides that the Treasury Department shall conduct a study of the operation of Part I of Subchapter L of Chapter 1 of the Internal Revenue Code of 1954,
including studies on the amount of taxes paid by the life
insurance industry and the relative tax burden of mutual life
insurance companies and stock life insurance companies. The
1984 Act also provides that the Treasury shall prepare a final
report by January 1, 1989. Pursuant to that directive, I hereby
submit the "Final Report to the Congress on Life Insurance
Company Taxation."
I am sending a similar letter to Lloyd Bentsen,
Chairman of the Committee on Finance, Senator Bob Packwood,
and Representative Bill Archer.
Sincerely,

Nicholas F. Brady
Enclosure

TABLE OF CONTENTS
Page
1.

Introduction and Summary

A. Purpose of the Report 1
B. Organization of the Report
C. Principal Findings and Conclusions
2. Summary of Prior and Current Law Taxation of
Life Insurance Companies
A. Taxation Under the Life Insurance Company
Tax Act of 1959
B. Modified Coinsurance Transactions and
Life Insurance Company Taxation
C. Consolidated Returns of Life Insurance Companies
D. Current Law Taxation of Life Insurance Companies
3. Analysis of the Revenue Effects of Changes in the
Taxation of Life Insurance Companies Under the
Deficit Reduction Act of 1984
A. Introduction and Summary 11
B. Analysis of Taxes Paid by the Life Insurance
Industry: 1984-1986
C. Tax Obligation From Financial Statements:
1984-1988
4. Analysis of the Differential Taxation of Stock and
Mutual Life Insurance Companies
A. Background and General Observations 23
B. Reasons for Enactment and Design of Section 809
C. Conceptual Shortcomings of Section 809
D. Design Shortcomings of Section 809
E. Conclusions
5. Policy Options for Improving Life Insurance
Company Taxation
A. Life Insurance Company Investment Earnings Tax
With Shareholder Dividends-Paid Credit
B. Other Options
C. Revenue Implications
D. Summary
Appendix A
Data Source and Methodology
Appendix B
Calculation of True-up Under Section 809
Appendix C
Mutual and Stock Segment Earnings Rates
Bibliography

-in-

1
1
2
5
5
5
6
7

12
19
23
25
26
33
36
37
38
39
41
44
47
49
50
53

LIST OF TABLES
Table
Data
2.1 for Calculation of Section 809 "Differential Earnings
Rate"

Comparison
of Estimated and Actual Tax Payments of the
3.1
Life Insurance Industry: 1984-1986

Estimates
of Life Insurance Industry Receipts After the
3.2
1984 Act

Realized
Capital Gains Reported on Financial Statements 16
3.3
Mutual
Segment Tax Payments Before and After "True-up"
3.4
Adjustments: 1984-1986

3.5 Taxable Income and Tax Before and After Credits for Life
Insurance Companies Filing Life/Nonlife Consolidated Returns
for 1984, 1985, and 1986

3.6 Life Insurance Company Tax After Credits Reported on Financial
Statements and Tax Returns
21
4.1 Illustration of Prepayment Analysis 27
5.1 Revenue Effects of Selected Options to Reform Life Insurance
Company Taxation: All Life Insurance Companies

5.2 Revenue Effects of Selected Options to Reform Lif3 Insurance
Company Taxation: Mutual and Stock Life Insurance Companies

C.l Average Earnings Rates by Size of Equity Base: 1986 51

-IV-

CHAPTER 1
INTRODUCTION AND SUMMARY
A.

Purpose of the Report

In the Deficit Reduction Act of 1984 (Public Law 98-369)
("1984 Act"), Congress comprehensively revised the tax treatment
of both stock and mutual life insurance companies and their
products. During consideration of these life insurance
provisions, Congress expressed concern about the complexity of
the existing law, the failure of that law to tax life insurance
companies on their economic income, and the development of new
types of investment-oriented products. Congress also was
concerned in 1984 about the amount of income taxes paid by the
life insurance industry, and the relative income tax burden of
mutual and stock life insurance companies ("segment balance").
The 1984 Act required the Treasury Department to submit
annual revenue reports, and a final report covering the operation
of part I of subchapter L of Chapter 1 of the Internal Revenue
Code of 1954, the taxation of life insurance companies.1 In
response to this Congressional mandate, an interim report on life
insurance company revenues was submitted to Congress in June,
1988. This report responds to the Congressional mandate for a
final report on life insurance taxation.
The interim report examined both the amount of income taxes
paid by the life insurance industry and the relative tax burden
of stock and mutual life insurance companies in 1984 and 1985.
The purpose of this report is to (1) provide additional analysis
of the taxes paid by life insurance companies for 1984 through
1986, and (2) examine and evaluate the issues surrounding the
differential taxation of stock and mutual life insurance
companies.
B. Organization of the Report
Chapter 1 of this report sets forth the purpose of the report
and its principal conclusions and findings. Chapter 2 describes
the prior and current taxation of life insurance companies.
Chapter 3 provides an analysis of the revenue effect of the life
insurance company tax changes under the 1984 Act and provides
data on taxes paid by the life insurance industry for 1984
through 1986. Chapter 4 examines and evaluates the differential
taxation of stock and mutual life insurance companies and their
policyholders
and shareholders.
Chapter
5 presents
a recommenThe Congressional
mandate for
this report
— section
231 of
dation
and additional
options
for —
revising
life insurance
company
the Deficit
Reduction Act
of 1984
is contained
in Appendix
1
taxation.
of
the Department of the Treasury, Interim Report to The Congress
on Life Insurance Company Taxation (June 1988) .

-2C.

Principal Conclusions and Findings

The principal conclusions and findings of this report are the
following:
The 1984 Act changes have increased revenues from life
insurance companies by a smaller amount than predicted.
For 1984-86, receipts from the life insurance industry were
estimated at the time of the 1984 Act to be $9.5 billion,
whereas estimated actual receipts were $7.2 billion
(including tax liabilities attributable to an adjustment
made to mutual company income in 1987 which is related to
the 1986 taxable year). 2 For 1986, actual tax payments
were inflated by the unusually large capital gains taxes
paid in 1986 by both stock and mutual companies.
Although mutual and stock life insurance companies have
substantially different forms of legal ownership, they are
in direct competition with each other and they
increasingly operate in competition with other financial
intermediaries. The tax system should seek to provide a
level playing field for these competitors.
It is difficult to identify or measure the returns that
policyholders receive on "participating" life insurance
policies. Participating policies are those in which the
policyholder purchases an equity-like interest in the
insurance company in addition to some combination of term
insurance and the equivalent of a savings certificate.
Since stock companies increasingly sell participating
policies, this problem applies to the taxation of stock
company income as well as to the taxation of mutual*company
income.
Different tax rules should apply to different forms of
business organizations only to the extent necessary to
measure accurately and tax equally the income of the
different forms of business. Section 809 of the Internal
Revenue Code, which imputes income to mutual life insurance
companies in order to tax at the corporate level equitylike returns contained in policyholder dividends, was
2
equalize
the tax
treatment
of of
mutual
and
Theintended
reportedtoamount
is based
upon
a sample
mutual
andstock
insurance company
companies,
it has
not succeeded.
stock life
life insurance
tax but
returns
provided
by the Internal
0

Revenue Service. On July 19, 1989, the mutual life insurance
industry provided additional data not previously available to the
Office of Tax Analysis in making this reported estimate. Based
upon the data provided by the mutual life insurance industry, it
appears that 1984-1986 taxes paid by the life insurance
industry may be as high as $7.5 billion, rather than $7.2 billion
as originally reported.

-3-

Section 809 contains numerous and significant practical
shortcomings, including: (1) not achieving the expected
level of taxes from mutual and stock life insurance
companies; (2) basing the taxes of each mutual company on
the earnings of its competitors; (3) imputing income to
mutual companies on the basis of short-term changes in the
relative earnings rates of the stock and mutual segments of
the industry; and (4) recomputing the addition to mutual
company income after the current tax year.
Section 809 has also been criticized on the theoretical
ground that mutual life insurance companies prepay taxes on
their policyholders' equity contributions (the "prepayment"
analysis). Given its assumptions, the "prepayment"
analysis generally demonstrates that mutual company policyholder dividends should be fully deductible to provide
equal corporate-level tax treatment of equity-like returns
to mutual and stock company investors. The prepayment
analysis concludes that a tax on paid-in capital combined
with a full deduction of dividends to policyholders (the
situation of mutual companies without the additional tax
under section 809) is equivalent in present value terms to
the exclusion of capital contributions combined with no
deduction for dividends to shareholders (the situation of
stock companies issuing only nonparticipating policies).
The prepayment analysis, however, does not address the
problem that returns to participating policyholders, both
stock and mutual, enjoy an individual tax advantage when
compared to returns to shareholders or bondholders. In
addition, some uncertainty remains regarding certain
assumptions on which the prepayment analysis is based.
Finally, unlike income flowing through other financial
institutions, a significant portion of income flowing
through life insurance companies is not taxed at either the
corporate or personal levels.
In enacting section 809, Congress intended to tax the
equity-like returns of mutual policyholders. Due to the
proliferation of participating policies sold by stock
companies, however, we believe that accomplishment of the
Congressional objective requires a broader focus. That
focus should include the following goals: (1) equal tax
treatment of returns to participating policyholders of both
stock and mutual companies, (2) treatment of stock company
shareholders' equity income commensurate with the current
individual tax treatment of participating policyholders,
and (3) more consistent tax treatment of income flowing
through life insurance companies and income flowing through
other financial institutions.

-40

To accomplish these goals, the Treasury Department
recommends that section 809 be repealed and replaced with
an investment earnings tax that applies to all life
insurance companies and a shareholder dividends-paid
credit. Under this proposal, life insurance companies
would pay a tax equal to a percentage of net investment
income of life insurance contracts. A 1.0 percent rate
should be considered in order for this tax (combined with
the shareholder dividends-paid credit) to be approximately
revenue neutral with estimates of tax receipts under
section 809 for the period 1990-91. Due to expected
increases in the level of collections under section 809,
this rate would be phased up to a rate of slightly more
than 2.0 percent to maintain revenue neutrality in later
years. This tax would be payable in addition to and
separately from the tax payable on gain from operations
after policyholder dividends.
° Because equity returns to stock company shareholders are
taxed twice, whereas equity returns to mutual company
policyholders are not, stock life insurance companies would
be allowed a shareholder dividends-paid credit equal to the
estimated individual tax liability on dividends paid. This
credit would be against the new investment earnings tax
described above. A credit equal to 15 percent of shareholder dividends paid would account for the effective tax
rates on dividends paid to shareholders.
0
An investment earnings tax on all life insurance companies,
with a shareholder dividends-paid credit, would have
several advantages over the current system of life insurance company taxation. First, the taxation of total
returns on participating policies would apply equally to
mutual and stock companies, and the conceptually and
practically flawed section 809 would be repealed. Second,
the double taxation of equity returns of stock company
shareholders would be reduced with the dividends-paid
credit to put them on a par with the current individual tax
treatment of participating policyholders. Third, the
taxation of financial products across different financial
institutions would be made more consistent by ensuring that
investment income flowing through life insurance companies
is taxed at least once at either the corporate or
individual levels.
0
Congress may also wish to consider the following alternative approaches to life insurance company taxation:
(1) repeal of section 809; (2) an alternative add-on tax on
life insurance companies issuing participating policies
that is based on the rate of stock company shareholder
dividend payments; (3) simplification of section 809; and
(4) a tax imposed at the corporate level to serve as a
proxy for the individual-level tax on equity-like returns
to participating policyholders.

CHAPTER 2
SUMMARY OF PRIOR AND CURRENT LAW TAXATION OF
LIFE INSURANCE COMPANIES
Since 1921, life insurance companies have been subject to tax
under three different sets of rules. Between 1921 and 1958, life
insurance companies were taxed only on "free" investment income.
Free investment income was the amount of investment income that
was not needed to fund obligations to policyholders. This amount
was calculated under formulae that changed over the years.
Income and losses from underwriting operations (e.g., premium
income and benefits paid to policyholders) were ignored as were
gains and losses from the sale of investment assets.
A. Taxation Under the Life Insurance Company Tax Act of 1959
Between 1958 and 1984, life insurance companies were taxed
under a complex "three-phase" system enacted by the Life
Insurance Company Tax Act of 1959 (the "1959 Act"). The three
phases referred to the three different tax bases that could be
applicable to a life insurance company. The first tax base was
the company's free ("taxable") investment income. The second tax
base was the company's gain from operations. The gain from
operations tax base included premium income and taxable investment income. In calculating gain from operations, deductions
were allowed for additions to reserves for future obligations.
The amount of the reserve deductions was generally equal to the
amount of the additions to the reserves required by state
regulators. In addition, limited deductions were allowed for
policyholder dividends and certain "special deductions."
Under the 1959 Act, a life insurance company was taxed on the
lesser of its taxable investment income or its gain from
operations. In calculating its gain from operations, the amount
of deductions for policyholder dividends and special deductions
was limited to $250,000, plus the amount by which the gain from
operations (before these deductions) exceeded taxable investment
income. Thus, these deductions could not reduce a company's
taxable income to more than $250,000 below its taxable investment
income. If a company's gain from operations exceeded its taxable
investment income, the company was taxed on 50 percent of such
excess. The untaxed gain from operations (along with the special
deductions) was added to a deferred tax account and, subject to
certain limitations, was taxed only when distributed to
shareholders. When triggered, this deferred tax account was the
third tax base under the 1959 Act.
B. Modified Coinsurance Transactions and Life Insurance Company
Taxation
The existence of multiple tax bases under the 1959 Act
produced differing tax treatment of different types of income.

-6For example, a company that had reached the limit on the
deduction of policyholder dividends and special deductions would
be taxed on the receipt of additional investment income, but not
on the receipt of additional underwriting income. Life insurance
companies were able to manipulate the character of their income
by entering into so-called "modified coinsurance" transactions.
In a modified coinsurance transaction, a life insurance
company (the ceding company) reinsures certain risks, but retains
ownership of the assets and the reserve liabilities connected
with the risks reinsured. Former section 820 of the Code,
however, permitted the parties to treat the transaction as if the
assets and reserves had been transferred to the reinsurer, and as
if investment income earned on the assets and reserves were
earned by the reinsurer. As part of a modified coinsurance
transaction, the reinsurer would pay "experience refunds" to the
ceding company. The experience refunds reflected the investment
income actually earned by the ceding company, but which was
treated under section 820 as if it were earned by the reinsurer.
The experience refunds were characterized as underwriting income
to the ceding company. Thus, a modified coinsurance transaction
had the effect of converting taxable investment income of the
ceding company into more favorably taxed (or untaxed)
underwriting income.
The special treatment of modified coinsurance transactions
under former section 820 of the Code was repealed by the Tax
Equity and Fiscal Responsibility Act of 1982 (TEFRA). At the
same time, however, the limitation on the deductibility of
policyholder dividends was revised for a temporary two-year
period. In general, under the revised limitation, a partial
deduction (85 percent for stock companies and 77.5 percent for
mutual companies) was allowed for all policyholder dividends.
Several other favorable tax provisions were enacted for a
temporary two-year period.
C. Consolidated Tax Returns of Life Insurance Companies
Prior to 1981, life insurance companies were not permitted to
join in the filing of consolidated income tax returns with
affiliated corporations that were not life insurance companies.
Thus, income and losses of life insurance companies and
affiliated non-life companies could not be used to offset one
another. The filing of consolidated returns by life and non-life
companies has been permitted since 1981, subject to two
restrictions. First, consolidated returns may be filed by a life
company and a non-life company only if they have been affiliated
for the preceding five years. Second, the amount of non-life
losses that can be offset against the income of life companies is
limited to the lesser of 35 percent of the non-life losses or
35 percent of the life company income. The second restriction
does not limit the use of life insurance losses to offset income
of non-life affiliates. These consolidation rules were not
changed by the 1984 Act discussed below.

-7D-

Current Law Taxation of Life Insurance Companies

The rules for taxing life insurance companies were subtantially revised in 1984 in response to concerns that the 1959
Act rules were unduly complex and that they did not result in an
appropriate measure of life insurance company income in an
environment of high interest rates and new insurance products.
Under the 1984 Act, life insurance companies are taxed on a
single income tax base corresponding generally to the tax base
applicable to other corporations. Many of the special deductions
and accounting rules that had applied under the 1959 Act were
repealed. Even with these changes, however, the tax base of life
insurance companies differs from that of other corporations in
three significant respects.
First, 1984 Act allowed life insurance companies a "special
life insurance company deduction" and a "small life insurance
company deduction." The "special" deduction, which was repealed
by the Tax Reform Act of 1986, was equal to 20 percent of the
company's taxable income from insurance businesses, and had the
effect of reducing the maximum marginal rate of tax from 46
percent to 36.8 percent. The "small company" deduction, which
applies to companies with assets of less than $500 million, is
equal to 60 percent of the first $3 million of the company's
taxable income from insurance businesses, and is phased out at
income levels of between $3 million and $15 million.
Second, as under the 1959 Act, life insurance companies are
allowed to deduct additions to life insurance reserves and
similar items. In calculating the maximum amount of the
reserves, the 1984 Act required that the reserves be calculated
using Federally prescribed rules. In general, the Federally prescribed reserve rules specify a tax reserve method and require
use of the highest interest rate and most recent mortality or
morbidity table permitted to be used by insurance regulators in a
majority of states. For taxable years beginning after 1987, the
interest rate that must be used in calculating reserves is the
greater of the prevailing state rate or a five-year average of
the Federal mid-term rate.
Third, to address the perception that the rules relating to
the deduction of policyholder dividends may not tax mutual
companies on their economic income, the 1984 Act imposed a
limitation on the deduction by mutual life insurance companies of
policyholder dividends. Under section 809 of the Code, the
deduction of policyholder dividends by a mutual company is
reduced by the company's "differential earnings amount." The
differential earnings amount is equal to the product of the
mutual company's average equity base and the "differential
earnings rate." The differential earnings rate, in turn, is
equal to the excess of the "imputed earnings rate" (90.55 percent
of a three-year average of the earnings rates of the 50 largest
stock life insurance company groups) over the average earnings
rate of all mutual life insurance companies for the second

-8calendar year preceding the taxable year. The differential
earnings amount for a taxable year is "recomputed" in the
subsequent taxable year. The recomputed amount reflects the
average mutual earnings rate for the calendar year in which the
taxable year begins (rather than the second preceding calendar
year). The difference between the differential earnings amount
and the recomputed differential earnings amount (the so-called
"true-up") is included in (or deducted from) income in the
subsequent year. Table 2.1 shows the figures used in the
calculation of the differential earnings rate.
For example, the differential earnings amount of mutual
companies for 1985 was calculated using the 1983 average mutual
earnings rate of 10.166 percent. The recomputed differential
amount for 1985 was calculated using the 1985 average mutual
earnings rate of 13.135 percent. The difference between the
differential earnings amount for 1985 and the recomputed
differential earnings amount for 1985 (i.e., 2.969 percent of
each company's 1985 average equity base) was allowed as a
deduction in calculating the taxable income of each mutual life
insurance company in 1986.

Table 2.1
Data for Calculation of Section 809 "Differential Earnings Rate"
(Percent)

1
1
1
Ypar

1988

Stock
Earnings
Rate 1/

|
|
|
|

Current
Stock
Earnings
Rate 2/

1
|
|
I

Average
Imputed | Mutual
Earnings | Earnings
Rate
Rate 3/ |

16.042*

14.527*

1987

9.165

18.564

16.811

8.783

3.676

1986

20.279

17.983

16.285

17.980

10.539

1985

18.683

18.026

16.323

13.135

6.157

1984

16.731

1983

18.535

1982

18.812

1981

17.316

Department of the Treasury
Office of Tax Analysis

16.5

5.746

7.8 7/

NA
8.,028

NA
4.352
-10.539

3.188

-2.969

10.754

2.954
I
I

10.166

7nl\r 1 QftQ

SOURCE: IRS, Revenue Ruling 87-98 and Announcement 88-47.
*Tentative
.
1/ Unweighted earnings rate of the top 50 stock life companies in the current year.
2/ Preceeding three-year average of the stock earnings rate.
3/ Equal to 0 9055 of the current stock earnings rate (CSER), since the imputed earnings rate is 16.5 percent
times the ratio of the CSER divided by the base period (1981-3) stock earnings rate (18.221).
4/ Equal to the maximum of the imputed earnings rate minus the average mutual earnings rate from two years
earlier or zero.
p
5/ Equal to the maximum of the imputed earnings rate minus the average mutual earnings rate from the same
year or zero.
, ^ ^ ,_•
j.££
*.- i
•
*.
#
6/ The recomputed differential earnings rate minus the tentative differential earnings rate.
7/ Set by statute.

CHAPTER 3
ANALYSIS OF THE REVENUE EFFECTS OF
CHANGES IN THE TAXATION OF LIFE INSURANCE COMPANIES
UNDER THE DEFICIT REDUCTION ACT OF 1984
A. Introduction and Summary
During the consideration of the life insurance provisions of
the 1984 Act, the Congress expressed concern about two issues:
(1) the amount of taxes paid by the life insurance industry, and
(2) the relative tax burden of .mutual and stock life insurance
companies. The 1984 Act required the Treasury Department to
submit annual reports on the taxes paid by the life insurance
industry. In response to the Congressional mandate contained in
section 231(a) of the 1984 Act, the Treasury Department transmitted an interim report to Congress in June, 1988, which
analyzed the taxes paid by life insurance companies in 1984 and
1985.1 The purpose of this chapter is to provide additional
analysis of the revenue effects of the life insurance company tax
changes of the 1984 Act and to provide data on taxes paid by the
life insurance industry for 1986.
The 1988 report found that the 1984 Tax Act changes to life
insurance company taxation have increased revenues by a smaller
amount than predicted. In particular, the tax payments of the
life insurance industry and the relative shares paid by the
mutual and stock segments in 1984 and 1985 did not meet
Congressional expectations. These shortfalls were attributed to
the difficulty in estimating receipts from the life insurance
company tax rules, including the complexity of the tax law
changes, the difficulty in predicting accurately taxpayers'
responses to those changes, and the changing nature of the life
insurance industry's products and practices.
The analysis contained in this chapter generally confirms the
findings in the 1988 report that the 1984 Tax Act changes have
increased revenues by a smaller amount than predicted. Moreover,
actual tax payments for 1986 were inflated by the unusually large
capital gains taxes paid in 1986. Income from capital gains
realizations was unexpectedly large in 1986, related in large
part to the anticipated capital gains tax increase in 1987
enacted under the Tax Reform Act of 1986. Without the large
capital
gains realizations
due primarily
to that to
subsequent
Department
of the Treasury,
Interim Report
the Congress
legislation,
revenues
from
the
life
insurance
industry
would have
on Life Insurance Company Taxation (June 1988).
been far short of predicted levels.

-12The findings in the 1988 report and this report are based
upon an analysis of life insurance company tax returns. The
results of that analysis for 1984, 1985, and 1986 are summarized
in Table 3.1. Although receipts from the life insurance industry
were estimated at the time of the 1984 Act to be $9.5 billion for
1984 through 1986, actual payments were $7.2 billion (including
tax liabilities attributable to the mutual sector's "true-up",
i.e., an adjustment to income made in a subsequent year).
Receipts were estimated to be $5.2 billion (55 percent of the
total) for mutual life insurance companies and $4.3 billion (45
percent of the total) for stock life insurance companies. Actual
collections were $2.8 billion from mutual life insurance companies (including the true-up) and $4.4 billion from stock life
insurance companies.
This chapter also provides data on tax obligations reported
on financial statements for 1984 through 1988. Since tax
liabilities are measured differently for tax and financial
reporting, the financial data do not reflect the actual level of
life insurance company tax payments. Nevertheless, these data
may provide an indication of whether actual tax payments are
likely to increase or decrease in 1987 and 1988. Data provided
on financial statements indicate that life insurance company tax
payments are likely to fall in 1987 and increase in 1988. The
expected reduction in tax payments for 1987 is partly attributable to lower capital gains income and losses on health insurance
business. For mutual companies, the expected decrease in tax
payments in 1987 also reflects a negative true-up (an estimated
$1.4 billion reduction in tax liability) that is attributable to
1986.
It is hoped that the data contained in this chapter will be
useful in evaluating the success of current law in raising the
amount of revenue expected under the 1984 Act. However, a more
appropriate standard for evaluating the success of the 1984 Act
is whether it measures accurately the economic income of life
insurance companies. An analysis of whether current law is
properly taxing life insurance companies is contained in
Chapter 4.
B. Analysis of Taxes Paid by the Life Insurance Industry:
1984-1986
This section provides an analysis of the revenue effect of
the life insurance company tax changes under the 1984 Act for
1984 through 1986. It summarizes the results from the 1988
report
on amount
taxes paid
by as
the high
life as
insurance
industrySee
forfootnote
1984 and2
This
may be
$7.5 billion.
1985
and provides
data on taxes paid by the life insurance
of
Table
3.1.
industry and the mutual and stock segments for 1986.
Actual collections for mutual life insurance companies may
be as high as $3.1 billion. See footnote 2 of Table 3.1.

-13Table 3.1
Comparison of Estimated and Actual Tax Payments
of the Life Insurance Industry: 1984-1986
($ billions)
Total
1984-86

1984

1985

1986

1984 estimate

3.0

3.1

3.4

9.5

Actual payments

2.4 2.9

3.3

8.5

Actual payments including
true-up

2.7

2.2

2.3

7.2

1984 estimate

1.6

1.7

1.9

5.2

Actual payments

1.0 1.3

1.9:

4.1

Actual payments
including true-up

1.3

0.6

0.9'

2.8

1984 estimate

1.4

1.5

4.3

Actual payments

1.4 1.6 1.4

Life Insurance Industry

Mutual Life Insurance
Companies 1/

Stock Life Insurance
Companies

Department of the Treasury
Office of Tax Analysis
NOTE

4.4
July 1989

Details may not add to totals because of rounding.

SOURCES:

Actual payments for 1984 and 1985 and estimates for
1984-1986, Department of the Treasury, Interim Report
to the Congress on Life Insurance Company Taxation
(June 1988). Actual payments for 1986, sample of 1986
life insurance company tax returns.
1/ Includes stock life company subsidiaries of mutual life
companies.
2/ On July 19, 1989, the mutual sector provided additional data
not previously available to the Office of Tax Analysis (OTA)
in making this estimate. Based on the data provided by the
mutual sector, OTA estimates that actual payments for the
mutual sector in 1986 may be $2.2 billion or $1.2 billion
including the "true-up".

-14The results for taxes paid in 1986 are based on an analysis
of a sample of life insurance company tax returns for 1986.
Appendix A describes the data and the methodology used for
calculating taxes paid in 1986. Since tax year 1986 is the last
year for which tax liability information is available from the
Internal Revenue Service, financial statement data on tax
obligations are provided in the next section of this chapter to
indicate the direction of tax liability changes for later years.
1. Background
The complete overhaul of the life insurance industry's tax
rules in 1984 made it difficult to estimate the revenue effects
of changes in specific provisions. Thus, the principal focus of
the legislative debate was on expected revenues from the industry
after the tax law changes, rather than the revenue change from
the legislation. The Treasury and the Joint Committee on
Taxation (JTC) estimated that the expected level of receipts from
the industry after the 1984 Act would grow from $3.0 billion in
1984 to between $3.8 and $3.9 billion in 1988, as shown below.
Table 3.2
Estimates of Life Insurance Industry Receipts
After The 1984 Act
($ billions)
Fiscal Years
1984
1985
1986

1987

1988

3.6

3.9

Treasury estimates 2.5* 3.1 3.3 3.5 3.8
Joint Committee on
Taxation estimates

3.0

3.1

3.4

Department of the Treasury July 1989
Office of Tax Analysis
*Difference from JCT estimate due to lower estimate of 1983
calendar year receipts with full effect of end of the safety
net between FY 1984 and 1985. The 1984 calendar year receipts
estimate was $3.0 billion.
Estimates of the revenues from the mutual and stock segments
of the life insurance industry also were made for 1984. For
calendar year 1984, the total life insurance industry was
expected to pay $3.0 billion, divided approximately 55 percent
for the mutual segment ($1.6 billion with rounding) and 45
percent for the stock segment ($1.4 billion).

-152.

Summary of Taxes Paid by the Life Insurance Industry:
1984-1985"

This section summarizes the results for taxes paid in 1984
and 1985 presented in the 1988 report. A detailed reconciliation
of revenues estimated at the time of the 1984 Act and actual
revenues for 1984-85 is contained in Chapter 3 of that report.
Table 3.1 provides estimates of taxes paid by the life
insurance industry that are comparable to those used to estimate
receipts from the 1984 Act. Actual collections from the industry
in 1984 were $2.4 billion, $1.0 billion from the mutual segment
and $1.4 billion from the stock segment. Actual 1984 collections
for the mutual segment were $1.4 billion including the true-up
for 1984 which occurred in 1985. The revenue estimates of the
1984 Act projected that in 1984 receipts from the life insurance
industry would be $3.0 billion and that the mutual segment of the
life insurance industry would pay approximately $1.6 billion in
tax and the stock segment would pay approximately $1.4 billion in
tax.
Table 3.1 also shows that in 1985 actual receipts from the
life insurance industry were $2.9 billion, $1.3 billion from the
mutual segment and $1.6 billion from the stock segment. Actual
collections for the mutual segment were $0.6 billion including
the negative true-up for 1985 which occurred in 1986 and
excluding the true-up for 1984 which occurred in 1985. .The
original estimates of the 1984 Act implied total receipts of
$3.1 billion, approximately $1.7 billion in revenues from the
mutual segment and approximately $1.4 billion from the stock
segment.
The 1988 report concluded that these shortfalls were
attributed to the difficulty in estimating receipts from the life
insurance industry at the time of the 1984 Act. These difficulties were attributed to (1) the complexity of the changes in the
tax rules, (2) the difficulty predicting the effect of the
changes on taxpayers' behavior, (3) the significant changes in
the industry's practices and products during the last decade, and
(4) the limitations of the available data.
3. Taxes Paid by the Life Insurance Industry: 1986
Based upon a sample of life insurance company tax returns for
1986, actual collections were estimated to be $3.3 billion in
1986, consisting of $1.9 billion for the mutual segment and
$1.4 billion for the stock segment (Table 3.1). Actual collections for the mutual segment were $0.9 billion including the
Actual
collections
ofwhich
mutualoccurred
life insurance
companies
may be
negative
true-up
for 1986
in 1987 and
excluding
4
as
high
as
$2.2
billion,
or
$1.2
billion
including
the
true-up.
the negative true-up for 1985 which is reflected in 1986.
The
See footnote 2 of Table 3.1.

-16revenue estimate of the 1984 Act projected that the life insurance industry would pay $3.4 billion in tax in 1986, $1.9 billion
from the mutual segment and $1.5 billion from the stock segment.
The mutual and stock segment tax payments for 1986 reflect in
large part unexpectedly high realizations of capital gains in
1986 related to the anticipated capital gains tax increase in
1987 enacted under The Tax Reform Act of 1986. In addition, for
mutual companies the timing of the true-up increased tax payments
in 1986 but reduced tax payments in 1987.
4. Capital Gains
Capital gains income as a percentage of total taxable income
was unusually high in 1986 for both mutual and stock life
insurance companies. Capital gains were approximately 89 percent
of taxable income ($5.6 billion out of $6.3 billion) for mutual
life insurance companies and 65 percent of taxable income
($2.9 billion out of $4.4 billion) for stock life insurance
companies.5 The corresponding percentages for mutual and stock
life insurance companies in 1978 (the base year for forecasting
revenues) were under 1 percent for mutual companies ($15 million
out of $3.7 billion) and under 4 percent for stock companies
($88 million out of $2.4 billion). Without these high capital
gains realizations, revenues from the life insurance industry in
1986 would have been far short of their predicted levels.
Table 3.3 provides data on realized capital gains reported on
financial statements of mutual and stock life insurance companies
Table 3.3
Realized Capital Gains Reported on Financial Statements
($ billions)
Year
|
Mutuals
|
Stocks
1980
1981
1982
1983
1984
1985
1986
1987

-0.1
-0.2
0.1
0.2
-0.2
1.4
3.9
1.0

Department of the Treasury
Office of Tax Analysis

0.2
-0.1
0.1
0.9
-0.1
1.5
3.4
1.2
July 1989

Source: A.M. Best Company

Based on additional data provided by the mutual life
insurance industry, capital gains are estimated to be 88 percent
of taxable income ($6.3 billion out of $7.2 billion).

-17for 1980 through 1987.6 These data show that realized capital
gains for 1986, $3.9 billion for mutual life insurance companies
and $3.4 billion for stock life insurance companies, are
unusually high for the 1980s. Table 3.3 also shows that capital
gains realizations fall substantially in 1987.
5. Effect of True-up Adjustments on Mutual Sector Tax
Payments
Tax payments reported on tax returns of mutual life insurance
companies for the current taxable year include an adjustment to
income from the prior taxable year, called the "true-up", related
to the "recomputation" of the mutual companies' differential
earnings rate for the preceding taxable year. This true-up
arises because Internal Revenue Code section 809 tentatively
imputes income to mutual companies in the current tax year based
on mutual companies' earnings data for the second preceding tax
year. The recomputation provision of section 809 requires that
the imputation be recalculated in the subsequent tax year. Thus,
for example, the imputation for 1986 uses the mutual earnings
rate for 1984, which is then recomputed in 1987. The difference
based upon this recomputation (the true-up) is added to income in
the subsequent tax year.
Table 3.4 summarizes the effects of the true-up adjustments
on mutual sector tax payments.
Line 1 shows mutual sector tax
payments according to tax returns of $4.1 billion for 1984
through 1986. This amount includes the tax receipts attributable
to the true-up adjustment for the prior year (on line 2 ) , and
excludes the tax receipts for the true-up attributable to the
current year that occurs in the subsequent year (line 4). Line 5
shows the tax receipts for the mutual sector after attributing
the true-up adjustments to the current tax year. It shows that
mutual sector tax receipts were $2.8 billion for 1984 through
1986.
Table 3.4 shows that for 1986, for example, the $1.9 billion
in tax receipts includes a negative true-up of $0.4 billion
attributable to 1985, but excludes a negative true-up of $1.4
billion attributable to 1986 which occurs in 1987. By excluding
the true-up attributable to 1985 and including the true-up
attributable
to 1986, the 1986 tax liabilities are reduced to
6
Realized
gains
reported of
on true-up
financial
statements for
may
$0.9 billion. capital
A detailed
discussion
computations
differ
from
realized
capital
gains
reported
on
tax
returns
1986 is contained in Appendix B of this report.
because of differences between tax and financial statement rules
for measuring income.
7
Mutual sector tax payments may be higher than the amounts
reported in the text. See footnote 2 of Table 3.4.

Table 3.4
Mutual Segment Tax Payments Before and After
"True-Up" Adjustments: 1984-19861
($ billions)

Current year tax payments after "true up" from
previous year and before "true-up" for current
year

1984

1985

1.0

1.3

2. Tax payments attributable to prior year "true-up" 0.0

1986

1.9'

1987

n.a.

0.4

-0.4

-1.4

2.2

n.a.

3. Current year tax payments before "true up" from
prior year and before "true-up" for current year
(line 1 minus line 2)

1.0

0.9

4. Tax payments in subsequent year attributable to
current year "true-up"

0.4

-0.4

5. Current year tax payments before "true-up" from
previous year and after "true-up" for current
year (line 3 plus line 4)

1.4

0.6

1984-1986
Total

4.1

i
00

-1.4

0.9'

Department of the Treasury
Office of Tax Analysis

n.a.

2.8
July 1989

Details may not add to totals because of rounding.
1/ Includes tax payments of stock company subsidiaries of mutual life companies.
2/ On July 19, 1989, the mutual sector provided additional data not previously available to the Office of
~
Tax Analysis (OTA) in making this estimate. Based on the data provided by the mutual sector, OTA
estimates that actual payments for the mutual sector may be $2.2 billion (line 1 ) , or $1.2 billion after
"true-up" adjustments (line 5 ) .

-196. Tax Before Credits and Before Non-Life Losses: 1984-1986
The 1984 Act estimated tax payments for the life insurance
industry after credits and after the use of nonlife losses. This
measure is intended to reflect actual collections by the Federal
government. However, taxes before credits and nonlife losses may
be the appropriate measure of tax liability for examining the
effects of tax law changes on life insurance companies. Although
the use of nonlife losses reduced the taxes paid by life insurance companies, these refunds are not attributable to life insurance business activity and could be characterized as reducing the
tax payments of other industries. Moreover, tax credits are
provided in recognition of taxes paid or as incentive payments to
business for undertaking certain activities, rather than as
reductions in tax liabilities.
Table 3.5 compares taxable income and tax before and after
nonlife losses for 1984, 1985, and 1986. It shows that tax
before credits and nonlife losses for the life insurance industry
was $2.8 billion and $3.6 billion for 1984 and 1985,
respectively. Nonlife losses and tax credits reduced taxes paid
to $2.4 billion in 1984 and $3.0 billion in 1985. The majority
of the decrease for both years is attributable to nonlife losses
of stock companies.
Table 3.5 also shows that the life insurance industry had tax
before credits and nonlife losses of $3.9 billion in 1986,
including $2.0 billion for mutual life insurance companies and
$1.9 billion for stock life insurance companies.8 The use of
nonlife losses reduced tax before credits by about $0.2 billion
for stock companies in 1986.
C. Tax Obligations From Financial Statements: 1984-1988
Table 3.6 provides tax obligations of the life insurance
industry based on financial statement data for 1984 through 1988.
For comparison, it also includes tax payments reported on tax
returns. Taxes reported on financial statements are generally
higher than taxes reported on tax returns for several reasons.
Tax liabilities are measured differently for tax and financial
reporting purposes. Financial statement amounts are estimates of
tax that are made several months before a company files a tax
return. The taxes reported on financial statements may include
amounts never reported on tax returns, such as assessed tax
deficiencies relating to audits of prior year tax returns. Where
financial and tax accounting differ on the timing of income
recognition, the financial statement taxes may include amounts
that are not actually paid to the Treasury until later years. In
addition,
the regulatory
statements
not may
allow
Tax before
credits and
nonlife do
losses
be consolidation
as high as
with
nonlife
companies,
although
life
insurance
companies
have for
$4.3 billion for the life insurance industry and $2.4 billion
been
allowed
to
file
consolidated
tax
returns
with
nonlife
the mutual sector. See footnote 4 of Table 3.5.
companies since 1981.

Table 3.5
Taxable Income and Tax Before and After Credits for Life Insurance Companies
Filing Life/Nonlife Consolidated Returns for 1984, 1985, and 1986
($ billions)
Mutuals 1/
1
| Tax
|
Tax
|
1
after
|
Taxable
|
before
|
Taxable
1income 2/ | credits | credits 3/ ||| income
2/
1

Before nonlife losses
1984
1985
1986

2.04

n.a.
n.a.
n.a.

4.1
5.1
5.0

1.8
2.2
1.9

n.a.
n.a.
n.a.

1.0
1.4

1.0
1.3

3.4
4.0
4.4

1.4
1.6
1.7

1.4
1.6
1.4

2.4
3.6

1.1
1.5

6.44

2.3
3.4

6.5
8.7
11.4

2.8
3.6
3.9

n.a.
n.a.
n.a.

2.4
3.0
3.6

2.4
2.9
3.3

After nonlife losses
1984
1985
1986

6.3

2.0

1.9

Department of the Treasury
Office of Tax Analysis

5.7
7.4
10.7

July 1989

Notes: Details may not add to totals because of rounding. N.a. = not available.
Sources: For 1984 and 1985, Department of the Treasury, Interim Report to the Congress on Life Insurance Company Taxation
(June 1988). For 1986, sample of 1986 life insurance tax returns.
1/ Includes stock life company subsidiaries of mutual life companies.
2/ Mutual sector taxable income includes a "true-up" in 1985 of approximately $0.95 billion for an additional $0.35 billion tax
liability in 1985. Mutual sector taxable income for 1986 includes a negative "true-up" of approximately $1.0 billion due to
the recomputation of the 1985 differential earnings rate. Taxable income of the mutual segment in 1987, not shown on this
table, includes a negative "true-up" of $3.7 billion, reflecting the mutual segment's recomputed differential earnings rate
for 1986.
3/ For life/non-life consolidated companies, tax payments for 1986 are calculated in accordance with the proportional tax
allocation method. See Appendix 2 for a discussion of this method. Tax liability figures for 1984 and 1985 reflect the
actual method elected for allocating tax to consolidated companies.
4/ On July 19, 1989, the mutual sector provided additional data not previously available to the Office of Tax Analysis
(OTA) in making this estimate. Based on the data provided by the mutual sector, OTA estimates that taxable income and
tax before credits may be $7.4 billion and $2.4 billion before nonlife losses. The estimates after nonlife losses may
be $7.2 billion for taxable income, $2.3 for tax before credits, and $2.2 billion for tax-after credits.

i
to

o
i

-21-

Table 3.6
Life Insurance Company Tax After Credits
Reported on Financial Statements and Tax Returns
($ billions)

1984 I 1985 I 1986 I 1987

1988

Financial Statements
Mutual companies:

1.2

2.1

2.3

0.5

1.5

Capital gains
Ordinary income

0.1
1.2

0.6
1.5

2.1
0.2

1.0
-0.5

1.2
0.4

Stock companies:

1.5

2.0

2.4

1.4

1.9

Capital gains
Ordinary income

0.1
1.4

0.4
1.6

1.1
1.2

0.6
0.7

0.3
1.6

Total

2.8

4.1

4.7

1.8

3.5

Mutual companies2

1.0

1.3

1.9"

n.a.

n.a

Stock companies

1.4

1.6

1.4

n.a.

n.a

Total

2.4

2.9

3.3

n.a.

n.a

Tax Returns2

Department of the Treasury

July 1989

n.a. = not available.
Details may not add to totals because of rounding.
1/ Data are from the A.M. Best Co. Figures for 1988 are preliminary.
2/ Includes stock company subsidiaries of mutual life companies.
3/ Figures for 1984 and 1985 are derived from the 1987 Treasury
Department Survey of Life Insurance Companies. Figures for 1986
are from a sample of life insurance company tax returns for 1986.
4/ On July 19, 1989, the mutual sector provided additional data not
previously available to the Office of Tax Analysis (OTA) in making
this estimate. Based on the data provided by the mutual sector,
OTA estimates that tax after credits for mutual companies for 1986
may be as high as $2.2 billion.

-22Although financial statement data do not measure accurately
the actual level of life insurance company tax payments, they
provide an indication of whether actual tax payments are likely
to increase or decrease in 1987 and 1988. These data indicate a
drop in life insurance company taxes from $4.7 billion in 1986 to
$1.8 billion in 1987 and then an increase to $3.5 billion in
1988. The reduction in taxes for 1987 is partly attributable to
lower capital gains income as well as losses on health insurance
business. For mutual companies, the 1987 payments also include a
negative true-up ($1.4 billion) attributable to 1986.

CHAPTER 4
ANALYSIS OF THE DIFFERENTIAL TAXATION OF STOCK AND MUTUAL
LIFE INSURANCE COMPANIES
A.

Background and General Observations

Measuring the economic incomes of life insurance companies
and their policyholders has been difficult and controversial for
many years. With an unintegrated individual and corporate tax
system, the proper taxation of life insurance company income
involves the following question: To what extent should mutual
company policyholders be treated like partners in an unincorporated business, or like corporate owners of their businesses? A
closely related question is: Should payments to "participating"
policyholders of income produced at the corporate level be
treated as payments with respect to debt, and thus as deductible
interest at the corporate level, or as payments to owners, and
thus as nondeductible dividends?
A major difficulty in taxing the income of life insurance
companies, both stock and mutual, is that the total income of
companies selling "participating" policies cannot be identified
directly. A "participating" policy is one through which a
policyholder buys not only some amount of term insurance and the
equivalent of a savings certificate, but also an equity-like
interest in the insurance company. In participating policies,
the policyholder may also provide, through premiums, funds
necessary for company surplus. Surplus is used to cover
contingencies and for other capital requirements, such as
buildings and equipment. Such equity-like contributions have
been called "redundant" premiums.
The return that a participating policyholder may receive on
his equity interest is difficult to identify or measure because
the return can be received in many forms, including increased
policyholder dividends, reduced premiums, or increased cash
values. Further, to impose a tax on life insurance company
corporate profits, a determination must be made of what portion
of policyholder dividends should be taxable and what portion
should not. This determination is complicated by the fact that
policyholder
dividends
blend together
price
reductions,
Other elements
of may
policyholder
dividends
have
also been
interest
payments
(reflecting
the
companies'
use
of anyinvestment
redundant
identified, including repayment of the policyholder's
premiums
between
receipt
and
repayment),
and
equity-like
principal, and capital gain on the amount invested in ownership.
returns.
Unfortunately, there has never been a practical or

-24accurate means of determining what portion of policyholder
dividends falls in each category.
The difficulty created by the sale of participating life
insurance has generally been viewed as a problem of devising a
satisfactory measure of mutual life insurance company profits.
This view is based on the assumption that mutual companies sell
only participating policies and stock companies sell only
nonparticipating policies. Increasingly, however, stock
companies are also issuing participating policies. For example,
stock companies sell universal life policies, which are policies
that credit interest at rates that may not be fixed in the
contract. The dollar amount of universal life insurance in force
in the United States increased sevenfold between 1983 and 1987.3
As the 1984 Act recognized, when any amount paid or credited to a
policyholder is not fixed in the contract, but depends on the
experience of the company or the discretion of management, the
amount paid should be considered a policyholder dividend for tax
purposes.
Thus, the identification and appropriate taxation of any
equity-like returns to participating (or similar) policyholders
is an issue that is also involved in the taxation of stock life
insurers. The identification and measurement of equity-like
returns to participating policyholders is even more difficult in
the case of stock companies because these policyholders share the
equity risk with stock company shareholders.
Mutual companies have contended that policyholder rights do
not include ownership rights, and thus no equity return is
present. While the limitations on policyholders' contractual
rights do distinguish them from conventional equity owners,5
it is clear that the return received through policyholder
S_e_e, does
generally,
Henry J. classic
Aaron, The
Peculiar
Problem of
dividends
not represent
debt.
Furthermore,
the
Taxing Life Insurance Companies (Washington, D.C., The Brookings
Institution, 1983); Thomas Neubig and C. Eugene Steuerle, Office
of Tax Analysis, "The Taxation of Income Flowing Through
Financial Institutions: General Framework and Summary of Tax
Issues," OTA Paper No 52 (September 1983).
3
See American Council of Life Insurance, Life Insurance Fact
Book TT988).
4
See Staff of the Joint Committee on Taxation, 98th Congress,
2d Sess., General Explanation of the Revenue Provisions of the
Deficit Reduction Act of 1984, 611 (1984).
5
S_ee, e.g. , Paulsen v. Commissioner, 469 U.S. 131 (1987).
6

See, e.g., Texas Farm Bureau v. United States, 725 F.2d 307
(5th Cir. 1984); W.T. Plumb, Jr., "The Federal Income Tax
Significance of Corporate Debt," 26 Tax L. Rev. 369 (1971).

-25argument that policyholder dividends are entirely customer
rebates ignores the fact that such rebate may be received many
years after the purchase. Any premium overcharge will earn
interest or an equity-like return during the time that it is held
by the company. As a result, the policyholder dividend must
include an interest or equity-like return.
A person who buys a participating life insurance policy from
a mutual or stock company acquires a life insurance policy and a
right to share in the surplus or profits of the company. Both
types of companies sell a large amount of cash value insurance
policies, which comprise both a savings fund and pure insurance
protection. By issuing cash value policies, life insurers act as
financial intermediaries — borrowing money from their policyholders and lending these funds to other borrowers — and as
poolers of their policyholders' mortality. Although stock and
mutual companies have substantially different forms of legal
ownership, they are in direct competition with each other.
Moreover, life insurance companies increasingly operate in
competition with other financial intermediaries. The tax system
should not place any of these competitors at a disadvantage.
B. Reasons for Enactment and Design of Section 809
Section 809 was enacted primarily to assure that mutual
companies are taxed on a base that is neither greater or less
than their economic income.
Congress believed that a portion of
the policyholder dividends paid by mutual companies is a distribution of corporate earnings to the policyholders as owners.
Because stock life insurance companies cannot deduct amounts paid
to their shareholders as dividends, Congress thought it
appropriate to impute equity income to mutual companies.
To determine the amount of equity income, an imputation
mechanism was chosen because there was no means available to
segregate and measure directly the ownership return of
participating policies. Thus, section 809 operates to impute
additional income to mutual companies based on a comparison of
the returns on equity of the mutual and stock segments of the
industry. Congress believed that profit-oriented enterprises
generally distribute earnings to their owners in amounts that are
7
proportional
to the
equity
in the
business
and, 521
thus,
See S. Rep.
No.owners'
169, Vol.
1, 98th
Cong.,
2d Sess.
determined
that
the
equity
can be
measured
as a 1397
(1984T7~H.R.
Rep.
No.
432, earnings
Prt. 2, 98th
Cong.,
2d Sess.
(1984) .
The imputation of equity income was described as a
limitation on policyholder dividend deductions, but in fact it is
an income imputation. If the imputed income exceeds current
policyholder dividends, the current reserve deduction is reduced
by the excess. Section 809(a)(2).

-26percentage of mutual company equity. Congress also believed that
mutual and stock companies in the same industry will earn
comparable rates of return on equity over a period of several
years. It observed, however, that the average post-dividend,
pre-tax return on equity of mutual companies was lower than that
for a comparable group of stock companies. This difference,
Congress concluded, was attributable to the tax-deductible
distribution by mutual companies of earnings to their
policyholders.
Congress therefore determined that the appropriate percentage
of mutual company equity was generally equal to the difference
between the average earnings rate of all mutual companies and the
average of the earnings rates of the 50 largest stock companies.
Congress believed, however, that the stock earnings rate should
be adjusted so that the mutual segment of the industry would bear
55 percent of the aggregate industry tax burden for 1984. This
allocation was thought appropriate in light of the historic
allocation of the industry's tax burden between the mutual and
stock segments, the relative percentages of assets held by the
stock and mutual segments of the industry, and the difference in
tax treatment at the individual level of mutual company policyholders and stock company shareholders.9 Historical data on
these relationships were presented in the 1988 interim report.
C. Conceptual Shortcomings of Section 809
Different tax rules, such as section 809, should apply to
different forms of business organizations only to the extent
necessary to measure accurately and tax equally their net income.
Correct measurement and equal taxation of net income is important
so that the tax system does not favor one form of business over
another; instead, it should provide a level playing field to all
forms of business. Stated differently, the tax system is
"neutral" between alternative investments if investments with the
same pre-tax return have the same after-tax return to the
investors.
1. The "Prepayment" Analysis
The mutual companies have argued that section 809 is
unnecessary to provide a level playing field in the insurance
industry because any deduction of corporate earnings through
mutual company policyholder dividends is exactly offset by the
additional tax due from mutuals when they raise capital through
premiums by selling participating insurance policies. Stock
companies, in contrast, are not required to include in income
capital contributions of their shareholders. According to the
"prepayment" analysis, a tax on paid-in capital combined with the
full deductibility of the return to contributors (policyholder
dividends)
provides the same after-tax returns at the company
9
See
S.
No. 169,
at 549; capital
H.R. Rep.
No. 432,
at no
1423.
level as the Rep.
exclusion
of paid-in
combined
with
deduction for dividends paid to shareholders.

-27The prepayment analysis was first described fully in 1986 by
Professor Michael J. Graetz of Yale Law School and is based on
the following assumptions: (1) that mutual company redundant
premiums were and continue to be taxed upon receipt, (2) tax
rates are constant over time, (3) returns on equity are identical
in the stock and mutual segments of the life insurance industry,
(4) both segments face the same tax rules^Qand (5) the private
and social discount rates are equivalent.
The analysis is illustrated by the following example. Assume
a capital contribution of $100 each to a stock company and a
mutual company, the latter in the form of a premium. Assume also
a 10 percent annual rate of return and a 34 percent tax rate.
The stock company will pay no tax on the capital contribution and
will then earn $10 per year. The $10 will be taxed at a 34
percent rate ($3.40), leaving $6.60 to be paid out as a shareholder dividend. On the other hand, the mutual company will
receive $100 as premium income and immediately pay a tax of $34.
This will leave $66 which will earn $6.60 per year to be paid out
as a deductible dividend. In this example, the capital supplied
to both the stock and the mutual company has produced the same
return to the suppliers of the capital and a tax burden of the
same present value at the company level. Table 4.1 provides a
one-year illustration of this example.
Table 4.1
Illustration of Prepayment Analysis Mutual
Stock
$100

$100

(2) Tax on contribution (34% rate)

(3) Capital on hand (l)-(2)

100

(1) Capital contribution

(4) Return on capital (10% x (3))

6. 60

(5) Deductible distribution to
policyholder

6. 60

(6) Tax on earnings (34% rate)

3.40

(7) Non-deductible distribution to
shareholder
1

6.60

° See Michael J. Graetz, "Life Insurance Company Taxation:
An Overview of the Mutual-Stock Differential," Life Insurance
Company Taxation: The Mutual vs. Stock Differential, 1-9 (M.
Graetz ed. 1986).

-28Thus, given its assumptions, the prepayment analysis demonstrates
that mutual company policyholder dividends should be fully
deductible to provide equal corporate tax treatment for investments in mutual companies. Stock life insurance companies and
certain commentators, however, have raised questions concerning
the various assumptions underlying the prepayment analysis and
have criticized the analysis in other respects, as well. The
significant questions and criticisms are discussed below.
2. Individual-Level Tax Advantages to Policyholders
First, the prepayment analysis demonstrates that conventional
equity and policyholder equity are treated equally (i.e., have
the same after-corporate tax return) only at the company level.
Policyholders, however, enjoy a tax advantage at the individual
level. Shareholder dividends and interest payments to
bondholders are fully taxed when received (and stock appreciation
is taxed when sold). In contrast, policyholder dividends are not
taxed until the full amount of premiums has been recovered, which
generally results in effectively exempting any income included in
policyholder dividends from taxation at the individual level.11
As Professor Graetz acknowledges, the disparity between the
treatment of policyholders and shareholders at the individual
level could justify a corporate-level tax on the equity return
and interest element of policyholder dividends as a proxy for the
absent investor-level tax. The approach of section 809 is not,
however, appropriate for such a proxy. For example, section 809
uses corporate tax rates, not the individual income tax rates
appropriate to address the tax exemption at the individual level.
Furthermore, section 809 does not take account of the returns to
stock company participating policyholders, who also enjoy a
similar individual-level tax advantage. However, identifying the
portion of returns to stock company participating policyholders
that is an equity-like return is particularly difficult because
of the
11 need to determine the relative amount of equity risk borne
The amount of premiums that may be recovered is overstated
by
stock
company
policyholders
and shareholders.
by the cost
of comparable
renewable
term insurance. That is, by
allowing recovery of total premiums paid as the policyholder's
investment in the contract, the cost of personal insurance
protection is effectively deducted from investment returns. See
Testimony of Dennis E. Ross, Deputy Assistant Secretary for Tax
Policy, Department of the Treasury, before the Subcommittee on
Select Revenue Measures Committee on Ways and Means, U.S. House
of Representatives (March 15, 1988); Thomas Neubig and C. Eugene
Steuerle, Office of Tax Analysis, "The Taxation of Income Flowing
Through Life Insurance Companies," OTA Paper 53 (January 1984).

-293. Initial Taxation of Any Redundant Premium
The second significant question relates to a premise of the
prepayment analysis. Stock companies and several commentators
have objected that the redundant premiums of mutual life companies were not initially taxable and, thus, the conclusion that
mutual companies do not enjoy any tax advantage is invalid. This
question has been raised in two different contexts.
a. The Use of Tax Preferences
The first context involves the question of whether tax
preferences shelter the redundant premium from tax. Stock companies have argued that mutual companies enjoy a competitive
advantage because mutual companies do not have to pre-pay taxes
on the "capital" that the government has contributed through a
tax preference. For example, assume an accelerated deduction of
$100 in the first year and an increase in taxable income of $100
in the second year. The accelerated deduction would provide each
type of company tax savings of $34 (at a 34 percent tax rate) in
the first year. This tax savings is, in effect, interest-free
"capital" contributed by the government that must be repaid in
the second year. The stock company would invest the $34, pay tax
of $1.16 on the $3.40 of investment income (assuming a 10 percent
return), repay the $34 capital contribution, and have $2.24 to
pay as dividends. The mutual company would invest the $34, repay
the $34 capital contribution, and pay $3.40 as policyholder
dividends. Thus, if the assumption is made that the stock company pays the earnings to its shareholders, the mutual company
would have an advantage.
In a competitive industry, however, it is much more likely
that the tax preference gains are passed through to customers.
If the stock company passes these gains to its customers rather
than its shareholders, there is no advantage to mutual companies.
In that event, the tax preferences will have the same effect as
any other cost reduction, producing no different impact on stock
and mutual companies. For example, the stock company could use
the additional "capital" of $34 to replace outside borrowing
which, at a 10 percent rate, would reduce company interest costs
by $3.40. Taxable income is unchanged if premiums are reduced by
the same amount. Each type of company will owe $34 in tax when
the deferral ends and income is increased by $100.12
b. Untaxed Pre-1984 Equity
The second
context
question of in
whether
See Daniel
I. involves
Halperin,the
"Commentary,"
Life mutual
companies
enjoy
a
continuing
tax
advantage
because
pre-1984
Insurance Company Taxation: The Mutual vs. Stock Differential
5-3 (M. Graetz ed. 1986) .

-30redundant premiums escaped taxation. Mutual companies have
attempted to determine whether any equity accumulated by mutual
companies from redundant premiums escaped taxation prior to
1984.13 This empirical question cannot be answered directly
because of the limitations in the data available with respect to
years prior to 1958. Thus, mutual companies have used an
indirect procedure of estimating the mutual company equity that
existed as of December 31, 1957, assuming that equity was derived
from untaxed redundant premiums. Their analysis concludes that
the economic income of mutual companies was sufficiently overtaxed under the 1959 Act (effective in 1958) from the limitation
on policyholder dividend deductions to compensate for any pre1958 capital that was received tax-free.
Mutual companies contend that their net income was over-taxed
under the 1959 Act because that Act limited policyholder dividend
deductions. Stock companies have argued that this untaxed equity
analysis is flawed because it relies on the prepayment analysis
for the definition of mutual company net income. The analysis is
based explicitly on the assumption that untaxed capital existed
in the mutual segment in 1957. Since it is reasonable to assume
that some portion of policyholder dividends paid in years after
1957 represents a return on that untaxed 1957 equity, even under
the prepayment analysis, that portion of post-1957 policyholder
dividends should not have been deductible. The mutual company
empirical analysis assumed that all post-1957 dividends should
have been deductible and thus does not make the necessary comparison of untaxed equity and properly deductible policyholder
dividends. No information exists, however, that would allow an
accurate determination of the portion of dividends that should
not have been deductible. As a result, the question of whether
mutual company equity escaped corporate-level taxation prior to
1984 is not answered.
Even if untaxed equity exists and was not offset by subsequent disallowance of policyholder dividend deductions, the
competitive balance between mutual and stock companies may not be
affected adversely. Untaxed equity would affect the pricing of
current and future participating policies only if mutual companies transfer income to new policyholders from existing and
prior policyholders. It cannot be determined from existing data
whether this has occurred. Although the prior tax savings
benefited participating policholders in the past, an adjustment
in the future for those prior tax savings would be likely to
affect See
the Policy
pricingEconomics
of future
policies.
Group,
The Taxation of Insurance
Section
809 An
wasAnalysis
not justified,
nor is itEquity
well designed,
Companies:
of Transitional
Under the to
account
forApproach
any prior(March
untaxed
Prepayment
10,equity
1989).which Congress might
conclude exists.

-314.

Absence of Redundant Premiums

Stock companies have also argued that mutual companies raise
capital currently through retained earnings, not by charging
redundant premiums. The stock companies contend that unless
capital is raised through redundant premiums, the prepayment
analysis is invalid.
Mutual companies currently may not derive significant amounts
of capital through redundant premiums.14 Even if all mutual
company capital received currently, however, is derived from
retained earnings, the only issue appears to be one of
potentially untaxed equity, as discussed in the preceding
section. Retained earnings are taxed in the same fashion for
both types of insurers. Thus, assuming both sell the same
participating policy, earn the same return on the policy cash
value, and retain the same portion of earnings, the mutual
company would be able to pay policyholder dividends to its
policyholders equal to the dividends the stock company could pay
to its shareholders. Competition would eliminate the return that
is retained, unless it relates to shareholders' equity in the
stock company case and existing untaxed equity in the mutual
company case. If the amount of existing equity in each type of
company is the same, which it must be for the rate of return
earned by each type of company to be equal, the only question is
whether the previously existing mutual company equity was subject
to tax. If it was, the prepayment analysis implies that the
mutual company policyholder dividends paid out of the retained
earnings should be deductible.
5. Equivalence of Private and Social Discount Rates
Finally, stock companies have argued that, when mutual
companies "prepay" their corporate taxes, the present value of
the stream of mutual company tax payments to the government is
lower than the present value of the stream of stock company tax
payments. They argue that a mutual company's prepayment of taxes
has a lower present value to the government than the stream of
future tax payments by an equivalent stock company because
Federal government borrowing rates are lower than private
insurers' pre-tax rates of return.
One example presented to the Treasury Department assumed a
mutual company with $1 million of redundant premiums and a stock
company with $1 million of non-taxable capital contributions. At
a 34 percent
corporate
pays $340,000
See Report
of the tax
Taskrate,
Forcethe
on mutual
Mutual company
Life Insurance
in
the
first
year.
The
example
assumes
that
the
mutual
Company Conversion, XXXIX Transactions of the Society of company
pays no future
taxes .because it distributes in the form of
Actuaries
295 (1987)

-32deductible policyholder dividends all of the 20 percent annual
pre-tax rate of return on its net capital (20 percent times
$660,000 = $132,000). In contrast, if the stock company earns
the same pre-tax return on its net capital and distributes
$132,000 in after-tax earnings each year, it will pay $680,000 in
taxes over a ten year period, or twice the nominal tax liability
of the identical mutual company.
The stock industry contends that the prepayment analysis,
therefore, does not result in equal tax payments to the Federal
government. This argument is not valid for the following
reasons.1
First, in the above example, the timing of the stock
and mutual company tax payments matters. When discounted at the
20 percent pre-tax rate of return, the 10-year stream of $68,000
tax payments by the stock company has the same present value as
the $340,000 initial tax payment of the mutual company.
Second, some stock companies have argued that the Federal
government's discount rate is lower than the pre-tax rate of
return to profit-making companies. When discounted at a rate
below 20 percent, the present value of the stock company payments
is greater than the mutual company's initial payment. However,
it should be noted that in the example the mutual company policyholders and the stock company shareholders receive identical
income streams from the same investment, and thus would be
indifferent between investing in mutual and stock companies.
Further, in terms of competitive neutrality, the expected pre-tax
rates of return of stocks and mutuals are relevant, not the
government borrowing rate.17
Thus, the present value equivalence of the prepayment
analysis depends on the method of discounting future payment
streams. The stock industry argument that a discount rate lower
than the companies' expected pre-tax rate of return results in
unequal tax payments is not relevant if Congress is concerned
about placing mutual and stock companies in competitive balance.
The companies' expected pre-tax rate of return is the appropriate
15
Letter
B. Harman, and
Jr. and
John in
T. the
Adney
discount
rate from
for William
these comparisons,
results
sameto the
Treasury value
Department
1988).
present
of tax (December
liability 2,
under
the prepayment analysis.
16

These arguments were made in a letter from Professor John
Shoven of Stanford University to the Treasury Department (April
26, 1989).
17
On a theoretical basis, the Federal government would have
the option of investing the mutual company's $340,000 in shares
of stock companies if it wanted to earn the same future value of
tax payments as from the stock company.

-33D.

Design Shortcomings of Section 809

Even if Congress concludes that it should continue to be
concerned solely about the equity returns of mutual policyholders
(as opposed to the similar returns earned by all "participating"
policyholders), there are nevertheless numerous shortcomings in
section 809's attempt to implement this imputed addition to
income. The more serious of these difficulties are discussed
below.
1. Imputing Income on the Basis of Earnings Differences
Between Industry Segments
Section 809 links the taxes owned by mutual companies to the
actions and economic performance of stock companies. Mutual
companies owe more taxes when the stock segment performs
relatively better than the mutual segment. As a result, stock
company earnings will increase (or decrease) taxes paid by their
mutual competitors.
For example, assume that a small mutual company decides to
sell universal life products, which are products that credit
interest at a variable, rather than a fixed, rate. As a result
of substantial operating costs associated with marketing a new
product, the company's earnings rate is reduced. Assume that
during the same period the earnings rate of the stock segment
increases as its earlier sales of universal life products become
profitable. Thus, the imputed stock segment earnings rate rises
from the base period rate of 16.5 percent to a 20 percent rate.
Assuming the earnings rate of the mutual segment remained
constant during this period, the small mutual company will have
additional imputed income under section 809. Consequently, even
though it earned less income, the mutual company will pay more
t_

ax.
Under this system, mutual company tax payments are disconnected from the earnings experience of the mutual segment,
generally, and from the earnings of individual mutual companies,
in particular.
2. Socialization in Measurement of Mutual Segment Earnings
Rate
Under section 809, mutual companies are treated as if they
earn one pre-tax return on equity. As a result, a decrease in
one mutual company's earnings produces an offsetting increase in
tax for
the
mutualL. segment.
Thus each Aspects
mutual company's
perSee
Arthur
Bailey, "Practical
of Section
809,"
formance
affects
the
tax
of
all
other
mutual
companies.
in Life Insurance Company Taxation: The Mutual vs. Stock
Differential 6-3 (M. Graetz ed. 1986).

-34Furthermore, the business or tax planning of one mutual company
will shift part of the mutual segment tax burden to other mutual
companies.
3. Measuring Rates of Return Relative to Book Value
Under the comparative rate of return theory which Congress
described for section 809, rates of return should be measured
against current equity value. Section 809, however, measures
rates of return against the book value of company (stock and
mutual) equity. These book values may vary in random fashion
from current market values. As a result, the comparison of the
aggregate rates of return for the stock and mutual company
industry segments will be inaccurate and arbitrary.
Furthermore, individual companies may be able to manipulate
their equity base (and their rate of return) by shifting holdings
of assets or liabilities, or choosing to realize gains or losses
in a particular year. This will exacerbate the arbitrary and
distortionary effects noted above.
4. Imputing Income on the Basis of Annual or Short-term
Differences in Earnings
The section 809 mechanism for computing the imputed addition
to mutual company income is based in part on the theory that both
segments of the life insurance industry will earn comparable
rates of return over the long term. Nevertheless, section 809
generally measures the annual difference between stock and mutual
company earnings rates.
Numerous factors may in the short term lead to significant
variations in the rates of return of the two segments. If, for
example, one segment first introduces a new product, its rate of
return may change substantially for a temporary period,
increasing (or decreasing) significantly the additional income
imputed to mutual companies in comparison to the income that
would be imputed if earnings rate differences were accounted for
over a longer period.
The yearly measurement of the differential earnings rate
under section 809 also means that the rate of tax applicable to
mutual companies is not known in advance of business decisions
that it will affect. Furthermore, since the business and tax
planning of other companies in the industry affects the differential earnings rate, mutual companies may be subject to wide and
capricious yearly variations in their rate of tax.
The socialization in the measurement of the mutual sector's
average earnings rate causes the taxes attributable to section
809 for small companies to depend largely on the economic
performance of large mutual companies. Analysis of earnings
rates based on 1986 tax return data shows that small companies
benefited from socialization in 1986. See Appendix C.

-35Section 809 makes some compensation for swings in the stock
segment earnings rate by computing the current stock earnings
rate on the basis of a three-year average. No comparable
averaging mechanism applies to the determination of the mutual
company earnings rate. Thus, the earnings rate of the mutual
segment and, hence, the imputation rate, may change dramatically
because of one year's swing in the earnings rate of large mutual
companies.
5. Mismatching of Earnings Rate Years
Section 809 determines the differential earnings rate by
comparing the average of the stock earnings rates for the thr
years preceding the taxable year with the mutual earnings rateee
for the current taxable year (after the recomputation under
section 809(f)). This mismatching of years increases the likelihood that the differential earnings rate under section 809 will
be inappropriate.
Furthermore, the mismatching is more likely to deny to mutual
companies full credit for their earnings in a year in which both
segments have unusually high earnings, and the high mutual
earnings rate is compared with the lower stock rates of the
preceding years. The Internal Revenue Service has ruled that the
average mutual earnings rate for any year cannot exceed the
imputed stock earnings rate for that year.20 As a result, part
of the mutual company earnings for a high earnings rate year may
never be included in the formula of section 809. For example, in
1986 the mutual company earnings rate was 17.980 percent and the
stock company rate was 20.279 percent. Under section 809,
however, the mutual rate is compared with the imputed 1986 stock
earnings rate, which is 90.55 percent of the average of the prior
three year's stock earnings rates. Since that rate of 16.285
percent was less than the mutual earnings rate of 17.980 percent,
the differential earnings rate under section 809 was zero. In
°oofr w o r d s ' a significant portion of mutual company earnings in
1986 will never be taken into account under section 809.
6
* Recomputation of the Differential Earnings Rate in Later
Tax Years.
"
~~
The differential earnings rate under section 809 for the
current tax year is recomputed in the subsequent tax year to take
account of the actual mutual company earnings rate in the current
tax year. Before this recomputation is made, the rate for the
current tax year is based on the mutual company earnings rate for
the second year preceding the current tax year. The recomputed
rate is then multiplied by the mutual company equity base for the
current tax year and the difference between that result and the
20
Notice
1988-2 C.B.
result
based 88-106,
on the original
rate444.
is added to (or subtracted
from) mutual company income in the subsequent tax year.

-36This recomputation provision adds a layer of complexity to
the computation of the addition to mutual company income, and
exacerbates the problem that mutual companies cannot predict the
applicable rate of tax in advance of the current tax year. Moreover, such a recomputation appears unnecessary because the actual
mutual company earnings rate for a given tax year is given effect
under section 809 in the second year following the current tax
year. The current recomputation provision merely changes the
year in which mutual company earnings are taken into account.
Absent systematic changes in the equity base, this should not
alter the mutual segment's tax liability viewed over a period of
years.
E. Conclusions
The tax treatment of stock and mutual life insurance companies should not confer an advantage on one form of organization
over the other, i.e., competing businesses should have the same
effective tax rate. The difficulty in applying this principle to
life insurance taxation has always been of finding a sound method
for identifying and measuring profits, or returns to equity, in
an industry where customers (policyholders) are owners or part
owners of the business.
Section 809 is cumbersome and arbitrary in its attempt to
identify and measure equity returns to mutual policyholders and
it ignores entirely the fact that equity-like returns are also
paid to stock company participating policyholders. Moreover, the
prepayment analysis calls into serious question the reasons
offered in 1984 for imposing on mutual companies an imputed
amount of taxable income. While there remains some uncertainty
regarding certain assumptions of the prepayment analysis, this
analysis generally demonstrates that equity returns to
participating policyholders bear an appropriate tax at the
corporate level.
The prepayment analysis does not, however, address the
problem that income of participating policyholders, both stock
and mutual, enjoys an individual tax advantage when compared to
income of shareholders and bondholders. Unless some adjustment
is made for the fact that shareholders of stock life insurance
companies are subject to both corporate and individual-level tax
on equity returns, whereas equity returns to all mutual company
owners are taxed only once, stock life insurance companies could
be at a competitive disadvantage. It is also important to point
out that when comparing the tax exemption of participating life
insurance policyholders' income and the taxation of stock life
insurance companies' shareholder dividends at the individual
level, the relative tax treatment of total income flowing through
life insurance companies and competing financial institutions
should be considered.

CHAPTER 5
POLICY OPTIONS FOR IMPROVING LIFE INSURANCE COMPANY TAXATION
As discussed in Chapter 4, section 809 poses serious
practical and conceptual problems. The principal problem is that
the "prepayment" analysis generally demonstrates that equity-like
returns to mutual company policyholders bear a corporate level
tax. As a result, apart from untaxed equity concerns, a
provision such as section 809 is inappropriate. Thus, the
Department of the Treasury recommends its repeal and proposes an
alternative that would address the three issues described below.
First, equity returns to participating policyholders, both
mutual and stock, are not sufficiently taxed at the individual
level. More equity returns are attributable to the policyholders
of mutual companies than to policyholders of stock companies,
and, consequently, this advantage accrues more to mutual
companies than to stock companies. It is, however, available to
both segments of the industry. In contrast, returns to stock
company shareholders are subject to double taxation, because the
returns are taxed at both the corporate and individual levels.
The tax treatment of equity returns to investors in mutual
and stock life insurance companies could be made equal either by
imposing an individual-level tax on the returns to participating
policyholders or by removing the double taxation of shareholder
dividends and thereby imposing tax at one level only. An
additional tax on returns to participating policyholders could be
imposed at the corporate level which would serve as a proxy tax
that accounts for the absence of taxation of returns to
participating policyholders at the individual level.
Alternatively, the corporate and individual-level taxes could be
integrated by providing a shareholder dividends-paid credit at
the corporate level that accounts for the individual-level tax on
shareholder dividends. We believe that the dividends-paid credit
is preferable to a proxy tax imposed at the corporate level
because of the difficulty in identifying and measuring returns to
participating policyholders, particularly with regard to stock
company participating policyholders. This approach also is
preferable because it reduces double taxation by providing
partial integration of corporate and individual-level taxes.
A second concern is that income flowing through other
financial institutions generally bears at least one level of tax
whereas a considerable portion of total returns flowing through
life insurance companies is subject to no Federal tax liability
at either the corporate or individual level. A tax based on net
investment earnings imposed at the corporate level would ensure
one level of tax on income flowing through life insurance
companies and would make more consistent the taxation of
financial products offered by different financial institutions.

-38Third, any solution chosen should not result in loss of
revenue. The Treasury Department is prepared to work with
Congress in addressing these issues.
This chapter presents for Congressional consideration several
options for improving the taxation of life insurance companies.
We believe that the first option, an investment earnings tax with
a shareholder dividends-paid credit is preferable because it
integrates the corporate and individual taxation of returns to
equity owners and avoids the problem of identifying equity-like
returns to participating policyholders, both stock and mutual.
The next three options are designed to address only the
corporate-level tax issues discussed in this report. The final
option is a proxy tax imposed at the corporate level to address
the tax exemption of policyholder returns at the individual
level. The proxy tax could be combined with any of the preceding
three options.
A. Life Insurance Company Investment Earnings Tax With
Shareholder Dividends-Paid Credit
The Treasury Department recommends that section 809 be
repealed and replaced with a tax based on net investment income
that applies to all life insurance companies (including life
insurance company subsidiaries of non-life insurance
corporations). Under this proposal, life insurance companies
would pay a tax equal to 1.0 percent of net investment income of
life insurance contracts. This rate (combined with the shareholder dividends-paid credit discussed below) would raise
approximately the same revenue from life insurance companies for
the period FY 1990-91 as is expected to be raised under section
809. The rate would have to be increased to slightly more than
2.0 percent in later years to maintain revenue neutrality. This
tax would be payable in addition to and separately from the tax
payable on gain from operations after policyholder dividends.
This tax would not be subject to reduction by net operating
losses or tax credits.
Investment income would be broadly defined to include all
interest, dividends, and net capital gains from all life
insurance subgroup assets. So as to apply the tax only on
investment income of life insurance contracts, however,
investment income would be reduced by prorating investment income
according to the ratio of life insurance reserves to total
reserves. Net investment income would be a statutorily set
percentage of investment income. Furthermore, a deduction
against investment income for dividends received from affiliated
companies would be allowed.
Stock life insurance companies would be allowed a dividendspaid credit for shareholder dividends paid which are attributable
to life insurance companies. This credit would be allowed only
against the new investment earnings tax. The credit would be

-39equal to 15 percent of shareholder dividends paid to account for
lower effective tax rates of shareholders. This rate assumes
that approximately 70 percent of dividends are directly taxable
to individuals, and the average marginal tax rate of these
individuals is approximately 22 percent.
An investment earnings tax on all life insurance companies,
with a shareholder dividends-paid credit, would have several
advantages over the current system of life insurance company
taxation. First, the taxation of total returns on participating
policies would apply equally to mutual and stock companies, and
the conceptually and practically flawed section 809 would be
repealed. Second, the double taxation of equity returns of stock
company shareholders would be eliminated with the dividends-paid
credit to put them on a par with the current individual tax
treatment of participating policyholders. Third, the tax
treatment of financial products across different financial
institutions would be made more consistent by ensuring that
investment income flowing through life insurance companies is
taxed at least once at either the corporate or individual levels.
B. Other Options
Congress may wish to consider the following options in
addition to the investment earnings tax and shareholder
dividends-paid credit described above. The first three
alternatives address only the corporate-level tax; a corporate
proxy for the individual-level tax on policyholder returns is
also presented.
1. Repeal of Section 809
Congress may wish to repeal section 809 in light of its
conceptual and practical problems. The repeal should be
accomplished over two years so that the tax owed (or refund due)
from the "true-up" under section 809 for the last year in which
section 809 is in effect would not be eliminated. Repeal of
section 809 alone would reduce Federal tax receipts by
$2.1 billion during the FY 1990-94 period. An appropriate
revenue offset would be required for implementation of this
alternative.
2. Alternative Add-On Tax For Corporate-Level Tax
Congress could repeal section 809 and replace it with an
imputation to taxable income based on the rate of stock company
shareholder dividend payments. Such payments could provide an
income adjustment without relying on annual comparisons of stock
and mutual company earnings. This approach would be less complex
and more predictable than section 809. For mutual companies,
this imputation to income could be 4.5 percent of the section 809

-40equity base.1 Because there is an equity-like return in
participating policies of stock companies, an add-on tax could be
applied to the equity of stock companies at a lower rate, such as
0.9 percent.2 The equity base of each stock company would be the
amount attributable to participating policies based upon the
ratio of participating policy reserves to total reserves.
3. Modification of Section 809
If Congress believes that section 809 is conceptually sound,
and that the prepayment analysis is invalid, section 809 could be
modified to tax more accurately equity returns to mutual
policyholders and to simplify its operation.
As explained in Chapter 4, section 809 has a number of
practical shortcomings. Several of these shortcomings could be
eliminated by adopting a two-year averaging method for the
earnings rates of both stock and mutual companies and the equity
base of mutual companies. This option would eliminate the
mismatching of earnings rate years, provide some averaging of
yearly fluctuations in mutual company earnings rates, and
eliminate the complex true-up mechanism of section 809.
Under this option, the differential earnings rate would be
the excess of the two-year average of the stock earnings rates
for the preceding two years over the two-year average of the
mutual earnings rates for the same two preceding years. The
equity base would be the average equity base for the two
preceding years. As under current law, mutual company deductions
for policyholder dividends would be reduced by the amount of the
section 809 adjustment. There would be no recomputation of the
differential earnings rate.
1
Analysis of industry data indicates that, on average,
payment of stock company shareholder dividends represents
approximately 4.5 percent of the current section 809 equity base.
Assuming that the payment of equity returns to participating
policyholders is the same fraction of equity, the imputation to
taxable income for mutual companies would be 4.5 percent of the
section 809 equity base.
Determination of the equity-like return for participating
policyholders in stock life insurance companies requires an
estimate of the relative risk borne by shareholders and
participating policyholders in those companies. There are no
data available upon which to make this estimate. Therefore, for
purposes of illustration, a necessarily arbitrary assumption was
made that 20 percent of the equity-like risk was borne by
participating policyholders in stock life insurance companies.

-414.

Proxy Tax at the Company Level for Lack of Individual
Tax on Participating Policyholders' Equity Income.

Should Congress conclude that one of the three alternatives
described above is the appropriate method to tax life insurance
equity returns at the corporate level, a proxy tax could be
imposed at the corporate level to address the tax exemption at
the individual level of equity-like returns to participating
policyholders. A proxy tax could be imposed alone or in
combination with the other alternatives.
The design of a corporate proxy tax would involve several
issues, including the determination of the appropriate tax rate
and tax base. For example, a proxy tax for mutual companies
could be imposed at the rate of 0.625 percent of a company's
section 809 equity base. This rate assumes that shareholder-like
dividend payments by mutual life insurance companies are 4.5
percent of the section 809 equity base,3 that the average
marginal tax rate of individual taxpayers is approximately 20
percent, and that the percentage of policyholder dividends
received by taxable individuals is approximately 70 percent. A
corresponding (but lower rate) proxy tax for stock companies
would be 0.0125 percent to account for the amount of equity-like
returns to stock company participating policyholders.4 The
equity base for each stock company would be the amount
attributable to participating policies. Since the tax on both
mutual and stock companies would be intended as a proxy for the
taxation of income at the individual level, it would be separate
from the regular corporate income tax and not subject to
reduction by corporate income tax losses or credits.
C. Revenue Implications
Preliminary estimates of the change in Federal income tax
revenue as a result of enactment of each of the options discussed
in this chapter are presented in Table 5.1. These estimates
compare the revenue expected under current law with the revenue
expected if each option were enacted.
Table 5.1 shows that repeal of section 809 would reduce
receipts by $2.1 billion for FY 1990-94. The proposed
replacement of section 809 with the investment earnings tax and a
shareholder dividends-paid credit is estimated to be
approximately revenue neutral with respect to current law if the
investment earnings tax rate were 1.0 percent in 1990 and 1991
See footnote
above
a discussion
of this
assumption.
and slightly
more 1
than
2.0 for
percent
thereafter.
Table
5.2 shows
that for mutual life insurance companies the reduction in
The proxy tax rate for stock companies necessarily contains
arbitrary assumptions because empirical data from which to
determine an appropriate tax rate does not exist. See footnote 2
above.

-42-

Table 5.1
Revenue Effects of Selected Options to Reform
Life Insurance Company Taxation:
All Life Insurance Companies
($ billions)

FY91

FY92

FY93

FY94

Total
FY90-94

-0.4

-0.6

-0.5

-0.6

-2.1

0.1

-0.1

with proxy tax

0.2

-0.1

-0.3

-0.7

with add-on tax based on
shareholder dividends

0.4

0.2

•

0.1

0.8

Modify Section 809

0.3

0.2

0.1

0.2

1.0

Proxy tax

0.2

0.3

1.3

FY90
Repeal Section 809:
with investment earnings
tax and shareholder
dividends paid credit

Department of the Treasury
Office of Tax Analysis
Note:

Details may not add to totals because of rounding.

Less than $50 million.

0.1

July 1989

-43-

Table 5.2
Revenue Effects of Selected Options to Reform
Life Insurance Company Taxation:
Mutual and Stock Life Insurance Companies
($ billions)
FY90

FY91

FY92

FY93

| Total
FY94 I FY90-94

-0.4

-0.6

-0.5

-0.6

-2.1

0.1

-0.1

-0.3

-0.8

MUTUAL LIFE INSURANCE COMPANIES
Repeal Section 809: *
with investment earnings
tax and shareholder
dividends-paid credit

0.1

-0.1

with proxy tax

0.2

-0.1

-0.3

with add-on tax based on
shareholder dividends:

0.3

0.2

•

0.5

Modify Section 809:

0.3

0.2

0.1

0.2

1.0

Proxy tax

0.2

0.3

1.2

•

-0.3

STOCK LIFE INSURANCE COMPANIES
Repeal Section 809:
with investment earnings
tax and shareholder
dividends paid credit

0.1

with proxy tax
with add-on tax based on
shareholder dividends:

0.1

0.3

Modify Section 809

Proxy tax

0.1

Department of the Treasury
Office of Tax Analysis
Note:

Details may not add to totals because of rounding.

* Less than $50 million.

July 1989

-44receipts from repeal of section 809 would be largely offset by
the increase in receipts from the investment earnings tax. The
increase in receipts from stock companies would be less than $50
million because the investment earnings tax would be largely
offset by the dividends-paid credit.
If repeal of section 809 were combined with a proxy tax at
the corporate level to address the tax exemption of equity
returns at the individual level, receipts would be $0.7 billion
lower than current law for FY 1990-94. Although the proxy tax
would increase receipts by $1.3 billion, repeal of section 809
would reduce receipts by $2.1 billion. All of the tax reduction
would be attributable to mutual life insurance companies, since
stock life insurance companies are not taxed under section 809
(Table 5.2). Receipts from stock life insurance companies would
increase slightly because stock companies would pay a proxy tax
on the equity-like returns of their participating policyholders.
If repeal of section 809 were combined with the alternative
add-on tax based on shareholder dividends, receipts from the life
insurance industry would increase by $0.8 billion for FY 1990-94
(Table 5.1). The add-on tax would increase receipts from mutual
companies by $2.6 billion, for a net increase of $0.5 billion.
The add-on tax would increase receipts from stock life insurance
companies by $0.3 billion. The add-on tax increases receipts
from mutual life insurance companies more than from stock life
insurace companies primarily because the add-on tax rate for
mutual companies is higher than the rate for stock companies.
The stock company tax rate is lower because the level of equity
participation for stock company policyholders is smaller than for
mutual company policyholders.
Simplifications of section 809 would increase receipts by
$1.0 billion for FY 1990-94, although such simplification could
be made revenue neutral by reducing the stock earnings rate in a
manner similar to current law. Receipts from mutual life
insurance companies would account for all revenue under the
simplified income imputation proposed if section 809 is retained
because the provision would continue to apply only to mutual
companies.
D. Summary
Consideration of the appropriateness of section 809 offers an
opportunity to improve the taxation of income flowing through
life insurance companies. Section 809 applies a conceptually and
practically flawed income imputation to mutual life insurance
companies. Moreover, current law does not tax the equity-income
of participating policyholders at the individual level although
it taxes equity income of stock company shareholders twice. In
addition, current law allows a significant portion of investment
income flowing through life insurance companies to escape
completely Federal income tax, which is inconsistent with the tax
treatment of income flowing through other financial institutions.

-45An investment earnings tax on all life insurance companies
with a dividends-paid credit, in combination with repeal of
section 809, would represent a significant improvement in the
taxation of income flowing through life insurance companies. The
tax rules governing mutual and stock companies would be the same,
and equity income of shareholders and policyholders would be
taxed only once. The current competitive advantage of the life
insurance industry relative to other financial institutions would
be addressed by the investment earnings tax by ensuring that
income flowing through life insurance companies is subject to at
least one level of Federal income tax.

APPENDIX A
DATA SOURCE AND METHODOLOGY
A. Data Source
The data were obtained from a sample of life insurance
company tax returns included in the 1986 IRS Statistics of Income
(SOI) sample of corporate income tax returns. This sample
includes information on all life insurance tax returns included
in the regular SOI corporate sample, including life insurance
company tax returns that were filed with life/nonlife
consolidated tax returns. The sample, which contained 1986 data
from 1,415 life insurance company tax returns, included data from
1,271 stock companies and 144 mutual life or mutual life
subsidiary companies. The sample included information from 1,237
separate life or life/life consolidated returns and 178
life/nonlife consolidated tax returns. The SOI division uses
statistical procedures to assign weights to the data from which
the sample is taken so that industry totals can be estimated from
sample results.
The data from this sample are not comparable to the data on
life insurance taxes published by the SOI program. The SOI
industry classification procedures for consolidated returns
exclude some life insurance companies from the life insurance
industry and attribute some non-insurance income to the life
insurance industry in the published SOI statistics. In addition,
since the sample data provide separate information for the life
and nonlife subgroups of life insurance companies that file
life/nonlife consolidated returns, it was used to disentangle the
tax effect of consolidation.
B. Data Checking and Error Resolution
The internal consistency of data items required for the
computation of taxable income were tested and data errors
corrected. For example, in some cases the small and special life
insurance deductions were incorrectly transcribed, which caused
discrepancies between taxable income and tax before credits.
Examination of data from the life/nonlife consolidated returns
revealed some tax returns with discrepancies between reported and
computed tax. In these cases, copies of the original tax returns
were used to correct the underlying data transcription problems.
For some companies, corrections of the stock-mutual company
designation were made using 1986 information obtained from the
A.M. Best Co. The data reported in this report reflect such
corrections.

-48C.

Calculation Procedures

This report presents data on life insurance company taxes
before and after nonlife losses. Life insurance taxes before
nonlife losses are computed based on the taxable income of all
life insurance companies in the special sample before any nonlife
losses are used. For life/nonlife consolidated companies, the
life subgroup's share of consolidated tax and credits was
determined by applying the proportional tax allocation method.
According to this method, if 25 percent of the life/nonlife
consolidated taxable income was attributable to life insurance
business activities, 25 percent of the consolidated tax and
credits would be allocated to the life insurance industry.

APPENDIX B
CALCULATION OF TRUE-UP UNDER SECTION 809
Under section 809, the deduction for policyholder dividends
for a mutual company is reduced by the company's "differential
earnings amount." The differential earnings amount for the
current taxable year (in this example, 1986) is equal to the
product of the mutual company's average equity base and the
"differential earnings rate." The differential earnings rate, in
turn, is equal to the excess of the imputed earnings rate (90.55
percent of the average of the earnings rates of each of the
largest 50 stock company groups in the preceding three years)
over the average earnings rate of all mutual company groups two
years earlier (1984). The differential earnings amount is then
"recomputed" in the subsequent taxable year (1987). The
recomputed differential earnings amount is computed like the
differential earnings amount except that the average mutual
earnings rate for the current taxable year is used in place of
the average mutual earnings rate for two years earlier. The
difference between the recomputed differential earnings amount
and the differential earnings amount (the "true-up") is included
in (or deducted from) mutual company income in the subsequent
taxable year. Table 2.1 shows the figures used in the
calculation of the differential earnings rate.
Mutual segment taxes will be reduced by approximately $1.4
billion in 1987 due to the recomputation of the 1986 differential
earnings rate. In 1986, the differential earnings rate was
10.539 percent computed from the imputed 1986 stock earnings rate
of 16.285 percent minus the intial 1986 average mutual earnings
rate of 5.746 percent (the average mutual earnings rate in 1984).
Although the actual mutual earnings rate for 1986 was 17.980
percent, the Internal Revenue Service ruled that the average
mutual earnings rate for any year could not exceed the imputed
stock earnings rate for the year, which limited the recomputed
differential earnings rate for 1986 to zero. The $3.7 billion
difference between the 1986 differential earnings amount ($35
billion equity base times 10.539 percent) and the recomputed
differential earnings amount of zero will reduce mutual company
taxable income by approximately $3.7 billion in 1987.
The actual stock earnings rate in 1986 (20.279 percent),
exceeded the average mutual earnings rate for 1986 (17.890
percent), but a negative "true-up" adjustment nevertheless occurs
in 1986 because of a statutory feature of Section 809 whereby
each year's stock earnings rate influences the amount of income
imputed to the mutual segment over the succeeding three tax
years, and not in the current tax year. Thus, the high stock
earnings rate in 1986 will contribute to higher than average
income imputations to mutual companies in 1987-89 under Section
809.

APPENDIX C
MUTUAL AND STOCK SEGMENT EARNINGS RATES
Under section 809, income is imputed to each mutual company
in an amount equal to its equity base multiplied by the
differential earnings rate (the difference between an imputed
earnings rate based on an average of the stock company earnings
rates for the preceding three years and the average earnings rate
for mutual companies). If the average earnings rate for mutual
companies is high, the differential earnings rate is low, which
results in a smaller amount of additional taxes attributable to
the income imputation under section 809. Conversely, if the
average mutual earnings rate is low, the additional taxes
attributable to section 809 would be high.
The formula for determining the average earnings rate of
mutual companies gives relatively more weight to the earnings
rates of larger mutual companies. Thus, if large mutual
companies have lower earnings rates, this would have a greater
effect on the average mutual earnings rate and taxes attributable
to section 809 than if small companies had low earnings rates.
Table C-l shows earnings rates for 1986 by equity-size class.
It shows that the large mutuals generally had higher unweighted
earnings rates than the smaller mutual companies. The higher
earning rates of the large mutual companies increased the
weighted average mutual earnings rate and reduced taxes
attributable to section 809. Smaller mutual companies benefitted
from the weighted average mutual earnings rate formula because
the additional taxes attributable to section 809 were lower in
1986 than they would have been if the average earnings rate were
unweighted.

-51-

Table C.l
Average Earnings Rates by Size of Equity Base:
(percent)

Equity base class

1986

Weighted 1/
Unweighted 2/
Earnings rate
Earnings rate
Mutuals [stocks 3/1 Mutuals Stocks 3/

Over $1.0 billion
$500 million to
$1.0 billion
$250 to $500 million
$100 to $250 million
$ 50 to $100 million
$ 35 to $ 50 million
$ 25 to $ 35 million
$ 15 to $ 25 million
$ 5 to $ 15 million
Under $5 million

18.813

20.370

20 084

21.515

18.092
14.724
16.998
7.212
13.029
16.605
9.901
8.610
7.293

23.428
12.514
21.340
n.a.
n.a.
n.a.
n.a.
n.a.
n.a.

18 321
15 164
16 797
7 .253
13 .282
16 .799
10 .781
7 .490
5 .295

23.319
13.568
20.891
n.a.
n.a.
n.a.
n.a.
n.a.
n.a.

All classes

17.980

21.090

11 .927

20.279

All classes
(without realized
capital gains) 4/

-0.076

13.333

3.404

10.560

Department of the Treasury
Office of Tax Analysis
Source:

July 1989

Data files with Internal Revenue Service on Form 8390.

n.a. - not available.
1/ Weighted average earnings rates are the ratio of the sum of
gains from operations and the sum of average equity base for
all companies in the class.
2/ Unweighted average earnings rates are the arithmetic average
of all earnings rates in the class.
3/ Only the largest 50 stock companies are required to file
Form 8390.
4/ For these computations, gain from operations excludes the
realized capital gains shown on Form 8390.

BIBLIOGRAPHY
A. M. Best Company, Best's Aggregates and Averages, Life-Health,
1984 through 1988.
Aaron, Henry J., The Peculiar Problem of Taxing Life Insurance
Companies, Washington DC: The Brookings Institution, 1983.
Adney, John T., "Implementing Section 809: A Look Back to the
Future?," in M. Graetz (ed.), Life Insurance Company Taxation:
The Mutual vs. Stock Differential, Larchmont, NY: Rosenfeld,
Emanuel Inc., pp. 7-1 - 7-10, 1986.
American Council of Life Insurance, Life Insurance Fact Book
(1988).
Bailey, Arthur L., "Practical Aspects of Section 809," in M.
Graetz (ed.), Life Insurance Company Taxation: The Mutual vs.
Stock Differential, Larchmont, NY: Rosenfeld, Emanuel Inc., pp.
<$_! _ $_$, i$ 8 6.

Balletine, J. Gregory, "Commentary," in M. Graetz (ed.), Life
Insurance Company Taxation: The Mutual vs. Stock Differential,
Larchmont, NY: Rosenfeld, Emanuel Inc., pp. 3-1 - 3-8, 1986.
Brannon, Gerard M., Report on Life Insurance Segment Balance,
final report under Treasury Order No. OS-86552, Req. No. 19956,
September, 1986.
Brannon, Gerard M., "Toward a Reconstruction of Section 809," in
M. Graetz (ed.), Life Insurance Company Taxation: The Mutual
vs. Stock Differential, Larchmont, NY: Rosenfeld, Emanuel Inc.,
pp. 6-1 - 6-11, 1986.

Bernheim, B. Douglas, A Theoretical Analysis of Economic
Organization in the Life Insurance Industry, presented at
Conference at Center for Economic Policy Research, Stanford
University, December, 1987.
Graetz, Michael J., "Life Insurance Company Taxation: An
Overview of the Mutual-Stock Differential," in M. Graetz (ed.),
Life Insurance Company Taxation: The Mutual vs. Stock
Differential, Larchmont, NY: Rosenfeld, Emanuel Inc., pp. 1-1 1-25, 196(5.

Graetz, Michael J., Testimony on Taxation of Life Insurance
Companies before the Subcommittee on Select Revenue Measures,
Committee on Ways and Means, U.S. House of Representatives,
100th Congress, 2nd Session, September 27, 1988.
Groom, Theodore R. and Matthew J. Zinn, Letter to Treasury
Department (and attachments), Mutual Company Positions on
Pending Issues Involving Section 809, March 13, 1989.

-54Halperin, Daniel I., "Commentary," in M. Graetz (ed.), Life
Insurance Company Taxation: The Mutual vs. Stock Differential,
Larchmont, NY: Rosenfeld, Emanuel Inc., pp. 5-1 - 5-b, 1986.
Harman, Jr., William B., Letter to Treasury Department, Peat
Marwick Paper on Transitional Equity Under the Graetz Theory,
April 25, 1989.
Harman, Jr., William B., Testimony on Taxation of Life Insurance
Companies on behalf of the Stock Company Information Group
before the Subcommittee on Select Revenue Measures, Committee
on Ways and Means, U.S. House of Representatives, 100th
Congress, 2nd Session, September 27, 1988.
Harman, Jr., William B. and John T, Adney, Letter to Treasury
Department, Comments on Prepayment Analysis, December 2, 1988.
Harman, Jr., William B. and John T. Adney, Memorandum to Treasury
Department on Mutual Life Insurers' Demonstration of Tax
Payments Under the Prepayment Analysis, December 2, 1988.
Mutual Life Insurance Tax Committee, An Analysis of the Role of
Segment Balance in the Life Insurance Industry, submitted to
the Treasury Department, February 23, 1988.
Mutual Life Insurance Tax Committee, The Ownership Differential
of Section 809: A Response to the Stock Company Information
Group, submitted to the Treasury Department, March 29, 1988.
Neubig, Thomas and C. Eugene Steuerle, "The Taxation of Income
Flowing Through Financial Institutions: General Framework and
Summary of Tax Issues," Office of Tax Analysis Paper 52, 1983.
Neubig, Thomas and C. Eugene Steuerle, "The Taxation of Income
Flowing through Life Insurance Companies," Office of Tax
Analysis Paper 53, 1984.
Nolan, John, The Prepayment Analysis Revisted: Graetz Conclusions
Are Correct, submitted to the Treasury Department, January 25,
1988.
Pike, Andrew, Testimony on Taxation of Life Insurance Companies
before the Subcommittee on Select Revenue Measures, Commitee on
Ways and Means Committee, 100th Congress, 2nd Session,
September 27, 1988.
Plumb, W.T., "The Federal Income Tax Significance of Corporate
Debt," Tax Law Review, Volume 26, p. 369, 1971.
Policy Economics Group, KPMG Peat Marwick, The Taxation of
Insurance Companies: An Analysis of Transitional Equity under
the Prepayment Analysis, submitted to the Treasury Department,
March 13, 1989.

-55Schuenke, Donald J., Statement on the Taxation of Life Insurance
Companies before the Subcommittee on Select Revenue Measures,
Commitee on Ways and Means, U.S. House of Representatives,
100th Congress, 2ndv Session, September 27, 1988.
Shoven, John, Michael Boskin, and Scott Smart, "Economic Issues
in the Taxation of Mutual and Stock Life Insurance Companies,"
Center For Economic Research Publication 126, 1988.
Shoven, John, Letter to Treasury Department on the December 2,
1988 letter from William B. Harman and John T. Adney, April 26,
1989.
Simms, Theodore S., "Commentary," in M. Graetz (ed.), Life
Insurance Company Taxation: The Mutual vs. Stock Differential,
Larchmont, NY: Rosenfeld, Emanuel Inc., pp. 4-1 - 4-12, 1986.
Steuerle, C. Eugene, "Issues and Alternatives in the Taxation of
Mutual and Stock Life Companies," in M. Graetz (ed.), Life
Insurance Company Taxation: The Mutual vs. Stock Differential,
Larchmont, NY: Rosenfeld, Emanuel Inc., pp. 9-1 - 9-10, 1986.
Stock Company Information Group, Why Segment Balance? Taxing
Mutual Life Insurers on Economic Income, submitted to the
Treasury Department, October 20, 1987.
Stock Company Information Group, An Interim Analysis of Section
809: Reactions to the Graetz Theory, submitted to the Treasury
Department, October 20, 1987.
Sunley, Emil M., Deloitte, Haskins & Sells, Federal Income
Taxation of Mutual and Stock Property/Casualty Insurance
Companies, November 28, 1988.
Task Force on Mutual Life Insurance Company Conversion, Report of
the Task Force on Mutual Life Insurance Company Conversion,
XXXIX Transaction of the Society of Actuaries, 1987.
U.S. Congress, Committee on Finance, U.S. Senate, Deficit
Reduction Act of 1984, Rept. No. 169, Volume 1, 98th Congress,
2nd Session, April 2, 1984.
U.S. Congress, Committe on Ways and Means, U.S. House of
Representatives, Tax Reform Act of 1984, Rept. No. 432, Part 2,
98th Congress, 2nd Session, March 5, T584.
U.S. Congress, Joint Committee on Taxation, Overview of Federal
Tax Treatment of Life Insurance Companies and the 1988 Interim
Treasury Department Report, September 23, 1988.
U.S. Congress, Joint Committee on Taxation, General Explanation
of the Revenue Provisions of the Deficit Reduction Act of 1984,
98th Congress, 2nd Session, December 31, 1984.

-56U.S. Department of the Treasury, Interim Report to Congress on
Life Insurance Company Taxation"^ June 1988.
'
U.S. Department of the Treasury, Statement of Dennis E. Ross on
the Taxation of Life Insurance Contracts before the
Subcommittee on Select Revenue Measures, Committee on Ways and
Means, U.S. House of Representatives, 100th Congress, 2nd
Session, March 15, 1988.
U.S. Department of the Treasury, Statement of Thomas S. Neubig on
the Taxation of Life Insurance Companies before the
Subcommittee on Select Revenue Measures, Committee on Ways and
Means, U.S. House of Representatives, 100th Congress, 2nd
Session, September 27, 1988.
U.S. General Accounting Office, Statement of Jennie S. Stathis on
the Taxation of Life Insurance Companies before the
Subcommittee on Select Revenue Measures, Committee on Ways and
Means, U.S. House of Representatives, 100th Congress, 2nd
Session, September 27, 1988.

Department of the Treasury
Washington, D.C. 20220
Official Business
Penalty for Private Use, $300

mnc
O

I
G
H
T
Resolution Trust Corporation

1825 C O N N E C T I C U T A V E N U E . N. W.

W A S H I N G T O N , D. C. 20232

POLICIES FOR RTC ESTABLISHED AT FIRST OVERSIGHT BOARD MEETING
August 9, 19 89
1.

Establishment of joint Oversight Board-RTC policy
development task force.

POLICY 1
ESTABLISHMENT OF JOINT POLICY DEVELOPMENT TASK FORCE
To augment the policies adopted at this Oversight Board
meeting, a joint policy development task force will be established
immediately with personnel from both the Oversight Board and the
RTC. This task force will make specific recommendations to the
Oversight Board concerning overall strategies, policies and goals
for the RTC and concerning the strategic plan that the Oversight
Board must develop and submit to Congress by December 31, 1989.
Thg policy areas to be addressed will include: (1) least cost
case resolution methods; (2) assst disposition, including
procedures concerning the right of first refusal granted to
certain qualified buyers? (3) sources and uses of funds for RTC
activities; (4) Oversight Board audit, review, and monitoring of
RTC activities; (5) other policy areas specifically mentioned in
the statute concerning the strategic plan; and (6) such other
areas as deemed appropriate. The task force will provide an
initial draft of recommended policies in each of these areas to
the Oversight Board by September 15, 1989.
The Oversight Board staff will review these recommended
policies and consult further with the RTC, if necessary, before
the Oversight Board establishes additional policies.

POLICY 2
PROCEDURES AND DOCUMENTATION FOR
APPROVING RTC FINANCING REQUESTS
A. RTC Case Resolutions (includes Asset Liquidations)
The following documentation from RTC will be required, in
advance, to support the authorization of disbursements of funds by
the Oversight Board for case resolutions:
a) projected dates of the transactions (initiation and
completion)
b) face amount and estimated fair market value of assets
and liabilities (including contingent liabilities) at
latest available valuation date, for each institution
c) projected cost of case resolutions
d) method of resolution chosen (such as liquidation,
"clean bank" or "whole bank")
e) estimated amount and nature of assets and liabilities
expected to be retained
f) amount of funding requested to cover expected cost (and
explanation of any overage funds sought beyond expected
cost)
B. RTC Working Capital (notes, guarantees, and other
obligations)
The following documentation from RTC will be required, in
advance, to support working capital requests:
a) projected dates of the transactions
b) face amount and estimated fair market value of assets
and liabilities (including contingent liabilities) at
latest available valuation dates
c) projected net amount of working capital required
d) amount of funding or guarantee to cover expected
working capital needs (and explanation of any overage
funds or guarantee sought beyond expected amount)
e) nature and source of working capital (such as notes,
guarantees or other obligations). If guarantee is
sought, nature of entity whose financial obligations
are guaranteed and its intended source of funds, if
any.

collateral behind financing, if any.

C. RTC Operation Costs and Disbursements
The following documentation from RTC will be required to
support projected operating expenditures and internal
disbursements for which Oversight Board funding approval is
requested:
personnel salaries and benefits
cost of outside contractors (asset management, asset
disposition, etc.)
office overhead
other
In all cases, documentation shall be submitted with
appropriate detail and categorization, as determined by the
Oversight Board. In addition, documentation shall be submitted
within an appropriate timeframe as determined by the Oversight
Board.

POLICY 3
PRIORITIES FOR INITIAL CASE RESOLUTIONS
Until such time as the Oversight Board establishes policies
governing more complex transactions, the RTC shall resolve cases
that are relatively simple in that they do not involve complex
asset disposition and financing techniques, such as long-term
asset guarantees; yield maintenance agreements; and substantial
RTC equity interests.
Modifications to this policy will be made in ongoing
consultation with the RTC.

POLICY 4
INTERIM ETHICS AND CONFLICTS OF INTERESTS STANDARDS
The Oversight Board and RTC are required to promulgate,
within 180 days, regulations governing conflicts of interests,
ethical responsibilities, and post-employment restrictions
applicable to their members, officers, and employees, that are no
less stringent than those applicable to the FDIC. The Oversight
Board must also promulgate, together with RTC, regulations
applicable to independent contractors governing conflicts of
interests, ethical responsibilities, and the use of confidential
information consistent with the goals of titles 18 and 41 of the
U.S. Code. Finally, regulations must be promulgated by the
Oversight Board that establish procedures for ensuring that any
individual who is performing any function or service on behalf of
RTC meets minimum standards of competence, experience, integrity
and fitness.
Since the Oversight Board and the RTC must begin their
operations immediately, it is necessary to establish interim
policies and standards for ethics and conflicts of interests
pending the promulgation of the necessary regulations.
Accordingly, pending the promulgation of these regulations,
the members, officers, and employees of the Oversight Board who
are subject to the standards of conduct regulations of another
Federal agency shall be subject to the regulations of their
respective agencies with regard to Oversight Board activities. In
addition, during this interim period the regulations governing the
responsibilities of the FDIC shall apply to those members',
officers, and employees of the Board who are not subject to the
standards of conduct regulations of any other Federal agency.
Finally, the Oversight Board staff shall analyze the respective
agency regulations applying to its members, officers, and
employees in relation to the FDIC's regulations and submit to the
Board proposed regulations that meet the relevant provisions of
the FIRRE Act.
With respect to the RTC, pending the promulgation of
regulations pursuant to the FIRRE Act, members, officers and
employees shall be subject to existing regulations governing the
responsibilities and conduct of the FDIC's members, officers and
employees•
In addition, the RTC shall take immediate steps to ensure
that all actions taken, and contractual or other arrangements
entered into to carry out the purposes of section 21A of the
Oversight
Federal
interests
Home
Board),
andLoan
ethics
are
Bank
provisions
generally
Act (which
consistent
ofestablishes
that section.
with
the
the
RTC
The
conflicts
RTC
and the
shall
of

advise the Oversight Board in 10 days, or sooner if practicable
of the steps-it intends to take or the procedures it has adopted
Finally, pending the promulgation of regulations, any individual
performing a function or service for RTC must abide by the
specifications set forth in section 21A to meet minimum standards
of competence, experience, integrity, and fitness.

POLICY 5
UTILIZATION OF PRIVATE SECTOR
The statute requires the RTC to utilize the services of the
private sector if the services are available and if the RTC
determines that it would be practicable and efficient to use them.
The specific services mentioned are real estate and loan
portfolio asset management, property management, auction
marketing, and brokerage services.
This policy applies to the RTC immediately. Even during the
initial period of action pursuant to an interim operating plan,
the RTC must seek to use private sector services pursuant to the
statutory standard. At the same time, the Oversight Board should
develop more explicit standards for using private sector services,
including:
A standard for determining the availability of such
services;
A standard for determining whether the use of available
services would be practicable and efficient; and
A standard for choosing among competing private sector
firms.
An initial draft of these suggested standards shall be
provided by the joint policy task force to the Oversight Board no
later than September 30, 1989.

POLICY 6
RESTRUCTURING 1988 FSLIC DEALS TO SAVE TAXPAYER COSTS
The Oversight Board has the duty and authority to develop and
establish overall strategies, policies, and goals for the RTC, in
consultation with the RTC, for restructuring the insolvent
institution cases resolved through agreements by FSLIC between
January 1, 1988, and the date of enactment of the FIRRE Act. The
goal of any restructuring is to achieve cost savings that will in
turn reduce taxpayer costs.
Accordingly, the RTC should provide to the Oversight Board,
by September 30, 1989, an initial draft of the general methodology
to be used by the RTC in reviewing and analyzing such cases in
order to determine whether restructuring would achieve savings.
This methodology shall include an evaluation and review of costs
under the FSLIC agreements with respect to capital loss coverage,
yield maintenance guarantees, forbearance, tax consequences, and
any other relevant and ascertainable cost considerations
(including reasonable provision for contingencies), and shall
further include a review of the bidding procedures used in
resolving such cases in order to determine whether the bidding and
negotiating processes were sufficiently competitive.
The Oversight Board will thereafter review the analytical
methodology in consultation with the RTC and will develop and
establish such strategies, policies, and goals as are necessary to
achieve savings by RTC under such agreements.

POLICY 7
DISPOSITION OF FADA
The statute requires the RTC to liquidate the Federal Asset
Disposition Association (FADA) within 180 days after enactment.
Accordingly, the RTC shall provide a proposal to the Oversight
Board by September 30 for the appropriate disposition of FADA and
the handling of FADA's personnel.

POLICY 8
EXISTING FDIC POLICIES TO BE USED BY RTC DURING TRANSITION
It is the intention of the Oversight Board that the RTC will
carry out its responsibilities under basic strategies, policies,
and goals adopted by the Oversight Board. However, during the
initial transition period, as the Oversight Board develops and
establishes strategies, policies, and goals for the RTC, the RTC
may carry out its responsibilities in accordance with the
strategies, policies, goals, regulations, rules, operating
principles, procedures, and guidelines of the FDIC existing at
this time. As soon as practicable, but no later than August 15,
1989, the RTC shall provide the Oversight Board for its review,
such FDIC strategies, policies, goals, regulations, rules,
operating principles, procedures, and guidelines under which it is
operating, and the Oversight Board will take such actions to
develop, establish or modify such items as authorized and
appropriate.

TREASURY NEWS 1&
toportment of tho Treasury • Washington, D.C. • Telephone 566-2041
FOR IMMEDIATE RELEASE
August 14 , i$8$

CONTACT:
)ZlJJ

LARRY BATDORF
(202) 566-2041

RECIPROCAL TAX EXEMPTIONS OF SHIPPING AND AIRCRAFT INCOME
The Treasury Department today announced further agreements
with Pakistan and Hong Kong for the reciprocal tax exemption of
income from international shipping. The exchanges of notes are
in accordance with sections 872 and 883 of the Internal Revenue
Code.
The exemptions apply for taxable years beginning on or
after January 1, 1987.
In addition, an exchange of notes which will provide for
reciprocal tax exemption of income from international shipping
and aviation has been signed with Malaysia, but is subject to
ratification by the Malaysian Government before taking effect.
Reciprocal tax exemption of international shipping and aviation
income has been confirmed with the Virgin Islands under the
"mirror" Code provisions applicable there; and Portugal has
confirmed that it provides an equivalent exemption with respect
to shipping companies under its domestic law on the same terms
applicable to aviation companies, as described in Revenue Ruling
89-42.
Revenue ruling 89-42 and Treasury News Release NB-292 of May
23, 1989 summarized reciprocal tax exemptions of income from
international shipping and/or aviation with other countries.
Copies of the notes with Pakistan and Hong Kong will be made
available when they arrive in Washington and have been processed
by the Department of State.
The exchange of notes with Pakistan provides exemption from
tax of income from the international operation of ships,
including income from the leasing of ships on a full (time or
voyage) basis operated in international transport. The exemption
does not extend to income from the leasing of ships on a bareboat
basis, income from the incidental leasing of containers, or
incidental gain on the disposition of ships.
The exchange of notes with Hong Kong provides exemption from
tax of income from the international operation of ships,
including income from the leasing on a full or bareboat basis of
ships operated in international transport, income from the
incidental leasing of containers and related equipment used in
o 0 o
international transport, and incidental
gain on the disposition
NB-420
of ships.

TREASURY. NEWS
pepartment of tho Treasury • Washington, D.C. • Telephone 566-2041
CONTACT: Office of Financing

_!?,?*. AY. FU)OM 5510
202/
FOR IMMEDIATE RELEASE
August 1 4 , 1989
j, : } (. q -. •,*!'
RESULTS" OF TREASURY'S WEEKLY BILL AUCTIONS

376-4350

DEf.A!<7H:h:

Tenders for $7,237 million of 13-week bills and for $7,207 million
of 26-week bills, both to be issued on August 17, 1989, were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

13-week bills
maturing November 16. 1989
Discount Investment
Price
Rate
Rate 1/

26-week bills
maturing February 15. 1990
Discount Investment
Price
Rate
Rate 1/

Low
8.00% £/
8.28%
97.978
7.78% £/
8.21%
96.067
High
8.02%
8.30%
97.973
7.85%
8.29%
96.031
Average
8.01%
8.29%
97.975
7.83%
8.26%
96.042
a/ Excepting 2 tenders totaling $4,510,000.
b/ Excepting 2 tenders totaling $2,000,000.
Tenders at the high discount rate for the 13-week bills were allotted 23
Tenders at the high discount rate for the 26-week bills were allotted 56

Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Type
Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS

TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Accepted
Received
35,675
$
25 ,568,270
23,795
47,990
58,990
40,130
1,056,575
30,320
9,280
48,265
30,415
824,090
579,960

$
35,675
6,214.300
23,795
47,990
58,990
39,065
51,575
29,320
9,280
48,265
20,415
78,140
579,960

: $
29,195
: 18,329,110
19,855
38,655
51,020
:
32,710
927,500
22,910
7,445
37,335
30,500
762,980
585,105

29,195
$
5 ,959,790
19,855
38,655
51,020
32,710
105,500
22,910
7,445
37,335
30,500
286,980
585,105

$28 ,353,755

$7,236,770

$20,874,320

$7 ,207,000

$24 780.450
1 324,895
$26 105,345

$3,663,465
1,324,895
$4,988,360

$15,886,525
1,166,595
$17,053, 120

$2 219,205
1 166,595
$3 385,800

2 183,110

2, 183. 110

1,900.000

1 900,000

65,300

1,921,200

1 921,200

$28 353,755

$7,236,770

$20,874,320

$7 207,000

i_/ Equivalent coupon-issue yield.

NB-421

Accepted

TREASURY NEWS W

Department of tho Treasury • Washington, D.C. • Telephone 566CONTACT: Office of Financing
202/3 76-4350
FOR RELEASE AT 4:00 P.M.
August 15, 1989
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$14,400 million, to be issued August 24, 1989.
This offering
will provide about $525
million of new cash for the Treasury, as
the maturing bills are outstanding in the amount of $13,887 million.
Tenders will be received at Federal Reserve Banks and Branches and at
the Bureau of the Public Debt, Washington, D. C. 20239, prior to 1:00
p.m., Eastern Daylight Saving time, Monday, August 21, 1989.
The two series offered are as follows:
9 2-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated
November 25, 19 88, and to mature November 24, 19 89 (CUSIP No.
912794 SN 5 ) , currently outstanding in the amount of $15,768 million,
the additional and original bills to be freely interchangeable.
182-day bills for approximately $7,200 million, to be dated
August 24, 19 89,
and to mature February 22, 1990 (CUSIP No.
912794 TS 3 ).
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing August 24, 19 89.
Tenders from Federal Reserve
Banks for their own account and as agents for foreign and international monetary authorities will be accepted at the weighted
average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities, to
the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them. Federal
Reserve Banks currently hold $1,363 million as agents for foreign
and international monetary authorities, and $4,176 million for their
own account. Tenders for bills to be maintained on the book-entry
records of the Department of the Treasury should be submitted on Form
PD 5176-1 (for 13-week series) or Form PD 5176-2 (for 26-week series).
NB-422

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection of
their tenders. The Secretary of the Treasury expressly reserves
the right to accept or reject any or all tenders, in whole or in
part, and the Secretary's action shall be final. Subject to these
reservations, noncompetitive tenders for each issue for $1,000,000
or less without stated yield from any one bidder will be accepted
in full at the weighted average bank discount rate (in two decimals)
of accepted competitive bids for the respective issues. The calculation of purchase prices for accepted bids will be carried to
three decimal places on the basis of price per hundred, e.g.,
99.923, and the determinations of the Secretary of the Treasury
shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the maturing
bills accepted in exchange and the issue price of the new bills.
In addition, Treasury Tax and Loan Note Option Depositaries may
make payment for allotments of bills for their own accounts and
for account of customers by credit to their Treasury Tax and Loan
Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the
Public Debt.
10/87

FREASUR.YMEWS
iportment of tho Treasury • P—Y.ROQM
Washington,
5310 D.C. • Telephone 566-2041
flu; IB 9 u ! l H ^ 3
FOR IMMEDIATE RELEASE « KtN, , contact: Bob Levine
August 16, 1989
(202)566-2041
Brady Comment on the Philippine Debt Agreement
Following a meeting with Philippine Central Bank Governor
Jose Fernandez and Under Secretary of Finance Ernest Leung,
Treasury Secretary Nicholas F. Brady issued the following
statement:
"The new financing package agreed between the Philippine
Governor and its commercial bank creditors demonstrates the
versatility of the strengthened debt strategy.
Its ability to
resolve financing needs on a case-by-case basis responds to the
needs and circumstances of individual debtor countries.
The
Philippine arrangement is expected to promote significant debt
reduction, while also providing new money.
Thus, it meets the
important objectives of the government of the Philippines and
will create a framework for further support for the Philippines
economic reform and restructuring program."

NB-423

TREASURY-NEWS
Department of the Treasury • Washington,
D.C. • Telephone
0OH 5310
FOR RELEASE AT 4:00 P.M.
August 16, 1989
5\r,l6

CONTACT:

i UM'29

Office of Financing
202/376-4350

ic^lKt;

TREASURY TO AUCTION 2-YEAR AND 5-YEAR 2-MONTH NOTES
TOTALING $17,250 MILLION
The Treasury will raise about $6,625 million of new cash
by issuing $9,500 million of 2-year notes and $7,750 million of
5-year 2-month notes. This offering will also refund $10,619
million of 2-year notes maturing August 31, 1989. The $10,619
million of maturing 2-year notes are those held by the public,
including $1,004 million currently held by Federal Reserve Banks
as agents for foreign and international monetary authorities.
The $17,250 million is being offered to the public, and
any amounts tendered by Federal Reserve Banks as agents for
foreign and international monetary authorities will be added to
that amount. Tenders for such accounts will be accepted at the
average price of accepted competitive tenders.
In addition to the public holdings, Federal Reserve Banks for
their own accounts hold $892 million of the maturing securities
that may be refunded by issuing additional amounts of the new notes
at the average price of accepted competitive tenders.
Details about each of the new securities are given in the
attached highlights of the offerings and in the official offering
circulars.
oOo
Attachment

NB-424

2041

HIGHLIGHTS OF TREASURY OFFERINGS TO THE PUBLIC
OF 2-YEAR AND 5-YEAR 2-MONTH NOTES
August 16, 1989
$7,750 million
Amount Offered to the Public ... $9,500 million
Description of Security:
5-year 2-month notes
2-year notes
Term and type of security
Series L-1994
Series and CUSIP designation ... Series AD-1991
(CUSIP No. 912827 XY 3)
(CUSIP No. 912827 XX 5)
Issue date
September 1, 1989
August 31, 1989
Maturity date
November 15, 1994
August 31, 1991
Interest rate
To be determined based on
To be determined based on
Investment yield
the average of accepted bids
the average of accepted bids
Premium or discount
To be determined at auction
To be determined at auction
Interest payment dates
To be determined after auction To be determined after auction
May 15 and November 15 (first
Minimum denomination available .February 28 and August 31
payment on May 15, 1990)
$5,000
Terms of Sale:
$1,000
Yield auction
Method of sale
Yield
auction
Must be expressed as
Competitive tenders
Must be expressed as
an annual yield, with two
an annual yield, with two
decimals, e.g., 7.10%
Noncompetitive tenders
decimals,
e.g., 7.10%
Accepted in full at the averAccepted in full at the average price up to $1,000,000
Accrued interest payable
age price up to $1,000,000
None
by investor
None
Payment Terms:
Payment by non-institutional
Full payment to be
Full payment to be
investors
submitted with tender
submitted with tender
Payment through Treasury Tax
Acceptable for TT&L Note
and Loan (TT&L) Note Accounts .. Acceptable for TT&L Note
Option Depositaries
Option Depositaries
Deposit guarantee by
Acceptable
Acceptable
designated institutions
Key Dates:
Tuesday, August 22, 1989,
Wednesday, August 23, 1989,
Receipt of tenders
prior to 1:00 p.m., EDST
prior to 1:00 p.m., EDST
Settlement (final payment
due from institutions):
a) funds immediately
Thursday, August 31, 1989
available to the Treasury ...
Tuesday, August 29, 1989
fc») readily-collectible check . . .

Friday, September 1, 1989
Wednesday, August 3 0 , 1989

TREASURYNEWS

department of the Treasury • Washington^ D.C. • Telephone 560-2041
b)r.O

Contact: Office of Financing
202/376-4350

FOR RELEASE AT 12:00 NOON
August 18, 1989
TREASURY'S 52-WEEK BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for approximately $9,250
million of 364-day Treasury bills
to be dated August 31, 1989,
and to mature August 30, 1990
(CUSIP No. 912794 UP 7 ) . This issue will provide about $50
million of new cash for the Treasury, as the maturing 52-week bill
is outstanding in the amount of $9,211
million. Tenders will be
received at Federal Reserve Banks and Branches and at the Bureau
of the Public Debt, Washington, D. C. 20239, prior to 1:00 p.m.,
Eastern Daylight Saving time, Thursday, August 24, 1989.
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. This series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing August 31, 1989.
In addition to the
maturing 52-week bills, there are $13,904 million of maturing bills
which were originally issued as 13-week and 26-week bills. The disposition of this latter amount will be announced next week. Federal
Reserve Banks currently hold $3,702 million as agents for foreign
and international monetary authorities, and $6,660 million for their
own account. These amounts represent the combined holdings of such
accounts for the three issues of maturing bills. Tenders from Federal Reserve Banks for their own account and as agents for foreign
and international monetary authorities will be accepted at the
weighted average bank discount rate of accepted competitive tenders.
Additional amounts of the bills may be issued to Federal Reserve
Banks, as agents for foreign and international monetary authorities,
to the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them. For
purposes of determining such additional amounts, foreign and international monetary authorities are considered to hold $280
million
of the original 52-week issue. Tenders for bills to be maintained
on the book-entry records of the Department of the Treasury should
NB-425
be submitted on Form PD 5176-3.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This information should reflect positions held as of one-half hour
prior to the closing time for receipt of tenders on the day of the
auction. Such positions would include bills acquired through "when
issued" trading, and futures and forward transactions as well as
holdings of outstanding bills with the same maturity date as the
new offering, e.g., bills with three months to maturity previously
offered as six-month bills. Dealers, who make primary markets in
Government securities and report daily to the Federal Reserve Bank
of New York their positions in and borrowings on such securities,
when submitting tenders for customers, must submit a separate tender
for each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an agreement,
nor make an agreement to purchase or sell or otherwise dispose of
any noncompetitive awards of this issue being auctioned prior to
the designated closing time for receipt of tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained on
the book-entry records of the Department of the Treasury. A cash
adjustment will be made on all accepted tenders for the difference
between the par payment submitted and the actual issue price as
determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches. A deposit of
2 percent of the par amount of the bills applied for must accompany
10/87
tenders for such bills from others, unless an express guaranty of
payment by an incorporated bank or trust company accompanies the
tenders.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection of
their tenders. The Secretary of the Treasury expressly reserves
the right to accept or reject any or all tenders, in whole or in
part, and the Secretary's action shall be final. Subject to these
reservations, noncompetitive tenders for each issue for $1,000,000
or less without stated yield from any one bidder will be accepted
in full at the weighted average bank discount rate (in two decimals)
of accepted competitive bids for the respective issues. The calculation of purchase prices for accepted bids will be carried to
three decimal places on the basis of price per hundred, e.g.,
99.923, and the determinations of the Secretary of the Treasury
shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the maturing
bills accepted in exchange and the issue price of the new bills.
In addition, Treasury Tax and Loan Note Option Depositaries may
make payment for allotments of bills for their own accounts and
for account of customers by credit to their Treasury Tax and Loan
Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
10/87
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.

REASURY NEWS

portment of tho Treasury • Washington, D.C. • Telephone 506-2041
OR IMMEDIATE RELEASE

,r 7 • -«-n~r „ c ^ n A
L

August 18, 1989

i u .u- • , r< 1 > -j *••, 5 -. 1 0

Monthly Release of U.S. Reserve Assets
The Treasury Department today released U.S. reserve assets data
for the month of July 1989.
As indicated in this table, U.S. reserve assets amounted to
$63,462 million at the end of July, up from $60,502 million in June.

U.S. Reserve Assets
(in millions of dollars)

End
of
Month

Total
Reserve
Assets

Gold
Stock 1/

Special
Drawing
Rights 2/3/

Foreign
Currencies 4/

60,502
63,462

11,063
11,066

9,034
9,340

31,517
34,001

Reserve
Position
in IMF 2/

1989
June
July

8,888
9,055

1/ Valued at $42.2222 per fine troy ounce.
2/ Beginning July 1974, the IMF adopted a technique for valuing the SDR
based on a weighted average of exchange rates for the currencies of
selected member countries.
The U.S. SDR holdings and reserve
position in the IMF also are valued on this basis beginning July
1974.
3/ Includes allocations of SDRs by the IMF plus transactions in SDRs.
4/ Valued at current market exchange rates.

NB-426

Report to Congress
on the

Depreciation of Clothing Held For Rental

Department of the Treasury
August 1989

DEPARTMENT OF THE TREASURY
WASHINGTON

ASSISTANT SECRETARY

AUG 18 1989

Dear Mr. Chairman:
Section 201(a) of Public Law 99-514, the Tax Reform Act of 1986,
required the Treasury to establish an office to study the depreciation of all depreciable assets, and when appropriate, to
assign or modify the existing class lives of assets. Treasury's
authority to promulgate changes in class lives was repealed by
Section 6253 of Public Law 100-647, the Technical and Miscellaneous Revenue Act of 1988. Treasury was instead requested to
submit reports on the findings of its studies to the Congress.
This report discusses the depreciation of clothing held for
rental. The General Explanation of the Tax Reform Act of 1986
indicates that such study was to be among the first conducted
by Treasury. This is thus the first depreciation report
submitted to the Congress.
I am sending a similar letter to the Chairman of the Senate
Finance Committee.
Sincerely,

Kenneth W. Gideon
Assistant Secretary
(Tax Policy)

The Honorable Dan Rostenkowski
Chai rman
Committee on Ways and Means
House of Representatives
Washington, DC 20515

DEPARTMENT OF THE TREASURY
WASHINGTON

AUG 18 1989

ASSISTANT SECRETARY

Dear Mr. Chairman:
Section 201(a) of Public Law 99- 514, the Tax Reform Act of 1986,
required the Treasury to establi sh an office to study the depreciation of all depreciable asset s, and when appropriate, to
assign or modify the existing cl ass lives of assets. Treasury's
authority to promulgate changes in class lives was repealed by
Section 6253 of Public Law 100-6 47, the Technical and Miscellaneous Revenue Act of 1988. Trea sury was instead requested to
submit reports on the findings o f its studies to the Congress.
This report discusses the deprec iation of clothing held for
rental. The General Explanation of the Tax Reform Act of 1986
indicates that such study was to be among the first conducted
by Treasury. This is thus the f irst depreciation report
submitted
to the
Congress.
I am sending
a similar
letter to the Chairman of the House Ways
and Means Committee.
Sincerely,

Kenneth W. Gideon
Assistant Secretary
(Tax Policy)

The Honorable Lloyd Bentsen
Chairman
Committee on Senate Finance
United States Senate
Washington, DC 20510

Table of Contents
Chapter 1. Introduction and Summary of Findings
A. Mandate for Depreciation Studies
B. Principal Findings
C. Organization of the Report

1
1
2
2

Chapter 2. A Brief Description of the Rental Clothing Industry 3
A. The Scope of The Study
B. Characteristics of the Formal Wear Industry
C. Characteristics of Tuxedos

3
5
6

Chapter 3. The Results of the Survey Questionnaire , 9
A. Design of the Survey Questionnaire
B. The Survey Sample and Response Rates
C. Summary of Responses

9
9
12

Chapter 4. The Measurement of the Class Life of Tuxedos 19
A. The Useful Life of Tuxedos
B. The Productivity Method
C. Illustration of The Measurement of The Economic Life of Tuxedos Using the
Productivity Method

Chapter 5. Conclusions 29
A. The Class Life of Tuxedos
B. Structure of the Asset Classification System

29
30

Appendix A. Exhibits Related to the Congressional Mandate 32
Exhibit 1. Section 168(i)(l)(B) of the Internal Revenue Code as Revised by the
Tax Reform Act of 1986
Exhibit 2. Section 168(i)(l) of the Internal Revenue Code as Revised by the
Technical and Miscellaneous Revenue Act of 1988:
Exhibit 3. Provisions for Changes in Classification from The General Explanation
of the Tax Reform Act of 1986

19
20

32
32
33

Appendix B. The Survey Questionnaire and the Follow-Up Letter 35
Appendix C. Technical Issues in the Application of the Productivity Method 46
Section 1. Weighting the Results for the Different Styles
46
Section 2. The Algebra of the Class Life Estimate Using Turns Data Based on
Delivery Dates
48
Section 3. Translating Economic Depreciation Into Equivalent Economic Lives .... 50
Bibliography 53

Table of Figures
Figure 1: Distribution of Useful Lives 19
Figure 2: Average Remaining Turns Per Tuxedo B y A g e
Figure 3: Value-In-Use Per Tuxedo B y A g e
Figure 4: Economic Depreciation B y A g e
Figure 5: Distribution of Equivalent Economic Lives

22
23
24
26

Table of Tables
Table 1: Investment in All Industries and in Rental Tuxedos 4
Table 2: Response Status of Surveyed Firms
Table 3: Summary of Survey Responses
Table 4: Question 6 Cross-Classified by Questions 2b,2c,5
Table 5: Depreciation for Financial Accounting Purposes
Table 6: Measures of Useful and Equivalent Economic Lives
Table 7: Sample Statistics for Value-In-Use and Cost

vi -

11
13
16
17
25
47

Chapter 1. Introduction and S u m m a r y of Findings
A. Mandate for Depreciation Studies
This study of the depreciation of rental clothing has been prepared by the Depreciation Analysis
Division of the Office of Tax Analysis as part of its Congressional mandate to study the depreciation
of all depreciable assets. This mandate w a s incorporated in Section 168(i)(l)(B) of the Internal
Revenue Code as modified by the T a x Reform Act of 1986 (see Exhibit 1 of Appendix A ) . This
provision directed the Secretary of the Treasury to establish an office that "shall monitor and analyze
actual experience with respect to all depreciable assets", and granted the Secretary the authority to
change the classification and class lives of assets. T h e Depreciation Analysis Division w a s
established to carry out this Congressional mandate. T h e Technical and Miscellaneous Revenue
Act of 1988 repealed Treasury's authority to alter class lives or asset classes, but the revised Section
168(i) continued Treasury's responsibility to "study the actual experience of depreciable assets and
report to the Congress on its findings" (see Exhibit 2 of Appendix A ) .
The General Explanation of the 1986 Act (the "Blue Book") indicates that the class life of a
set of assets should reflect the anticipated useful life and the anticipated decline in value over time
of the assets. T h e concept of useful life suggested by the General Explanation distinctly differs
from the useful life concept under prior law. Under the 1986 Act, the useful life is intended to
reflect the economic life span of the property over all users combined, whereas under prior law the
useful life was intended to reflect the typical period over which individual taxpayers retained their
assets.1
Resale price data m a y be used to measure the decline in value, and if such data are used, the
data should be adjusted to remove the effects of historical inflation. T h e General Explanation notes
that the class life derived from such data (which, to avoid possible confusion, is referred to hereafter
as the "equivalent economic" life) should be determined so that the present value of straight-line
depreciation deductions over the equivalent economic life (discounted at an appropriate real rate
of interest) equals the present value of the estimated decline in value of the assets. In order to
resolve the ambiguity associated with the choice of straight-line method to be used as a standard,
the equivalent economic life in this report shall be obtained by equating the present value of the
decline in value to the present value of the depreciation allowances which m a y be claimed under
the Alternative Depreciation System (with a recovery period equal to the equivalent economic life).
This standard differs from the simple straight-line method which ignores the application of the
half-year convention, as well as the timing of the depreciation tax benefits.

1n addition, there is n o reference ot the use of the 30th percentile (rather than the m e a n value) in
the legislative history of the 1986 Act, whereas the legislative history of the Tax Revenue Act of
1971, which codified the Asset Depreciation Guideline System, specifically allowed such an
approach.
-1 -

T h e General Explanation also indicates that other evidence of the assets' useful life, such as
the depreciation method used for financial reporting, the period of financing or leasing arrangements
under which the assets are acquired, and the period over which the assets are serviced under contract
be obtained. Pursuant to this guidance, such evidence as is applicable to tuxedos has been collected,
together with information relating to the frequency of rental of tuxedos with age from which their
useful life and decline in value ("economic depreciation") m a y be inferred. Treasury believes that
economic depreciation was intended to be the primary measure of depreciation in determining class
lives. Thus, although each of the observed life measures are reported in this study, primary attention
is given to the estimation of the equivalent economic life of tuxedos.
During the debate over the Tax Reform Act of 1986, the formal wear rental industry expressed
its concern that the proposed depreciation of tuxedos would inadequately reflect the actual economics of these assets. A s noted in the General Explanation, Congress responded by requesting that
clothing held for rental be a m o n g the first assets studied by Treasury (see Exhibit 3 of Appendix
A ) . This report is submitted to the Congress pursuant to both this request, and the general mandate
for studies of taxpayer's actual experience with depreciable assets.

B. Principal Findings
T h e principal findings of this study are that the equivalent economic life of tuxedos held for
rental is 1.9 years, while their useful life, which measures the period over which they provide service,
is 3.7 years. If Congress were to establish a separate asset class fortuxedos, Treasury would suggest
that a 2.0 year life be assigned to such class. Treasury recommends, however, that Congress carefully
consider the implications of dividing existing asset classes into sub-classes to which shorter (or
longer) class lives are assigned.

C. Organization of the Report
The report is organized into five chapters and three appendices. The second chapter provides
a brief description of the rental clothing industry in general, and the formal wear industry in particular. The third chapter describes the efforts taken by the Depreciation Analysis Division to work
with this industry on the design of an appropriate survey instrument. It also includes a description
of the sample selection process and provides descriptive statistics on the responses to the survey
questionnaire. The fourth chapter describes the methods used to estimate measures of the economic
life of tuxedos. Chapter five summarizes the results of the study, and discusses some of the
implications of changing the class life of tuxedos to reflect their economic life. Appendix A includes
material from various public documents which relate to the Congressional mandate under which
this study was performed. A copy of the survey questionnaire and follow-up material is included
in Appendix B . Appendix C describes the technical details involved in applying the Alternative
Depreciation System as the standard against which the equivalent economic life is to be measured,
as well as in taking the actual dates the tuxedos were placed in service into account

-2-

Chapter 2. A Brief Description of the Rental Clothing Industry
A. The Scope of The Study.
The major types of clothing held for rental include formal wear (both men's and women's),
costumes, and industrial and commercial clothing. T h e rental of tuxedos and costumes are both a
part of Standard Industrial Classification (SIC) industry 7299, Miscellaneous Personal Services,
Not Elsewhere Classified. T h e rental of industrial and commercial clothing is classified as part of
either SIC 7213, Linen Supply, or SIC 7218, Industrial Launderers. For tax purposes, tuxedos
belong in Asset Class 57.0, Distributive Trades and Services, which is a very broad class that
includes assets used in wholesale and retail trade, and in the provision of personal and professional
services. T h e current class life of assets in Asset Class 57.0 is 9 years. This implies a recovery
period of 5 years for regular depreciation ( M A C R S ) , and a recovery period of 9 years under the
Alternative Depreciation System ( A D S ) .
Table 1 shows some of the activities conducted by establishments whose assets fall into Asset
Class 57.0, and the relative levels of 1982 investment by such establishments. About one seventh
of all equipment acquired in 1982 belongs in Asset Class 57.0, and about one-half of the total
investment in assets in this class w a s m a d e by the service sector. Investment by establishments
providing personal services was not a major component of total service sector investment, however,
and total investment in tuxedos by formal wear rental firms w a s itself only a very small (about
one-twentieth) portion of the personal service sector investment T h e Depreciation Analysis
Division (which w a s initially referred to as the Office of Depreciation Analysis) announced its
intent to study the depreciation of rental clothing in the Federal Register on October 2, 1987, and
in that notice also announced its intention to hold a public meeting with all interested parties. In
addition, the Depreciation Analysis Division sent copies of this notice to various trade associations
which it believed might have an interest in the study. At the initial public meeting, which was held
on October 26,1987 at the Treasury building, the proposed scope of the study was discussed.
Representatives from the Textile Rental Services Association of America strongly voiced their
objection to rental uniforms and other garments rented by their members being included in this
study. They indicated that industrial and commercial clothing frequently lasts less than one year,
and provided the Depreciation Analysis Division with statistical information that had been collected
by the industry to support their contention. They also noted that for tax purposes the cost of such
clothing is often expensed, rather than capitalized and depreciated, and that the rental of uniforms
was generally only a portion of their total rental business.
Although the Depreciation Analysis Division did not seek to independently confirm these
arguments, both the material presented and considerations of administrative convenience suggested
that it would m a k e more sense to study the depreciation of the assets of industrial and commercial
launderers (which generally also includes the laundering equipment) as part of a more general study

-3-

of the personal services industry. Thus, no attempt was m a d e to obtain information regarding the
depreciation of rental uniforms, and the conclusions of this study of the depreciation of tuxedos do
not apply to such assets.

Table 1.1982 Investment in Equipment by All Industries, Industries in Asset Class 57.0,
and Investment in Rental Tuxedos
(in millions of dollars)

Industry

Investment in
Equipment 2

All Industries

361,260

Asset Class 57.0

53,073

Wholesale Trade

12,924

Retail Trade

13,098

Service Industries

27,051

Business Services

10,033

Personal Services

1,024

Rental Tuxedos

15,994

All Other Services

The investment values (except the value for tuxedos) are from: U.S.Department of Commerce,
Bureau of Economic Analysis, Fixed Reproducible Tangible Wealth in the United States,
J925-1985. Washington D C : U.S. Government Printing Office, June 1987. These values include
all investment in equipment by the listed industries including investment in computers, furniture
and fixtures and other types of equipment that would not ordinarily be depreciated using the life
for asset class 57.0. The value for investment in rental tuxedos was provided by the tuxedo manufacturing industry.

-4-

Renters of tuxedos have more recently begun to rent formal gowns. Since this is a relatively
recent phenomenon, there are very few data on which to base estimates of class lives. A n attempt
was m a d e to collect data for formal gowns, but little information on gowns was received. Discussions
were also held with representatives of the American Costumers Association, as well as individual
costumers. These discussions revealed that a large majority of firms in this industry did not keep
records that could be used to determine class lives. In general, these industry experts suggested
that the rental pattern of costumes was similar to that of tuxedos, but as in the case of formal gowns,
very little information regarding the depreciation of rental costumes was obtained. This study is
intended to cover only clothes held for rental, other depreciable assets held by rental clothing firms
are specifically excluded from the study.

B. Characteristics of the Formal Wear Industry
The formal wear rental industry is m a d e up of mostly small firms. The International Formal
Wear Association ( I F W A ) estimates that there are some 1,300 firms in the industry that o w n some
6,000 retail outlets. These outlets for the most part both rent and sell formal wear. A s shown in
Table 1, the total 1982 investment in tuxedos is estimated to be about 60 million dollars. Rented
tuxedos are purchased almost entirely from three domestic manufacturers, although the tuxedos
themselves m a y carry a variety of designer labels.
Most rental firms either o w n or lease the formal wear which they rent. There are some formal
wear firms that o w n no stock of rental formal wear, but instead themselves rent formal wear from
a wholesaler on an individual order basis, and some of these firms even rent the formal wear held
for display on their showroom floor. Firms with multiple outlets usually keep their formal wear in
a single warehouse, which often is in a separate location from the rental outlets. For firms operating
in this manner, good inventory control is a necessity. Firms without computerized inventory control
keep track of their inventory on large spreadsheets that account for as m a n y as 12 weeks of rentals.
The size and the style of the formal wear and the date of the rental are recorded on the spreadsheet,
thus insuring that a given tuxedo is scheduled to be rented only once on a given date. Firms with
computerized inventory control keep similar worksheets on their computers. Several firms n o w
specialize in customizing software packages to provide inventory control for the formal wear
industry. S o m e formal wear manufacturers are producing rental formal wear with bar codes that
identify the style, size and date of purchase of the tuxedo. Prior to 1985 there were very few firms
with computerized inventory control; since 1985 m a n y firms in the industry have been moving
towards computerized inventory control. A s mentioned above, this study is based upon data for
tuxedos, which is used as the generic term for all men's formal wear. The basic unit of input is the
tuxedo jacket. The average rental includes the jacket, pants, cummerbund, shirt,tie,and studs.
Studs,ties,shirts, and cummerbunds are generally treated as noncapital items for tax purposes by

-5-

the formal wear firms. Pants are usually purchased at the same time as the jacket, although the
manufacturer m a y price and sell pants separately. Since pants usually wear out faster than jackets,
approximately one and a third pairs of pants are purchased for each jacket.
It w a s clear from initial discussions with industry representatives that firms are not usually
concerned about the number of times a specific tuxedo is rented, but rather focus on the rental of
the entire set of tuxedos that represents a single style. Depending upon the number of tuxedos
ordered by the firm, a style m a y contain from 25 to 2,500 individual tuxedos. This is because the
set typically contains tuxedos in a wide range of sizes, some of which m a y rent very frequently and
others of which m a y rent hardly at all. T h e latter are nevertheless needed, because rentals are often
m a d e to entire wedding parties and it is necessary to fit the entire party in order to rent even a single
tuxedo. Records are frequently maintained such that rentals for a given style of tuxedo can be
determined, but not rentals for any single tuxedo within that style.
Likewise, the fact that an entire set of tuxedos constituting a given style is generally acquired
in a single purchase also suggests that a given style of tuxedo should be viewed as the basic asset
studied. Thus, in this study, the entire set of tuxedo jackets and pants of various sizes in a given
style acquired by a firm at a single time (and thus representing a given vintage) is considered a
single asset (and referred to hereafter simply as a "style"); data on individual tuxedos were not
sought or obtained.

C. Characteristics of Tuxedos
There are two major types of tuxedos: basic black tuxedos and fashion tuxedos. Basic black
tuxedos generally do not change in style, while fashion tuxedos generally change in style from year
to year. T h e basic black tuxedo ceases to rent either because it is worn out as a result of the multiple
process of wearing and cleaning, or because it is rendered permanently unserviceable as a result of
a cigarette burn or some other unrepairable damage. Fashion tuxedos are also susceptible to sudden
unrepairable damage, but usually go out of style (or become obsolete) before they physically wear
out. Repairs to tuxedos are generally minor and are never capitalized.
Formal wear rental firms infrequently sell used tuxedos. Industry representatives noted that
before the used tuxedos are discarded, they m a y be spray painted, shredded, or their sleeves m a y
be cut off to prevent the tuxedos from being worn w h e n their appearance would no longer suggest
elegance. There is thus little or no salvage value for retired tuxedos. A s a result, the depreciation
of a style of tuxedo must largely be inferred from the pattern of rentals over the style's economic
life. T h e ability of formal wearrentalfirms to supply such information is related to the w a y purchases
ofrentaltuxedos are m a d e and inventory is controlled.

-6-

A given style of fashion tuxedo is generally purchased for delivery at a single point in time.
The number of rentals of a given style is dependent upon the rental fee, the location of the establishment, the level of advertising, and other factors having to do with the popularity of the style.
Since different styles are introduced each year, and the popularity of each style tends to decrease
with the passage of time since its introduction, additional (or replacement) tuxedos of the same
style are seldom ordered. This allows a given fashion style to be associated with a given year of
acquisition (or vintage). Thus, if a firm keeps either its rental receipts or its spreadsheet identifying
the styles that are rented each year, it should be able to associate the number of rentals of each style
for each year of that style's life (although the ease of extracting this information depends on the
firm's method of recordkeeping).
The style of basic black tuxedos does not change m u c h over time. Purchases of basic black
tuxedos are thus repeatedly made, either to replace worn out stock or to expand the rental stock.
The inventory information contained in a spreadsheet or a rental receipt m a y thus not be enough to
identify the specific vintage of the tuxedo that is rented. Thus, although m a n y firms k n o w h o w
many basic black tuxedos they rented in a given year, not all of these firms are able to determine
the distribution of the tuxedo rentals by year of tuxedo purchase (vintage). However, as discussed
more fully in the next chapter, a number of firms keep their books or inventory records in such
manner that they are able to identify rentals by vintage for basic black tuxedos as well as for fashion
tuxedos.

-7-

Chapter 3. The Results of the Survey Questionnaire
There are no published statistics documenting the partem of tuxedo rentals as a function of the
age of the tuxedo, or even statistics regarding the levels of tuxedo investments and dispositions.
The Depreciation Analysis Division thus decided to collect the necessary information through the
use of a mail survey to be sent to a random sample of firms in the industry.

A. Design of the Survey Questionnaire
The design of the survey questionnaire was developed over several months, during which time
the Depreciation Analysis Division held several meetings with representatives of the formal wear
rental industry, and engaged in numerous phone conversations with industry representatives.
Because m a n y issues regarding the design of the survey remained unresolved at the conclusion of
the initial public meeting, a second public meeting with all interested parties was held on January
20,1988.
A s successive proposed drafts of the survey were prepared, copies were sent to the participants
of the public meetings for their review (as well as to members of the tax press). Through this
iterative process, a survey questionnaire was developed which sought to rninimize the burden on
the potential respondents as well as to meet the requirements of this study. (The survey questionnaire
is included in Appendix B ) . The final survey form, together with the corresponding Survey Justification Form, was sent to the Office of Management and Budget for their review on June 9,1988,
and approval to conduct the survey was received on September 4,1988.

B. The Survey Sample and Response Rates
A n initial sample of 240 clothing rental firms was randomly drawn from the Dun's National
Business List (obtained from the D u n & Bradstreet Corporation) for establishments noted as being
in Dun's industry 7299B, which includes only formal wear rental firms. Although the sample was
chosen so as to provide information on a cross section of firms in this industry, the primary intent
of the sampling procedure was to obtain information in an economical manner on a representative
sample of tuxedos, rather than a representative sample of firms. For this reason, as well as for ease
of administration, the Depreciation Analysis Division obtained a listing of the "ultimate parent" for
each of the randomly chosen establishments (if different from the individual establishment chosen).
The survey forms were sent to the "ultimate parent" (or establishment, if the same), and these forms
requested limited information on the firm's entire inventory of tuxedos (even if kept at several
locations). In particular, each firm was asked to provide information on the number of rentals per
year (',tums',), by age, for 6 separate styles of tuxedo (see Question 6 of the survey questionnaire
in Appendix B ) .

-9-

This sample size (240 firms with 6 styles each) was based on an estimate that information on
the rental of 180 styles of tuxedos would be needed to provide an estimate of the equivalent economic
life of tuxedos accurate to within 0.1 year at a 95 percent confidence level, and that this information
could be obtained from 240 firms.3 Although it was expected that the overall response rate to the
survey would be high, not all respondents were expected to be able to provide information concerning
the number of turns by age of various styles of tuxedos. It was, however, expected that each of the
firms able to do so would provide information on six different styles.
T h e level of tuxedo rental information obtained from the initial survey of the 240 firms was
less than expected. In order to obtain more turns data, 67 additional firms were added to the sample.
In October 1988, the International Formal W e a r Association held its biannual conference in California, at which time 26 members volunteered to respond to the survey. In addition, a major
franchiser in the industry, provided the names of 41 franchisees which were added to the sample.
Table 2 displays the response rates for both the initial sample and the additional sample of
firms, disaggregated by response status. It should be noted that only 174 of the 240 firms in the
initial sample were able to respond to the questionnaire. M a n y of the firms in the initial sample
were no longer in the business of renting tuxedos, or were in business for too short a period to
provide useful information, or did not in fact represent independent firms (i.e., they were affiliated
with another firm that was already included in the sample), or were classified incorrectly by Dun's
into the tuxedo rental industry. O f the 174 firms which were able to provide some useful information,
142 (or 82 percent) ultimately did so.
The overall response rate for the 67 additional firms added to the sample (65 of which were
able to respond) is m u c h lower than that for the initial sample, due mainly to the fact that the
significant follow-up effort which was undertaken with respect to firms in the initial sample was
not repeated for these additional firms. This follow-up effort was initiated by the mailing of a letter
to all firms in the initial sample that did not respond during the 60 day period which was allowed.
Those firms that did not respond to the follow-up letter were contacted via telephone. (A copy of
the follow-up letter is included in Appendix B ) .
In total, out of the 307 firms to w h o m questionnaires were sent, 239 firms were able to provide
useful information, and 161 (or 67 percent) of these firms did so. These 239 firms represent
approximately 20 percent of the total universe of formal wear firms that are estimated to currently
o w n and actively rent tuxedos. Despite this relatively high overall response rate, only 38 firms
provided useful information about the rental frequency of tuxedos (while the remaining 123 firms

A s discussed below, the final data set used to estimate the equivalent economic life included 199
styles of tuxedos. It is estimated that this sample provides an estimate of the economic life of
tuxedos accurate to within 0.1 year at a 9 5 % confidence interval.
-10-

responded to some part of the survey other than Question 6). These 38 firms, which are estimated
to o w n about one-third of all rental tuxedos, provided information on the number of turns by age
for 199 different styles of tuxedos.

Table 2. Response Status of Surveyed Firms

Survey Status

Initial
Sample

Additional
Sample

Total
Sample

240

307

•

N e w Business With N o Turns
History

•

Affiliate of Company Already
in the Sample

•

174

239

142

161

157

199

Surveys Mailed

Unable to Respond

N o Longer in Business

Incorrectly Classified as
Tuxedo Rental Business

Able to Respond

Surveys Received

Surveys Providing Turns
Information

Number of Styles Provided

-11-

Because the turns data are the primary source of information regarding the depreciation of
tuxedos, and this information was obtained from only afractionof the firms able to provide some
information, the possibility of self-selection bias (i.e., the tendency for only those firms which have
data supporting a short class life to respond) must be addressed.4 A s will be discussed more fully
in the next section, the recordkeeping practice of the firm appears to be an important factor in the
relatively low response rate with regard to turns information (i.e., to Question 6 of the survey
questionnaire). Specifically, firms that are likely to be better able to provide turns information
(because they reported using a computerized system, or had multiple retail outlets, or stored tuxedos
in a warehouse) were m u c h more frequent providers of turns information. While some degree of
self-selection bias cannot be ruled out, it appears that for most of the firms that did not provide rums
information, the difficulty (though not necessarily the impossibility) of compiling this information
was the primary reason.5

C. Summary of Responses
Table 3 contains a summary of the responses to the survey questions. Information concerning
the method of depreciation used by the firm for financial accounting purposes and typical lease and
loan periods was sought in accordance with the guidelines suggested in the General Explanation.
Other questions were asked in order to obtain some understanding of the nature of the respondent's
activities. The implications of the information collected with regard to the life measures of tuxedos
will be discussed in the following chapter. Table 3 shows that the majority of firms participating
in the survey are retailrentersof men's formal wear. Although seven responding firms are involved
in the rental of women's gowns, only one of them was able to provide data concerning tums.Question
3 was designed to allow firms that rent tuxedos but do not o w n any stock (and thus are not an
intended recipient of the survey questionnaire) to note that fact without having to complete the
balance of the survey. A s discussed in Appendix C, the ending date of the firm's fiscal year as
provided in the response to Question 4, combined with the delivery date of each style of tuxedo
reported in Question 6, is useful in determining that part of the firm's first year for which the style
was available for rental. About two-thirds of the firms that responded to this question are
calendar-year taxpayers.

* O n e possible source of self-selection bias is the sample of 67 additional firms w h o volunteered to
participate in the survey. T h e equivalent economic life obtained from the turns information provided
by these additional 67 firms is slightly shorteT (but not significantly so) than that obtained from the
turns information provided by the initial sample of firms. Sample statistics for the initial value-in-use
and the cost of styles for both the initial and additional sample are shown in Table 7.
Indeed, through subsequent telephone contact with firms whose response appeared questionable,
it was noted that some firms, in their desire to respond, provided turns data that were not based on
actual records, or provided data for styles of a more recent vintage so that only an incomplete life
history could be obtained; these responses were dropped and treated as non-responses in Table 2.
-12-

Table 3. Summary of Survey Responses
Total Survey Forms Returned.

161

Firms Responding to:

Number
Responding

Question 2a: In What Types of Rental Activities
is the Firm Engaged?
Total Number of Responses
Retail Men's Formal Wear.....^
..
Wholesale Men's Formal W e a r — .
Women's Gowns...._-...~..
.~~
Costumes~. ~—~~.^.~.—^.
Question 2b: Does the Firm Own More than One
Retail Outlet?

_...

Total Number of Responses————. ..—„_
Yes
No

152
112
44
7
1

109
67
42

Question 2c: Does the Firm Stock Rental Clothes in a Warehouse?
Total Number of Responses ..—.~~.....~~_
Yes

109
61
48

Question 3: If the Firm Maintains No Stock of Rental Clothes, Check the
Box Below
Total Number of Responses—.—.~~—~.~~.— „.——..

Question 4: What is The Date on Which The Firm's
Fiscal Year Ends? (Responses are tabulated by month of fiscal year end.)
Total Number of Responses— —.„...—..._.....-...—....
April - June ———~.———~.~~.~-~——~.~~.~~~.~~~~—~July - September—~.
October - November.
December _ . . —

-13-

94
11
8
9
8
58

Table 3. Summary of Survey Responses (Continued)

Firms Responding to:

Number
Responding

Question 5: Does the Firm Use a Computerized System for Inventory
Control or to Keep its Accounting Records.
Total Number of Responses.
Yes..„.
...„^„„

96
40
56

No .l.Z!Z!ZIZIZZZ
Question 6: Enter turns information for six styles of tuxedos purchased
between 1981 and 1985.
Total Number of Firms Responding

...—.

Average Number of Turns Per Tuxedo by Age:
Age (in years)
Turns

1
7.1

2
7.1

3
4.5

4
2.0

5
.6

6
.1

7
.0

Question 7 and 8: What is the value and the number of units of tuxedos
in year end inventory for the years 1981-1987, and what is the value and
number of units of tuxedos purchased for the years 1981-1987?
Total Number of Responses.

Question 9: What is the Life and Method the Firm Uses to Depreciate
Rental Clothes for Financial Statements?
Total Number of Responses for Life:-.
Life in Months:
12
20
36
44
48
50
60
84

-14-

57
2
1
27
1
3
1
17
5

Table 3. S u m m a r y of Survey Responses (Continued)

Firms Responding to:

Number
Responding

Question 9: What is the Life and Method the Firm Uses to Depreciate
Rental Clothes for Financial Statements? (Continued)
Total Number of Responses for Method: ..
..
..—...
Depreciation Method:
Double Declining Balance
„.....
1 5 0 % Declining Balance — .
Unit of Production.............
S u m of Years Digits—.—
Staight Line.
..
Other——...—.—...—...—....—..—.-....—.

68
18
2
1
2
35
10

Question 10: What is the Average Loan Period Over Which the Firm
Finances Its Rental Clothes?
Total Number of Responses: -. 23
Loan Period in Months:
9

_„_ 2
12
24
36

6
1
1

90 ZIZIIIZ1IIIIIIZ!IIIIIIIIIIIIIIZIIII 1
Question 11: What is the Average Lease Period Over Which the Firm
Leases its Rental Clothes?
Total Number of Responses (One Year Lease):—. — 2

About half of the firms that responded to Question 9 used a 36-month period to depreciate
tuxedos for financial accounting purposes, and about half of the responding firms used the
straight-line method of depreciation. A s discussed in the following chapter, this is consistent with
both the estimated two year economic life and the roughly four year useful life obtained from
analysis of the turns data. There are also a significant number of firms (about one-fourth of those
responding to Question 9) that use a 60-month useful life, and a comparable fraction use a
declining-balance method of depreciation.

-15-

The average loan period for most of those w h o responded to Question 9 is 12 months or less.
While this is consistent with the contention of industry representatives that tuxedos lose their market
value relatively quickly, and have almost no resale value, it m a y also simply represent general trade
practice. The average loan period should thus be viewed as a lower limit to the economic life of
tuxedos.

Table 4. Response to Question 6 (Turns Information) Cross-Classified by Responses to
Questions 2b, 2c, and 5

Number of Responses by
Firms Not Providing Turns
Information
Question:

2b.
Does the Firm O w n More
Than One Retail Outlet?

2c
Does the Firm Stock
Rental Clothes in a
Warehouse?
5.
Does the Firm Use a Computerized System For Inventory
Control or to Keep its
Accounting Records?

No Response

Number of Responses by
Firms Providing Turns
Information

Yes

No Response

Yes

In order to examine whether the lack of rental frequency information was due to the difficulty
of compiling the requested information, an examination was m a d e of the relationship between a
firm's response to Question 6 and various firm-specific attributes which suggest that the requested
information is morereadilyavailable, such as its having multiple retail outlets, its storage of tuxedos
in a warehouse, and its use of a computerized record system. The results of this examination are
shown in Table 4. It m a y be noted that although a few firms lacking these attributes provided turns
information (e.g., 14percent of the firms reporting that they had no warehouse responded to Question
6), the likelihood of obtaining rums information was m u c h greater if these attributes were present.

-16-

Thus, 30 out of the 67 firms which reported storing their tuxedos in a warehouse (or 45 percent)
provided turns information. Likewise, 48 percent of the firms reporting the use of multiple retail
outlets, and 48 percent of the firms using a computer, provided turns information.

Table 5. Depreciation Method Used For Financial Accounting Purposes Cross-Classified
by Service Life Used

Number of Firms Using Depreciation Method and Life

Life in Months

Double
Declining
Balance

150%
Declining
Balance

S u m of
Years Digits

Straight
Line

All Other
Methods

Total, All
Methods

•

Total, All Lives

Because the rapidity with which tuxedos are written off for financial accounting purposes
depends on both the tuxedo service life and the method of depreciation used by thefirm,it is of
some interest to examine the correlation (if any) which m a y exist between the choice of these two
factors. Table 5 presents the distribution of methods chosen by service life. Since the write-offs

-17-

resulting from the use of shorter service lives with a slower method of depreciation can be similar
(at least in the initial years) to those resulting from the use of longer lives with a more accelerated
method, both of these combinations were expected. A s shown in Table 5, however, the straight-line
method seemed to be preferred both by firms using a three year service life and by firms using a
five year service life.

-18-

Chapter 4. The Measurement of the Class Life of Tuxedos
A s noted in Chapter 1, the legislative history of the 1986 Act suggests that the class life of
depreciable assets be based on their anticipated decline in economic value, and that consideration
also be given to their anticipated useful life. In this chapter, the survey data is used to obtain the
useful life of tuxedos from their period of rental, and the equivalent economic life of tuxedos from
their inferred decline in value with age. In Appendix C, an analysis leading to a shorter equivalent
economic life is presented which takes into account the actual date of acquisition of the tuxedos
and the timing of the tax benefits received by the taxpayer under the Alternative Depreciation
System.

Figure 11 Distribution of Useful Lives
(For 199 Styles of Tuxedos) m^

Useful Lives (In Years)
A. The Useful Life of Tuxedos
The turns data obtained from the survey allow determination of the useful life of each style
of tuxedo, which is taken to be the period between the date of delivery and the end of the last fiscal
year for which rentals of that style are reported. While firms m a y not actually dispose of the tuxedos
at that time, if they no longer rent the tuxedos, that is the point at which the economic life of the
style of tuxedo m a y be considered to have terminated. Data for the more recent vintages that clearly
appeared to provide an incomplete history were expressly excluded. Fig. 1 presents the distribution
of useful lives based on the rental patterns reported for all 199 styles for which complete turns data
were obtained. (Fig. 1 should be interpreted in the following way: 1.5 percent of the styles have a

-19-

useful life greater than one year and less than or equal to two years, 26.1 percent have a useful life
greater than 2 years and less than or equal to 3 years, etc.) Most styles (182 out of 199) had a useful
life of approximately three tofiveyears. If the useful life of each style is weighted by the cost of
the style (i.e., the cost per tuxedo times the number of tuxedos acquired), a weighted average useful
life of 3.7 years is obtained.
Although equivalent economic lives are more indicative of the actual depreciation of the assets
examined than are useful lives, useful life information m a y nevertheless be helpful. Measures of
useful life m a y provide a test of the reasonableness of the class lives as determined from the estimated
decline in value.

B. The Productivity Method
W h e n available,resaleprices (adjusted for the fact that retired assets no longer appear in the
resale market) m a y generally be expected to provide the best evidence of the decline in value of an
asset group. Such approach has been used by a number of academic researchers to estimate the
economic depreciation of a variety of different assets, with the most comprehensive and careful
work done by Hulten and Wykoff [ 1981].6 Frequently, however, resale prices m a y not be available,
and this is the case for tuxedos.
A n alternative method of inferring the decline in value of an asset is based on an examination
of the pattern of the income flow which it generates.7 The economic value of any asset to its owner
m a y generally be expressed as the discounted present value of the expected future cash flow generated by its use. This value has been referred to as the "value-in-use" of the asset, and it is a
standard assumption of investment theory that the market price of the asset (if such price could be,
measured) would equal the value-in-use of the asset to a marginal purchaser of the asset.8 It is
generally recognized that, because m a n y different assets m a y be used to produce a single product,
the direct measurement of the value-in-use of any individual asset can be very difficult, and thus
reliance on resale prices, if possible, is m u c h to be preferred. The current study of tuxedos appears
to be a case where economic depreciation may, however, be readily estimated from the pattern of
income generated from their rental.

See also Ackerman [1973], Biedleman [1973], Ohata and Griliches [1976], R a m m [1970], and
Wykoff [1970].
This method has been used by T a u b m a n and Rasche (1969) to estimate the depreciation of office
buildings.

This fundamental assumption has been used by Hotelling [1925] in his classic paper on the theory
of depreciation, and by Samuelson [1964] in his paper on the invariance of asset prices to the tax
rate in a system in which economic depreciation is used for tax purposes.
-20-

Discussions with industry representatives revealed that the rental price of a given style of
tuxedo rarely depends upon the age of the tuxedo. In addition, m a n y of the costs incurred by the
rental firm which are either directly associated with the rental of the tuxedos (such as the cost of
cleaning), or m a y reasonably be allocated to individual styles of tuxedos on the basis of such rentals
(such as the cost of advertising), also do not vary with the age of the tuxedo. These are conditions
which suggest that the decline in the value-in-use of each style of tuxedo can be estimated directly
from rental information.
T h e method used in this study to estimate the class life of tuxedos m a y be characterized as the
"productivity" method. A s mentioned in Chapter 2 data concerning the number of times that a style
of tuxedo rents (turns) for each year of its life has been collected for 199 different styles. The
productivity method for measuring economic depreciation is based on the assumption that the
number of turns of a given style in a given year is an adequate surrogate (up to an u n k n o w n proportionality constant) for the net cash flow generated by the ownership and use of the tuxedos of
that style for the year.
This assumption cannot be completely valid if some of the costs incurred by the firm are period
costs (i.e., costs associated with the passage of time, such asrentor insurance, that are independent
of the number of rentals of a given style of tuxedo). It is likely that these costs, which should more
properly be allocated to the individual styles of tuxedos on the basis of the number of tuxedos, are
independent of the age of the tuxedos. B y assuming that these costs are proportional to the number
of turns, the profitability of each style tends to be understated in the earlier years (when there are
more rentals) and overstated in the later years (when there are fewer rentals). The decline in value
of the tuxedos over time is thus somewhat underestimated, and the resulting economic life somewhat
overestimated.
S o m e industry representatives have suggested that owners frequently retain tuxedos even if
therentalof the particular style is rather infrequent This suggests that for suchfirms,period costs
m a y not be very significant. In contrast, the turns data suggest that for some styles, the tuxedos are
retired even though the number of turns in the last year of rental is still a significantfractionof the
number offirst-yearturns. This suggests that for these styles rent and other costs which are independent of the age of the tuxedos m a y be far more significant. However, the fact that the number
of turns reported for these styles does not decline appreciably over their useful life reduces the
potential error m a d e by assuming that these costs decline with age in tandem with the number of
turns.
Assuming that for any individual style the future annual net cash flow generated by the rental
of the tuxedos is proportional to the number of turns reported each year, the value-in-use of the

-21-

style for each year of its economic life can be determined.9 B y exarriining the annual decline in the
value-in-use, the economic depreciation of the specific style can be inferred. Because a number of
factors complicate the process of obtaining the equivalent economic life of tuxedos from the productivity method, it is helpful to first illustrate the application of this method using a simplified
analysis. The more complex analysis, which takes account of these factors (the proper weighting
of the information obtained from the individual styles, the fact that the tuxedos are not generally
placed in service at the beginning of the year, the timing of the tax benefits under the Alternative
Depreciation System, etc.), will be discussed in Appendix C.

Figure 2: Average Remaining Turns
Per Tuxedo By Age
25
21.292

Age of Tuxedo (In Years)

If discounts were offered for rental of older tuxedos or premiums charged for rental of newer
tuxedos, and costs remained constant, this assumption would be incorrect. Industry representatives
however, have reported that the rental price of a given style of tuxedo rarely depends upon the age
of the tuxedo.
-22-

C. Illustration of The Measurement of The Economic Life of Tuxedos Using
the Productivity Method
The application of the productivity method can be illustrated by treating the average number
of turns per tuxedo reported at each age for all styles combined (noted in Table 3 under the response
to Question 6) as the number of turns at each age of a single "generic" style of tuxedo. The remaining
average number of turns per tuxedo at each age, as obtained from the survey data, is shown in Fig.

Figure 3: Value-In-Use Per Tuxedo By Age
(in Units of Turns}

i
0

i
1

1
2

1—*j
3
3.3

1
4

-*•
5

*
6

Age of Tuxedo (In Years)
For this illustration, it is assumed that tuxedos are placed in service in the beginning of the
year, and the cash flow generated by their rental is received at the end of the year. The value-in-use
per tuxedo is thus proportional to the discounted s u m of the remaining number of turns. From the
pattern of turns shown in Fig. 2, a pattern of decline in value m a y be obtained by setting the constant

The values in Fig. 2 are obtained by dividing the number of turns reported for each age of the
style, aggregated over all styles, by the total number of tuxedos acquired, also aggregated over all
styles. O n average, each tuxedo "turned" about 21 times over its useful life.
-23-

of proportionality equal to unity, and using a 4 % discount rate. T h e resulting value-in-use per
tuxedo (as shown in Fig. 3), is somewhat less (due to discounting) than the average remaining
number of turns per tuxedo for each year of their useful life (shown in Fig. 2).
The economic depreciation per tuxedo is given by the annual decline in the average value-in-use
per tuxedo. T o obtain the equivalent economic life, only the partem of economic depreciation, and
not its absolute level, is relevant. Thus, the unknown constant of proportionality m a y be eliminated
by dividing each year's value-in-use by the initial year's value-in-use. T h e result m a y be viewed
as the economic depreciation per dollar of investment, and is shown in Fig. 4.

Figure 4: Economic Depreciation By Age
Per Dollar of Investment

Age of Tuxedo (In Years)
Assuming again for this illustration that the tax benefits associated with each year's depreciation' allowance are recognized at the end of the year, the present value of economic depreciation
per dollar of investment can be calculated by simply discounting and summing the values for
depreciation shown in Fig. 4. T h e result is a present value of depreciation of 0.919.
The equivalent economic life can n o w be determined from economic depreciation as measured
by the productivity method. If the present value of straight-line depreciation is calculated under
the same assumptions noted above (i.e., tuxedos are placed in service at the beginning of the year,

-24-

and the depreciation tax benefits are recognized at the end of the year), the resulting equivalent
economic life of 3.3 years is obtained. The straight-line decline in value corresponding to this class
life is shown in Fig. 3.

Table 6. Measures of Useful and Equivalent E c o n o m i c Lives

Measure of Life

Life
(In Years)

3.7

Useful Life

Equivalent Economic Life • Without the half-year convention and
without the adjustments for delivery date and realization of tax
benefits.

32u

Equivalent Economic Life - With the half-year convention and
without the adjustments for delivery date and realization of tax
benefits.

2.7

Equivalent Economic Life • With the half-year convention and
with adjustments for delivery date and realization of tax benefits.
All Tuxedos

1.9U

Fashion Tuxedos

2.0

Basic Black Tuxedos

1.8

Because the calculated value-in-use falls during thefirstfew years of useful life of this "generic"
tuxedo, the 3.3 year equivalent economic life is shorter than the average useful life of 3.7 years
noted in the previous section. In Appendix C, the simplifying assumptions of this illustration are
replaced by somewhat more realistic assumptions. In particular, the fact that the tuxedos are
generally available forrentalfor only a portion of thefirstyear has a significant impact on the
estimated economic life. Moreover, the method of translating the estimated decline in value into
an economic life is modified toreflectthe half-year convention allowed under the Alternative

Based on a weighted average using the cost of tuxedos as weights. W h e n weighted by initial
value-in-use, the equivalent economic life is 3.3 years.
Based on a weighted average using the cost of tuxedos as weights. W h e n weighted by the intial
value-in-use, the equivalent economic life is 2.1 years.
-25-

Depreciation System and the timing of the tax benefits. The information provided on tuxedo delivery
dates and the fiscal years of tuxedo rentalfirmssuggests that a mid-quarter convention would seldom
be used.
Table 6 summarizes the several measures of the economic life of rental tuxedos which are
noted in both this chapter and in Appendix C. This table shows that, as the additional calculational
refinements described in Appendix C are introduced, the resulting estimate of equivalent economic
life is reduced.After all refinements are made, an equivalent economic life of 1.9 years is obtained
if the information from the turns data is weighted by cost (and 2.1 years if weighted by initial
value-in-use).
Just as the individual styles have differing useful lives, so also do they have differing equivalent
economic lives. Fig. 5 shows the distribution of the individual equivalent economic lives for each
style of tuxedo obtained w h e n all of the refinements noted in Table 6 have been taken into account
(Fig. 5 should be interpreted in the following way: 46.1 percent of the styles have an equivalent
economic life greater than one year and less than or equal to two years, 33.2 percent have an
equivalent economic life greater than 2 years and less than or equal to 3 years, etc.)

Figure 5; Distribution of Equivalent
Economic Lives
{For 199 Styles of Tuxedos)

Equivalent Economic Lives (In Years)
W h e n thisfigureis compared to Fig. 1, it is apparent that although the equivalent economic lives
are generally m u c h shorterthan the useful lives, the variability in these two measures are comparable.

-26-

Treating all of the turns information as if it refers to a single type of "generic" tuxedo, as was done
in the illustrative analysis above, is one w a y of obtaining an average class life. This approach
effectively weights the individual styles by their initial value-in-use. Because there is s o m e reason
to believe that the proportionality constant differs across styles in an u n k n o w n manner, the decline
in value of the individual styles should more properly be weighted by their cost. T h e choice of the
different weighting methods (which have a very modest impact on the final results) is also discussed
at greater length in Appendix C.

-27-

Chapter 5. Conclusions
A. The Class Life of Tuxedos
The empirical results of this study of the depreciation of tuxedos are readily summarized. T h e
useful life of tuxedos, which in the context of this study is essentially the average period over which
tuxedos are rented, is 3.7 years. T h e equivalent economic life of tuxedos, which in the context of
this study is that recovery period under the Alternative Depreciation System which generates
depreciation allowances whose present value equals the average present value of the economic
depreciation of tuxedos, is 1.9 years (2.1 years if the results for the individual styles of tuxedos are
weighted by initial value-in-use, rather than cost). Treasury believes the equivalent economic life
is more indicative of the actual depreciation of tuxedos, and if a separate asset class for tuxedos is
to be established, recommends that it be assigned a class life of 2.0 years.
The General Explanation notes that a change in the class life of an asset group is to reflect the
anticipated useful life and the anticipated decline in value over time of the assets in the group.
Although the results noted above are based on historical information about assets acquired a number
of years ago, industry representatives did not anticipate changes in the economics of tuxedo rental
which might cause the depreciation of tuxedos acquired in the future to differ from the observed
depreciation.
The disparity between the estimated useful life and the m u c h shorter equivalent economic life
of rental tuxedos is an importantresultof this study. Treasury believes that when, as in the present
case, adequate information is available to reliably estimate the decline in economic value with age
of the asset studied, such information should be used to determine the asset's class life. For assets
whose productivity tends to decrease with age (as is true for rental tuxedos w h e n productivity is
measured by the number of turns), the equivalent economic life will usually be shorter than the
useful life, and the faster the decline in productivity with age, the greater the disparity between the
equivalent economic life and the useful life.
In general, focusing on the useful life tends to bias the analysis towards an excessively long
class life. B y contrast, reliance on the equivalent economic life does not give undue weight to the
latter year's of an asset's life, w h e n it m a y be retained primarily to perform an infrequently needed
task. Although these considerations do not appear to be relevant in this study of tuxedos for which
actualrentals,rather than retention, was reported, the decline in the frequency of rental of a given
style of tuxedo with age leads to an average economic life for tuxedos which is m u c h shorter than
their average useful life. This m a y , in part, reflect the rapidity with which the attractiveness of any
style of fashion tuxedo m a y change, or the increasing impact of wear and tear with age on the firm's
ability to rent a complete set of basic black tuxedos. Regardless of the reasons for the relatively

-29-

rapid decline with age in the imputed value-in-use of rental tuxedos, this decline is not reflected in
their useful life, which is simply a measure of the period over which they provide some service to
the firm, however small.
A similar disparity between the useful life and the equivalent economic life is expected to be
observed in the case of many, but not all, depreciable assets. Although resale price data should be
available to estimate the decline in value of m a n y assets, the productivity method can also be used.
If the productivity method were used, the focus of the analysis would very likely have to change.
Rather than focusing on individual assets (as would be natural under the resale method), it would
generally be necessary to focus on the entire collection of assets which are typically acquired as
part of a major investment project. B y studying h o w the output and cost of operation of the acquired
facility changes over time, the decline in value of the entire set of assets can be inferred, whereas
it m a y be impossible to disentangle the net income contributed by any single machine.

B. Structure of the Asset Classification System
The ultimate structure of the asset classification system is a difficult issue. In particular, the
number and scope of the separate asset categories which characterize the system should be considered by Congress. T h e Treasury Department does not wish to imply that the current Asset
Depreciation Range ( A D R ) classification system is perfect, nor is the Treasury Department reluctant
to recommend changes in class lives if the evidence suggests that such changes are merited. Treasury
is concerned, however, that if Congress were to continually subdivide existing asset classes so that
those assets that happen to have somewhat shorter (or longer) class lives than the average for all
assets in the class were placed in separate subclasses, the resulting asset classification system would
soon become far too complex.13
A change in the class life of rental tuxedosresultsin a shift in recovery period under the regular
depreciation system from five years to three. While equity and efficiency considerations might
thus favor the establishment of a n e w asset class for rental tuxedos, investment in rental tuxedos is
a very small portion of total investment in all business equipment, as noted in Table 1. There is
currently no asset class that encompasses such a small amount of investment The establishment
of a special asset class for rental tuxedos m a y thus be taken as a precedent for the establishment of
asset classes of very small size. A classification system that distinguishes a m o n g the assets owned
by sectors of the economy each as small as the tuxedo rental industry would be an extremely detailed
and complex system. Such a system would be m u c h more difficult to administer than a system
with broader asset classes.

Moreover, if one subset of assets is given a shorter (or longer) class life, the class life for the
remaining assets in the class would have to be lengthened (or shortened), assuming that the existing
class life approximately reflects the average economic life of all the assets.

-30-

In principle, a classification system with very detailed asset classes can allow for a neutral tax
treatment of assets. There are, however, only a few recovery periods for regular depreciation, each
encompassing a range of class lives, so that assets with different class lives falling within the same
recovery period have different effective tax rates. S o m e degree of non-neutrality is thus a feature
of the current depreciation system. Conversely, unless the taxpayer is subject to the Alternative
Depreciation System, "fine tuning" of the asset classification system generally need not have any
tax consequence.
Eventually, Congress will have to determine where the line should be drawn between a complex
and more neutral system, and a less complex, but also less neutral, classification system. The
establishment of a separate asset class for tuxedos m a y be inconsistent with the structure ultimately
desired.

-31-

Appendix A. Exhibits Related to the Congressional Mandate

Exhibit 1. Section 168(i)(l)(B) of the Internal Revenue Code as Revised by th
Tax Reform Act of 1986
Code Sec. 168 (i) Definitions and Special Rules.
For purposes of this section—
(1) Class Life.
(B) Secretarial authority. The Secretary, through an office
established in the Treasury—
(i) shall monitor and analyze actual experience with respect to
all depreciable assets, and
(ii) except in the case of residential rental property or
nonresidential real property—
(I) m a y prescribe a n e w class life for any property,
(II) in the case of assigned property, m a y modify any
assigned item, or
(IQ) m a y prescribe a class life for any property which
does not have a class life within the meaning of
subparagraph (A).
A n y class life or assigned item prescribed or modified under the preceding sentence
shall reasonably reflect the anticipated useful life, and the anticipated decline in value
over time, of the property to the industry or other group.

Exhibit 2. Section 168(i)(l) of the Internal Revenue Code as Revised by the
Technical and Miscellaneous Revenue Act of 1988:
Code Sec. 168(i) Definitions and Special Rules.
For purposes of this section(1) Class Life. Except as provided in this section, the term "class life" means the class
life (if any) which would be applicable with respect to any property as of January 1,
1986, under subsection (m) of section 167 (determined withoutregardto paragraph (4)
and as if the taxpayer had m a d e an election under such subsection). The Secretary,
through an office established in the Treasury, shall monitor and analyze actual experience with respect to all depreciable assets.

-32-

Exhibit 3. Provisions for Changes in Classification from The General Explanation of the Tax Reform Act of 1986
T h e Secretary, through an office established in theTreasury Department is authorized to
monitor and analyze actual experience with all tangible depreciable assets, to prescribe a n e w class
life for any property or class of property (other than real property) w h e n appropriate, and to prescribe
a class life for any property that does not have aclass life. If the Secretary prescribes a n e w class
life forproperty, such life will be used in determining the classification of property. T h e prescription
of a n e w class life for property will not change the A C R S class structure, but will affect the A C R S
class in which the property falls. A n y classification or reclassification would be prospective.
A n y class life prescribed under the Secretary's authority must reflect the anticipated useful
life, and the anticipated decline in value over time, of an asset to the industry or other group. Useful
life means the economic life span of property over all users combined and not, as under prior law,the
typical period over which a taxpayer holds the property. Evidence indicative of the useful life of
property, which the Secretary is expected to take into account in prescribing aclass life, includes
the depreciation practices followed by taxpayers for book purposes with respect to the property,
and useful lives experienced by taxpayers, according to their reports. It further includes independent
evidence of minimal useful life — the terms for which n e w property is leased, used under a service
contract, or financed — and independent evidence of the decline in value of an asset over time, such
as is afforded by resale price data. If resale price data is used to prescribe class lives, such resale
price data should be adjusted d o w n w a r d to remove the effects of historical inflation. This adjustment
provides a larger measure of depreciation than in the absence of such an adjustment. Class lives
using this data would be determined such that the present value of straight-line depreciation
deductions over the class life, discounted at an appropriaterealrate of interest, is equal to the present
value of what the estimated decline in value of the asset would be in the absence of inflation.
Initial studies are expected to concentrate on property that n o w has no A D R midpoint.
Additionally, clothing held for rental and scientific instruments (especially those used in connection
with a computer) should be studied to determine whether a change in class life is appropriate.
Certain other assets specifically assigned a recovery period (including horses in the three-year
class, qualified technological equipment, computer-based central office switching equipment,
research and experimentation propertytcertain renewable energy and biomass properties, semiconductor manufacturing equipment, railroad track, single-purpose agricultural or horticultural
structures, telephone distribution plant and comparable equipment, municipal waste-water treatment
plants, and municipal sewers) m a y not be assigned a longer class life by the Treasury Department
if placed in service before January 1,1992. Additionally,automobiles and light trucks m a y not be
reclassified by the Treasury Department during this five-year period. Such property placed in
service after December 31,1991, and before July 1,1992, m a y be prescribed a different class lifeif

-33-

the Secretary has notified the Committee on W a y s and Means of the House of Representatives and
the Committee on Finance of the Senate of the proposed change at least 6 months before the date
on which such change is to take effect.

-34^

Appendix B. The Survey Questionnaire and the Follow-Up Letter

-35-

*X*

DEPARTMENT OF THE TREASURY
WASHINGTON

Dear Sir or Madam:
The Depreciation Analysis Division of the Treasury Department's
Office of Tax Analysis has randomly selected your firm to participate in
its survey of the depreciation of rental clothing. As mandated by the
Tax Reform Act of 1986, this office has the responsibility for studying
the depreciation of all assets. At the request of Congress, rental
clothing is one of the first assets to be studied.
The information obtained in this survey vill enable Treasury to
recommend a class life for tax depreciation purposes for rental clothing.
The International Formal Vear Association has endorsed this survey, and
encourages your response. The design of the attached survey form
reflects the many comments and suggestions made by rental clothing
industry representatives at a series of meetings held during the last
several months.
This survey is designed for firms that rent men's or vomen's formal
vear or costumes. The questions refer to tuxedos because the rental of
tuxedos is the largest component of the rental clothing industry. If you
rent vomen's formal vear or costumes, please provide separate responses
for such rental clothing, as noted on the first page of the form.
All data collected in this survey vill be treated as strictly
confidential. Ve vill, therefore, not report the names of the firms
included in this survey, nor the firm-specific information obtained, to
the Internal Revenue Service or any other agency, enterprise, or
individual. Any report on the results of this study vill contain only
aggregate statistical measures, or information vhich cannot be identified
as to source.
Please return the completed form in the enclosed postage paid return
envelope by October 14, 1988. If you have any question regarding the
survey, please vrite or call the persons responsible for administering
the survey, as noted on the first page of the survey form.

Sincerely,

Lowell Dvorin
Director for Depreciation Analysis
Enclosure

36 -

O M B Approval N o :
1505 0114
Expices 12/31/88

Survey of Depreciation of Rental Clothing
General Instructions
The responses to the questions in this survey should be based on information relating to all of the wholesale and retail outlets o w n e d by or affiliated
with the firm identified in question 1.
In responding to the questions asked, please refer to the information in your accounting or property records. If these records are not adequate to
allow you to respond to a specific question, enter the letters "NA" (for "not available") in the space provided for the response.

The responses should not include information relating to clothing which you lease on a long-term basis to other firms, but should include informati
relating to clothing which you have obtained through a long-term lease.
The responses should include only information relating to clothing that is a permanent part of your inventory. Information relating to clothing that you
obtained temporarily to meet a specific customer's needs should be excluded.
Firms that rent women's gowns in addition to tuxedos should submit separate survey forms for tuxedos and women's gowns. The responses for
tuxedos should be entered on this form, and the responses for women's gowns should be entered on a copy of questions 6, 7, and 8 of this form.
Please label the copy "women's gowns".
Firms that rent costumes in addition to tuxedos should submit separate survey forms for tuxedos and costumes. The responses for tuxedos should
be entered on this form, and the responses for costumes should be entered on a copy of questions 6, 7, and 8 of this form. Please label the copy
"costumes".
November 21
Please return the completed form in the enclosed postage paid envelope by October 14, 1988.

If you have any question regarding the survey, please write or call the persons responsible for administering the survey:
Gerald Silverstein
Depreciation Analysis Division
R o o m 4217, Main Treasury Building
Washington D C 20220
(202) 786-8373

Paperwork Reduction Acl Notice
This form ,s m accordance with, the paperwork reduction act of 1980 Its purpose is to collect data that will allow
It e Treasury Department to estimate the class lite tor rental clothing Authority tor information collection is
contained m Section 16B(')( 1 )(fi) of the Internal R e v e n u e C o d e
| US

Department of ire Treasury

Qlfice of fax Policy

Michael J. Walsh
Depreciation Analysis Division
R o o m 4217. Main Treasury Building
Washington D C 20220
(202) 535 6992

The estimated aveiage burden associated with the collection ot Inlormatlonls 8 hours par respondent or recordkeeper. Actual response
lime can vary gieally Comments concerning the accuracy ol this buiden estimate and suggestions lor reducing the burden should be
diiertod to C.ei aid Silverstein at the address listed above, and to the Ctllce ol Information and Regulatory Affairs. Office ot Management
and Dudgnl. Washington D C 20503. Attention: Treasury Department Desk Officer.

Ollico of T.TX Analysis

Control No.:

T D F 90-21.3 (06-88)

()«p<e'.ialion An.ily'ji'i

Depreciation Analysis Division

Pago 1 ol 6

Mental Clothing Survey

Section 1: General Information
Question 1:

Please enter the n a m e and the address ol your firm, and the n a m e and telephone number of the person to be contacted
regarding the responses entered on this survey form. This will allow us to contact you in the unlikely event that questions
arise regarding the information provided on this form.
Firm N a m e :

Contact Person's N a m e :

Firm Address:
Contact Person's Phone Number:

Question 2a:

Please check the boxes next to each type of rental activity in which the firm is engaged.
Retail rental of m e n s formal wear

[ ]

Wholesale rental of men's formal wear

[ ]

Retail rental of women's gowns

[ ]

Rental of costumes

[ J

If you are engaged in retail rental activity, please answer questions 2b and 2c below, otherwise continue with question 3.
Question 2b:

Question 2c:

D o you own more than one retail outlet?
Yes

[ ]

( ]

D o you stock rental tuxedos in a warehouse?
Yes

[ ]

[ )

Control No.

Depreciation Analysis Division

Page 2 ol 6

Rontnl n~n.i-~ «».

General Information

Section 1 Continued:
Question 3:

If your firm maintains no stock of rental clothes, please check the box below, but do not respond to questions 4-11. Simply
return the form in the enclosed postage paid envelope.
This firm maintains no stock of rental clothes [ )

Question 4:

What is the date on which your fiscal year ends?
Month

Day

Question 5:

D o you use a computerized system for inventory control or to keep your accounting records?
Yes

[ ]

[ J

Control No.

f)eprer.inlion Analysis Division

Pago 3 ol 6

Mental Clothing Survey

Section II: Number of Turns By Age of Tuxedo
Question 6:

Starting with those styles purchased in 1981 (or for the earliest year after 1980 for which you have such information) and continuing until
you have listed no more than 6 distinct styles, please enter the style of tuxedo acquired, the season and year the style w a s purchased
(that is, the season and year the style was delivered), the number of units purchased, and the number of rentals ("turns") in each year of
the style's life. The number of units is equal to the number of jackets even if you purchase more than one pair of pants for each jacket.
Exclude styles purchased in 1986, 1987, and 1988. Make one entry for all "basic black" tuxedos purchased at a single date, regardless of
slight differences in style. If you have purchased the same style at two different dates, report the purchases separately, only if you have
information on the number of turns for each purchase. Treat the time between the purchase of the style and the end of your fiscal year as
the first year of the style's life (even if the delivery took place late in the fiscal year). Every succeeding year should coincide with your
fiscal year. Before responding to this question, please refer to the example and the sample responses that are s h o w n on the last
two pages ot this survey form.
Number of Turns

Style of Tuxedo

Season and
Year of
Purchase

Number
of Units

1st
Year

2nd
Year

3rd
Year

4th
Year

5th
Year

6th
Year

7th
Year

1
2.
3.
4.
5.
6.
t

Control No.:

Section III: Purchases and End of Year Stock of Tuxedos.
Question 7:

Please enter the number of units and total cost of tuxedos purchased for each of the years listed below. The number of units is equal to the number of
jackets even if you purchase more than one pair of pants for each jacket. (Number of units should be entered in units, so that 10 units would be entered as
10. Dollar amounts should be entered in dollars, so that $700.00 would be entered as 700.) Use the "total" columns only if you do not have separate
information for "basic black" and "all other" tuxedos.
Basic Black
Number ol Units

Year ol
Purchase

All Other
Total Cost ol Units
(dollars)

(units)

Number ol Units
(units)

Total
Total Cost ol Units
(dollars)

Number ol Units
(units)

Total Cost ol Unit6
(dollars)

1981
1982
1983
1984
1985
1986
1987
Question 8:

Please enter the number of units and total cost of tuxedos in inventory at the end of the years listed below. Number of units is equal ot the number of
jackets even if you purchase more than one pair of pants for each jacket. (Number of units should be entered in units, so that 10 units would be entered as
10. Dollar amounts should be entered in dollars, so that $700.00 would be entered as 700.) Use the "total" columns only if you do not have separate
information for "basic black" and "all other" tuxedos.
Basic Black

Year ol
Inventory

Number ol Units
(units)

All Other
Total Cost ol Units
(dollars)

Number ol Units
(units)

Total
Total Cost ol Units
(dollars)

Number ol Units
(units)

Total Cost ol Units
(dollars)

1981
1982
1983
1984
1985
1986
1987

Control No.:

Depreciation Analysis Division

Rental Clothing Survey

Section IV: Additional Information
Question 9:

If you prepare financial statements for
those statements?

stockholders, creditors, etc., what is the life and method you use to depreciate rental clothing for

Life (in months)
Method:
Double Declining;Balance.

S u m of Years Digits.

1 5 0 % Declining Balance...

Straight Line

Unit of Production

[ 1

Other

[ 1
[ 1

If other, specify.

Question 10:

If your rental clothes have been financed, what is the average loan period?
Loan Period (in months)

Question 11:

If you lease your rental clothes, what is the average term of your lease?
Lease Term (in months)

Control No.

Page 6 ol 6
Oopfor.itilion Analysis Division

Rental Clothing Survey

Question 6:

Starting with those styles purchased in 1981 (or for the earliest year after 1980 for which you have such information) and continuing until you have listed no more th
distinct styles, enter the style of tuxedo acquired, the season and year the style was purchased (that is, the season and year the style was delivered), the number of units
purchased, and the number of rentals ("turns") in each year of the style's life. The number of units is equal to the number of jackets even if you purchase more than one pair
of pants for each jacket. Exclude styles purchased in 1986, 1987, and 1988. Make one entry for all "basic black" tuxedos purchased at a single date, regardless of slight
differences in style. If you have purchased the same style at two different dates, report the entries separately only if you have information on the number of turns for each
purchase. Treat the time between the purchase of the style and the end of the fiscal year as the first year of a style's life (even if the delivery took place late in the fiscal year).
Every succeeding year should coincide with your fiscal year.
Example:
Your fiscal year ends on January 31. In Spring, 1981 you purchased 100 Bill Blass Pearl Gray tuxedos, 80 After Six Gray Baron tuxedos, and 30 Basic Black tuxedos. In
1981 you purchased an additional 40 Basic Black tuxedos. Your records indicate the following history of rentals:
The 100 Bill Blass Pearl Gray tuxedos purchased in the Spring of 1981:
Turned
400 times between the Spring of 1981 and January 31, 1982.
Turned
200 times between February 1, 1982 and January 31, 1983.
Turned
100 times between February 1, 1983 and January 31, 1984.
Turned
50
Turned
5 times between February 1,1984 and January 31,1985.
times between February 1, 1985 and January 31, 1986.
The 80 After Six Gray Baron tuxedos purchased in the Spring of 1981:
Turned
320 times between the Spring of 1981 and January 31, 1982.
Turned
80 times between February 1, 1982 and January 31, 1983.
Turned
20 times between February 1, 1983 and January 31, 1984.
Turned
5 times between February 1, 1984 and January 31, 1985.
The 30 Basic Black tuxedos purchased in the Spring of 1981:
Turned
150 times between the Spring of 1981 and January 31,1982.
Turned
110 times between February 1, 1982 and January 31, 1983.
~
'
Turned
90 times between February 1, 1983 and January 31, 1984.
Turned
80
Turned
70 times between February 1, 1984 and January 31, 1985.
Turned
50 times between February 1, 1985 and January 31, 1986.
times between February 1, 1986 and January 31, 1987.
lasic
:hased in
theBlack
Fall tuxedos
of 1981:pu
Turned
77 times between the Fall of 1981 and January 31, 1982.
Turned
208 times between February 1, 1982 and January 31, 1983.
Turned
165
Turned
154 times between February 1, 1983 and January 31, 1984.
Turned
123 times between February 1, 1984 and January 31, 1985.
Turned
46 times between February 1, 1985 and January 31, 1986.
times between February 1, 1986 and January 31, 1987.
You would enter this information as shown on tho sample form on the following page. Additional information for other purchases would be entered in the same way until
more than 6 entries were made.

Depreciation Afi.ily.ii Div.'.ion

!''»<}«> 1 ol I Xiunplo

n e n | a | CMUing

Sufy/Qy

Sample Question 6 With Responses For The Example Shown On The Previous Page
Question 6:

Starting with those styles purchased in 1981 (or for the earliest year after 1980 for which you have such information) and continuing until
you have listed no more than 6 distinct styles, enter the style of tuxedo acquired, the season and year the style w a s purchased (that is, the
season and year the style w a s delivered), the number of units purchased, and the number of rentals ("turns") in each year of the styles
life. The number of units is equal to the number of jackets even if you purchase more than one pair of pants for each jacket. Exclude
styles purchased in 1986, 1987. and 1988. M a k e one entry for all "basic black" tuxedos purchased at a single date, regardless of slight
differences in style. If you have purchased the s a m e style at two different dates, report the purchases seprately only if you have information on the number of turns for each purchase. Treat the time between the purchase of a style and the end of the fiscal year as the first
year of the style's life (even if the delivery took place late in your fiscal year). Every succeeding year should coincide with your fiscal year.

Number of Turns

Style of Tuxedo

Season
and
Year of
Purchase

Number
of Units

1st
Year

2nd
Year

3rd
Year

4th
Year

5th
Year
5

6th
Year

1. Bill Blass Pearl Gray

Spring '81

100

400

200

100

2. After Six Gray Baron

Spring '81

320

3. Basic Black

Spring '81

150

110

4. Basic Black

Fall '81

208

165

154

123

7th
Year

5.
6.

Depreciation Analysis Division

Pago 2 ol Example

Menlul Clothing Survey

DEPARTMENT OF THE TREASURY
WASHINGTON

October 19,1988
Dear Sir or Madam:
This notice is to inform you that the Treasury Department's
Office of Tax Analysis has not yet received your response to the
survey of depreciation of rental clothing that was sent to you
last month. It is important that you respond to this survey in
order that estimates of the depreciation of rental clothing be as
accurate as possible. The International Formal Wear Association
has endorsed this survey, and encourages your response.
Enclosed is another copy of the survey material, including a
cover letter which provides additional information regarding this
survey. Please return the completed form before November 21,
1988. If you have any questions regarding the survey, please
call the individuals listed in the cover letter.
If your survey form was mailed within the past several days,
we thank you, and ask that you disregard this notice.
Sincerely,
r.

Lowell Dworin
Director for Depreciation Analysis
Office of Tax Analysis
Enclosures

- 45 -

Appendix C. Technical Issues in the Application of the Productivity Method
In this appendix, an algebraic framework for estimating the equivalent economic life for
tuxedos from productivity data is developed, and several technical issues are discussed. T h e
technical issues discussed include: the choice of weighting factors to be used to obtain a single
average life measure from the information obtained for each individual style of tuxedo; the utilization
of the information collected on the period within the first year during which each style of tuxedo
is available for service; the actual timing of the depreciation tax benefits; and the implications of
using the Alternative Depreciation System, with its required half-year convention, as the standard
against which the equivalent economic life is measured.

Section 1. Weighting the Results for the Different Styles
A s noted in Table 7, w h e n the initial value-in-use per tuxedo for each style of tuxedo for which
turns data have been obtained is examined, it is found that these individual values differ. Under
the standard assumption of investment analysis, the expected value-in-use per tuxedo should equal
the cost per tuxedo. If the calculated value-in-use differs from the true value-in-use by the same
factor for each style, the coefficient of variation of the calculated values-in-use per tuxedo would
be comparable to the coefficient of variation observed for the cost of tuxedos. These coefficients
of variation are noted in Table 7, and it is seen that the two values are not comparable.14 The
disparity between the coefficient of variation for the cost per tuxedo (about 1 3 % ) and that for the
initial value-in-use per tuxedo (about 6 2 % ) m a y be explained in several ways.
First, the measured value-in-use per tuxedo for a given style m a y be in error. In particular,
although the profitability of any style m a y be direcdy related to the number of times that style
"turns", not all firms m a y charge the same rental fee, or incur the same operating costs, or benefit
from the same level of imputed managerial services. If the constant of proportionality linking the
net income generated by a style to the number of times it is rented is not likely to be the same for
each style, and cannot be adequately measured, it is useful to reduce the importance of these factors
by normalirmg the calculated value-in-use per tuxedo for each style. M o r e specifically, by dividing
the calculated value-in-use per tuxedo at each age by its initial value, a pattern of economic decline
which is independent of the proportionality factors m a y be obtained. Since the normalized
values-in-use per tuxedo no longer reflect the relative importance of the various styles to the industry,
it is appropriate to weight the present value of the decline in the normalized value-in-use for each
style by the cost of the tuxedos acquired (i.e., the product of the cost per tuxedo for the style and
the number of tuxedos in the style).

The cost of tuxedos was obtained from the manufacturers of tuxedos, rather than from the survey
respondents, and converted to constant dollars.
-46-

Table 7. Sample Statistics for Value-In-Use Per Tuxedo and Cost Per Tuxedo, for the
Total, Initial, and Additional Samples and for Fashion and Basic Black Styles

Mean

Value-In-Use Per Tuxedo
(Measured by Turns/Tuxedos)

Variance

Coefficient
of
Variation
(Percent)

Total Sample of 199 Styles (from 307 firms)

141

Initial Sample of 157 Styles (from 240 firms)

156

Additional Sample of 42 Styles (from 67 firms)

Basic Black Tuxedos (25 styles)

159

Fashion Tuxedos (174 styles)

125

Mean

Variance

Coefficient
of
Variation

Cost Per Tuxedo
(In Dollars)

(Percent)
Total Sample of 199 Styles (from 307 firms)

113

211

Initial Sample of 157 Styles (from 240 firms)

113

207

Additional Sample of 42 Styles (from 67 firms)

109

216

Basic Black Tuxedos (25 styles)

118

344

Fashion Tuxedos (174 styles)

112

188

-47-

Second, the measured value-in-use m a y differ from the true value by a constant which is the
same for all styles, but the variance in value-in-use per tuxedo m a y be attributable to random
differences in d e m a n d for the individual styles. That is, although the anticipated demand for tuxedos
m a y be nearly the same for all styles (as reflected in the relatively low coefficient of variance for
the cost of tuxedos), the actual demand for tuxedos of different styles m a y be quite different. S o m e
styles m a y prove to be "winners", while others m a y be "losers", but the winning styles m a y not be
easily distinguished from the losers at the time the orders are placed. If this feature is the source
of the disparity, the observed disparities in value-in-use per tuxedo convey useful information. If,
it is assumed that the turns data contain a representative sample of "winners" and "losers", and that
this distribution of winners and losers is stable over time, the average decline in economic value
m a y in this case m o r e properly be obtained by simply averaging these realized values. B y not
normalizing the values-in-use per tuxedo, but by simply aggregating the turns data (as in chapter
4), the individual styles are effectively weighted by their initial value-in-use.
From the coefficients of variation shown in Table 7, it is seen that the dispersion in initial
value-in-use per tuxedo is somewhat less for basic black tuxedos (where the distinction between
"winners" and "losers" m a y be expected to be m u c h less pronounced) than for fashion tuxedos.
However, it is still m u c h greater than the dispersion in the cost per tuxedo. This suggests that both
sources of dispersion are present. Both weighting methods have thus been used, leading to the
results shown in Table 6 (these results will be discussed more fully in the following section). A s
shown in Table 6, the fully adjusted equivalent economic lives are not very different: 1.9 years
when the average decline in economic value is based on the decline in the normalized value-in-use
per tuxedo weighted by the cost of the tuxedos, and 2.1 years w h e n the average decline in economic
value is based on the decline in value-in-use per tuxedo weighted by the initial value-in-use.

Section 2. The Algebra of the Class Life Estimate Using Turns Data Based on
Delivery Dates
The ? irting point for estimating the class life for tuxedos by the productivity method is the
turns data provided by the respondents to the survey questionnaire. In the analysis of Chapter 4, it
was assumed that all tuxedos are equivalent, are placed in service at the beginning of the year, and
all cash flows and depreciation deductions are recognized at the end of the year. In this section,
the analysis will be revised to take account of the actual timing of these events and, as discussed in
the previous section, to more properly combine the results for the individual styles into a single
measure of the class life of tuxedos. T h e turns data for the first year of the style's life reflects the
availability for rental for the period from the date of delivery of the style to the end of the firm's
fiscal year. (The distribution of fiscal year ends are noted in Chapter 3.) T h e Depreciation Analysis
Division was informed by industry representatives that most deliveries of fashion tuxedos are m a d e
in the spring in time for the wedding and p r o m season, while deliveries of basic black tuxedos m a y

-48-

be m a d e at any time of the year. It was anticipated that turns for the first year of the style's life
might reflect the differing period of their availability during the first year, and therefore the survey
respondents were asked to indicate the season of purchase for each style of tuxedo for which turns
data was provided. T o adjust for the fact that each style of tuxedo m a y be placed in service earlier
or later in the acquiring firm's fiscal year, it is assumed that the first year's cash flow generated by
the rental of the tuxedos is received in the middle of theperiod between the date of delivery and the
end of the firm's fiscal year, whereas all future years' cash flows are assumed received in the middle
of the fiscal year.15 Likewise, the initial value-in-use is calculated with respect to the date the style
is delivered, while the values-in-use for all subsequent years are calculated with respect to the
beginning of the year. Therefore, in calculating the present value of the decline in the value-in-use
(i.e., the present value of economic depreciation), the initial decline in value-in-use covers the period
between the date of delivery and the end of the fiscal year, whereas all subsequent year's differences
are for a full fiscal year. Algebraically, the discounted present value of the future cash flow taken
to be directly proportional to the number of remaining turns for each style:

(D r-i N:(a + 1)
fl=

'(l+r)

;

where Nj(a+1) is the number of turns reported for style j in year a+1, T is the last year for which
any turns are reported for this style, r is the discount rate, Lj(t) equals the period between the date
of delivery and the end of the fiscal year for style j (expressed in fractions of a year) for t=0 and
equals -(t-1) otherwise, G(a) = 1/2 for a = 0 and equals 1 otherwise, and M ( a ) = 0 for a = 0 and
equals 1/2 otherwise.
The present value is calculated using an interest rate of four percent, which represents an
estimate of the real rate of interest facing the formal wear rental industry. A real, rather than nominal,
rate of interest is used because the turns data represent physical quantities of output which are not
affected by overall changes in prices. Although in principle the real rate of interest used in equation
(1) can have an impact on the calculated equivalent economic life, because most of the service
provided by tuxedos occurs in the first few years, the choice of a real interest rate has very little
impact.16
It is initially assumed that the disparities in the measured value-in-use per tuxedo are due to
measurement error (i.e., the presence of different, and inadequately measured, constants of proportionality for each style). T h e calculated value-in-use per tuxedo for each style is thus normalized
such that the initial value-in-use per tuxedo equals unity:

The specific delivery date is assumed to be the middle of the quarter (season) in which delivery
is made.
Changing the discount rate from 4 percent to 8 percent reduces the resulting class life by 0.1 years.
-49-

(2)

PV(t),
NPV.(t) =

where NPVj(t) is the normalized present value in year t of the assets life. Economic depreciation
for style j in year t, Dj(t), is calculated as the difference between consecutive normalized present
values:

(3) Dj(t + l) = NPVj(t)-NPVj(t+l) ,
where it should be noted that Dj(l) generally represents only a partial year's depreciation.
The depreciation flow is then discounted (also at a 4 percent real rate) to obtain P V D j , the
present value of economic depreciation for style j:
(4) r-i DXa + \)
„-n/i

a=0

v(*+£;(0)G(tf)-Af(<i))

(l+r)

;

The real interest rate r chosen to discount the calculated economic depreciation has even less
impact on the resulting class life than does the rate used in equation (l), since the same real rate of
interest is used (in equations (7) and (8)) to determine the present value of the straight-line depreciation from which the class life m a y be inferred. For any reasonable real rate of interest, the actual
rate used has very litde impact on the calculated class life.
The present values of depreciation for each style of tuxedo are then averaged to obtain a present
value of economic depreciation for the entire sample using as weights CSj, the cost of tuxedos of
style j (which in turn is equal to the product of the number of tuxedos of style j and the cost per
tuxedo for style j):

(5) N PVD:

AVGPVD = I CS—-£
/Ti ; CTOT

where
(6)

CTOT = I CSi .
Section 3. Translating Economic Depreciation Into Equivalent Economic
Lives
The General Explanation provides a formula for translating economic depreciation as obtained
from resale data into a class life. In general, the translation consists of determining that period L
such that the discounted present value of economic depreciation (per dollar of investment) equals

-50-

the discounted present value of straight-line depreciation over period L. This period is the specified
class life (which, in order to indicate that it is only one of the measures of depreciation which w e
have examined, is referred to in this report as the equivalent economic life).
While it m a y be assumed that Congress intended this formula to be used to translate economic
depreciation into equivalent economic lives even w h e n economic depreciation is inferred, as in the
productivity method, rather than obtained from direct examination of the decline in resale prices,
the application of this formula requires more detailed specification. Treasury believes that it was
the intent of Congress in proposing this formula that a taxpayer using the Alternative Depreciation
System ( A D S ) , which requires the use of a straight-line method of depreciation, obtain the same
present value of depreciation allowances that he would obtain if economic depreciation were allowed
for tax purposes. The present value of economic depreciation (discounted to the date the asset is
placed in service) is thus to be equated to the discounted present value (discounted to the same date)
of straight line depreciation over the class life, using the required A D S half-year convention, and
taking note of the actual realization of benefits resulting from depreciation deductions. For a
calendar-year taxpayer w h o anticipates the acquisition of the tuxedos, and earns sufficient income
from operations during the year to take full advantage of the depreciation deductions, the benefits
of these deductions are realized by the taxpayer on average (through their effect on estimated tax
payments) on August 9 of each year.
Thus, the initial year's straight-line allowance will be taken to be one-half of a full year's
allowance and will be discounted for the portion of the year between the date of delivery and August
9. This implies the following equation for the class life L:
(7)

i_(i/(i+r)y-1)

o.5+X

AVGPVD
ifX<l/2,and
(8)

i_(i/(i+r)y)

X-0.5

AVGPVD
if X>l/2, where Y is the integer part of the equivalent economic life and X is the decimal part
(L=Y+X). The resulting class life (1.9 years) is noted in Table 6. Also noted in Table 6 is the
equivalent economic life calculated from equations (7) or (8), without the adjustments for delivery
date and realization of tax benefits. T h e fact that this equivalent economic life is approximately
one-half year shorter than the equivalent economic life obtained in Chapter 4 m a y be attributed to
the use of the half-year convention required under the Alternative Depreciation System.

-51 -

The cost of each style was used in the above calculation on the premise that the calculated
differences in value-in-use per tuxedo reflect measurement error. If it is instead assumed that
measurement error is not present, so that the observed differences represent useful information on
the ex-post demand factors for each style of tuxedo, the average present value of economic
depreciation should be obtained from the decline in the aggregate value-in-use per tuxedo for all
styles. Substituting this average present value ( A V G P V D ) into equation (8) yields an equivalent
economic life (as noted in Table 6) of 3.3 years without the adjustments for the half-year convention
and delivery date, and 2.1 years with those adjustments.

-52-

Bibliography
Ackerman, SusanRose. "Used Cars as a Depreciating Asset." Western Journal 11 (December 1973),
pp. 463-474.
Biedleman, Carl R. "Economic Depreciation in a Capital Goods Industry." National Tax Journal
29 (December 1976), pp. 379-390.
Hotelling, Harold S. "A General Mathematical Theory of Depreciation." Journal of the American
Statistical Society 20 (September 1925), pp. 340-353.
Hulten, Charles R. and Wyckoff, Frank C. "The Estimate of Economic Depreciation Using Vintage
Asset Prices: an Application of the Box-Cox Power Transformation." Journal of Econometrics 15
(April 1981), pp. 367-396.
Ohata, Makato and Griliches, Zvi. "Automobile Prices Revisited: Extensions of the Hedonic Price
Hypothesis." National Bureau of Economic Research, Studies in Income and Wealth 40 (1976), pp.
325-390.
Ramm, Wolfhard. "Measuring the Services of Household Durables: The Case of Automobiles."
Journal of the American Statistical Association 63 (1970) pp. 149-158.
Taubman, Paul and Rasche, Robert. "Economic and Tax Depreciation of Office Buildings." National
Tax Journal 22 (September 1969), pp. 334-346.
Wyckoff, Frank C. "Capital Depreciation in the Postwar Period: Automobiles" Review of Economics
and Statistics 52 (May 1970), pp. 168-172.

-53-

ACKNOWLEDGMENTS
This report was prepared by Gerald Silverstein
David Horowitz helped with the design of the
assisted in the sample design process. Paul Dob
Haftman provided secretarial assistance.

^U.S. GoMTr.ru-Ti: P n r : i r ;

Lowell Dworin of the Office of Tax Analysis.
fey and collection of the data. William Chen
: provided data processing support, and Connie

• > *

federal financing
bank
i-J U U 6 U

7~ A

(

1
]

\
v_
\
//

\ /

VV Lr ^J— '

WASHINGTON, D.C. 20220

113^. .'. 30CH o;.10
August 21, 19 39

FOR IMMEDIATE RELEASE

*, r 71 °. u '^ ^

FEDERAL FINANCING BANK ACTIVITY

Charles D. Haworth, Secretary, Federal Financing
Bank (FFB), announced the following activity for the month
of July 1989.
FFB holdings of obligations issued, sold or guaranteed
by other Federal agencies totaled $138.8 billion on
July 31, 1989, posting a decrease of $753.4 million from the
level on June 30, 1989. This net change was the result of
an increase in holdings of agency debt of $25.9 million,
and decreases in holdings of agency assets of $685.9 million
and in agency-guaranteed debt of $93.5 million. FFB made
34 disbursements during July.
Attached to this release are tables presenting FFB
July loan activity and FFB holdings as of July 31, 1989.

NB-427

o
CM

CO
CD
• *

CC
CD
ID
CO

C\J
X
CD
in

CO
CD

LL
li.

Page 2 of 4

FEDERAL FINANCING BANK
JULY 1989 ACTIVITY

DATE

BORROWER

AMOUNT
OF ADVANCE

FINAL
MATURITY

INTEREST
RATE
(semiannual)

1,000,000.00
2,300,000.00
18,060,000.00

10/3/89
10/3/89
10/10/89

8.351%
8.351%
8.121%

INTEREST
RATE
(other than
semi-annual)

AGENCY DEBT
NATIONAL CREDIT UNION ADMINISTRATION
Central Liquidity Facility
+Note #496
+Note #497
-ffldte #498

7/5
7/5
7/11

TENNESSEE VALLEY AUTHORITY
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance
Advance

#1050
#1051
#1052
#1053
#1054
#1055
#1056
#1057
#1058
#1059
#1060
#1061
#1062
#1063

7/5
7/7
7/10
7/12
7/17
7/17
7/17
7/19
7/24
7/26
7/26
7/28
7/31
7/31

282,000,000.00
318,000,000.00
292,000,000.00
309,000,000.00
7,000,000.00
24,000,000.00
226,000,000.00
301,000,000.00
179,000,000.00
58,000,000.00
226,000,000.00
16,000,000.00
100,000,000.00
237,000,000.00

7/10/89
7/12/89
7/17/89
7/19/89
7/20/89
7/21/89
7/24/89
7/26/89
7/31/89
8/1/89
8/4/89
8/4/89
8/4/89
8/7/89

8.361%
8.159%
8.112%
8.150%
8.227%
8.227%
8.227%
8.308%
8.523%
8.435%
8.435%
8.296%
8.248%
8.248%

7/19
7/19
7/20
7/27
7/27
7/31

5,905,692.81
158,213.49
443.20
2,193,472.56
324,673.97
1,425,565.71

2/25/14
5/31/95
9/12/90
9/3/13
5/31/95
2/25/14

8.291%
8.124%
8.055%
8.224%
7.967%
8.105%

4,223,077.00

7/3/95

8.178%

GOVERNMENT - GUARANTEED LOANS
DEPARTMENT OF DEFENSE
Foreign Military Sales
Greece 17
Morocco 13
Philippines 11
Greece 16
Morocco 13
Greece 17

DEPARTMENT OF HOUSING & URBAN DEVFTOTMEMT
Ccnrcnunitv Development
•Niagara Falls, NY 7/3

+rollover
•maturity extension

8.345% ann.

Page 3 of 4
FEDERAL FINANCING BANK
JULY 1989 ACTIVITY

SORROWER

DATE

AMOUNT
OF ADVANCE

FINAL
MATURITY

INTEREST
RATE
(semiannual)

INTEREST
RATE
(other than
semi-annual)

10,571,000.00
3,300,000.00
3,017,000.00
5,868,000.00
130,295.00
8,665,000.00
4,975,000.00
1,022,000.00
2,009,000.00

1/2/18
12/31/20
9/30/91
12/31/15
12/31/15
1/2/18
1/2/18
1/2/24
1/2/18

8.191%
8.200%
8.108%
8.209%
8.125%
8.139%
8.189%
8.217%
8.218%

8.109%
8.118%
8.027%
8.126%
8.044%
8.058%
8.107%
8.134%
8.135%

PTTP&T. rrrcTRTFTCAnCN ADMINISTRAnCN
•Wabash Valley Power #206
Arizona Electric #242
Oglethorpe Power #320
Alabama Electric #287
*Colorado-Ute Electric #168A
•Wabash Valley Power #206
Central Iowa Power #295
Oglethorpe Power #246
Corn Belt Power Coop. #292

7/3

7/6
7/7
7/13
7/13
7/17
7/21
7/24

TENNESSEE vaTjF^ ^Trrrm-rry
Seven States Energy Corporation
Note A-89-10 7/31 658,992,783.91 10/31/89 8.282%
•maturity extension

qtr
qtr
qtr
qtr
qtr
qtr
qtr
qtr
qtr

Page 4 of 4
FEDERAL FINANCING BANK HOLDINGS
(in millions)
Program
July 31. 1989
Agency Debt:
Export-Import Bank
S 11,007.6
NCUA-Central Liquidity Facility
\IZ'Z
Tennessee Valley Authority
17,362.0
U.S. Postal Service
6,195.0
sub-total* 34,682.6
Agency Assets: , ,-.«,,«
Farmers Home Administration
54,911.0
DHHS-Health Maintenance Org.
74.7
DHHS-Medical Facilities
88.1
Overseas Private Investment Corp.
-0Rural Electrification Admin.-CB0
4,076.0
Small Business Administration
12.2
sub-total* 59,162.0
Government-Guaranteed Lending:
DOD-Foreign Military Sales
11,472.4
DEd.-Student Loan Marketing Assn.
4,910.0
DOE-Geothermal Loan Guarantees
-0306 3
DHUD-Community Dev. Block Grant
A
DHUD-Hew Communities
-0DHUD-Public Housing Notes +
1,995.3
General Services Administration +
378.1
DOI-Guara Power Authority
31.5
DOI-Virgin Islands
„Hl*2
NASA-Space Communications Co. +
995.2
DOH-Ship Lease Financing
,
,i'Ii9*f
Rural Electrification Administration
19,256.6
SBA-Sraall Business Investment Cos.
ij7,!'!?
SBA-State/Local Development Cos.
830.9
TVA-Seven States Energy Corp.
2,258.0
DOT-Section 511
Ann
DOT-WMATA
ZiZiZ.
sub-total* AlLlULl
grand total* $ 138,814.3
•figures may not total due to rounding
+does not include capitalized interest

June 30. 1989
$

11,007.6
114.0
17,340.0
6,195.0

Net Ch anqe
7/1/'89 -7731/89
0.0
3.9
22.0
-0-

FY '8Sl lieit Chanqe
16/1/88-7/31/89

50.0
-0.2
231.0
602.8

34,656.6

25.9

883.6

55,586.0
79.5
93.8
-04,076.0
12.4

-675.0
-4.8
-5.8
-0-0-0.3

-3,,585.0
-4.8
-8.3
-0-63.2
-3.2

59,847.8

-685.9

-3 ,664.5

11,552.3
4,910.0
-0308.9
-01,995.3
381.1
31.5
25.9
995.2
1,720.5
19,236.4
582.2
833.7
2,278.7
37.5
177.0

-79.9
-0-0-2.6
-0-0-0-0-0-0-020.2
-7.7
-2.8
-20.7
-0-0-

-4 ,539.3
-0-50.0
-11.8
-0-41.7
-9.4
-0.6
-0.6
96.4
-38.3
51.3
-58.2
-40.0
95.6
-8.7
-0-

-93.5

-4 ,555.3

-753.4

$" -7 ,336.2

45,063.3
$ 139,567.7

TREASURY-NEWS _
Y P^OM 5^10
CONTACT:Office
of Financing
apartment of tho Treasury in
• Washington,
D.C. • Tolophono
56S-2041
f
9
"

FOR IMMEDIATE RELEASE

August 21, 1989

n„

ft-.

202/ 376-4350

r, 1$

«0

RESULTS OF TREASURY'S WEEKLY BILL AUCTIONS
Tenders for $7,202 million of 13-week bills and for $7,209 million
of 26-week bills, both to be issued on August 24, 1989,
were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

Low
High
Average

13-week bills
maturing November 24, 1989
Discount Investment
Rate
Rate 1/
Price

26-week bills
maturing February 22, 1990
Discount Investment
Rate
Rate 1/
Price

7.93%a/
8.00%
7.99%

7.83%
7.86%
7.85%

8.21%
8.28%
8.27%

97.973
97.956
97.958

8.26%
8.30%
8.29%

96.042
96.026
96.031

a/ Excepting 1 tender of $1,650,000.
Tenders at the high discount rate for the 13•week bills were allotted 98%,
Tenders at the high discount rate for the 26- •week bills were allotted 86%.

Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Tvjpe
Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS
U

TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Accepted
:
Received
$
32,265
18,688,020
20,555
34,110
45,335
31,230
1,259,710
19,345
6,350
37,440
34,815
972,445
512,075

$
32,265
5,989,520
20,555
34,110
45,335
31,230
232,710
19,345
6,250
37,440
24,815
216,445
512,075

: $
30,605
: 21,171,710
:
17,025
:
32,425
:
46,695
:
33,790
1,009,625
20,955
8,345
38,140
25,230
984,010
:
601,830

$
30,605
5,978,885
16,745
32,425
46,695
33,090
172,625
20,955
8,345
38,095
15,230
213,410
601,830

$21,693,695

$7,202,095

: $24,020,385

$7,208,935

$18,381,020
1,161,290
$19,542,310

$3,889,420
1,161,290
$5,050,710

: $19,827,045
1,151,040
:
: $20,978,085

$3,015,595
1,151,040
$4,166,635

2,100,985

2,075,000

50,400

967,300

$21,693,695

$7,202,095

: $24,020,385

$7,208,935

Equivalent coupon-issue yield

NB-428

Accepted

TREASURYNEWS
Department of tho Treasury • i.
Washington,
o.c. • Telephone 566-2041
=.O0M 5310
FOR IMMEDIATE RELEASE
August 22, 1989

CONTACT: Office of Financing
1 -,, «jj <PQ
202/376-4350

RESULTS OF AUCTION OF 2-YEAR NOTES
The Department of the Treasury has accepted $9,501 million
of $24,016 million of tenders received from the public for the
2-year notes, Series AD-1991, auctioned today. The notes will be
issued August 31, 1989, and mature August 31, 1991.
The interest rate on the notes will be 8-1/4%. The range
of accepted competitive bids, and the corresponding prices at the
8-1/4% rate are as follows:
Yield
Price

Low
High
Average

8 35%
8. 38%
8. 37%

99 819
99 765
99 783

Tenders at the high yield were allotted 46%.
TENDERS RECEIVED AND ACCEPTED (In Thousands)
Location

Received

Accepted

Boston
37 250
37 250
New York
110 400
20,993 600
Philadelphia
30 815
30 815
Cleveland
77 720
77 720
Richmond
70 970
79 610
Atlanta
35 915
38 615
Chicago
406 510
1,501 410
St. Louis
62 930
78 930
Minneapolis
38 150
38 420
Kansas City
88 570
88 570
Dallas
18 455
28 455
San Francisco
298 325
797 030
Treasury
225 225
225 225
$24,015,650
$9,501
235
Totals
The $9,501
million of accepted tenders includes $1 033
million of noncompetitive tenders and $8,46 8
million of competitive tenders from the public.
In addition to the $9,501 million of tenders accepted in the
auction process, $650 million of tenders was awarded at the average
price to Federal Reserve Banks as agents for foreign and international monetary authorities. An additional $892 million of
tenders was also accepted at the average price from Federal Reserve
Banks for their own account in exchange for maturing securities.
NB-429

TREASURYNEWS

itpartment of tho Treasury • Washington, D.c. • Telephone 566..u'riCONTACT: Office of Financing
'••yM J
202/376-4350
FOR RELEASE AT 4:00 P.M.
August 22, 1989
"1
TREASURY'S" WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$14,400 million, to be issued August 31, 1989.
This offering
will provide about $ 500
million of new cash for the Treasury, as
the maturing bills are outstanding in the amount of $13,904 million.
Tenders will be received at Federal Reserve Banks and Branches and at
the Bureau of the Public Debt, Washington, D. C. 20239, prior to 1:00
p.m., Eastern Daylight Saving time, Monday, August 28, 1989.
The two series offered are as follows:
91-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated
June 1, 1989,
and to mature November 30, 1989 (CUSIP No.
912794 TF 1), currently outstanding in the amount of $6,421 million,
the additional and original bills to be freely interchangeable.
182-day bills for approximately $7,200 million, to be dated
August 31, 1989,
and to mature March 1, 1990
(CUSIP No.
912794 TT 1 ) .
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing August 31, 1989.
In addition to the maturing
13-week and 26-week bills, there are $ 9,211
million of maturing
52-week bills. The disposition of this latter amount was announced
last week. Tenders from Federal Reserve Banks for their own account
and as agents for foreign and international monetary authorities will
be accepted at the weighted average bank discount rates of accepted
competitive tenders. Additional amounts of the bills may be issued
to Federal Reserve Banks, as agents for foreign and international
monetary authorities, to the extent that the aggregate amount of
tenders for such accounts exceeds the aggregate amount of maturing
bills held by them. For purposes of determining such additional
amounts, foreign and international monetary authorities are considered to hold $3,364 million of the original 13-week and 26-week
issues. Federal Reserve Banks currently hold $3,64 4 million as
agents for foreign and international monetary authorities, and $6,660
million for their own account. These amounts represent the combined
holdings of such accounts for the three issues of maturing bills.
NB-430
Tenders for bills to be maintained on the book-entry records of the
Department
(for 13-week
of series)
the Treasury
or Form
should
PD 5176-2
be submitted
(for 26-week
on Form
series).
PD 5176-1

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This information should reflect positions held as of one-half hour
prior to the closing time for receipt of tenders on the day of the
auction. Such positions would include bills acquired through "when
issued" trading, and futures and forward transactions as well as
holdings of outstanding bills with the same maturity date as the
new offering, e.g., bills with three months to maturity previously
offered as six-month bills. Dealers, who make primary markets in
Government securities and report daily to the Federal Reserve Bank
of New York their positions in and borrowings on such securities,
when submitting tenders for customers, must submit a separate tender
for each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an agreement,
nor make an agreement to purchase or sell or otherwise dispose of
any noncompetitive awards of this issue being auctioned prior to
the designated closing time for receipt of tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained on
the book-entry records of the Department of the Treasury. A cash
adjustment will be made on all accepted tenders for the difference
between the par payment submitted and the actual issue price as
determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches. A deposit of
2 percent of the par amount of the bills applied for must accompany
10/87
tenders for such bills from others, unless an express guaranty of
payment by an incorporated bank or trust company accompanies the
tenders.

TREASURY NEWS

•portment of tho Treasury • Washington, D.c. • Telephone 566FOR IMMEDIATE RELEASE '.'r0QM 5330 CONTACT: Office of Financing
August 23, 1989
""
202/376-4350

RESULTS OF AUCTION OF 5-YEAR 2-MONTH NOTES
The Department of the Treasury has accepted $7,800 million
of $26,150 million of tenders received from the public for the
5-year 2-month notes, Series L-1994, auctioned today. The notes
will be issued September 1, 1989, and mature November 15, 1994.
The interest rate on the notes will be 8-1/4%. The range
of accepted competitive bids, and the corresponding prices at the
8-1/4% rate are as follows:
Yield Price
8..24%
Low
99,.976
High
8,.26%
99,.893
Average
8..26%
99..893
Tenders at the high yield were allotted 60%.
TENDERS RECEIVED AND ACCEPTED (In Thousands)
Location
Received
AcceDted
Boston
$
16,739
$
16,739
New York
24,112,377
7,462,777
Philadelphia
6,776
6,776
Cleveland
20,797
20,797
Richmond
168,983
46,983
Atlanta
9,713
9,713
Chicago
897,435
150,435
St. Louis
37,257
20,257
Minneapolis
23,192
8,192
Kansas City
18,841
18,841
Dallas
12,220
8,020
San Francisco
824,292
29,292
Treasury
945
945
Totals
$26,149,567
$7,799,767
The $7,800
million of accepted tenders includes $341
million of noncompetitive tenders and $7,459 million of competitive tenders from the public.
In addition to the $7,800 million of tenders accepted in
the auction process, $450 million of tenders was awarded at the
average price to Federal Reserve Banks as agents for foreign and
international monetary authorities.

NB-431

THE SECRETARY OF THE TREASURY
WASHINGTON

August 23, 1989
GUEST COLUMN BY
NICHOLAS F. BRADY
One of the best ways to preserve America's economic
leadership and our standard of living is to create incentives for
investment in the long-term productive capacity of American
industry and increase the national rate of savings.
If we can do that, we'll lower the cost of capital in the
U.S. and make ourselves more successful in the increasingly
competitive international marketplace. That means more jobs and
better living standards for Americans.
Before leaving for the August Congressional recess, members
of both parties were giving serious consideration to President
Bush's call for a lower tax rate for capital gains as a way to
lower the cost of capital, make American firms more competitive
internationally, and create new job opportunities.
Capital gains is a bipartisan issue because of one
fundamental fact: reduced capital gains taxation benefits the
entire nation, and therefore all Americans.
Unfortunately, since the enactment of the Tax Reform Act of
1986, the United States has taxed capital gains at the same rate
as other income — the first time we have done so in more than
half a century. With powerful competitors emerging abroad, this
is not a good time to disadvantage Americans internationally by
saddling them with high capital costs.
Taxes are an essential component of capital costs, and the
cost of capital for new plant and equipment, as well as working
capital, is important to any nation's ability to compete in world
markets. Today, the United States is burdened with a higher
capital gains tax than almost all our industrialized country
competitors.
By lowering our capital gains tax rate, we can see our
capital resources put to more efficient use, increasing our
nation's productivity — the key to our competitive position in
the world economy.
A lower capital gains tax rate also helps small businesses,
which create most of our new jobs. Because new ventures often
have difficulty raising start-up capital, lower rates can create
incentives for the kind of risk-taking that can keep America in
the lead with the emerging technologies of the 21st century. New
ideas and new businesses keep the economy vibrant and growing.

2
Some have expressed the concern that we can't afford a tax
cut in this era of tight budgets. But the capital gains proposal
is fiscally responsible. In fact, the Treasury estimates that a
lower capital gains rate proposed by the President would raise
revenue both now and in the long run, based on estimates of
additional taxes paid because the lower rates encourage the
turnover of investment assets. If the dynamic feedback effects
of a growing economy were to be considered, the capital gains
proposal would show even higher revenue increases.
Others have expressed the concern that the capital gains
proposal is a tax cut for the rich. In fact, 44 percent of the
capital gains are reported by people whose other income is less
than $50,000. More to the point, lowering the cost of capital
will benefit all Americans by making our economy stronger and
more competitive, and creating new and better job opportunities.
The underlying issue in the capital gains debate is the
fundamental problem of how we will preserve and improve our
standard of living. How we will increase the rate of national
saving and investment. How we will encourage Americans to take
the long-term view in their economic thinking. And how we will
improve our international competitiveness.
Jobs and opportunity are the most important results of a
lower tax rate for capital gains. A new factory built, a new
medical cure, better quality products at lower prices — that's
what the President's capital gains proposal is all about. When
the Congress returns in September to consider this issue, we hope
there will be a bipartisan majority for this important investment
in America's future.

TREASURY NEWS
Deportment of tho Treasury • Washington,
566-2041
. ^ . , -'vviv ^ i oo.c. • Telephone
of Financing
CONTACT:0ffice

' "'l"

'-" ^

202/376-4350

FOR IMMEDIATE RELEASE a. r /, Q 11 Ml '?n
August 24, 1989
^'n £ u ^ U M n u U
RESULTS OF TREASURY'S 52-WEEK BILL AUCTION
Tenders for $9,264 million of 52-week bills to be issued
August 31, 1989,
and to mature August 30, 1990,
were accepted
today. The details are as follows:
RANGE OF ACCEPTED COMPETITIVE BIDS:
Discount
Investment Rate
Rate
(Equivalent Coupon-Issue Yield)
Low - 7.67% 8.26% 92.245
High
7.69%
8.28%
Average 7.68%
8.27%
Tenders at the high discount rate were allotted 27%.
TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Location
Received
Boston $ 16,520 $ 16,270
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
Treasury
San Francisco
TOTALS

Accepted

24,878,750
11,290
18,635
23,115
13,410
1,516,140
19,270
10,285
29,515
18,005
212.565
778,340
$27,545,840

8,760,250
11,290
18,625
23,115
13,410
118,890
15,270
10,285
27,515
8,005
212,565
28,340
$9,263,830

$24,130,760
535,080
$24,665,840
2,600,000

$5,848,750
535,080
$6,383,830
2,600,000

280,000
$27,545,840

280,000
$9,263,830

Type
Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS

An additional $10,000 thousand of the bills will be issued
to foreign official institutions for new cash.
NB-432

Price
92.225
92.235

TREASURY.NEWS
Deportment of the Treasury
• Washington,
D.C. • Telephone 566-204
L , L m ,A!
Jn
w
FOR IMMEDIATE RELEASE
August 28, 1989

CONTACT:

LARRY BATDORF
(202) 566-2041

ft'..r, Z9 J li £N '33
NEW INCOME T$X CONVENTION SIGNED WITH THE
FEDERAXV!RfepijBLIC OF GERMANY
The Treasury Department announced today the signing of a
proposed new Income Tax Convention and accompanying Protocol
("the treaty") between the United States and the Federal Republic
of Germany. The proposed treaty was signed in Bonn on August 29,
1989 by Ambassador Vernon Walters, for the United States; and
Dr. Theo Waigel, Minister of Finance, and Dr. Hans-Werner
Lautenschlager, State Secretary of the Foreign Office, for the
Federal Republic of Germany.
The proposed treaty will be
submitted to the Senate for its advice and consent to ratification. Following ratification by both countries, the treaty will
enter into force upon the exchange of instruments of ratification.
In general, it will have effect as of January 1, 1990,
although different effective dates are provided for certain
provisions.
The proposed treaty will replace the treaty
currently in force which was signed in 1954, and was last amended
in 1965.
The proposed treaty will make several significant changes in
the taxation of income flowing between the United States and
Germany. The rate of tax withheld at source on dividends paid by
a subsidiary corporation in one country to its parent in the
other will drop from the 15 percent rate applicable under the
present treaty to 10 percent for dividends paid or credited
between January 1, 1990 and December 31, 1991.
For dividends
paid or credited on or after January 1, 1992, the rate of
withholding tax will become 5 percent. While the general rate of
tax at source on portfolio dividends will remain at 15 percent,
as a result of a special rule applicable to such dividends paid
to U.S. shareholders by German corporations, the effective German
rate will be reduced to 10 percent effective for dividends paid
on or after January 1, 1990. The proposed treaty will retain the
exemption at source in the present treaty for interest and
royalties.
The proposed treaty provides for the imposition of
the U.S. branch profits tax, beginning in 1991, at a rate of 5
percent. Rules are provided in the treaty to limit the treaty's
benefits to "non-treaty shoppers".
Copies of the proposed treaty are available from the
NB-433
Treasury's Office of Public Affairs, Room 2315, Treasury
Department, Washington, D.C. 20220, telephone (202) 566-2041.
o 0 o

TREASURYNEWS
lepartment of the Treasury • Washington, D.C. • Telephone 566-2041
LIBRARY. ROOr-; 5310

AUG 29 3 H A H ' 3 9
FOR IMMEDIATE RELEASE
August 28, 1989

•tPA.'-.T^.v

JM:-.,

--CONTACT: Larry Batdorf
(202)566-2041

United States and Dominican Republic
Sign Agreement to Exchange Tax Information
The Treasury Department announced today that the United
States and the Dominican Republic signed on August 7, 1989, an
agreement to exchange tax information (the "Agreement") that
satisfies the criteria set forth in the Caribbean Basin Economic
Recovery Act of 1983. The Agreement will enter into force when
the Dominican Republic legislature ratifies the Agreement.
Currently, similar agreements to exchange tax information are
in effect with Jamaica, Barbados, Grenada, Dominica, and Bermuda.
In addition, the United States signed agreements to exchange tax
information with St. Lucia (January 30, 1987), Trinidad and
Tobago (January 11, 1989) and Costa Rica (March 15, 1989). The
agreements, however, are not in effect yet and will be effective
when respective governments enact legislation that would bring
the agreements in conformity with the criteria set forth in the
Caribbean Basin Economic Recovery Act of 1983.
Copies of the Agreement are available from the Treasury
Public Affairs Office, Treasury Department, Room 2315,
Washington, D.C. 20220.
oOo

NB-434

TREASURYNEWS
itportment of tho Troasury • Washington, D.C. • Telephone 566-2041
: j r - n , -, v
fc.8 i J i V ' V V t . ••:

CONTACT: Office of Financing
202/376-4350

flic h

I) ; '

FOR IMMEDIATE RELEASE
LSE
OEPARTHCST
August 28, 1989
RESULTS OF TREASURY'S WEEKLY BILL AUCTIONS
Tenders for $7,233 million of 13-week bills and for $7,201 million
of 26-week, bills, both to be issued on August 31, 1989,
were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

Low
High
Average

13-week bills
maturing November 30, 1989
Discount Investment
Price
Rate
Rate 1/

26-week bills
maturing March 1, 1990
Discount Investment
Price
Rate
Rate 1/

7.92%
7.94%
7.94%

7.86%
7.90%
7.88%

8.19%
8.21%
8.21%

97.998
97.993
97.993

8.30%
8.34%
8.32%

96.026
96.006
96.016

Tenders at the high discount rate for the 13-week bills were allotted 58%,
Tenders at the high discount rate for the 26-week bills were allotted 6%,

TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Accepted
Received
$
34,375
19,018,845
18,890
35,430
44,675
32,440
1,748,210
46,675
4,680
40,875
21,475
693,035
536,165

$
34,375
5,973,575
18,890
35.430
44,675
32,440
351,195
25,835
4,680
40,035
21,475
114,035
536,165

$
33,945
18,643,415
23,630
45,505
43,310
34,870
1,308,290
36,705
17,795
49,325
17,205
661,180
546,135

$
33,945
5,964,015
23,630
45,505
43,310
34,870
137,790
30,705
17,795
49,325
17,205
257,180
546,135

$22,275,770

$7,232,805

$21,461,310'

$7,201,410

$18,922,165
1,209,405
$20,131,570

$3,879,200
1,209,405
$5,088,605

$16,089,160
1,130,850
' $17,220,010

$1,829,260
1,130,850
$2,960,110

2,060,400

2,000,000

83,800

2,241,300

$22,275,770

$7,232,805

: $21,461,310

$7,201,410

\J Equivalent coupon-issue yield.
NB-435

Accepted

TREASURY NEWS
5310
Deportment
of the Treasury • Washington,
D.C. • Telephone 566-2041
CONTACT: Office of Financing
FOR RELEASE AT 4:00 P.M.
202/376-4350

August 29, 1989

TREASURY DISCONTINUES USE OF TT&L ACCOUNTS
FOR SECURITIES PAYMENTS
The Department of the Treasury announced today that payment
for Treasury securities by credit to Treasury Tax and Loan Note
Accounts will no longer be accepted effective Thursday,
September 7, 1989.
Effective September 7, settlement for accepted tenders for
all Treasury marketable securities to be maintained on the bookentry records of Federal Reserve Banks and Branches must be made
or completed at the Federal Reserve Bank or Branch on the issue
date in cash, maturing Treasury securities, or funds immediately
available to the Treasury. Full payment must accompany all tenders
for securities to be maintained on the book-entry records of the
Treasury Department (TREASURY DIRECT).
Payment by credit to Treasury Tax and Loan Note Accounts
will be accepted for the 13-, 26-, and 52-week bills and the
2-year notes to be issued Thursday, August 31, 1989; the 5-year
2-month notes to be issued Friday, September 1, 1989; and the
8-day cash management bills to be issued Wednesday, September 6,
1989.
Effective October 1, 1989, payment for United States Savings
Bonds by credit to Treasury Tax and Loan Note Accounts will no
longer be accepted. Payment for U. S. Savings Bonds by credit
to Treasury Tax and Loan Note Accounts will be accepted through
September 30, 1989.
oOo

NB-436

TREASURY NEWS
Deportment of the Treasury • Washington,
D.C. • Telephone 566-2041
iolG
FOR RELEASE AT 4:00 P.M.
August 29, 1989

CONTACT:

Office of Financing
202/376-4350

TREASURY OFFERS $4,000 MILLION
OF 8-DAY CASH MANAGEMENT BILLS
The Department of the Treasury, by this public notice, invites
tenders for approximately $4,000 million of 8-day Treasury bills
to be issued September 6, 1989, representing an additional amount
of bills dated March 16, 1989, maturing September 14, 1989 (CUSIP
No. 912794 SX 3 ) .
Competitive tenders will be received at all Federal Reserve
Banks and Branches prior to 1:00 p.m., Eastern Daylight Saving time,
Thursday, August 31, 1989. Each tender for the issue must be for
a minimum amount of $1,000,000. Tenders over $1,000,000 must be
in multiples of $1,000,000. Tenders must show the yield desired,
expressed on a bank discount rate basis with two decimals, e.g.,
7.15%. Fractions must not be used.
Noncompetitive tenders will not be accepted. Tenders will not
be received at the Department of the Treasury, Washington.
The bills will be issued on a discount basis under competitive bidding, and at maturity their par amount will be payable
without interest. The bills will be issued entirely in book-entry
form in a minimum denomination of $10,000 and in any higher $5,000
multiple, on the records of the Federal Reserve Banks and Branches.
Additional amounts of the bills may be issued to Federal Reserve
Banks as agents for foreign and international monetary authorities
at the average price of accepted competitive tenders.
Banking institutions and dealers who make primary markets
in Government securities and report daily to the Federal Reserve
Bank of New York their positions in and borrowings on such securities may submit tenders for account of customers, if the names
of the customers and the amount for each customer are furnished.
Others are only permitted to submit tenders for their own account.
Each tender must state the amount of any net long position in the
bills being offered if such position is in excess of $200 million.
This information should reflect positions held as of 12:30 p.m.,
Eastern time, on the day of the auction. Such positions would
include bills acquired through "when issued" trading, futures,
NB-437

8-DAY CASH MANAGEMENT BILLS, Page 2
and forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills with
three months to maturity previously offered as six-month bills.
Dealers, who make primary markets in Government securities and
report daily to the Federal Reserve Bank of New York their positions in and borrowings on such securities, when submitting tenders
for customers, must submit a separate tender for each customer
whose net long position in the bill being offered exceeds $200
million.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities. A deposit of 2 percent of the par amount
of the bills applied for must accompany tenders for such bills from
others, unless an express guaranty of payment by an incorporated
bank or trust company accompanies the tenders.
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Those
submitting tenders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly reserves
the right to accept or reject any or all tenders, in whole or in
part, and the Secretary's action shall be final. The calculation
of purchase prices for accepted bids will be carried to three
decimal places on the basis of price per hundred, e.g., 99.923.
Settlement for accepted tenders in accordance with the bids must
be made or completed at the Federal Reserve Bank or Branch in cash
or other immediately-available funds on Wednesday, September 6,
1989. In addition, Treasury Tax and Loan Note Option Depositaries
may make payment for allotments of bills for their own accounts and
for account of customers by credit to their Treasury Tax and Loan
Note Accounts on the settlement date.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76 and 27-76, and this notice, prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars may be obtained from any Federal Reserve Bank or
Branch.

TREASURY NEWS ^
Deportment of the Treasury • Washington, D.C. • Telephone 566-2041
FOR RELEASE AT 4:00 P.M.
CONTACT: Office of Financing
1
August 29, 1989
\M
5310
202/376-4350
TREASURY" S WEEKLY < BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$14,400 million, to be issued September 7, 1989. This offering
will provide about $350 million of new cash for the Treasury, as
the maturing bills are outstanding in the amount of $14,058 million.
Tenders will be received at Federal Reserve Banks and Branches and
at the Bureau of the Public Debt, Washington, D. C. 20239-1500, prior
to 1:00 p.m., Eastern Daylight Saving time, Tuesday, September 5,
1989. The two series offered are as follows:
91-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated June 8,
1989, and to mature December 7, 1989 (CUSIP No. 912794 TG 9 ) , currently outstanding in the amount of $6,561 million, the additional
and original bills to be freely interchangeable.
182-day bills for approximately $7,200 million, to be dated
September 7, 1989, and to mature March 8, 1990 (CUSIP No. 912794 TU 8).
In a separate announcement made today the Treasury announced that
payment for Treasury securities bv credit to Treasury Tax and Loan Note
Accounts will no longer be accepted. This change becomes effective
with the weekly Treasury bills being offered in this announcement.
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing September 7, 1989. Tenders from Federal Reserve
Banks for their own account and as agents for foreign and international monetary authorities will be accepted at the weighted
average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities, to
the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them. Federal
Reserve Banks currently hold $1,458 million as agents for foreign
and international monetary authorities, and $4,482 million for their
own account. Tenders for bills to be maintained on the book-entry
records of the Department of the Treasury should be submitted on Form
PD 5176-1 (for 13-week series) or Form PD 5176-2 (for 26-week series).
NB-438

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry
8/89 records of Federal Reserve Banks and Branches.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from any one
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
8/89
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.

TREASURYNEWS
Deportment of tho Treasury • Washington, D.c. • Telephone 566-2041
-00M 5510

FOR IMMEDIATE RELEASE
August 31, 1989

CONTACT:

NFP

Office of Financing
202/376-4350

3 11 "M "l]S

iiWRTM..'!

RESULTS OF TREASURY'S AUCTION
OF 8-DAY CASH MANAGEMENT BILLS
Tenders for $4,011 million of 8-day Treasury bills to
be issued on September 6, 1989, and to mature September 14, 1989,
were accepted at the Federal Reserve Banks today. The details
are as follows:
RANGE OF ACCEPTED COMPETITIVE BIDS
Discount
Rate
Low
High
Average

Investment Rate
(Equivalent Coupon-Issue Yield)

8.17% 8.32% 99.818
8.30%
8.25%

8.41%
8.36%

Price
99.816
99.817

Tenders at the high discount rate were allotted 87%
TOTAL TENDERS RECEIVED AND ACCEPTED
BY FEDERAL RESERVE DISTRICTS
(In Thousands)
Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
SanTOTALS
Francisco

NB-439

Received

Accepted

22,230,000

3,517,100

2,250,000

493,500

700,000
$25,180,000

$4,010,600

TREASURY NEWS
•portment of tho Treasury • Washington, D.C. • Telephone 566-2041
*00M 5310
FOR IMMEDIATE RELEASE
September 1, 1989

CONTACT: Larry Batdorf
Phone: (202) 566-2041

TREASURY ACTS AGAINST OFFICIALS IN PANAMANIAN REGIME
The Department of the Treasury today announced the
publication of a new appendix to the Panamanian Transactions
Regulations, listing the names of individuals whom the
Director of the Office of Foreign Assets Control has
determined are acting or purporting to act on behalf of the
Noriega/Solis regime in Panama. The effect of this
amendment is that no direct or indirect payments or transfers of funds or other financial or investment assets may be
made to these individuals from the United States or by U.S.
persons or their controlled Panamanian entities located in
Panama.
The designations of these individual officials of the
Noriega/Solis regime are being made pursuant to Executive
Order 12635 of April 8, 1988, and the implementing
Panamanian Transactions Regulations, which impose economic
sanctions on the Noriega/Solis regime in Panama. The
sanctions freeze all assets of the Government of Panama
located in the United States, and prohibit all unlicensed
payments or transfers to the Noriega/Solis regime, which is
defined to include the individuals designated in this
amendment.
The new appendix to the Panamanian Transactions
Regulations was published in the August 31, 1989 Federal
Register.

NB-440

TREASURY NEWS

Deportment of the Treasury • Washington, D.C. • Telephone 566CONTACT: Office of Financing
-CM 5510
202/376-4350
FOR IMMEDIATE RELEASE
September 5, 1989
RESULTS OF TREASURY'S WEEKLY BILL AUCTIONS
Tenders for $7,213 million of 13-week bills and for $7,212 million
of 26-week bills, both to be issued on September 7, 1989, were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

Low
High
Average

13--week bills
maturing December 7, 1989
Discount Investment
Price
Rate
Rate 1/
7.86%a/
7.89%
7.88%

98.013
98.006
98.008

8.13%
8.16%
8.15%

26--week bills
maturing March 8, 1990
Discount Investment
Rate
Rate 1/
Price
7.83%
7.88%
7.87%

8.26%
8.32%
8.31%

96.042
96.016
96.021

a/ Excepting 1 tender of $3,025,000.
Tenders at the high discount rate for the 13-week bills were allotted 60%
Tenders at the high discount rate for the 26-week bills were allotted 40%,
TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Accepted
Received

27,830
22,923,020
13,440
36,330
46,460
28,225
1,402,810
24,110
6,870
30,020
18,245
771,230
545,895

$
27,830
6,315,240
13,440
36,130
46,460
28,225
52,810
24,110
6,870
30,020
18,245
67,230
545,895

$
34,825
20,484,260
17,645
35,950
41,490
21,125
1,260,990
24,005
8,590
40,265
19,835
683,315
602,505

$ 34,825
6 ,131,260

$25,874,485

$7,212,505

$23,274,800

$7 ,211,600

$22,230,480
1,200,075
$23,430,555

$3,568,500
1,200,075
$4,768,575

$18,821,420
1,162,480
$19,983,900

2,381,730

2,100,000

$2 ,758,220
1,162,480
$3 ,920,700
2,100,000

62,200

1,190,900

$25,874,485

$7,212,505

$23,274,800

$7 ,211,600

Equivalent coupon-issue yield.

NB-441

Accepted

17,645
35,950
40,290
21,125
85,990
24,005
8,590
40,265
19,835
149,315
602,505

TREASURY NEWS ^
leportment of the Treasury • Washington, D.C. • Telephone 566-2041
FOR RELEASE AT 4:00 P.M.
September 5, 1989

CONTACT:

Office of Financing
202/376-4350

TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$14,400 million, to be issued September 14, 1989. This offering
will result in a paydown for the Treasury of about $3,800 million,
as the maturing bills total $18,189 million (including the 8-day
cash management bills to be issued September 6, 1989, in the amount
of $4,011 million). Tenders will be received at Federal Reserve
Banks and Branches and at the Bureau of the Public Debt, Washington,
D. C. 20239-1500, prior to 1:00 p.m., Eastern Daylight Saving time,
Monday, September 11, 1989. The two series offered are as follows:
91-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated June 15,
1989, and to mature December 14, 1989 (CUSIP No. 912794 TH 7), currently outstanding in the amount of $6,648 million, the additional
and original bills to be freely interchangeable.
182-day bills (to maturity date) for approximately $7,200
million, representing an additional amount of bills dated March 16,
1989, and to mature March 15, 1990 (CUSIP No. 912794 TV 6), currently outstanding in the amount of $9,056 million, the additional
and original bills to be freely interchangeable.
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing September 14, 1989- Tenders from Federal Reserve
Banks for their own account and as agents for foreign and international monetary authorities will be accepted at the weighted
average bank discount rates of accepted competitive tenders. Additional amounts of the bills may be issued to Federal Reserve Banks,
as agents for foreign and international monetary authorities, to
the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them.
Federal Reserve Banks currently hold $1,833 million as agents for
foreign and international monetary authorities, and $4,660 Trillion
for their own account. These amounts represent the combined
holdings of such accounts for the three issues of maturing bills.
Tenders for bills to be maintained on the book-entry records of the
Department of the Treasury should be submitted on Form PD 5176-1
NB-442
(for 13-week series) or Form PD 5176-2 (for 26-week series).

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No deposit need accompany tenders from incorporated banks
8/89
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from any one
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of
8/89the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.

TREASURYNEWS
•portment of the Treasury • Washington, D.C. • Telephone 566-2041
\ROe- 5310
Contact:
Peter
FOR
RELEASE
AT Hollenbach
3:00 PM
September 7, 1989

P,F? I

3*1

(202) 376-4302

TREASURY ANNOUNCES ACTIVITY FOR
SECURITIES IN THE STRIPS PROGRAM FOR AUGUST 1989
The Department of the Treasury announced activity figures for the
month of August 1989, of securities within the Separate Trading of
Registered Interest and Principal of Securities program, (STRIPS).
Dollar Amounts in Thousands
$366,929,259
Principal Outstanding
(Eligible Securities)
Held in Unstripped Form

$285,259,009

Held in Stripped Form

$81,670,250

Reconstituted in April

$3,490,840

oOo

NB-4 4 3

TABLE VI—HOLDINGS OF TREASURY SECURITIES IN STRIPPED FORM, AUGUST 31, 1989
(In thousands)

Principal Amount Outstanding
Maturity Oat*

Loan OMcnption

Total
I

Portion Hold in
Unstnpped Form

Portion Held in
Stripped Form

i
'

Reconstituted
This Month'

11-5/8% Not*C-1994

.11/15/94

S6.658.554

$5,320,954

S1.337.600

11-1/4% Not. A-1995

2/15/95

6.933.861

6.176.101

757.760

11-1/4% Not* 8-1995

5/15/95

7.127.086

5.383.726

1.763.360

8/15/95

7.955.901

7.143.501

312.400

-0-

7.316.550

6.477,750

840.800

3.200

10-1/2% Not* C-1995

.11/15/95..

9-1/2% Not. 0-1995
8-7/8% Not* A-1996

2/15/98

7-3/8% Not. C-1996

.5/15/96

...

$30,400

-073.920

8.575.199

3.287.199

288.000

17600

20.085.643

19.848.843

236.800

59.200

7-1/4% Not. 0-1996

11/15/96

20.258.810

19.958.810

300.000

10.400

8-1/2% Not* A-1997

5/15/97

9.921.237

9.852.037

69.200

76.000

8-5/8% Not* B-1997

3/15/97

9.362.836

-0-

8-7/8% Not* C-1997

.11/15/97

9.808.329

9.793.929

14.400

-0-

8-1/8% Not* A-1998

2/15/98

9.159.068

9.158.428

640

-0-

9 % Not* 3-1998

5/15/98

-0-

9-1/4% Not* C-1996

8/15/98

....

.11/15/98.

8-7/8% Not* 0-1996

9.165.387

9,135.387

30.000

11.342.646

11.221.046

121.600

-0-

9,902.875

9.902.875

-0-

9.719.628

9-7/8% Not* A-1999

2/15/99

9.719.628

9-1/8% Not* 8-1999

5/15/99

10.047.103

S/15/99

10.163.849

8 % Not* C-1999

-0-

9.770.303 |
10.163.649

276.800 '

-0-

-020.800

-0-

11-5/8% Bond 2004

11/15/04

3.301.806

3.511.406 I

4.790.400

1 2 % Bond 2005

5/15/05

4.260.758

2.017.708 i

2.243.050

120.000

10-3/4% Bond 2005

8/15/05

9.269.713

7.286.513 '

1.983.200

230.400

9-3/8% Bond 2006

2/15/06

4.755.916

4.755.916 !

11-3/4% Bond 2009-14

11/15/14

6.005.584

2.179.184

3.826.400 ,

11-1/4% Bond 2015

2/15/15

12.667.799

2.830.839 !

9.836.960 '

-0-

1 0 S / 8 % Bond 2015

3/15/15

7,149.916

1.895.836 |

5.254.080 .

48.320

....

-0-

64.000

-0602.400

9-7/8% Bond 2015

11/15/15..

8.899.859

2 408 659 '

4 491 200

86.400

9-1/4% Bond 2016

2/15/16

7,266.854

5.296.454 I

1.970.400

100.000

7-1/4% Bond 2016

5/15/16

18.823.551

16.483.551

2.340.000

681.600

7-1/2% Bond 2016

11/15/18

18.864.448

10.517.568 1

3.346.380

721.600

8-3/4% Bond 2017

5/15/17

18.194.169

7.869.049 I

10.525.120

200.000

8-7/8% Bond 2017

3/15/17

14.016.858

9.340.058

4 676 800

91.200

9-1/8% Bond 2018

5/15/18

3.708.639

4 603.039

4 105 600

99.200

9 % Bond 2018

11/15/18

9.032.870

3.573.270

5.459.600

55.000

8-7/8% Bond 2019.

2/15/19

19.250.793

14.279.593

4.971.200

99.200

8-1/8% Bond 2019

8/15/19

9.953.364

366.929.259

285.259.009

Total

-081.670.250

' Effective M a y 1. 1987, securities held in stnpped form were eligible for reconstitution to tneir unstripped form.
Note: On the 4th workday ot each month a recording ot Table VI will be available after 3:00 pm. The telephone number is (202) 447-9873
The balances in this table are subiect to audit and subsequent adjustments.

-03.490.840

EMBARGOED UNTIL DELIVERY
EXPECTED AT 2:15 p.m.
Remarks by
Secretary of the Treasury
Nicholas F. Brady
at the Treasury Bicentennial Celebration
September 11, 1989
Mr. President, Members of Congress, Secretary Barr,
Secretary Dillon, Secretary Fowler, Secretary Simon, Secretary
Miller, Deputy Secretary Robson, distinguished guests and fellow
Treasury employees, welcome to the Bicentennial celebration of
the Department of the Treasury.
I'd like to offer special thanks to the Coast Guard Band for
adding to our celebration with their first rate music. The Coast
Guard played a major role in the proud history of this Department
until the Transportation Department was created in 1967. We sure
miss the Coast Guard. And we really miss having our own band!
Today, we mark 200 years of dedicated service to the nation
by the men and women of the Treasury. This ceremony today is
dedicated to you.
Following the ceremony, each of you is invited to tour the
Treasury Building. I suggest you enter through the Pennsylvania
Avenue entrance and stop to se© the exhibits displayed by each of
the Treasury bureaus in and around the Cash Room.
Then you can visit five other rooms of historical
significance in this magnificent building, which, except for the
Capitol and the White House, has been in use longer than any
other government building in Washington. On your tour, be sure
to visit the portrait of Hamilton which was unveiled just this
morning in the hallway outside the Secretary's office,,
Mr. President, earlier this ysar, you participated in a
ceremony marking the 200th anniversary of the inauguration of
George Washington as our first President. 200 years ago today,
President Washington nominated Alexander Hamilton to be the first
Secretary of the Treasury,
Hamilton was confirmed by the Senate and took the oath of
office, all on the very same day, September 11, 1789 — a record
for speedy confirmation that we can safely assume will never be
broken. The Treasury Department itself had been authorized by
Congress only nine days earlier.
NB-444

In the time of Washington and Hamilton, the Treasury had 30
employees, while the State Department had only six and the War
Department just three. Today, the Treasury is 150,000-strong.
When Hamilton took office, the fledgling country was
staggering under the burden of a huge war debt.
Hamilton
stunned the Congress by proposing that the federal government
repay the debt in full and take on the outstanding debt of the
states as well.
He said, "The debt of the United States...was the price of
liberty.... The faith of America was pledged for it....11 This
commitment laid the foundation for the nation's financial health,
which the Treasury and its employees have faithfully guarded ever
since.
As the nation's history has unfolded, Treasury has responded
to changing circumstances. When the secession of the Southern
states caused a loss of Customs revenues, the printing of paper
money was initiated. Five Treasury clerks worked in the attic of
this building in 1862, affixing the Treasury seal to the first
paper currency -- greenbacks -- because President Lincoln needed
new money to finance the Civil War.
Today, Treasury continues to play a central role in ensuring
the soundness of our domestic economy and encouraging growth in
the world economy. We are preparing new initiatives designed to
preserve our standard of living by encouraging savings and longterm investment. And we are battling on the front lines of the
war against illegal drugs.
Treasury's 12 bureaus perform some of the most important
tasks in our government -— managing our nation's finances,
collecting our revenue, printing our currency and minting our
coins, regulating our financial institutions, protecting our
borders, monitoring the sale of guns and explosives, training our
law enforcement agents, and protecting the President of the
United States.
All Treasury employees can be proud of our history of
service.
Mr. President, before closing I'd like to mention just one
more historical note.
I know how fond you are of Martin Van
Buren. During the campaign, you often noted that he was the last
sitting Vice President to be elected President.
Well, I've
developed a fondness for a former Treasury Secretary by the name
of Levi Woodbury, who incidentally became the first Secretary to
occupy this building in 1831.
Secretary Woodbury was appointed by President Jackson. But
when Van Buren was elected, he asked Woodbury asked to stay on as
his Secretary of the Treasury, and I'm told that in those days

President Van Buren and Secretary Woodbury spent a good deal of
time worrying about a problem we wish we had: What to do with
the budget surplus.
As we look back to 1789, we remember a national government
that historian Joanne Freeman called "untried, untested, and
unproven."
"Lines were not yet drawn," she wrote. "Processes were not
yet established.... (But) Hamilton's bold policies for financial
stability led to a sense of national pride and a national
identity."
Today, as in Hamilton's day, our pride and identity as a
nation depends on financial integrity.
America counts on
Treasury to continue its stewardship of the nation's resources.
As we begin our third century, the men and women of the Treasury
Department are prepared to take on the challenges of the future
T
.;ith renewed confidence, a sense of purpose, and the desire to
build upon a strong legacy.
Now, I am pleased and proud to introduce a man whose
leadership inspires us all. Mr. President, we are all deeply
honored that you were able to join the Treasury for our 200th
birthday party.
Ladies and gentlemen, the President of the
United States.
-30-

l-iSP.AP.Y H O O M 5 5 1 0

TREASURY NEWS
•portmanc off tho Treasury • Washington, D.C. # Tolophono soo-2041
Contact:

Cheryl Crispin
(202) 566-5252
THE UNITED STATES DEPARTMENT OF TREASURY
•

Even before Jefferson vrote the Declaration of Xndapandance,
America's leaders recognized tha naad for government to fostar
economic aacurity and provida for tha sound management of its
money supply.
It was not surprising, than, vhan thasa dutias vara gatharad
into ona of tha aarliast cabinat departments shortly aftar
Washington's inauguration.
Tha Department of tha Treasury—
astablishad Septamber 11, 1789 — calabratas its bicantannial as
the foremost financial institution in tha nation as vail as a
long-established senior agancy in international financial
affairs.
Most Americans think of tha Treasury's nission as
encompassing four main functions: revenue collection, money
production, financial management,
and economic policy
formulation.
Perhaps less known are the incredibly varied tasks that are
also an integral part of the Department's agenda. These include
the training of lav enforcement personnel from over 60 Federal
organizations, monitoring the sale of guns and explosives, and
providing security protection for the President of the United
States. Treasury also comes into the lives of many American
coin collectors, vho have long associated it vith the striking of
commemorative medals.
The modern Treasury Department has organizationally bean
clustered around tvo major components: the Departmental Offices
and tha operating bureaus.
Primarily responsible for policy and overall management, the
Departmental Offices are separated into divisions that include
tha Office of: Policy Management, International Affairs, Finance,
Economic Policy, Enforcement, Tax Policy, Administration,
Legislative Affairs, Public Affairs, General Council and the
Inspector General.

2 -

Tha tvalva operating bureaus carry out tha specific
operations assigned to the Department and total 98 percent of the
Treasury work force. Tha Department's combined employment is nov
approximately 150,000 people. The tvelve bureaus are:
Office of the United States Treasurer
United States Mint*
Bureau of Engraving and Printing*
United States Savings Bond Division*
Internal Revenue Service
United States Custom Service
Bureau of Alcohol, Tobacco, and Firearms
Federal Lav Enforcement Training Canter
United States Secret Service
Office of the Comptroller of the Currency
Financial Management Service
Bureau of Public Debt
Office of Thrift Supervision**
(•Report to the Office of the United States Treasurer)
(**The Office of Thrift Supervision vas recently created by the
Congress to supervise the Savings and Loan industry. Historical
information is not available.)
For Additional Information Contact:
Department of the Treasury
Office of Public Affairs
(202) 566-2041

- 3 -

Office of Tr«j,«m-«y of tAe United State.
Most Americans probably think that Secretary of the Treasury
is the oldest financial position in the government. Yet there is
another public office vhose origins predate even the Declaration
of Independence by nearly a year — Treasurer of the United
States.
United States Treasurers can be traced back fourteen years
before creation of the Treasury Department to September 6, 1777.
It vas than that the office vas established with the initial
charge to oversee the receipt and custody of all government
funds.
Even before the nation's birth, hovever, the Office of
Treasurer vas functioning through the efforts of Michael Hillegas
and George Clymer.
These gentlemen vere jointly appointed
Treasurer by the Second Continental Congress on July 29, 1775.
It vas not until 175 years later, that a voman vaa chosen to
serve as United States Treasurer.
Georgia Neese Clark vas
selected by President Truman on June 21, 1949, thus becoming thus
becoming the first voman to carry out those public duties. Nine
other vomen followed in her footsteps in the yeara since.
It is also interesting to consider the signature of the
Treasurer of the United States. It must be familiar to every
American vho handles paper money. Yet it vas not until the early
months of the Civil War — August 5, 1861 — that the Treasurer
and the Register of the Treasury vere designated as official
signers of our currency.
The modern United States Treasurer has responsibility for
three significant segments of the Treasury Department.
These
include the United States Mint, the Bureau of Engraving and
Printing, and the U.S. Savings Bonds Division.
This means tha Treasurer must effectively manage a vide
array of tasks that directly impact tha printing of currency and
postage stamps; tha minting of circulation and commemorative
coinage; and the ongoing national Savings Bond campaign.
For Additional Information Contact:
Tha Office of the Treasurer
Office of Public Affairs
(202)566-2314

pnlfc*>d fitatse Mint

English shillings, French louis d'or, Spanish doubloons,
various colonial monies — these vere among tha currencies in
common usage 200 yeara ago. With so many different currencies in
use, the American public became confused. Consequently, trade
and economic growth slowed.
The Constitution's framera recognized the urgent need for a
unified monetary system, and Treasury Secretary Alexander
Hamilton personally directed planning for a national Mint in the
government's early yeara.
Moving quickly, Congress gave ita
blessing to construction on April 2, 1792, and the first Mint
building vas located in tha nation's temporary capital,
Philadelphia. This vas the first Federal Building erected by the
new constitutional American Government.
Coinage vas also authorized by Congress in the 1792 lav, and
President Washington picked a leading American scientist — David
Rittenhouse — to start production as the firat Director of the
Mint. To help the cause, some of George Washington's own silver
vas apparently donated for melting.
Congress decided upon three basic metals for the new
American currency.
Gold vas to be used in $2.50, $5 and $10
coins. Silver vas the choice for half-dime, dime, quarter, halfdollar, and dollar pieces. The cent and half-cent vere copper.
The least vas first, inasmuch as the less valuable copper penny
coins vere first put into circulation —
11,178 of them,
delivered in March 1793.
Of course, the passage of many generations has brought
changes in our currency's denomination and content.
Gone are
the half-cent, 2-cent, 3-cent, and 20-cent pieces, as veil as the
silver half dimes. The nickel, dime, quarter and half-dollar are
now made of a copper-nickel alloy, and the "copper penny" is now
a "copper-plated zinc cent."
Organizationally, the Mint evolved through three stages in
its first century.
Initially, the Mint vas part of Thomas
Jaffarson's State Department, vhere it briefly remained until a
1799 act declared the Mint an independent agency, directly
reportable to President Adams.

5 -

Subaequent legislation created nev branch mints and assay
offices, and both vere granted public depository functions.
Finally, the Coinage Act of 1873 put all aint and assay office
activities under the nevly organized Bureau of tha Mint in the
Department of the Treasury. There it resides to this day, and a
1984 Secretarial order gave tha bureau a nev name: the United
Statea Mint, vhich is headquartered in Washington, D.C.
For Additional Information Contact:
United States Mint
Office of Public Information
(202) 376-4968

6 -

pureau of Engraving end Printing
If ve could be transported back in time to a single room in
the Treasury building's basement on August 29, 1862, ve vould
find four vomen and tvo men, carefully separating and sealing
privately-printed $1 and $2 United States notes. This modest
little operation marked the beginning of the modern Bureau of
Engraving and Printing.
A Civil War vas raging at tha time, and events moved
briskly. 'By the fall of 1863, Treasury employees vere actually
printing currency notes for the first time. The next year, the
Treasury Secretary successfully advocated establishment of the
Bureau of Engraving and Printing.
The next decade continued to vitness the nev government
printer's gradual absorption of functions long performed by the
private bank note companies.
By October 1, 1877, all United
States currency vas engraved and printed at tha Bureau of
Engraving and Printing.
In addition to paper money, twentieth century Americans also
are accustomed to using postage stamps printed by their
government.
This vas not always common practice, however.
Private bank note engraving firms printed our stamps under
government contract in the early decades of the nation.
It vas not until March 3, 1847 that the use of U.S. postage
stamps for the prepayment of delivery fees vas legally
authorized.
Another half century passed —
July 1, 1894 —
before the production of United States stamps vas ultimately
transferred from private concerns to the Bureau of Printing and
Engraving.
Since then, the Bureau haa been continuously
producing the majority of U.S. postage stampa.
On November 24, 1986, the Treasurer of the United States
announced that the Bureau of Engraving and Printing vould build a
nev currency manufacturing facility in Fort Worth, Texas. When
completed, this facility vill serve three Federal Reserve
Districts and, remarkably, produce at least a quarter of our
Nation'a annual paper currency supply.
For Additional Information Contact:
Bureau of Engraving and Printing
Office of Public Affaire
(202) 447-0193

P.fi. Savings Bonds
During tha Great Depression, Treasury Secretary Henry
Morgenthau, Jr. realized it vas desirable to encourage broad
public participation in government financing. At the same time,
it vould be socially beneficial to help the non-professional
smaller investor who vanted to purchase federal bonds that vere
aafe.
He also knew that Treasury Bonds had been periodically
offered for Individual purchase since 1776, but as marketable
securities that fluctuated.
This meant that some average
American Investors experienced painful losses vhen forced by
personal circumstance to sell their bonds prior to maturity.
In 1935, Morgenthau introduced his solution: the savings
bond. It was designed to eliminate the risk for even the most
novice purchaser. All of the ingredients of safety vere there
for the bondholder: fixed redemption values; a short holding
period; issuance in registered (non-negotiable) form; and
guaranteed replacement in the event of loss.
Americans embraced the early "baby bonds," as they vere
called, and bought them in denominations from $25 to $1,000.
They sold at 75 percent of face value and paid 2.9 percent
interest vhen held to maturity. The last in the four initial
series did not cease paying interest until April, 1951. Without
doubt, savings bonds vere a success, and total sales at issue
price vere an impressive $4 billion betveen March, 1935 and
April, 1941.
World var vas then imminent, and the Treasury again
responded to much larger funding requirements brought on by heavy
defense expenditures, a larger national debt and groving
inflationary pressures.
Introduced May 1, 1941, the Series E Bond vould popularly be
best known as the "dafense bond," tha "var bond" of 1942-45 and,
finally, the "Savinga Bond" of today.
During World War II,
nearly $50 billion in Bonda vere sold to help finance the Allied
effort.

- 8-

Today, modernized for the 1980s to pay competitive marketbased rates, Series E and succaaaor Seriea EE Bonds have become
the most durable of all. Tans of millions of families own them.
In fact, the dollar amount outstanding nov exceeda $14 billion,
the highest in the history of the program. Today, they are the
vorld'a most vidaly held security.
For Additional Information Contact:
U.S. Savings Bonds Division
Office of Public Affaire
(202)634-5377

yntcmal Rtvanua S#rvlffg

The Internal Revenue Service has a unique place in the
Treasury Department and the Federal government.
The tax
administration system of the United States is by far the most
effective and efficient in the vorld — this year collecting $1
trillion in revenues at a cost to taxpayers of only 54 cents for
each $100 collected.
Taxes have alvays been Important to Americans — remember
the Boaton Tea Party! One of the earliest controversies facing
the nev country involved the taxing povers of the Federal
government.
Early revenues came from tariffs but Alexander Hamilton
prevailed upon the Congress to set up a system of excise taxes.
These taxes proved unpopular and led to armed confrontation—
the Whiskey Rebellion of 1794.
On July 1, 1862, President Lincoln signed into lav vhat vas
then the most sveeping revenue-producing measure in the nation's
history, progressive tax levied on income.
A 44-year-old
Massachusetts lawyer, George S. Boutvell, vas named the first
Commissioner of Internal Revenue. Firat year collections vere
more than $20 million, but still the Union had to borrov more
than 80 percent of the total costs to fight the var.
After the Civil War, the income tax vas repealed again in
1872 but the issue continued to be debated until 1894 vhen the
income tax vas revived. However court challenges led to a 1895
Supreme Court decision declaring income tax lav unconstitutional
because it vas a direct tax and not apportioned among the states
on the basis of population. The issue vas finally settled vhen
the 16th Amendment vas ratified by the nev 36th atate — Wyoming
— and became part of the Constitution in February 1913.
The modern Income tax came just in time to help pay the
costs of World War I. By the time the var ended, the Bureau of
Internal Revenue had collected more than the combined cost of all
the other vers in our nation's history — almost $9 billion.
Just after the var came Prohibition vhich gave the Commissioner
of the Internal Revenue primary responsibility to enforce the
lav. The Bureau provided much of the evidence used to convict Al
Capone, the most notorious gangster of the era, for tax evasion
and ha vas sentenced to 11 years in prison.
World War II brought significant investigations in 1951, the
agency vas reorganized, all political offices other than that of
the Commissioner vere abolished and replaced by career civil
servants, and in 1953, the name vas changed from "Bureau of
Internal Revenue" to "Internal Revenue Service."

Today, the 120,000 employees of the IRS work throughout the
US and in 14 countriea around the vorld processing almoat 200
million tax returns each year and providing informational and
educational services to the public. Lav enforcement remains a
priority through 1 million tax audits annually, $23 billion in
delinquent taxes collected and major criminal investigations
resulting in a high rate of successful prosecutions.
For Additipnal Information Contact:
Internal Revenue Service
Office of Public Affaire
(202) 566-4743

p.S. Custom Service
The collection of revenue and the control of trade are
almost as old aa civilization itaelf.
Levies and tariffa on
importa vere veil known in America from the earliest colonial
times.
After declaring independence in 1776, our young netion found
itaelf on the brink of bankruptcy. Responding to the urgent need
for revenue, the First Congress and President George Washington
signed the Tariff Act of July 4, 1789, establishing a tariff and
system for collection duties. Four veeks later, the original
Customs districts and ports of entry vere established by the
Fifth Act of Congress.
For nearly 125 years, Customs remained virtually the only
source of income for the Government.
Customs revenue made
possible a period of unprecedented growth and expansion. And by
1835, Customs had reduced the national debt to zero.
To this day, Customs is a groving, major source of income
for the Federal Government.
In the 1987 fiacal year, Customs
collections vere more than $16 billion — four timea greater than
they vere twenty years earlier.
Not only has Customs been a stsady source of Income for our
government, it has also been the forerunner to a number of
today's Federal agencies. Throughout the years, customs officers
have: been designated as pension agents for military pensions—
vhich became the Veterans Administration; obtained statistics on
imports and exports — vhich became the Bureau of the Census;
supervised revenue cutters — vhich became the task of the U.S.
Coast Guard; collected hospital dues for the relief of sick and
disabled seamen — vhich became the Public Health Service; and
established standard weights and measurea — a function now
performed by the National Bureau of Standards.
During these changes, the mission of the Custom Service has
remained constant — to assess and collect duties end tariffs on
imported goods, to control carrlea of imports and exports, and to
For Additional
Contact:
combat
smugglingInformation
and revenue
frauds.
U.S. Customs
Office of Public Affairs
(202)566-5286

gyr.au of Alcohol. Tobacco & Firearms
Fev federal agencies can lay claim to an historical legacy
more controversial, storied and publicized than the Bureau of
Alcohol, Tobacco 6 Firearms (BATF)•
Alcohol has been at the center of public debate since
America's earliest days. When Congress imposed the first tax on
distilled spirits in the spring of 1791 to pay Revolutionary War
debts, it found Itself faced three years later with violent
resistance* and the legendary Whiskey Rebellion.
Not sure hov to react, Congress alternatively enacted and
repealed taxes on distilled spirits for the next seventy years,
depending on the revenue needs of the moment. The urgent need to
finance the Civil War focused the Congressional mind, hovever,
and it passed the Act of July 1, 1862. This lav created the
Office of the Internal Revenue and imposed a tax an distilled
spirits that has become a permanent part of the federal revenue
system.
Public controversy over alcohol reached its zenith vith
passage of the 18th Constitutional Amendment in 1919—
Prohibition. Distillers vere required to dispose of inventories
vhich amounted to some 60 million gallons of beverage alcohol.
Today'a BATF special agents are descendants of Elliott Ness'
"Untouchables" vho vere formed as special squads by the nev
Bureau of Prohibition to go after organized crime.
An unprecedented wave of criminal violence vas one of the
tragic byproducts of the Prohibition era. Public outcry resulted
in the National Firearms Act (NFA), passed in 1934, and enactment
of the Federal Firearms Act four years later.
The latter
afforded the first limited regulation of the firearms industry;
it became a Federal crime for felons and fugitives to receive
firearms in interstate commerce.
The Alcohol, Tobacco and Firearms Division remained part of
tha Internal Revenue Service in the decadea that followed, but it
duties vere clearly distinguishable from the larger tax
collection and accounting activities. On July 1, 1972, Alcohol,
Tobacco and Firearms vas given full Bureau status in the Treasury
Department.

With a nev name came additional responsibilities. In 1978,
in response to the millions of dollars being lost to the Statea
by cigarette smuggling from lov tax to high tax states, ATF vaa
charged vith enforcing a nev Contraband Cigarette Act. At the
same time, the Bureau vas developing an entirely nev Federal
effort against an emerging crime problem — arson.
Today, the Bureau is involved in the annual collection of
more than $10.1 billion in taxes.
For Additional Information Contact:
Bureau of Alcohol, Tobacco and Firearms
Office of Public Affairs
(202) 566-7135

Tffltffl/1 Tf^grtfbTnatg^l^^n^jiygajTtg
In 1967, the Bureau of the Budget (nov the Office of
Management and Budget) varned that moat federal lav enforcement
officers vere not sufficiently trained due to inadequate
educational staffs and support facilities.
Other senior
government studies in the late sixties revealed the need for a
training facility for criminal investigators, uniformed officers
and other federal agency personnel lacking instruction in
advanced lav enforcement procedures. The Federal Lav Enforcement
Center vaa created in 1970 as a result of these studies and
increased public concern.
The former Glynco Naval Air Station, near Brunswick,
Georgia, has served as the headquarters for the Federal Law
Enforcement Training Center since 1975.
The facility is a
remarkable one — it often trains 2,000 people a day to be
Federal lav enforcement officers and agents.
At Glynco, personnel from more than 60 lav enforcement
organizations from across the nation and its territories attend
basic lav enforcement training programs, as veil aa advanced or
specialized programs.
In addition, state and local lav enforcement officers
participate in some 30 specialized training programs at Glynco.
These classes meet educational needs not generally available to
State and local agencies. Enhanced netvorking and cooperation
throughout the lav enforcement community are a natural byproduct.
Most important is the enhanced, quality lav enforcement that
is being achieved in America's diverse communities as a result of
better training. Betveen 20,000 and 30,000 students enter FLETC
classrooms each year, and more than 160,000 lav enforcement
personnel
have graduated
the past tvo decades.
For Additional
InformationinContact:
Federal Lav Enforcement Training Center
Office of Public Affairs
(912) 267-2447

The United States Secret fi.rvic.
The United States Secret Service vas born in response to an
impending financial crisis.
Later, its mission vould be
broadened to halt perhapa the gravest challenge to the nation's
political leadership.
By the end of the Civil War, it vas estimated that nearly
one-half of all currency in circulation vas counterfeit. To meet
this large scale assault on the our economic system's integrity,
the Secret Service vas created on July 5, 1865, as a division of
the Treasury Department. Ita resources vere modest: a Chief and
ten "operatives" comprised the entire Service organization. Its
sole purpose vas to suppress counterfeiting.
The Service's reputation grev repidly, hovever, and soon it
vas conducting investigations involving other Federal interests
as veil. These have included smuggling, mail robbery, espionage
cases, and the fraudulent use of Government land.
The assassination of President McKinley resulted in nev
responsibilities for the Secret Service.
Incredibly, the
President's death in 1901 marked the third murder of a President
— Lincoln end Garfield vere the othera — in juat 36 years.
Authorization vas quickly granted for the Secret Service to
provide protection for all succeeding American Presidents. That
mandate vas expanded repeatedly over the yeara.
Finally,
legislation vas enacted in 1951 that delineated the Service's
investigative and protective duties.
Secret Service protection is nov afforded to the President
and Vice President, their immediate families; the Presidentelect, Vice President-elect and their families; former
Presidents, their spouses and minor children; major Presidential
and Vice Presidential candidates; and visiting foreign leaders.
The President may also direct protection for other distinguished
foreign visitors and official American representatives vho are
performing special missions abroad.
The modern Secret Service employs approximately 4,300
people.
These include special agents, uniformed officers,
technical experts, specialists and support personnel.
For Additional Information Contact:
U.S. Secret Service
Office of Public Affairs
(202) 535-5708

- 16 -

Comptroller of the Currency
American banking originated in the colonial period and
developed as a source of short-term credit to shippers and
merchants in the post-Revolutionary War period. Zn those days,
banks Issued their own notes vhen making loans, with an expressed
or implied requirement that the notes be repaid in gold and
silver. This led to the appearance of currency as varied as the
banks vhich Issues it.
In 1863, public concern vith the state of the currency and
the press of financing the Civil War led to the first
system of federally charted national banks.
The National
Currency Act of 1863 created the poaition of the Comptroller of
the Currency and the National Bank Act of 1864 more clearly
defined the Comptroller's responsibilities. The Comptroller vas
given the authority to examine national banks, regulate their
lending and investing activities, and vhen necessary, declare
them insolvent.
Although the Comptroller's office is designated as a bureau
of the Treasury Department and the Comptroller operates under the
general supervision of the Treasury Secretary, the National Bank
Act gave the Comptroller considerable Independence.
The
Comptroller la appointed by the President for a five-year term,
and supervisory decisions for the 4400 national banks are made
independently.
The Office of the Comptroller of the Currency's primary
responsibility is to ensure that the national banking system
operates in a safe and sound manner to meet the public's need for
financial services.
The Comptroller is the only federal bank
regulator vith the authority to both charter and close commercial
banks. Through the exercise of this authority, aa veil aa the
Office's supervisory and regulatory responsibilities, the
For Additional
Information
Comptroller
plays
a unique Contact:
role in shaping the course of American
Comptroller of the Currency
banking.
Office of Public Affairs
(202) 287-4279

Tfrf Bureau of the Public Debt
Managing the nation's $2.8 trillion public debt has become a
great deal more sophisticated than it vas tvo centuries ago vhen
Congress first addressed the issue.
Today's modern, highly
skilled vork force at the Bureau of the Public Debt is utilizing
edvanced computer systems technology that vould have befuddled
the thirteen loan commissioners appointed by Congress in 1790.
In the nation's first decade, the Office of the Register vaa
the Treasury Department's record keeper.
Each state's loan
commissioner issued and liquidated government certificates or
notes to the public, paid interest and diaburaed pensions. This
system vorked reasonably veil until 1860, vhen the public debt
vas about $65 million.
The Civil War continued longer than anyone anticipated and
vas enormously expensive —
about $5.2 billion in direct
expenditures.
The var financing meant additional Treasury
employees and creation of a nev Diviaion of Loans to manage the
debt.
This arrangement changed once again as a result of the
higher volume of transactions required in a time of var. World
War I required more complex debt management strategies, and all
these duties vere given in 1920 to a nev Commissioner of the
Public Debt in Treasury. He reported to the Assistant Secretary
for Fiscal Affairs.
In 1939, a Nev Deal reorganization lav finally gave the
Public Debt Service its present name, the Bureau of the Public
Debt. An Executive Order the following year clearly established
the Bureau'8 leadership role as borrower of the funds necessary
for the Federal Government's operation and as the agency that
keeps
accounts of
the debt.Contact:
For Additional
Information
Bureau of Public Debt
Office of Public Affairs
(202)376-4302

TREASURY NEWS
apartment off tho Treasury • Washington, D.c. • Telephone 500-2041
CONTACT: Office of Financing

.' 310

202/376-4350

FOR IMMEDIATE RELEASE
September 1 1 , 1989
v.
..
r
RESULTS OF TREASURY'S WEEKLY BILL AUCTIONS
Tenders for $7,220 million of 13-week bills and for $7,214 million
of 26-week bills, both to be issued on September 14, 1989, were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

Low
High
Average

13-week bills
maturing December 14, 1989
Discount Investment
Rate
Rate 1/
Price
7.62%
7.65%
7.64%

7.88%
7.91%
7.90%

98.074
98.066
98.069

26-week bills
maturing March 15, 1990
Discount Investment
Rate
Rate 1/
Price
7.63%
7.64%
7.64%

8.05%
8.06%
8.06%

96.143
96.138
96.138

Tenders at the high discount rate for the 13-week bills were allotted 13%
Tenders at the high discount rate for the 26-week bills were allotted 28%.

Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS
Tyjge
Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS
U

TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Accepted
:
Received
$
29,195
23,901,465
17,775
32,965
57,305
33,520
1,616,815
23,150
28,050
35,035
32,915
768,920
581,370

$
29,195
6,214,725
17,775
32,595
57,305
33,520
99,265
23,140
8,050
35,035
22,915
65,220
581,370

$
30,740
25,994,455
18,630
36,825
62,660
33,725
2,736,050
28,030
10,355
43,315
31,165
959,285
549,960

$ 30,740
6,274,920
16,630
36,025
62,660
33,725
51,050
28,030
10,355
43,315
21,165
55,285
549,960

$27,158,480

$7,220,110

$30,535,195

$7,213,860

$23,396,900
1,242,825
$24,639,725

$3,458,530
1,242,825
$4,701,355

$25,695,440
1,233,455
$26,928,895

$2,374,105
1,233,455
$3,607,560

2,360,255

2,300,000

158,500

1,306,300

$27,158,480

$7,220,110

$30,535,195

$7,213,860

Equivalent coupon-issue yield.

NB-445

Accepted

TREASURY NEWS _
Deportment off tho Treasury • Washington, D.C. • Telephone 566-2041
Text as Prepared J,M5r.70
For release at 8:45 a.m.
REMARKS
BY '
JOHN E. ROBSON
DEPUTY SECRETARY OF THE TREASURY
BEFORE
THE NATIONAL MORTGAGE CONFERENCE OF
THE NATIONAL COUNCIL OF SAVINGS INSTITUTIONS
SEPTEMBER 12, 1989
Thank you for inviting me here today to speak about a
subject that has occupied a great deal of the nation's attention
and the time of the Federal Government over the past several
months —
the creation and startup of the largest financial
institution workout in United States history.
Less than 20 days after assuming office, President Bush
announced the Administration's proposal for a major initiative to
address the nation's savings and loan crisis. And scarcely over
a month ago in the Rose Garden, the President signed this
comprehensive legislation. We are proud of the role the Treasury
Department and Secretary Brady had in shaping the proposal and
shepherding the Financial Institutions Reform, Recovery, and
Enforcement Act of 1989 through Congress to enactment. As the
President said at the signing ceremony, the FIRREA legislation
represents '*a crucial step toward restoring public confidence•••
The central features of FIRREA that are designed to rebuild
public confidence include the following:
— First, a sweeping restructuring of thrift industry
regulation and deposit insurance;
— Second, the imposition of tough capital standards and
other regulatory controls;
— Third, stronger tools to enable law enforcement agencies
to deal more swiftly and effectively with instances of fraud and
abuse; and
— Fourth, massive funding and the creation of two new
agencies — the Resolution Trust Corporation and the Oversight
Board — to pay for and manage the near-term cleanup of insolvent
thrifts.
NB-446

2
Altogether, FIRREA created or restructured 6 government
agencies and authorized $50 billion for RTC in the S&L cleanup,
an immense legislative accomplishment.
Now our job is to get the job done. And today I will say a
few words about the main workhorses in the immediate task of
cleaning up insolvent thrifts, Resolution Trust Corporation and
the Oversight Board.
At the outset I would like to clear up any confusion that
may exist about the different roles of Resolution Trust
Corporation — referred to by most simply as RTC — and the
Oversight Board.
RTC is the implementor and executor of the thrift cleanup.
It is the entity that selects the institutions to be resolved,
carries out the resolutions, and sells any residual assets.
The Oversight Board provides the policies under which RTC
accomplishes its work, furnishes the funds to RTC, and monitors
R T C s execution of its responsibilities.
The RTC and the Oversight Board are partners in an immense
enterprise that has potentially far-reaching implications for the
thrift industry, real estate markets, communities throughout
America, people needing access to housing, and the taxpayer.
The mission of RTC is to manage and resolve all currently
insolvent thrifts, as well as thrifts that may become insolvent
over the next three years. Some estimates suggest that RTC will
ultimately be required to resolve 500 or more thrifts with total
assets ranging from $300 to $400 billion.
The RTC must determine the specific thrifts to be resolved
and the type of resolution appropriate for each case; it must
solicit and evaluate hundreds of bids for institutions and
assets; it must consider the potential market effects of its
asset disposition activities; it must review the 1988 FSLIC
deals; and it must also fulfill the legislation's requirements
regarding the disposition of low cost housing. This is by no
means an exhaustive catalogue of R T C s responsibilities, but it
gives you a feel for the breadth and dimension of the task
before it.
Since the RTC would arrive from the legislative maternity
ward as a new entity without employees or leadership, Congress
directed that its flesh and bones would be the Federal Deposit
Insurance Corporation. The FDIC is the exclusive manager of the
RTC, subject to policy guidance by the Oversight Board. The
directors of the FDIC serve as the board of directors of the RTC,
and the Chairman of the FDIC is the chairman of the RTC. Already
a sizeable group of FDIC personnel have been assigned to RTC

3
duties, and the number is expected to grow considerably larger
before the job is completed.
Recognizing that FIRREA commits substantial taxpayer funds
to pay for the losses in our Federal deposit insurance system,
Congress established the Oversight Board as an accountable
Executive Branch agency. The Secretary of the Treasury serves as
chairman, and is joined by the Secretary of Housing and Urban
Development, the Chairman of the Federal Reserve Board, and two
members to be appointed by the President.
The Oversight Board sets the overall strategies, policies,
and goals for RTC, for example, policies and procedures
governing case resolutions, asset management and disposition, and
the use of private contractors. It also approves R T C s financial
plans, authorizes and audits the use of funds by RTC, and has
the responsibility for monitoring and evaluating R T C s
performance.
As an organization with policy making and financial duties,
rather than operational responsibilities which are the province
of RTC, the Oversight Board expects to maintain a lean staff of
skilled professionals.
The Oversight Board will not be involved in individual
cases. It will not sell assets, liquidate or merge thrifts, or
retain private sector companies and individuals to assist in the
sale or management of properties. These activities are the
responsibility of RTC. So if you have interests or questions
about these activities, you should make them known to RTC.
The customary practice for new Administrations is to recount
their accomplishments after the first 100 days. Since the RTC
and Oversight Board have existed for little more than one month,
and operated for just 22 business days, we do not have the
luxury of such leisurely reflection. Nevertheless, I think it
fair to say that we have accomplished a great deal even in this
short period:
o Only an hour after President Bush signed the FIRREA
legislation, the Oversight Board held its first meeting,
completed the necessary organizational actions, promulgated
its initial policies for RTC, made its first authorization
of funds, and appointed its interim officers and staff.
Within hours on the same day RTC held its first board
meeting and got the operations underway.
o To date, the Oversight Board has authorized and released to
RTC about $9 billion for thrift resolutions, liquidity needs
and replacement of high cost funds. Authorized funds are
released to RTC upon presentation of specific requests that
document the amount and purposes of the funds required.

4
o

The RTC has so far used its funds to close or transfer the
deposits of 14 insolvent thrifts and to lower the cost of
funds at numerous other institutions, thereby reducing their
losses. This translates to savings for the taxpayer. It
also should have the broader effect of reducing the cost of
funds for healthy thrifts.
At the first meeting of the Oversight Board, interim ethics
and conflict of interest guidelines were adopted, pending
final regulations. These provide that temporary Oversight
Board employees, from other federal agencies are subject to
the ethical standards of their respective home agencies, and
that FDIC ethical standards apply to all other Oversight
Board employees to the RTC, and to private contractors.
In addition to issuing 9 policies for RTC — covering
matters ranging from financial procedures to the terms of
RTC funding of thrifts — The Oversight Board established a
joint Oversight Board-RTC policy development task force to
make recommendations concerning strategies, policies and
goals for the RTC, and concerning the strategic plan the
Oversight Board must submit to Congress by December 31,
1989. This group, with personnel from both agencies, is
developing policies that are responsive to the RTCs
immediate needs, as well as developing policies that will
give long term guidance. In areas in which the Oversight
Board has not yet acted, RTC will carry out its
responsibilities in accordance with FDIC policies.
One interim policy asks the RTC to concentrate initially on
resolutions that do not involve complex and controversial
asset disposition and financing techniques, such as longterm yield maintenance agreements, asset guarantees and the
retention of equity positions. This policy is not intended
to preclude resolving large institutions, or initiating the
lengthy process to resolve institutions that might require
more complex techniques. It simply provides the Oversight
Board and the RTC some time to develop appropriate policies
for complex transactions, a task that is actively underway.
The Oversight Board has selected and appointed the required
two additional directors of the Resolution Funding
Corporation, the fund raising vehicle under FIRREA, and has
been actively recruiting the two public members of the
Oversight Board, its permanent chief executive officer, and
members for the regional advisory councils.
Most importantly, the Oversight Board and RTC have
successfully begun an orderly, cooperative and professional
working relationship. This may be the most significant

5
initial step in getting the job done efficiently over the
long pull.
All in all we think that's a creditable first month's work.
But we are well aware that this is just the beginning of
what will be a long and challenging process. The focus of our
efforts at the Oversight Board in the near term will continue to
be the development of policies and procedures to guide the R T C s
efforts.
Let me mention just a few of the policy issues that must be
addressed as we go forward.
First, what factors should the RTC weigh most heavily in
determining the order of resolutions? For example, the size or
condition of the institution, geographic location, type of
resolution, or the nature of the assets held could be considered.
Another set of issues concerns asset management and
disposition. How should the RTC use the services of private
contractors and what incentives would be appropriate and promote
efficiency? How does the RTC evaluate the potential costs and
benefits of carrying assets? To what degree have the markets
absorbed the real estate overhang? And how does the RTC
implement the low and moderate income housing provisions of the
legislation?
Should RTC favor whole-bank or clean-bank transactions?
Should the RTC use pre-packaged bid formats for potential
acquirers or negotiate terms with individual bidders?
We don't have answers to all of these questions yet, but we
will. The joint policy development task force has already begun
to tackle these and other important policy matters. We welcome
comments and suggestions from you in the private sector as we
develop these policy guidelines.
In conclusion, I would like to say that I am most encouraged
by the start we have made. Our efforts in these first short
months will lay the foundations of future success, and you may be
assured that we will give the tasks ahead the thought, dedication
and energy consonant with their national importance.
Thank you.

THE SECRETARY OF THE TREASURY
WASHINGTON

September 11, 1989

The Honorable
Dan Quayle
President of the Senate
U.S. Capitol
Washington, D.C. 20510
Dear Mr. President:
In its April 20 report on the tied aid credit
practices of other countries mandated by the Omnibus Trade and
Competitiveness Act of 1988, the Export-Import Bank indicated
that the Administration would be reviewing possible responses
to these practices and would forward policy recommendations to
Congress. We are pleased to transmit the Administration's
recommendations herewith.
Briefly, the Administration recommends that the
central thrust of the U.S. response to the tied aid credit
problem should be vigorous new negotiations aimed at
substantially reducing the commercial disadvantages for
American exporters engendered by the tied aid credit practices
of other countries. We also recommend that available budgetary
resources be used aggressively to support these negotiations.
This approach implies a need to modify the way we use
the War Chest as well as to ensure that opportunities for
financing capital projects receive increased attention within
the constraints of our current aid programs. As a separate
though related exercise, the Administration will be considering
whether and how U.S. foreign assistance programs might provide
greater support for infrastructure and capital projects. Given
the other options at our disposal for responding to the
problem, as well as current budgetary constraints, the
Administration has decided not to seek new resources for a
separate tied aid credit program at this time.
The Administration hereby recommits itself to working
with the Congress to ensure that, to the maximum possible
degree, competition in our export markets focuses on price,

-2-

quality and service rather than on the availability of concessional financing. Although these negotiations will require
perseverance, we expect progress will be made over time that
will enable U.S. exporters to compete more effectively. The
circumstances underlying congressional concerns will be kept
under review, and we are prepared to consider additional action
if circumstances so require.
Sincerely,

^^^V2->W^Y
Nicholas F. Brady
Secretary of the Treasury

^LG-lu^^^l^Jo+in D. Macomber
President and Chairman
Export-Import Bank

THE SECRETARY OF THE TREASURY
WASHINGTON

September 11, 1989

The Honorable Thomas S. Foley
Speaker of the House of Representatives
The Speaker's Rooms
U.S. Capitol
Washington, D.C. 20515
Dear Mr. Speaker:
In its April 20 report on the tied aid credit
practices of other countries mandated by the Omnibus Trade and
Competitiveness Act of 1988, the Export-Import Bank indicated
that the Administration would be reviewing possible responses
to these practices and would forward policy recommendations to
Congress. We are pleased to transmit the Administration's
recommendations herewith.
Briefly, the Administration recommends that the
central thrust of the U.S. response to the tied aid credit
problem should be vigorous new negotiations aimed at
substantially reducing the commercial disadvantages for
American exporters engendered by the tied aid credit practices
of other countries. We also recommend that available budgetary
resources be used aggressively to support these negotiations.
This approach implies a need to modify the way we use
the War Chest as well as to ensure that opportunities for
financing capital projects receive increased attention within
the constraints of our current aid programs. As a separate
though related exercise, the Administration will be considering
whether and how U.S. foreign assistance programs might provide
greater support for infrastructure and capital projects. Given
the other options at our disposal for responding to the
problem, as well as current budgetary constraints, the
Administration has decided not to seek new resources for a
separate tied aid credit program at this time.
The Administration hereby recommits itself to working
with the Congress to ensure that, to the maximum possible
degree, competition in our export markets focuses on price,

-2-

&/u
Nicholas F. Brady
Secretary of the Treasury

>hn D. Macomber
^resident and Chairman
Export-Import Bank

REPORT TO THE U.S. CONGRESS ON
TIED AID CREDIT PRACTICES
ADMINISTRATION RECOMMENDATIONS FOR
A U.S. RESPONSE
SEPTEMBER 1989

Introduction and Summary
In April, 1989 the Export-Import Bank forwarded the
report to the Congress on the tied aid credit practices of
other countries mandated by the Omnibus Trade and Competitiveness Act of 1988. In his transmittal letter, Acting Chairman
Ryan observed that the report supported the need for continued,
and possibly broadened, U.S. negotiating efforts. He promised
that, after reviewing the available options, the Administration
would offer its recommendations on how best to support such
negotiations and on whether it would be desirable to establish
an ongoing tied aid credit program.
On the basis of this review, the Administration has
concluded that the U.S. response should center on a vigorous
new negotiating effort aimed at reducing the commercial
disadvantages for American exporters engendered by the tied aid
credit practices of other countries.
The Administration further recommends that available
budgetary resources be used aggressively to support the negotiations. Eximbank, the Agency for International Development
(AID), the Trade and Development Program (TDP), and other
interested agencies are reviewing ways of doing so. We are
proposing to modify the way in which we use the War Chest. We
also are developing procedures for ensuring that opportunities
for financing capital projects receive consideration within the
constraints of our current aid programs.
As a separate though related exercise, the
Administration will be considering whether and how U.S. foreign
assistance programs might provide greater support for
infrastructure and capital projects.
Given the other options at our disposal for responding to the problem, as well as our budgetary constraints, the
Administration has decided not to seek new resources for a
separate tied aid credit program at this time.
International Negotiations
The Administration reconfirms its commitment to
vigorous pursuit of negotiations with our major trading
partners, with the aim of achieving further improvements in
multilateral discipline over the use of tied aid credits. Our
specific objectives are to minimize the trade distortions
caused by tied aid practices to the detriment of U.S. exporters
and to ensure that tied aid credits serve the legitimate
development needs of recipient countries.

-2-

The groundwork for further negotiations on tied aid
credits was laid at the spring meeting of Ministers of Foreign
Affairs and Finance of the Organization for Economic Cooperation and Development (OECD) and at the Arche Summit in July.
At the latter, leaders of other G-7 countries joined President
Bush in sending a strong signal of support for further progress
in this area. They urged that, at the earliest possible date,
competent bodies in the OECD pursue and achieve improvements in
the present guidelines governing the use of tied aid credits.
A number of possible avenues for negotiation have
L»een suggested in meetings of OECD countries participating in
t-he Arrangement on Guidelines for Officially Supported Export
Credits. This is the forum in which the 1987 tied aid credit
agreement was negotiated and in which — along with the OECD's
Development Assistance Committee — the search for multilateral
solutions continues. The Administration is assessing various
negotiating objectives and strategies with a view to achieving
maximum progress toward international agreement on a new
negotiating mandate at this autumn's round of OECD meetings.
The principal directions identified so far in which
progress might be sought include (1) effectively untying donor
countries' aid programs for capital projects; (2) limiting the
use of tied aid in problem sectors and/or markets; (3) limiting
the use of relatively low-concessional aid to a certain proportion of a donor's total program; (4) requiring open competitive
bidding for transactions below a certain concessionality level
as a way of precluding commercially motivated aid; (5) banning
the late introduction of tied aid credits into project bidding;
and (6) otherwise improving guidelines to enhance the
developmental orientation of tied aid.
We recognize that it may not be possible to remove
all distortions of trade and aid arising from differences in
national approaches to development assistance. Nor do we
underestimate the difficulty and effort that a new round of
negotiations will entail. But we can and will attempt to
minimize the scope of such distortions. We expect to provide a
progress report on our efforts to OECD Ministers in the spring
of 1990.
The War Chest
Since the March 1987 tied aid credit agreement was
reached, the Tied Aid Credit Fund (the "War Chest") has been

-3used to encourage early and full implementation of the agreement by countering offers from other countries that deviate
from its provisions. In practical terms this has resulted in
few new War Chest transactions, since most tied aid credits
conform to the agreement.
The Administration now believes that the War Chest
should be used more directly to support our negotiators. In
our FY 1990 budget submission, we proposed the extension of the
War Chest at the $100 million level to ensure implementation of
earlier tied aid credit agreements and to support further
negotiations.
When blended with commercial credits guaranteed by
the Export.-Import Bank, a $100 million War Chest will allow us
to offer a total of almost $300 million of "mixed credit"
export financing at minimum concessionality levels specified by
international agreements. Since not all offers are taken up,
it would not be imprudent for the Bank to extend an even higher
volume of offers. By using foreign assistance funds from other
agencies to supplement the War Chest, the available financing
would be larger still.
There are three principal ways of utilizing the War
Chest directly in support of international negotiations. One
is specifically to target export markets of countries that
resist stronger discipline over tied aid credits (i.e., resist
further negotiations). This is a course we have followed at
times in the past. However, we would be reluctant to recommend
such a provocative approach without evidence that countries are
not adhering to the tied aid credit agreement or that narrow
commercial interests are leading them to block cooperative
multilateral solutions to remaining tied aid problems.
A second option is the "defensive" one of matching
other countries' tied aid credit offers in cases we judge relevant to our negotiating strategy, whether or not the offering
country is resisting negotiations. The defensive approach has
been useful because it demonstrates to other countries that the
United States is seriously challenging the misuse of tied aid
for commercial purposes. Since it is essentially reactive,
however, it may bring us into the bidding too late to have a
significant impact either on the exporter's chances for winning
the order or on the initiating country's tied aid practices.

-4A third, more activist option is to target offers in
sectors and markets of specific commercial interest to U.S.
exporters, particularly where tied aid credits are offered
extensively. This approach has the potential to have the most
impact for a given expenditure of funds, because it allows the
United States to control the timing, the location, and the size
of tied aid credit offers. It would have to be used judiciously, however, in order not to contribute to an expansion of the
tied aid credit problem.
Of these options, the Administration prefers to
emphasize the third: targetting the War Chest and other tied
aid funds where available in sectors and markets of commercial
interest to U.S. exporters where tied aid credits are used
extensively. In addition, we propose to use such funds
defensively to match or overmatch on a case-by-case basis when
it serves our negotiating purposes. Used in this manner, a War
Chest of the magnitude proposed would send a convincing message
to our trading partners of our firm intent to level the tied
aid credit playing field.
Should international negotiations not proceed
seriously and expeditiously, the Administration would be
willing to review whether the resource levels we have committee
are sufficient to address the problem and may be prepared to
ask the Congress for additional appropriations in subsequent
years. In that case, we also would be prepared to reconsider,
if necessary, the ways in which available funds are targetted.
Foreign Assistance Funds
Within the framework of its existing funding and
legislative authority, AID will maximize its support for
capital projects. As part of this effort, AID, together with
TDP, will look for opportunities to cooperate with Eximbank in
project financing, particularly in support of the third' option
above. Exchanges of information early in the program and
project evaluation processes of all three agencies will allow
joint financing opportunities to be identified.
In cases where AID and TDP funds are available for
joint initiatives with Eximbank, such transactions would be
expected to (1) contribute to the development of the importing
country, (2) meet Eximbank's creditworthiness standards, (3) be
of long-term benefit to the U.S. economy, and (4) have a
significant impact on competitors.

-5While some portion of AID's current appropriations
can be used to finance the transfer of U.S. capital goods
to developing countries, the scope for doing so is limited by
the other purposes our aid programs must serve and by the high
degree of congressional earmarking. Within overall budget
constraints, however, AID will make available what funds it can
under established programs.
In addition, TDP's programs will continue to provide
substantial tangible support for U.S. capital goods exporters.
Focus of U.S. Foreign Assistance Programs
Over the medium term, the Administration will be
considering whether and how U.S. foreign assistance programs
might provide greater support for infrastructure and capital
projects. Although this would be a shift in emphasis compared
to our aid programs of the last two decades, there is ample
precedent in AID's history for doing so. Such a shift would
have to be accomplished in ways consistent with the broad
objective of meeting the development needs of recipient
countries. We would continue to insist that programs and
projects meet development assistance standards and priorities.
New Resources for a Tied Aid Credit Program
The Administration gave careful consideration to the
feasibility and utility of seeking new resources to establish a
tied aid credit program. Such a program would be aimed at
meeting the developmental needs of recipients, but also would
provide more direct support to those of our exporters whose
interests suffer most directly from the tied aid credit
practices of other countries. It was recognized that a program
of this nature could be designed to bolster our negotiating
efforts.
On balance, however, the Administration did not find
a tied aid credit program of this nature to be of such high
national priority as to warrant the expenditure of substantial
additional resources at this time. Output and employment in
the United States are at healthy levels. Our trade balance is
improving as a result of improved international coordination of
economic policies and the revitalization of our domestic
economy. We also were acutely aware of current budgetary constraints. In these circumstances, the steps we are proposing
should be sufficient to accomplish our purposes without the
commitment of additional resources required by a new program.

-6-

Conclusion
The Administration will keep under continuing review
the magnitude of the tied aid credit problem we face and the
progress we are able to make in improving multilateral discipline. We retain the option of recommending that additional
resources be devoted to the establishment of a tied aid credit
program in the future if sufficient progress is not made toward
achieving our negotiating objectives. In evaluating our
progress, particular attention will be paid to the willingness
of other countries to work with us to limit the scope of trade
distortions emanating from their foreign aid programs.
The Administration recommits itself to working with
Congress and the U.S. export community to ensure that, to the
maximum possible degree, export sales competition is conducted
on a basis of price, quality, and service rather than
concessional financing. We recognize that perseverance will be
necessary if this effort is to produce its intended results,
particularly in sectors and markets where tied aid credits are
extensively used. We believe the course we have outlined will
help otherwise competitive U.S. exporters maintain their
presence in those sectors and markets.

TREASURY NEWSJ^
department off tho Treasury • Washington, D.C. • Telephone 566-2041
FOR RELEASE AT 4:00 P.M.
CONTACT: Office of Financing
September 12, 1989
202/376-4350
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice,
invites tenders for two series of Treasury bills totaling approximately $14,400 million, to be issued September 21, 1989. This
offering will result in a paydown for the Treasury of about $4,625
million, as the maturing bills total $19,030 million (including
the 45-day cash management bills issued August 7, 1989, in the
amount of $5,002 million). Tenders will be received at Federal
Reserve Banks and Branches and at the Bureau of the Public Debt,
Washington, D. C. 20239-1500, prior to 1:00 p.m., Eastern Daylight
Saving time, Monday, September 18, 1989. The two series offered
are as follows:
91-day bills (to maturity date) for approximately
$7,200 million, representing an additional amount of bills
dated December 22, 1988, and to mature December 21, 1989
(CUSIP No. 912794 SP 0), currently outstanding in the amount
of $15,792 million, the additional and original bills to be
freely interchangeable.
182-day bills for approximately $7,200 million, to be
dated September 21, 1989, and to mature March 22, 1990 (CUSIP
No. 912794 TW 4 ) .
The bills will be issued on a discount basis under competitive and noncompetitive bidding, and at maturity their par amount
will be payable without interest. Both series of bills will be
issued entirely in book-entry form in a minimum amount of $10,000
and in any higher $5,000 multiple, on the records either of the
Federal Reserve Banks and Branches, or of the Department of the
Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing September 21, 1989. Tenders from Federal
Reserve Banks for their own account and as agents for foreign
and international monetary authorities will be accepted at the
weighted average bank discount rates of accepted competitive
tenders. Additional amounts of the bills may be issued to Federal
Reserve Banks, as agents for foreign and international monetary
authorities, to the extent that the aggregate amount of tenders
for such accounts exceeds the aggregate amount of maturing bills
held by them. Federal Reserve Banks currently hold $2,102 million
as agents for foreign and international monetary authorities, and
$3,683 million for their own account. These amounts represent
the combined holdings of such accounts for the three issues of
maturing bills. Tenders for bills to be maintained on the bookNB-447
entry records of the Department of the Treasury should be submitted on Form PD 5176-1 (for 13-week series) or Form PD 5176-2
(for 26-week series).

'5310

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No
8/89deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from any one
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
8/89 Public Debt.
the

TREASURY NEWS

leportment off tho Treasury • Washington, D.C. • Telephone 566-2041
For release on delivery
expected at 10:00 am
September 13, 19 89
STATEMENT OF
THE HONORABLE CHARLES H. DALLARA
ASSISTANT SECRETARY OF THE TREASURY
FOR INTERNATIONAL AFFAIRS
BEFORE THE
SUBCOMMITTEE ON INTERNATIONAL FINANCE AND MONETARY POLICY
COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
UNITED STATES SENATE
SEPTEMBER 13, 1989
Mr. Chairman and Members of the Subcommittee:
I am pleased to discuss with you the Administration's
policies on tied aid credits. These policies have been
developed by the Economic Policy Council in light of a variety
of factors including Eximbank's April report to Congress on the
tied aid credit practices of other countries.
My intention is to focus today on the potential role of
international negotiations in dealing with the tied aid credit
problem and how proposed changes in use of the War Chest — and
possibly in our use of aid resources — can support these
negotiations. I would like to begin, however, by drawing your
attention to some data that have only recently become available
concerning the scope of the tied aid credit problem.
Magnitude of the Tied Aid Credit Problem
Tied aid is defined as concessional financing linked to
procurement of goods and services in the donor country. Its
primary purpose generally is to assist developing economies.
However, some tied aid also has a commercial motivation in that
it seeks to promote artificially the donor country's exports
(especially of capital goods) while aiding development. Data
collected by the OECD on the tied aid credit programs of member
countries do not differentiate between offers which are
commercially motivated and those which are not.
OECD figures covering tied aid offers by member countries
from mid-1987 to mid-1988 showed an increase in total offers.
The increase raised questions as to whether the problem was

NB-448

-2-

growing worse despite a March 1987 agreement that raised minimum
tied aid concessionality levels from 25 percent to 30 percent in
July, 1987 and to 35 percent in July, 1988.
The latest statistics compiled by the OECD for the year
from mid-1988 to mid-1989, on the other hand, are somewhat more
encouraging. The data, received in late August, show a significant decline in total tied aid credits notified, from just over
$17.4 billion in 1987/1988 to slightly over $14.3 billion in
1988/1989 — a drop of about 18 percent. The drop in credits
with concessionality levels of less than 50 percent (one measure
of "harder" aid) was larger, from just over $14 billion in
1987-88 to under $10.5 billion in 1988-89. This is a drop of
approximately 25 percent. Both these year-on-year comparisons
mask an even sharper decline between the last half of 1988 and
the first half of 1989.
While encouraging, the latest figures should be treated
with caution. Tied aid credit offers remain high by pre-1987
standards. The new data do not necessarily establish a trend,
and we do not know with certainty the reason for the decline.
Therefore, while welcoming the new figures, we do not as yet
consider them a reliable indicator that the tied aid credit
problem is on the way to solution.
The Eximbank report to Congress in April made clear that
the U.S. tied aid credit problem derives largely from the fact
that other countries use their tied aid to support capital
projects to a greater degree than we do. Eximbank's report
estimated U.S. capital goods exporters lost sales annually of
$400-800 million as a result of the tied aid credit practices of
other countries. We continue to rely on the Eximbank figures as
our estimate of the magnitude of the problem.
International Negotiations
The Administration has concluded that a vigorous new
negotiating effort aimed at reducing the commercial disadvantage
U.S. exporters face should be the central thrust of the response
to the tied aid credit practices of other countries. We will
seek to reduce substantially the trade distortions caused by
these practices to the detriment of U.S. exporters.
Groundwork for this effort began at the spring Ministerial
meeting of the OECD. The Arche Summit in July lent considerable
additional momentum. At the Summit, other G-7 government

-3leaders joined President Bush in expressing strong support for
further progress in increasing multilateral discipline over the
use of tied aid credits, and urged that the OECD begin work as
soon as possible. We intend to use the OECD and Summit guidance
as the basis for a major new effort to tackle the problem.
Previous negotiations on this issue concentrated on raising
the minimum required concessionality levels for tied aid credits
in order to make them too costly to be used lightly as trade
subsidies. Since that agreement was fully implemented only a
year ago, we probably have not yet seen its full effect. Partly
for that reason, and partly because OECD countries are reluctant
to accept a further significant increase in concessionality
levels at this time, there is agreement here and abroad that a
new round of negotiations should focus on some other aspect of
the issue than concessionality levels.
A number of alternative negotiating objectives have been
suggested in the OECD's export credit and development assistance
groups. The major options include (1) effectively untying aid
programs for capital projects; (2) limiting the use of tied aid
in problem sectors and/or markets; (3) limiting the use of
relatively low-concessional aid to a certain proportion of a
donor's total program; (4) requiring open competitive bidding
for transactions below a certain concessionality level to
discourage commercial abuse of low-concessional aid; (5) banning
the late introduction of tied aid credits into project bidding;
and (6) otherwise improving guidelines to enhance the developmental orientation of tied aid.
It is likely that the U.S. strategy will incorporate more
than one of these options, especially since significant portions
of the negotiating effort will be focused in the development
assistance area. We are assessing which options will offer the
greatest scope for success, and will be working in OECD meetings
this fall to achieve international consensus on ground rules for
the new round of negotiations.
Any U.S. negotiating strategy will have to recognize the
fact that U.S. procurement policies also seek to ensure that
most foreign assistance funds are spent on U.S. goods and
services. Other than food aid (which is all tied), AID
estimates that in 1986 about 45 percent of all bilateral loans
and grants were fully or partially tied to U.S. procurement,
including only about 5 percent for capital projects.

-4I should reemphasize that it will not be possible to
eliminate completely other countries' use of aid programs to
support capital projects. Nor does the Administration wish to
prohibit the use of aid for projects that meet the legitimate
development needs of recipient countries. The negotiating road
ahead will be long and difficult, and other countries are not
generally enthusiastic about the undertaking. The intermediate
goal, reflecting our awareness of the complexity of the task
ahead, is to provide a progress report to OECD Ministers at
their spring 1990 meeting.
The difficulties notwithstanding, further progress is
possible. We can and will work to minimize the effects on U.S.
capital goods exporters of the differences in countries' aid
policies. Less tying of aid would be of obvious benefit.
Intensive work on the problems of "spoiled" markets and sectors
also should help. Limiting the share of low-concessional aid
may be another promising avenue. The final result should be to
focus foreign assistance more on development and less on
competitive trade advantage.
New Resources for a Tied Aid Credit Program
The Administration gave careful consideration to the
feasibility and utility of devoting additional resources to
a separate tied aid credit program.
We recognized that such a
program could benefit American exporters whose interests suffer
most directly from the tied aid practices of others. It also
could advance U.S. negotiating efforts.
On balance, however, it did not appear necessary to create
a separate tied aid program and to commit substantial additional
resources at this time. Output and employment in the United
States are at healthy levels. The nation still is enjoying the
longest peacetime economic expansion in the post World War II
era. The U.S. trade balance is improving due to better international coordination of economic policies and the revitalization
of the domestic economy; we have experienced double digit export
expansion over the last eighteen months. Finally, U.S. capital
goods exporters tend to be large, well-capitalized, and
technically sophisticated.
Current budgetary constraints also were a major factor. As
a practical matter, creation of a new tied aid credit program
would require an offsetting diversion of funds to the detriment
of other essential programs. Such diversion is not justified at
this juncture.

-5The War Chest
On the other hand, we will not hesitate to commit resources
that already are available. The primary financial underpinning
for the previous U.S. negotiating effort on tied aid credits was
the Tied Aid Credit Fund, or "War Chest." Since the conclusion
of the 1987 agreement, the War Chest has been used to encourage
early and full compliance with the agreement by matching offers
from other countries that deviated from its provisions. In
practice, this resulted in little use since most tied aid
credits have conformed to the agreement.
The Administration now proposes to use the War Chest
actively in support of the new round of negotiations. It also
would remain available to ensure implementation of current
agreements, should that prove necessary — though there is no
reason to anticipate increased use for this purpose.
The FY 1990 budget proposals include a War Chest of $100
million. When blended with commercial credits guaranteed by
Eximbank, this would allow us to offer nearly $300 million of
"mixed credit" financing at current required concessionality
levels. Since not all of Eximbank's offers are accepted, it
would be reasonable for the Bank to extend an even higher volume
of offers. To the extent that foreign assistance funds can be
used to supplement Eximbank's resources, the volume of funding
available for mixed credits would be larger still.
There are three main options for using the War Chest in
support of the strategy I am outlining today:
— Target export markets of countries that refuse to
cooperate in negotiations on tied aid, as was done in the past.
This would be particularly useful if there is evidence that
countries are not adhering to the tied aid credit agreement or
that they are blocking cooperative, multilateral solutions to
remaining tied aid credit problems.
— Match tied aid offers of other countries where doing so
would advance negotiations, whether or not the other countries
are being cooperative. This "defensive" approach can be useful
in some cases, but defensive reactions often come too late to
give our exporters a real chance of winning the order or to
provide much support for a negotiating effort.
— Take a more activist approach by targetting offers in
sectors and markets of interest to U.S. exporters where tied aid

-6credits are used extensively. This approach could have substantial impact for a given expenditure of funds because it allows
us to control the timing, location, and size of tied aid credit
offers. It would have to be used judiciously, however, in order
not to exacerbate the problem.
The Administration prefers to emphasize the third option,
targetting sectors and markets of particular interest to U.S.
exporters where tied aid is heavily used. However, responding
to other countries' tied aid practices may be appropriate in
some cases, so matching or overmatching would continue to be
options where it serves our negotiating purposes. Such flexible
use of a War Chest of the magnitude proposed would send a
convincing message of intent to level the tied aid playing
field. In addition, we will endeavor to find a variety of ways
of augmenting the pressures for prompt, effective action to deal
with the trade distortions resulting from tied aid credits.
If negotiations do not proceed seriously and expeditiously,
we may be prepared to ask Congress for additional War Chest
appropriations in subsequent years. In that case we also would
be prepared to reconsider, if necessary, the ways in which War
Chest funds are targetted.
Foreign Assistance Programs
Where AID or TDP funds are available, those agencies will
undertake joint initiatives with Eximbank. In such cases, the
transaction must (1) contribute to the development of the
importing country; (2) satisfy Eximbank's creditworthiness
standards; (3) be of potentially long-term benefit to the U.S.
economy; and (4) have a significant impact on competitors.
To the extent allowed by its current funding and program
authority, AID will begin immediately to maximize support for
capital projects. As part of this effort AID, together with
TDP, will look for ways to support such projects in cooperation
with Eximbank. By exchanging information early in the
evaluation phase, the three agencies should be able to identify
joint funding opportunities.
TDP's legislative mandate of course allows it to provide
direct, tangible support for U.S. capital goods exporters, and
some portion of AID's current appropriations can be used to
finance the transfer of capital goods as well. However, AID's
scope for participation in a tied aid credit initiative is

-7limited by the multiple purposes our aid programs must serve and
by the high degree of congressional earmarking. Within these
constraints, AID will make available what funds it can.
Over the medium term, the Administration will consider
whether and how U.S. foreign assistance programs might provide
greater support for capital projects. Provided it is done in
ways that meet development standards and the needs of recipient
countries, such support would be consistent with the fundamental
purpose of U.S. aid programs.
Conclusions
The Administration recommits itself to vigorous negotiations to minimize the use of tied aid credits for commercial
advantage and to reduce substantially the trade distortions
resulting from the current pattern of tied aid credit usage.
In support of these negotiations, we propose active use of
the War Chest, combined with a commitment on the part of AID and
TDP individually and in combination with Eximbank to support
developmentally sound capital projects within existing resource
constraints. This will not only demonstrate to other countries
our continuing concerns about tied aid credit practices, but
also will encourage our exporters to maintain a presence in
sectors and markets where the use of tied aid credits by other
countries is extensive.

TREASURY NEWS
Deportment off tho Treasury • Washington, D.e. • Telephone
FOR IMMEDIATE RELEASE
September 12, 1989

CONTACT:

LARRY BATDORF
(202) 566-2041

NEW INCOME TAX CONVENTION SIGNED WITH THE
REPUBLIC OF INDIA
The Treasury Department announced today the signing of an
Income Tax Convention and accompanying Protocol ("the treaty")
between the United States and the Republic of India. The
proposed treaty was signed in New Delhi on September 12, 1989 by
Ambassador John R. Hubbard for the United States, and by Revenue
Secretary Dr. N. K. Sengupta for the Republic of India. The
proposed treaty will be submitted to the Senate for its advice
and consent to ratification. Following notification by both
countries that all ratification procedures have been completed,
the treaty will enter into force. The treaty will have effect in
the United States as of January 1 of the year following the year
in which the treaty enters into force. In India the treaty will
have effect as of April 1 of the year following entry into force.
This will be the first income tax treaty between the two
countries. An earlier treaty, signed in 1959, did not enter into
force. The proposed treaty differs from the U.S. Model Income
Tax Convention in a number of respects in order to reflect
India's status as a developing country. In this regard it is
similar to other U.S. treaties with developing countries.
The treaty provides maximum rates of tax at source on
payments of dividends, interest and royalties. Dividends from a
subsidiary to a parent corporation are taxable at a maximum rate
of 15 percent; other dividends may be taxed at source at a
maximum of 25 percent rate. Interest is, in general, taxable at
source at a maximum of 15 percent, although interest received by
a financial institution is taxable at a maximum rate of 10
percent, and interest received by either of the two Governments,
by certain governmental financial institutions, and by residents
of a Contracting State on certain Government approved loans, is
exempt from tax at source.
The royalty provisions contain several significant departures
from standard U.S. treaty policy. In general, industrial and
copyright royalties are taxable at source at a maximum rate of 20
NB-449 for the first five years of the treaty's life, dropping
percent
to 15 percent thereafter. Where the payor of the royalty is one
of the Governments, a political subdivision or a public sector

-2corporation, tax will be imposed from the effective date of the
treaty at a maximum rate of 15 percent. Payments for the use of,
or the right to use, industrial, commercial or scientific
equipment are treated as royalties, and are subject to a maximum
rate of tax at source of 10 percent. Certain service fees,
referred to in the treaty as "fees for included services", are
treated in the same manner as royalties. Included services are
defined as technical or consultancy services which either: (i)
are ancillary and subsidiary to the licensing of an intangible or
the rental of tangible personal property, both of which give rise
to royalty payments, or (ii) if not ancillary or subsidiary, make
available to the payor of the service fee, some technical
knowledge, experience, skill, etc., or transfer to that person a
technical plan or design. A detailed memorandum of understanding
was developed to provide guidance as to the intended scope of the
concept of "included services". Copies of this memorandum are
available along with copies of the Treaty, as described below.
Fees for all other services are treated either as business
profits or as independent personal services income.
The treaty preserves for the United States the right to
impose the branch profits tax. It preserves for both Contracting
States their statutory taxing rights with respect to capital
gains. The proposed treaty contains rules for the taxation of
business profits which, consistent with other U.S. treaties with
developing countries, provide a broader range of circumstances
under which one partner may tax the business profits of a
resident of the other. The treaty contains reciprocal exemption
at source for shipping and aircraft operating income. The
treatment under the proposed treaty of various classes of
personal service income is similar to that under other U.S.
treaties with developing countries. The proposed treaty contains
provisions designed to prevent third-country residents from
treaty shopping. Like all U.S. tax treaties, the proposed treaty
prohibits tax discrimination, creates a dispute resolution
mechanism and provides for the exchange of otherwise confidential
tax information between the tax authorities of the partners.
Copies of the proposed Treaty and Protocol, diplomatic notes
o 0 o
exchanged at the time of the signing,
and the memorandum of
understanding on Fees for Included Services will be available
soon from the Treasury's Office of Public Affairs, Room 2315,
Treasury Department, Washington, D.C. 20220, telephone (202)
566-2041.

CONVENTION BETWEEN
THE GOVERNMENT OF THE UNITED STATES OF AMERICA
AND THE GOVERNMENT OF THE REPUBLIC OF INDIA
FOR THE AVOIDANCE OF DOUBLE TAXATION AND THE
PREVENTION OF FISCAL EVASION WITH RESPECT TO
TAXES ON INCOME
The Government of the United States of America and the
Government of the Republic of India, desiring to conclude a
Convention for the avoidance of double taxation and the
prevention of fiscal evasion with respect to taxes on income,
have agreed as follows:

-2-

ARTICLE 1
General Scope

1. This Convention shall apply to persons who are residents
of one or both of the Contracting States, except as otherwise
provided in the Convention.
2. The Convention shall not restrict in any manner any
exclusion, exemption, deduction, credit, or other allowance now
or hereafter accorded:
a) by the laws of either Contracting State; or
b) by any other agreement between the Contracting
States.
3. Notwithstanding any provision of the Convention except
paragraph 4, a Contracting State may tax its residents (as
determined under Article 4 (Residence)), and by reason of
citizenship may tax its citizens, as if the Convention had not
come into effect. For this purpose, the term "citizen" shall
include a former citizen whose loss of citizenship had as one of
its principal purposes the avoidance of tax, but only for a
period of 10 years following such loss.
4. The provisions of paragraph 3 shall not affect
a) the benefits conferred by a Contracting State under
paragraph 2 of Article 9 (Associated Enterprises), under
paragraphs 2 and 6 of Article 20 (Private Pensions,
Annuities, Alimony, and Child Support), and under Articles 25
(Relief From Double Taxation), 26 (Non-Discrimination), and
27 (Mutual Agreement Procedure); and

-3-

the benefits conferred by a Contracting State under

Articles 19 (Remuneration and Pensions in Respect of
Government Service), 21 (Payments Received by Students and
Apprentices), 22 (Payments Received by Professors, Teachers
and Research Scholars) and 29 (Diplomatic Agents and Consular
Officers), upon individuals who are neither citizens of, nor
have immigrant status in, that State.

ARTICLE 2
Taxes Covered

1. The existing taxes to which this Convention shall apply

a) in the United States, the Federal income taxes
imposed by the Internal Revenue Code (but excluding the
accumulated earnings tax, the personal holding company tax,
and social security taxes), and the excise taxes imposed on
insurance premiums paid to foreign insurers and with respect
to private foundations (hereinafter referred to as "Unite:!
States tax"); provided, however, the Convention shall apply
to the excise taxes imposed on insurance premiums paid to
foreign insurers only to the extent that the risks covered by
such premiums are not reinsured with a person not entitled to
exemption from such taxes under this or any other Convention
which applies to these taxes; and
b) in India:

the income tax including any surcharge

thereon, but excluding income tax on undistributed
income of companies, imposed under the Income-tax Act;
and
ii)

the surtax

(hereinafter referred to as "Indian tax").
Taxes referred to in (a) and (b) above shall not include any
amount payable in respect of any default or omission in relation
to the above taxes or which represent a penalty imposed relating
to those taxes.

2. The Convention shall apply also to any identical or
substantially similar taxes which are imposed after the date of
signature of the Convention in addition to, or in place of, the
existing taxes.

The competent authorities of the Contracting

States shall notify each other of any significant changes which
have been made in their respective taxation laws and of any
official published material concerning the application of the
Convention.

ARTICLE 3
General Definitions

1. In this Convention, unless the context otherwise
requ i res:
a)

the term "India" means the territory of India and

includes the territorial sea and airspace above it, as well
as any other maritime zone in which India has sovereign

-5-

rights, other rights and jurisdictions, according to the
Indian law and in accordance with international law;
b) the term "United States", when used in a geographical
sense means all the territory of the United States of
America, including its territorial sea, in which the laws
relating to United States tax are in force, and all the area
beyond its territorial sea, including the seabed and subsoil
thereof, over which the United States has jurisdiction in
accordance with international law and in which the laws
relating to United States tax are in force;
c) the terms "a Contracting State" and "the other
Contracting State" mean India or the United States as the
context requires;
d) the term "tax" means Indian tax or United States tax,
as the context requires;
e) the term "person" includes an individual, an estate,
a trust, a partnership, a company, any other body of persons,
or other taxable entity;
f) the term "company" means any body corporate or any
entity which is treated as a company or body corporate for
tax purposes;
g) the terms "enterprise of a Contracting State" and
"enterprise of the other Contracting State" mean respectively
an enterprise carried on by a resident of a Contracting State
and an enterprise carried on by a resident of the other
Contracting State;

h) the term "competent authority" means, in the case of
India, the Central Government in the Ministry of Finance
(Department of Revenue) or their authorized representative,
and in the case of the United States, the Secretary of the
Treasury or his delegate;
i) the term "national" means any individual possessing
the nationality or citizenship of a Contracting State;
j) the term "international traffic" means any transport
by a ship or aircraft operated by an enterprise of a
Contracting State, except when the ship or aircraft is
operated solely between places within the other Contracting
State;
k) the term "taxable year" in relation to Indian Tax
means "previous year" as defined in the Income-tax Act, 1961.
2. As regards the application of the Convention by a
Contracting State any term not defined therein shall, unless the
context otherwise requires or the competent authorities agree to
a common meaning pursuant to the provisions of Article 27
(Mutual Agreement Procedure), have the meaning which it has
under the laws of that State concerning the taxes to which the
Convention applies.

ARTICLE 4
Residence

1. For the purposes of this Convention, the term "resident
of a Contracting State" means any person who, under the laws of

-7-

this term does not include any person who is liable

to tax in that State in respect only of income from sources
in that State; and
b)

in the case of income derived or paid by a

partnership, estate, or trust, this term applies only to the
extent that the income derived by such partnership, estate,
or trust is subject to tax in that State as the income of a
resident, either in its hands or in the hands of its partners
or beneficiaries.
2.

Where by reason of the provisions of paragraph 1, an

individual is a resident of both Contracting States, then his
status shall be determined as follows:
a)

he shall be deemed to be a resident of the State in

which he has a permanent home available to him; if he has a
permanent home available to him in both States, he shall be
deemed to be a resident of the State with which his personal
and economic relations are closer (centre of vital
interests);
b)

if the State in which he has his centre of vital

interests cannot be determined, or if he does not have a
permanent home available to him in either State, he shall be
deemed to be a resident of the State in which he has an
habitual abode;

-0-

c) if he has an habitual abode in both States or in
neither of them, he shall be deemed to be a resident of the
State of which he is a national;
d) if he is a national of both States or of neither of
them, the competent authorities of the Contracting States
shall settle the question by mutual agreement.
3. Where, by reason of paragraph 1, a company is a resident
of both Contracting States, such company shall be considered to
be outside the scope of this Convention except for purposes of
paragraph 2 of Article 10 (Dividends), Article 26 (NonDiscrimination) , Article 27 (Mutual Agreement Procedure), Article
28 (Exchange of Information and Administrative Assistance) and
Article 30 (Entry Into Force).
4. Where, by reason of the provisions of paragraph 1, a
person other than an individual or a company is a resident of
both Contracting States, the competent authorities of the
Contracting States shall settle the question by mutual agreement
and determine the mode of application of the Convention to such
person.

ARTICLE 5
Permanent Establishment

1. For the purposes of this Convention, the term "permanent
establishment" means a fixed place of business through which the
business of an enterprise is wholly or partly carried on.

-9-

The term "permanent establishment" includes especially:

a) a place of management;
b) a branch;
c) an office;
d) a factory;
e) a workshop;
f) a mine, an oil or gas well, a quarry, or any other
place of extraction of natural resources;
g) a warehouse, in relation to a person providing
storage facilities for others;
h) a farm, plantation or other place where agriculture,
forestry, plantation or related activities are carried on;
i) a store or premises used as a sales outlet;
j) an installation or structure used for the exploration
or exploitation of natural resources, but only if so used for
a period of more than 120 days in any twelve month period;
k) a building site or construction, installation or
assembly project or supervisory activities in connection
therewith, where such site, project or activities (together
with other such sites, projects or activities, if any)
continue for a period of more than 120 days in any twelve
month period;
1) the furnishing of services, other than included
services as defined in Article 12 (Royalties and Fees for
Included Services), within a Contracting State by an
enterprise through employees or other personnel, but only if:

-10-

activities of that nature continue within that

State for a period or periods aggregating more than 90
days within any twelve-month period; or
ii) the services are performed within that State for a
related enterprise (within the meaning of paragraph 1 of
Article 9 (Associated Enterprises)).
3. Notwithstanding the preceding provisions of this Article,
the term "permanent establishment" shall be deemed not to include
any one or more of the following:
a) the use of facilities solely for the purpose of
storage, display, or occasional delivery of goods or
merchandise belonging to the enterprise;
b) the maintenance of a stock of goods or merchandise
belonging to the enterprise solely for the purpose of
storage, display, or occasional delivery;
c) the maintenance of a stock of goods or merchandise
belonging to the enterprise solely for the purpose of
processing by another enterprise;
d) the maintenance of a fixed place of business solely
for the purpose of purchasing goods or merchandise, or of
collecting information, for the enterprise;
e) the maintenance of a fixed place of business solely
for the purpose of advertising, for the supply of
information, for scientific research or for other activities
which have a preparatory or auxiliary character, for the
enterprise.

-11-

Notwithstanding the provisions of paragraphs 1 and 2,

where a person - other than an agent of an independent status to
whom paragraph 5 applies - is acting in a Contracting State on
behalf of an enterprise of the other Contracting State, that
enterprise shall be deemed to have a permanent establishment in
the first-mentioned State if:
a) he has and habitually exercises in the firstmentioned State an authority to conclude contracts on behalf
of the enterprise, unless his activities are limited to those
mentioned in paragraph 3 which, if exercised through a fixed
place of business, would not make that fixed place of
business a permanent establishment under the provisions of
that paragraph;
b) he has no such authority but habitually maintains in
the first-mentioned State a stock of goods or merchandise
from which he regularly delivers goods or merchandise on
behalf of the enterprise, and some additional activities
conducted in that State on behalf of the enterprise have
contributed to the sale of the goods or merchandise; or
c) he habitually secures orders in the first-mentioned
State, wholly or almost wholly for the enterprise.
5. An enterprise of a Contracting State shall not be deemed
to have a permanent establishment in the other Contracting State
merely because it carries on business in that other State through
a broker, general commission agent, or any other agent of an
independent status, provided that such persons are acting in the

-12-

ordinary course of their business.

However, when the activities

of such an agent are devoted wholly or almost wholly on behalf of
that enterprise and the transactions between the agent and the
enterprise are not made under arm's-length conditions, he shall
not be considered an agent of independent status within the
meaning of this paragraph.
6. The fact that a company which is a resident of a
Contracting State controls or is controlled by a company which is
a resident of the other Contracting State, or which carries on
business in that other State (whether through a permanent
establishment or otherwise), shall not of itself constitute
either company a permanent establishment of the other.

ARTICLE 6
Income From Immovable Property (Real Property)

1. Income derived by a resident of a Contracting State from
immovable property (real property) , including income from
agriculture or forestry, situated in the other Contracting State
may be taxed in that other State.
2. The term "immovable property" shall have the meaning
which it has under the law of the Contracting State in which the
property in question is situated.
3. The provisions of paragraph 1 shall also apply to income
derived from the direct use, letting, or use in any other form of
immovable property.

The provisions of paragraphs 1 and 3 shall also apply to

the income from immovable property of an enterprise and to income
from immovable property used for the performance of independent
personal services.

ARTICLE 7
Business Profits

1. The profits of an enterprise of a Contracting State shall
be taxable only in that State unless the enterprise carries on
business in the other Contracting State through a permanent
establishment situated therein. If the enterprise carries on
business as aforesaid, the profits of the enterprise may be taxed
in the other State but only so much of them as is attributable to
a) that permanent establishment; b) sales in the other State of
goods or merchandise of the same or similar kind as those sold
through that permanent establishment; or c) other business
activities carried on in the other State of the same or similar
kind as those effected through that permanent establishment.
2. Subject to the provisions of paragraph 3, where an
enterprise of a Contracting State carries on business in the
other Contracting State through a permanent establishment
situated therein, there shall in each Contracting State be
attributed to that permanent establishment the profits which it
might be expected to make if it were a distinct and independent
enterprise engaged in the same or similar activities under the

-14-

same or similar conditions and dealing wholly at arm's-length
with the enterprise of which it is a permanent establishment and
other enterprises controlling, controlled by or subject to the
same common control as that enterprise. In any case where the
correct amount of profits attributable to a permanent
establishment is incapable of determination or the determination
thereof presents exceptional difficulties, the profits
attributable to the permanent establishment may be estimated on a
reasonable basis. The estimate adopted shall, however, be such
that the result shall be in accordance with the principles
contained in this Article.
3. In the determination of the profits of a permanent
establishment, there shall be allowed as deductions expenses
which are incurred for the purposes of the business of the
permanent establishment, including a reasonable allocation of
executive and general administrative expenses, research and
development expenses, interest, and other expenses incurred for
the purposes of the enterprise as a whole (or the part thereof
which includes the permanent establishment), whether incurred' in
the State in which the permanent establishment is situated or
elsewhere, in accordance with the provisions of and subject to
the limitations of the taxation laws of that State. However, no
such deduction shall be allowed in respect of amounts, if any,
paid (otherwise than toward reimbursement of actual expenses) by
the permanent establishment to the head office of the enterprise
or any of its other offices, by way of royalties, fees or other

-15-

similar payments in return for the use of patents, know-how or
other rights, or by way of commission or other charges for
specific services performed or for management, or, except in the
case of banking enterprises, by way of interest on moneys lent to
the permanent establishment. Likewise, no account shall be
taken, in the determination of the profits of a permanent
establishment, for amounts charged (otherwise than toward
reimbursement of actual expenses), by the permanent establishment
to the head office of the enterprise or any of its other offices,
by way of royalties, fees or other similar payments in return for
the use of patents, know-how or other rights, or by way of
commission or other charges for specific services performed or
for management, or, except in the case of a banking enterprise,
by way of interest on moneys lent to the head office of the
enterprise or any of its other offices.
4. No profits shall be attributed to a permanent
establishment by reason of the mere purchase by that permanent
establishment of goods or merchandise for the enterprise.
5. For the purposes of this Convention, the profits to be
attributed to the permanent establishment as provided in
paragraph 1(a) of this Article shall include only the profits
derived from the assets and activities of the permanent
establishment and shall be determined by the same method year by
year unless there is good and sufficient reason to the contrary.
6. Where profits include items of income which are dealt
with separately in other Articles of the Convention, then the

-16-

provisions of those Articles shall not be affected by the
provisions of this Article.
7. For the purposes of the Convention, the term "business
profits" means income derived from any trade or business
including income from the furnishing of services other than
included services as defined in Article 12 (Royalties and Fees
for Included Services) and including income from the rental of
tangible personal property other than property described in
paragraph 3 (b) of Article 12 (Royalties and Fees for Included
Services) .

ARTICLE 8
Shipping and Air Transport

1. Profits derived by an enterprise of a Contracting State
from the operation by that enterprise of ships or aircraft in
international traffic shall be taxable only in that State.
2. For the purposes of this Article, profits from the
operation of ships or aircraft in international traffic shall
mean profits derived by an enterprise described in paragraph 1
from the transportation by sea or air respectively of passengers,
mail, livestock or goods carried on by the owners or lessees or
charterers of ships or aircraft including-a) the sale of tickets for such transportation on
behalf of other enterprises;
b) other activity directly connected with such
transportation; and

-17-

c) the rental of ships or aircraft incidental to any
activity directly connected with such transportation.
3.

Profits of an enterprise of a Contracting State described

in paragraph 1 from the use, maintenance, or rental of containers
(including trailers,

barges, and related equipment for the

transport of containers)

used in connection with the operation

of ships or aircraft in international traffic shall be taxable
only in that State.
4.

The provisions of paragraphs 1 and 3 shall also apply to

profits from participation in a pool, a joint business, or an
international operating agency.
5.

For the purposes of this Article, interest on funds

connected with the operation of ships or aircraft in
international traffic shall be regarded as profits derived from
the operation of such ships or aircraft, and the provisions of
Article 11 (Interest) shall not apply in relation to such
interest.
6.

Gains derived by an enterprise of a Contracting State

described in paragraph 1 from the alienation of ships, aircraft
or containers owned and operated by the enterprise, the income
from which is taxable only in that State, shall be taxed only in
that State.

ARTICLE 9
Associated Enterprises

1. Where:

-18-

an enterprise of a Contracting State participates

directly or indirectly in the management, control or capital
of an enterprise of the other Contracting State; or
b) the same persons participate directly or indirectly
in the management, control, or capital of an enterprise of a
Contracting State and an enterprise of the other Contracting
State,
and in either case conditions are made or imposed between the two
enterprises in their commercial or financial relations which
differ from those which would be made between independent
enterprises, then any profits which, but for those conditions
would have accrued to one of the enterprises, but by reason of
those conditions have not so accrued, may be included in the '
profits of that enterprise and taxed accordingly.
2. Where a Contracting State includes in the profits of an
enterprise of that State, and taxes accordingly, profits on which
an enterprise of the other Contracting State has been charged to
tax in that other State, and the profits so included are profits
which would have accrued to the enterprise of the first-mentioned
State if the conditions made between the two enterprises had been
those which would have been made between independent enterprises,
then that other State shall make an appropriate adjustment to the
amount of the tax charged therein on those profits. In
determining such adjustment, due regard shall be had to the
other provisions of this Convention and the competent authorities
of the Contracting States shall if necessary consult each other.

-19-

ARTICLE 10
Dividends

1. Dividends paid by a company which is a resident of a
Contracting State to a resident of the other Contracting State
may be taxed in that other State.
2. However, such dividends may also be taxed in the
Contracting State of which the company paying the dividends is a
resident, and according to the laws of that State, but if the
beneficial owner of the dividends is a resident of the other
Contracting State, the tax so charged shall not exceed:
a) 15 per cent of the gross amount of the dividends if
the beneficial owner is a company which owns at least 10 per
cent of the voting stock of the company paying the dividends;
b) 25 per cent of the gross amount of the dividends in
all other cases.
Subparagraph b) and not subparagraph a) shall apply in the case
of dividends paid by a United States person which is a Regulated
Investment Company. Subparagraph a) shall not apply to dividends
paid by a United States person which is a Real Estate Investment
Trust, and subparagraph b) shall only apply if the dividend is
beneficially owned by an individual holding a less than 10
percent interest in the Real Estate Investment Trust. This
paragraph shall not affect the taxation of the company in respect
of the profits out of which the dividends are paid.

-20-

The term "dividends" as used in this Article means income

from shares or other rights, not being debt-claims, participating
in profits, income from other corporate rights which are
subjected to the same taxation treatment as income from shares by
the taxation laws of the State of which the company making the
distribution is a resident; and income from arrangements,
including debt obligations, carrying the right to participate in
profits, to the extent so characterized under the laws of the
Contracting State in which the income arises.
4. The provisions of paragraphs 1 and 2 shall not apply if
the beneficial owner of the dividends, being a resident of a
Contracting State, carries on business in the other Contracting
State, of which the company paying the dividends is a resident,
through a permanent establishment situated therein, or performs
in that other State independent personal services from a fixed
base situated therein, and the dividends are attributable to such
permanent establishment or fixed base. In such case the
provisions of Article 7 (Business Profits) or Article
15 (Independent Personal Services), as the case may be, shall
apply.
5. Where a company which is a resident of a Contracting
State derives profits or income from the other Contracting State,
that other State may not impose any tax on the dividends paid by
the company except insofar as such dividends are paid to a
resident of that other State or insofar as the holding in respect
of which the dividends are paid is effectively connected with a

-21-

permanent establishment or a fixed base situated in that other
State, nor subject the company's undistributed profits to a tax
on the company's undistributed profits, even if the dividends
paid or the undistributed profits consist wholly or partly of
profits or income arising in such other State.

ARTICLE 11
Interest

1. Interest arising in a Contracting State and paid to a
resident of the other Contracting State may be taxed in that
other State.
2. However, such interest may also be taxed in the
Contracting State in which it arises, and according to the laws
of that State, but if the beneficial owner of the interest is a
resident of the other Contracting State, the tax so charged shall
not exceed:
a) 10 percent of the gross amount of the interest if
such interest is paid on a loan granted by a bank carrying on
a bona fide banking business or by a similar financial
institution (including an insurance company); and
b) 15 percent of the gross amount of the interest in all
other cases.
3. Notwithstanding the provisions of paragraph 2 of this
Article, interest arising in a Contracting State:
a) and derived and beneficially owned by the Government
of the other Contracting State, a political subdivision or

-22-

by the Export Import Bank of the United States,

when India is the first-mentioned Contracting State; and
ii)

by the EXIM Bank of India, when the United States

is the first-mentioned Contracting State; and
c)

to the extent approved by the Government of that

State, and derived and beneficially owned by any person,
other than a person referred to in subparagraphs (a) and (b),
who is a resident of the other Contracting State, provided
that the transaction giving rise to the debt-claim has been
approved in this behalf by the Government of the firstmentioned Contracting State;
shall be exempt from tax in the first-mentioned Contracting
State.
4. The term "interest" as used in this Convention means
income from debt-claims of every kind, whether or not secured by
mortgage, and whether or not carrying a right to participate in
the debtor's profits, and in particular, income from government
securities, and income from bonds or debentures, including
premiums or prizes attaching to such securities, bonds, or
debentures.

Penalty charges for late payment shall not be

-23-

regarded as interest for the purposes of the Convention.
However, the term "interest" does not include income dealt with
in Article 10 (Dividends) .
5. The provisions of paragraphs 2 and 3 shall not apply if
the beneficial owner of the interest, being a resident of a
Contracting State, carries on business in the other Contracting
State in which the interest arises, through a permanent
establishment situated therein, or performs in that other State
independent personal services from a fixed base situated therein,
and the interest is attributable to such permanent establishment
or fixed base. In such case the provisions of Article 7
(Business Profits) or Article 15 (Independent Personal Services),
as the case may be, shall apply.
6. Interest shall be deemed to arise in a Contracting State
when the payer is that State itself or a political subdivision,
local authority, or resident of that State. Where, however, the
person paying the interest, whether he is a resident of a
Contracting State or not, has in a Contracting State a permanent
establishment or a fixed base, and such interest is borne by such
permanent establishment or fixed base, then such interest shall
be deemed to arise in the Contracting State in which the
permanent establishment or fixed base is situated.
7. Where, by reason of a special relationship between the
payer and the beneficial owner or between both of them and some
other person, the amount of the interest, having regard to the
debt-claim for which it is paid, exceeds the amount which would

-24-

have been agreed upon by the payer and the beneficial owner in
the absence of such relationship, the provisions of this Article
shall apply only to the last-mentioned amount. In such case the
excess part of the payments shall remain taxable according to the
laws of each Contracting State, due regard being had to the other
provisions of the Convention.

ARTICLE 12
Royalties and Fees for Included Services

1. Royalties and fees for included services arising in a
Contracting State and paid to a resident of the other Contracting
State may be taxed in that other State.
2. However, such royalties and fees for included services
may also be taxed in the Contracting State in which they arise
and according to the laws of that State; but if the beneficial
owner of the royalties or fees for included services is a
resident of the other Contracting State, the tax so charged s.hall
not exceed:
a) in the case of royalties referred to in sub-paragraph
(a) of paragraph 3 and fees for included services as defined
in this Article (other than services described in
sub-paragraph (b) of this paragraph):
i) during the first five taxable years for which
this Convention has effect,
A) 15 percent of the gross amount of the

-25-

20 percent of the gross amount of the

royalties or fees for included services in all other
cases; and
ii)

during the subsequent years, 15 percent of the

gross amount of royalties or fees for included services;
and
b) in the case of royalties referred to in sub-paragraph
(b) of paragraph 3 and fees for included services as defined
in this Article that are ancillary and subsidiary to the
enjoyment of the property for which payment is received under
paragraph 3 (b) of this Article, 10 percent of the gross
amount of the royalties or fees for included services.
3.

The term "royalties" as used in this Article means:

a) payments of any kind received as a consideration for the
use of, or the right to use, any copyright of a literary,
artistic, or scientific work, including cinematograph films or
work on film, tape or other means of reproduction for use in
connection with radio or television broadcasting, any patent,
trademark, design or model, plan, secret formula or process, or
for information concerning industrial, commercial or scientific
experience, including gains derived from the alienation of any
such right or property which are contingent on the productivity,
use, or disposition thereof; and

-26-

b) payments of any kind received as consideration for the use
of, or the right to use, any industrial, commercial, or
scientific equipment, other than payments derived by an
enterprise described in paragraph 1 of Article 8 (Shipping and
Air Transport) from activities described in paragraph 2(c) or 3
of Article 8.
4. For purposes of this Article, "fees for included
services" means payments of any kind to any person in
consideration for the rendering of any technical or consultancy
services (including through the provision of services of
technical or other personnel) if such services:
a) are ancillary and subsidiary to the application or
enjoyment of the right, property or information for which a
payment described in paragraph 3 is received; or
b) make available technical knowledge, experience, skill,
know-how, or processes, or consist of the development and
transfer of a technical plan or technical design.
5. Notwithstanding paragraph 4, "fees for included services"
does not include amounts paid:
a) for services that are ancillary and subsidiary, as well
as inextricably and essentially linked, to the sale of property
other than a sale described in paragraph 3(a);
b) for services that are ancillary and sucsidiary to the
rental of ships, aircraft, containers or other equipment used in
connection with the operation of ships or aircraft in
international traffic;

-27-

for teaching in or by educational institutions;

d) for services for the personal use of the individual or
individuals making the payment; or
e) to an employee of the person making the payments or to
any individual or firm of individuals (other than a company) for
professional services as defined in Article 15 (Independent
Personal Services) .
6. The provisions of paragraphs 1 and 2 shall not apply if
the beneficial owner of the royalties or fees for included
services, being a resident of a Contracting State, carries on
business in the other Contracting State, in which the royalties
or fees for included services arise, through a permanent
establishment situated therein, or performs in that other State
independent personal services from a fixed base situated therein,
and the royalties or fees for included services are attributable
to such permanent establishment or fixed base. In such case the
provisions of Article 7 (Business Profits) or Article 15
(Independent Personal Services), as the case may be, shall apply.
7. (a) Royalties and fees for included services shall be
deemed to arise in a Contracting State when the payer is that
State itself, a political subdivision, a local authority, or a
resident of that State. Where, however, the person paying the
royalties or fees for included services, whether he is a resident
of a Contracting State or not, has in a Contracting State a
permanent establishment or a fixed base in connection with which
the liability to pay the royalties or fees for included services

was incurred, and such royalties or fees for included services
are borne by such permanent establishment or fixed base, then
such royalties or fees for included services shall be deemed to
arise in the Contracting State in which the permanent
establishment or fixed base is situated.
(b) Where under subparagraph (a) royalties or fees for
included services do not arise in one of the Contracting States,
and the royalties relate to the use of, or the right to use, the
right or property, or the fees for included services relate to
services performed, in one of the Contracting States, the
royalties or fees for included services shall be deemed to arise
in that Contracting State.
8. Where, by reason of a special relationship between the
payer and the beneficial owner or between both of them and some
other person, the amount of the royalties or fees for included
services paid exceeds the amount which would have been paid in
the absence of such relationship, the provisions of this Article
shall apply only to the last-mentioned amount. In such case, the
excess part of the payments shall remain taxable according to the
laws of each Contracting State, due regard being had to the other
provisions of the Convention.

ARTICLE 13

Gains

Except as provided in Article 8 (Shipping

and Air Transport)

of this Convention, each Contracting State may

tax capital gains

-29-

in accordance with the provisions of its domestic law.

ARTICLE 14
Permanent Establishment Tax

1. A company which is a resident of India may be subject in
the United States to a tax in addition to the tax allowable under
the other provisions of this Convention.a) Such tax, however, may be imposed only on:
i) the portion of the business profits of the
company subject to tax in the United States which
represents the dividend equivalent amount; and
ii) the excess, if any, of interest deductible in
the United States in computing the profits of the
company that are subject to tax in the United States and
either attributable to a permanent establishment in the
United States or subject to tax in the United States
under Article 6 (Income From Immovable Property (Real
Property)), Article 12 (Royalties and Fees for Included
Services) as fees for included services, or Article 13
(Gains) of this Convention over the interest paid by or
from the permanent establishment or trade or business in
the United States.
b) For purposes of this article, business profits means
profits that are effectively connected (or treated as
effectively connected) with the conduct of a trade or

-30-

business within the United States and are either attributable
to a permanent establishment in the United States or subject
to tax in the United States under Article 6 (Income From
Immovable Property (Real Property)), Article 12 (Royalties
and Fees for Included Services) as fees for included services
or Article 13 (Gains) of this Convention.
c) The tax referred to in subparagraph (a) shall not be
imposed at a rate exceeding:
i) the rate specified in paragraph 2 (a) of Article
10 (Dividends) for the tax described in subparagraph (a)
(i) ; and
ii) the rate specified in paragraph 2 (a) or (b)
(whichever is appropriate) of Article 11 (Interest) for
the tax described in subparagraph (a) (ii).
2. A company which is a resident of the United States may
be subject to tax in India at a rate higher than that
applicable to the domestic companies. The difference in the
tax rate shall not, however, exceed the existing difference
of 15 percentage points.
3. In the case of a banking company which is a resident of
the United States, the interest paid by the permanent
establishment of such a company in India to the head office
may be subject in India to a tax in addition to the tax
imposable under the other provisions of this Convention at a
rate which shall not exceed the rate specified in paragraph 2
(a) of Article 11 (Interest).

-31-

ARTICLE 15
Independent Personal Services

1. Income derived by a person who is an individual or firm
of individuals (other than a company) who is a resident of a
Contracting State from the performance in the other Contracting
State of professional services or other independent activities of
a similar character shall be taxable only in the first-mentioned
State except in the following circumstances when such income may
also be taxed in the other Contracting State:
a) if such person has a fixed base regularly available
to him in the other Contracting State for the purpose of
performing his activities; in that case, only so much of the
income as is attributable to that fixed base may be taxed in
that other State; or
b) if the person's stay in the other Contracting State
is for a period or periods amounting to or exceeding in tfce
aggregate 90 days in the relevant taxable year.
2. The term "professional services" includes independent
scientific, literary, artistic, educational or teaching
activities as well as the independent activities of physicians,
surgeons, lawyers, engineers, architects, dentists and
accountants.

ARTICLE 16
Dependent Personal Services

1. Subject to the provisions of Articles 17 (Directors'
Fees), 18 (Income Earned by Entertainers and Athletes), 19
(Remuneration and Pensions in Respect of Government Service), 20
(Private Pensions, Annuities, Alimony, and Child Support), 21
(Payments Received by Students and Apprentices) and 22 (Payments
Received by Professors, Teachers and Research Scholars) ,
salaries, wages, and other similar remuneration derived by a
resident of a Contracting State in respect of an employment shall
be taxable only in that State unless the employment is exercised
in the other Contracting State. If the employment is so
exercised, such remuneration as is derived therefrom may be taxed
in that other State.
2. Notwithstanding the provisions of paragraph 1,
remuneration derived by a resident of a Contracting State in
respect of an employment exercised in the other Contracting State
shall be taxable only in the first-mentioned State if:
a) the recipient is present in the other State for a
period or periods not exceeding in the aggregate 183 days in
the relevant taxable year;
b) the remuneration is paid by, or on behalf of, an
employer who is not a resident of the other State; and
c) the remuneration is not borne by a permanent
establishment or a fixed base or a trade or business which
the employer has in the other State.

Notwithstanding the preceding provisions of this Article,

remuneration derived in respect of an employment exercised aboard
a ship or aircraft operated in international traffic by an
enterprise of a Contracting State may be taxed in that State.

ARTICLE 17
Directors' Fees

Directors' fees and similar payments derived by a resident of
a Contracting State in his capacity as a member of the board of
directors of a company which is a resident of the other
Contracting State may be taxed in that other State.

ARTICLE 18
Income Earned by Entertainers and Athletes

1. Notwithstanding the provisions of Articles 15
(Independent Personal Services) and 16 (Dependent Personal
Services), income derived by a resident of a Contracting State as
an entertainer, such as a theatre, motion picture, radio or
television artiste, or a musician, or as an athlete, from his
personal activities as such exercised in the other Contracting
State, may be taxed in that other State, except where the amount
of the net income derived by such entertainer or athlete from
such activities (after deduction of all expense incurred by him
in connection with his visit and performance) does not exceed

-34-

one thousand five hundred United States dollars ($1,500) or its
equivalent in Indian rupees for the taxable year concerned.
2.

Where income in respect of activities exercised by an

entertainer or an athlete in his capacity as such accrues not to
the entertainer or athlete but to another person, that income of
that other person may, notwithstanding the provisions of Articles
7 (Business Profits), 15 (Independent Personal Services) and 16
(Dependent Personal Services), be taxed in the Contracting State
in which the activities of the entertainer or athlete are
exercised unless the entertainer, athlete, or other person
establishes that neither the entertainer or athlete nor persons
related thereto participate directly or indirectly in the profits
of that other person in any manner, including the receipt of
deferred remuneration, bonuses, fees, dividends, partnership
distributions, or other distributions.
3.

Income referred to in the preceding paragraphs of this

Article derived by a resident of a Contracting State in respect
of activities exercised in the other Contracting State shall not
be taxed in that other State if the visit of the entertainers or
athletes to that other State is supported wholly or substantially
from the public funds of the Government of the first-mentioned
Contracting State, or of a political subdivision or local
authority thereof.
4.

The competent authorities of the Contracting States may,

by mutual agreement, increase the dollar amounts referred to in
paragraph 1 to reflect economic or monetary developments.

-35-

ARTICLE 19
Remuneration and Pensions in Respect of Government Service

1. a) Remuneration, other than a pension, paid by a
Contracting State or a political sub-division or a local
authority thereof to an individual in respect of services
rendered to that State or sub-division or authority shall be
taxable only in that State.
b) However, such remuneration shall be taxable only in
the other Contracting State if the services are rendered in
that other State and the individual is a resident of that
State who:
i) is a national of that State; or
ii) did not become a resident of that State solely for
the purpose of rendering the services.
2. a) Any pension paid by, or out of funds created by, a
Contracting State or a political subdivision or a local
authority thereof to an individual in respect of services
rendered to that state or subdivision or authority shall be
taxable only in that State.
b) However, such pension shall be taxable only in the
other Contracting State if the individual is a resident of,
and a national of, that State.
3. The provisions of Articles 16 (Dependent Personal
Services), 17 (Directors' Fees), 18 (Income Earned by
Entertainers and Athletes) and 20 (Private Pensions, Annuities,

-36-

Alimony and Child Support) shall apply to remuneration and
pensions in respect of services rendered in connection with a
business carried on by a Contracting State or a political
subdivision or a local authority thereof.

ARTICLE 20
Private Pensions, Annuities, Alimony and Child Support

1. Any pension, other than a pension referred to in Article
19 (Remuneration and Pensions in Respect of Government Service). j;
or any annuity derived by a resident of a Contracting State from
sources within the other Contracting State may be taxed only in
the first-mentioned Contracting State.
2. Notwithstanding paragraph 1, and subject to the
provisions c= Article 19 (Remuneration and Pensions in Respect of
Government Service), social security benefits and other public
pensions paid by a Contracting State to a resident of the other
Contracting State or a citizen of the United States shall be '
taxable only in the first-mentioned State.
3. The term "pension" means a periodic payment made in
consideration of past services or by way of compensation for
injuries received in the course of performance of services.
4. The term "annuity" means stated sums payable periodically
at stated times during life or during a specified or
ascertainable number of years, under an obligation to make the
payments in return for adequate and full consideration in money
or money's worth (but not for services rendered).

-37-

Alimony paid to a resident of a Contracting State shall

be taxable only in that State. The term "alimony" as used in
this paragraph means periodic payments made pursuant to a written
separation agreement or a decree of divorce, separate
maintenance, or compulsory support, which payments are taxable to
the recipient under the laws of the State of which he is a
resident.
6. Periodic payments for the support of a minor child made
pursuant to a written separation agreement or a decree of
divorce, separate maintenance or compulsory support, paid by a
resident of a Contracting State to a resident of the other
Contracting State, shall be taxable only in the first-mentioned
State.

ARTICLE 21
Payments Received by Students and Apprentices

1. A student or business apprentice who is or was a resident
of one of the Contracting States immediately before visiting the
other Contracting State and who is present in that other State
principally for the purpose of his education or training shall be
exempt from tax in that other State, on payments which arise
outside that other State for the purposes of his maintenance,
education or training.
2. In respect of grants, scholarships and remuneration from
employment not covered by paragraph 1, a student or business

-38-

apprentice described in paragraph 1 shall, in addition, be
entitled during such education or training to the same
exemptions, reliefs or reductions in respect of taxes available
to residents of the State which he is visiting.
3. The benefits of this Article shall extend only for such
period of time as may be reasonable or customarily required to
complete the education or training undertaken.
4. For the purposes of this Article, an individual shall be
deemed to be a resident of a Contracting State if he is resident
in that Contracting State in the taxable year in which he visits
the other Contracting State or in the immediately preceding
taxable year.

ARTICLE 22
Payments Received by Professors, Teachers
and Research Scholars

1. An individual who visits a Contracting State for a period
not exceeding two years for the purpose of teaching or engaging
in research at a university, college or other recognized
educational institution in that State, and who was immediately
before that visit a resident of the other Contracting State,
shall be exempted from tax by the first-mentioned Contracting
State on any remuneration for such teaching or research for a
period not exceeding two years from the date he first visits that
State for such purpose.

— JJ —

2. This Article shall apply to income from research only if
such research is undertaken by the individual in the public
interest and not primarily for the benefit of some other private
person or persons.

ARTICLE 23
Other Income

1. Subject to the provisions of paragraph 2, items of income
of a resident of a Contracting State, wherever arising, which are
not expressly dealt with in the foregoing Articles of this
Convention shall be taxable only in that Contracting State.
2. The provisions of paragraph 1 shall not apply to income,
other than income from immovable property as defined in paragraph
2 of Article 6 (Income from Immovable Property (Real Property)),
if the beneficial owner of the income, being a resident of a
Contracting State, carries on business in the other Contracting
State through a permanent establishment situated therein, or
performs in that other State independent personal services from a
fixed base situated therein, and the income is attributable to
such permanent establishment or fixed base. In such case the
provisions of Article 7 (Business Profits) or Article 15
(Independent Personal Services), as tne case may be, shall apply.
3. Notwithstanding the provisions of paragraphs 1 and 2,
items of income of a resident of a Contracting State not dealt
with in the foregoing articles of this Convention and arising in
the other Contracting State may also be taxed in that other
State.

-40-

ARTICLE 24
Limitation on Benefits

1. A person (other than an individual) which is a resident
of a Contracting State and derives income from the other
Contracting State shall be entitled under this Convention to
relief from taxation in that other Contracting State only if:
a) more than 50 percent of the beneficial interest in
such person (or in the case of a company, more than 50
percent of the number of shares of each class of the
company's shares) is owned, directly or indirectly, by one or
more individual residents of one of the Contracting States,
one of the Contracting States or its political subdivisions
or local authorities, or other individuals subject to tax in
either Contracting State on their worldwide incomes, or
citizens of the United States; and
b) the income of such person is not used in substantial
part, directly or indirectly, to meet liabilities (including
liabilities for interest or royalties) to persons who are not
residents of one of the Contracting States, one of the
Contracting States or its political subdivisions or local
authorities, or citizens of the United States.
2. The provisions of paragraph 1 shall not apply if the
income derived from the other Contracting State is derived in
connection with, or is incidental to, the active conduct by such
person of a trade or business in the first-mentioned State (other

than the business of making or managing investments, unless these
activities are banking or insurance activities carried on by a
bank or insurance company).
3. The provisions of paragraph 1 shall not apply if the
person deriving the income is a company which is a resident of a
Contracting State in whose principal class of shares there is
substantial and regular trading on a recognized stock exchange.
For purposes of the preceding sentence, the term "recognized
stock exchange" means:
a) in the case of the United States, the NASDAQ System
owned by the National Association of Securities Dealers,
Inc. and any stock exchange registered with the Securities
and Exchange Commission as a national securities exchange
for purposes of the Securities Act of 1934;
b) in the case of India, any stock exchange which is
recognized by the Central Government under the Securities
Contracts Regulation Act, 1956; and
c) any other stock exchange agreed upon by the
competent authorities of the Contracting States.
4. A person that is not entitled to the benefits of th.is
Convention pursuant to the provisions of the preceding paragraphs
of this Article may, nevertheless, be granted the benefits of the
Convention if the competent authority of the State in which the
income in question arises so determines.

-42-

ARTICLE 25
Relief From Double Taxation

1. In accordance with the provisions and subject to the
limitations of the law of the United States (as it may be amended
from time to time without changing the general principle hereof),
the United States shall allow to a resident or citizen of the
United States as a credit against the United States tax on income
a) the income tax paid to India by or on behalf of such
citizen or resident; and
b) in the case of a United States company owning at
least 10 percent of the voting stock of a company which is a
resident of India and from which the United States company
receives dividends, the income tax paid to India by or on
behalf of the distributing company with respect to the
profits out of which the dividends are paid.
For the purposes of this paragraph, the taxes referred to in
paragraphs lb) and 2 of Article 2 (Taxes Covered) shall be
considered income taxes.
2. a) Where a resident of India derives income which, in
accordance with the provisions of this Convention, may be
taxed in the United States, India shall allow as a deduction
from the tax on the income of that resident an amount equal
to the income tax paid in the United States, whether directly
or by deduction. Such deduction shall not, however, exceed
that part of the income tax (as computed before the deduction

-43-

is given) which is attributable to the income which may be
taxed in the United States.
b) Further, where such resident is a company by which a
surtax is payable in India, the deduction in respect of
income tax paid in the United States shall be be allowed in
the first instance from income tax payable by the company in
India and as to the balance, if any, from surtax payable by
it in India.
3. For the purposes of allowing relief from double taxation
pursuant to this Article, income shall be deemed to arise as
follows:
a) income derived by a resident of a Contracting State
which may be taxed in the other Contracting State in
accordance with this Convention (other than solely by reason
of citizenship in accordance with paragraph 3 of Article 1
(General Scope)) shall be deemed to arise in that other
State;
b) income derived by a resident of a Contracting State
which may not be taxed in the other Contracting State in
accordance with the Convention shall be deemed to arise in
the first-mentioned State.
Notwithstanding the preceding sentence, the determination of the
source of income for purposes of this Article shall be subject to
such source rules in the domestic laws of the Contracting States
as apply for the purpose of limiting the foreign tax credit. The
preceding sentence shall not apply with respect to income dealt

-44-

with in Article 12 (Royalties and Fefts for Included Services).
The rules of this paragraph shall not apply in determining
credits against United States tax for foreign taxes other than
the taxes referred to in paragraphs lb) and 2 of Article 2 (Taxes
Covered) .

ARTICLE 26
Non-discrimination

1. Nationals of a Contracting State shall not be subjected
in the other Contracting State to any taxation or any requirement
connected therewith which is other or more burdensome than the
taxation and connected requirements to which nationals of that
other State in the same circumstances are or may be subjected.
This provision shall apply to persons who are not residents of
one or both of the Contracting States.
2. Except where the provisions of paragraph 3 of Article 7
(Business Profits) apply, the taxation on a permanent
establishment which an enterprise of a Contracting State has in
the other Contracting State shall not be less favorably levied in
that other State than the taxation levied on enterprises of that
other State carrying on the same activities. This provision
shall not be construed as obliging a Contracting State to grant
to residents of the other Contracting State any personal
allowances, reliefs, and reductions for taxation purposes on
account of civil status or family responsibilities which it
grants to its own residents.

-45-

Except where the provisions of paragraph 1 of Article 9

(Associated Enterprises), paragraph 7 of Article 11 (Interest),
or paragraph 8 of Article 12 (Royalties and Fees for Included
Services) apply, interest, royalties, and other disbursements
paid by a resident of a Contracting State to a resident of the
other Contracting State shall, for the purposes of determining
the taxable profits of the first-mentioned resident, be
deductible under the same conditions as if they had been paid to
a resident of the first-mentioned State.
4. Enterprises of a Contracting State, the capital of which
is wholly or partly owned or controlled, directly or indirectly,
by one or more residents of the other Contracting State, shall
not be subjected in the first-mentioned State to any taxation or
any requirement connected therewith which is other or more
burdensome than the taxation and connected requirements to which
other similar enterprises of the first-mentioned State are or may
be subjected.
5. Nothing in this article shall be construed as preventing
either Contracting State from imposing the taxes described in
Article 14 (Permanent Establishment Tax) or the limitations
described in paragraph 3 of Article 7 (Business Profits).

-46-

ARTICLE 27
Mutual Agreement Procedure

1. Where a person considers that the actions of one or both
of the Contracting States result or will result for him in
taxation not in accordance with the provisions of this
Convention, he may, irrespective of the remedies provided by the
domestic law of those States, present his case to the competent
authority of the Contracting State of which he is a resident or
national. This case must be presented within three years of the
date of receipt of notice of the action which gives rise to
taxation not in accordance with the Convention.
2. The competent authority shall endeavour, if the objection
appears to it to be justified and if it is not itself able to
arrive at a satisfactory solution, to resolve the case by mutual
agreement with the competent authority of the other Contracting
State, with a view to the avoidance of taxation which is not in
accordance with the Convention. Any agreement reached shall be
implemented notwithstanding any time limits or other procedural
limitations in the domestic law of the Contracting States.
3. The competent authorities of the Contracting States shall
endeavour to resolve by mutual agreement any difficulties or
doubts arising as to the interpretation or application of the
Convention. They may also consult together for the elimination
of double taxation in cases not provided for in the Convention.
4. The competent authorities of the Contracting States may
communicate with each other directly for the purpose of reaching

an agreement in the sense of the preceding paragraphs.

The

competent authorities, through consultations, shall develop
appropriate bilateral procedures, conditions, methods and
techniques for the implementation of the mutual agreement
procedure provided for in this Article. In addition, a competent
authority may devise appropriate unilateral procedures,
conditions, methods and techniques to facilitate the abovementioned bilateral actions and the implementation of the mutual
agreement procedure.

ARTICLE 28
Exchange of Information and Administrative Assistance

1. The competent authorities of the Contracting States shall
exchange such information (including documents) as is necessary
for carrying out the provisions of this Convention or of the
domestic laws of the Contracting States concerning taxes covered
by the Convention insofar as the taxation thereunder is not
contrary to the Convention, in particular, for the prevention of
fraud or evasion of such taxes. The exchange of information is
not restricted by Article 1 (General Scope). Any information
received by a Contracting State shall be treated as secret in the
same manner as information obtained under the domestic laws of
that State. However, if the information is originally regarded
as secret in the transmitting State, it shall be disclosed only
to persons or authorities (including courts and administrative
bodies) involved in the assessment, collection, or administration

-48-

of, the enforcement or prosecution in respect of, or the
determination of appeals in relation to, the taxes which are the
subject of the Convention. Such persons or authorities shall U9e
the information only for such purposes, but may disclose the
information in public court proceedings or in judicial decisions.
The competent authorities shall, through consultation, develop
appropriate conditions, methods and techniques concerning the
matters in respect of which such exchange of information shall be
made, including, where appropriate, exchange of information
regarding tax avoidance.
2. The exchange of information or documents shall be either
on a routine basis or on request with reference to particular
cases, or otherwise. The competent authorities of the
Contracting States shall agree from time to time on the list of
information or documents which shall be furnished on a routine
basis.
3. In no case shall the provisions of paragraph 1 be
construed so as to impose on a Contracting State the obligation:
a) to carry out administrative measures at variance with
the laws and administrative practice of that or of the other
Contracting State;
b) to supply information which is not obtainable under
the laws or in the normal course of the administration of
that or of the other Contracting State;
c) to supply information which would disclose any trade,
business, industrial, commercial, or professional secret or
trade process, or information the disclosure of which would
be contrary to public policy (ordre public).

-49-

If information is requested by a Contracting State in

accordance with this Article, the other Contracting State shall
obtain the information to which the request relates in the same
manner and in the same form as if the tax of the first-mentioned
State were the tax of that other State and were being imposed by
that other State. If specifically requested by the competent
authority of a Contracting State, the competent authority of the
other Contracting State shall provide information under this
Article in the form of depositions of witnesses and authenticated
copies of unedited original documents (including books, papers,
statements, records, accounts, and writings), to the same extent
such depositions and documents can be obtained under the laws and
administrative practices of that other State with respect to its
own taxes.
5. For the purposes of this Article, the Convention shall
apply, notwithstanding the provisions of Article 2 (Taxes
Covered):
a) in the United States, to all taxes imposed under
Title 26 of the United States Code; and
b) in India, to the income tax, the wealth tax and the
gift tax.

ARTICLE 29
Diplomatic Agents and Consular Officers

Nothing in this Convention shall affect the fiscal privileges
of diplomatic agents or consular officers under the general rules

-50-

of international law or under the provisions of special
agreements.

ARTICLE 30
Entry Into Force

1. Each Contracting State shall notify the other Contracting
State in writing, through diplomatic channels, upon the
completion of their respective legal procedures to bring this
Convention into force.
2. The Convention shall enter into force on the date of the
latter of such notifications and its provisions shall have
effect:
a) in the United States
i) in respect of taxes withheld at source, for
amounts paid or credited on or after the first day of
January next following the date on which the Convention
enters into force;
ii) in respect of other taxes, for taxable periods
beginning on or after the first day of January next
following the date on which the Convention enters into
force; and
b) in India, in respect of income arising in any
taxable year beginning on or after the first day of April
next following the calendar year in which the Convention
enters into force.

-51-

ARTICLE 31
Termination
This Convention shall remain in force indefinitely but either
of the Contracting States may, on or before the thirtieth day of
June in any calendar year beginning after the expiration of a
period of five years from the date of the entry into force of the
Convention, give the other Contracting State through diplomatic
channels, written notice of termination and, in such event, this
Convention shall cease to have effect:
a) in the United States
i) in respect of taxes withheld at source, for
amounts paid or credited on or after the first day of
January next following the calendar year in which notice
of termination is given; and
ii) in respect of other taxes, for taxable periods
beginning on or after the first day of January next
following the calendar year in which the notice of
termination is given;
and
b) in India, in respect of income arising in any
taxable year beginning on or after the first day of April
next following the calendar year in which the notice of
termination is given.

IN WITNESS WHEREOF, the undersigned, being duly authorized oy
their respective Governments, have signed this Convention.

DONE at New Delhi in duplicate, this 12th day of September,
1939, in the English and Hindi languages, both texts being
equally authentic.

In case of divergence between the two texts,

the English text shall be the operative one.

FOR THE GOVERNMENT OF THE

UNITED STATES OF AMERICA:

REPUBLIC OF INDIA:

,/John R. Hubbard
Ambassador

N.K. Sengupta
Secretary to the
Government of India

PROTOCOL

At the signing today of the Convention between the United States
of America and the Republic of India for the Avoidance of Double
Taxation and the Prevention of Fiscal Evasion with respect to
Taxes on Income, the undersigned have agreed upon the following
provisions, which shall form an integral part of the Convention:

I. Ad Article 5

It is understood that where an enterprise of a Contracting
State has a permanent establishment in the other Contracting
State in accordance with the provisions of paragraphs 2(j), 2(k)
or 2(1) of Article 5 (Permanent Establishment), and the time
period referred to in that paragraph extends over two taxable
years, a permanent establishment shall not be deemed to exist in
a year, if any, in which the use, site, project or activity, as
the case may be, continues for a period or periods aggregating
less than 30 days in that taxable year. A permanent
establishment will exist in the other taxable year, and the
enterprise will be subject to tax in that other Contracting State
in accordance with the provisions of Article 7 (Business
Profits), but only on income arising during that other taxable
year.

II.

Ad Article 7

where the law of the Contracting

State in w h i c h a permanent

establishment is situated imposes, in accordance with the
provisions of paragraph 3 of Article 7 (Business Profits), a
restriction on the amount of executive and general administrative
expenses which may be allowed as a deduction in determining the
profits of such permanent establishment, it is understood that in
making such a determination of profits the deduction in respect
of such executive and general administrative expenses in no case
shall be less than that allowable under the Indian Income-tax Act
as on the date of signature of this Convention.

III. Ad Articles 7, 10, 11, 12, 15, and 23

It is understood that for the implementation of paragraphs 1
and 2 of Article 7 (Business Profits), paragraph 4 of Article 10
(Dividends), paragraph 5 of Article 11 (Interest), paragraph 6 of
Article 12 (Royalties and Fees for Included Services), paragraph
1 of Article 15 (Independent Personal Services), and paragraph 2
of Article 23 (Other Income), any income attributable to a
permanent establishment or fixed base during its existence is
taxable in the Contracting State in which such permanent
establishment or fixed base is situated even if the payments are
deferred until such permanent establishment or fixed base has
ceased to exist.

-3-

IV.

Ad Article 12

It is understood that fees for included services, as defined
in paragraph 4 of Article 12 (Royalties and Fees for Included
Services) will, in accordance with United States law, be subject
to income tax in the United States based on net income and, when
earned by a company, will also be subject to the taxes described
in paragraph 1 of Article 14 (Permanent Establishment Tax). The
total of these taxes which may be imposed on such fees, however,
may not exceed the amount computed by multiplying the gross fee
by the appropriate tax rate specified in subparagraph a) or b) ,
whichever is applicable, of paragraph 2 of Article 12.

V. Ad Article 14

It is understood that references in paragraph 1 of Article 14
(Permanent Establishment Tax) to profits that are subject to tax
in the United States under Article 6 (Income from Immovable
Property (Real Property)), under Article 12 (Royalties and Fees
for Included Services), as fees for included services as defined
in that Article, or under Article 13 (Gains) of this Convention,
are intended to refer only to cases in which the profits in
question are subject to United States tax based on net income
(i.e., by virtue of being effectively connected, or being treated

as effectively connected, with the conduct of a trade or business
in the United States). Any income which is subject to tax under
those Articles based on gross income is not subject to tax under
Article 14.

IN WITNESS WHEREOF, the undersigned, being duly authorized by
their respective Governments, have signed this Protocol.

DONE at New Delhi in duplicate, this 12th day of September,
1989, in the English and Hindi languages, both texts being
equally authentic. In case of divergence between the two texts,
the English text shall be the operative one.

FOR THE GOVERNMENT OF THE

UNITED STATES OF AMERICA:

REPUBLIC OF INDIA:

-A
y

< John R. Hubbard
Ambassador

N.K. Sengupta
Secretary to the
Government of India

EMBASSY OF THE
UNITED STATES OF AMERICA
New Delhi, September

1 2 , 1989

Excellency:
I have the'honor to refer to the Convention
Government

between the

of the United States of America and the Government

of the Republic of India for the Avoidance of Double
and the Prevention

Taxation

of Fiscal Evasion with Respect to Taxes on

Income which w a s signed today

(hereinafter

referred

to as "the

Convention") and to confirm, on behalf of the Government
United States of America, the following understandings

of the

reached

between the two Governments:
Both sides agree that a tax sparing credit shall not be
provided

in Article 25 (Relief from Double Taxation) of the

Convention at this time.

However, the Convention shall be

promptly amended to incorporate a tax sparing credit

provision

if the United States hereafter amends its laws concerning the
provision of tax sparing credits, or the United States

reaches

agreement on the provision of a tax sparing credit with any
other

country.
Both sides also agree that, for purposes of paragraph 4(c)

of Article 5 (Permanent

Establishment) of the Convention, a

person shall be considered

to habitually secure orders in a

Contracting State, wholly or almost wholly for an e n t e r p r i s e ,
only if:
1.

such person frequently accepts orders for goods or

merchandise on behalf of the e n t e r p r i s e ;
2.

substantially all of such person's

activities in the Contracting
the enterprise;

State consist

sales-related

of activities for

such person habitually represents to persor.s

offering to buy goods or merchandise that acceptance of an
order by such person constitutes the agreement of the
enterprise to supply goods or merchandise under the terms and
conditions specified in the order; and
4. the enterprise takes actions that give purchasers
the basis for a reasonable belief that such person has
authority to bind the enterprise.
I have the honor to request Your Excellency to confirm the
foregoing understandings of Your Excellency's Government.
Accept, Excellency, the renewed assurances of my highest
conside rat ion.

His Excellency

j/John R. Hubbard

Dr. N,K. Sengupta ,

Ambassador

Secretary (Revenue),
Ministry of Finance,
New Delhi.

?Tf f^Fft-110001
GOVERNMENT OF INDIA
MINISTRY OF FINANCE. DEPARTMENT OF REVENUE
NEWDELHI-110001
SECRETARY
September 12, 1989

Excellency:
I have the honour to acknowledge receipt of Your
Excellency's Note of today's date, which reads as follows:
"I have the honor to refer to the Convention between the
Government of the United States of America and the Government
of the Republic of India for the Avoidance of Double Taxation
and the Prevention of Fiscal Evasion with Respect to Taxes on
Income which was signed today (hereinafter referred to as "the
Convention") and to confirm, on behalf of the Government of the
United States of America, the following understandings reached
between the two Governments:
Both sides agree that a tax sparing credit shall not be
provided in Article 25 (Relief from Double Taxation) of the
Convention at this time. However, the Convention shall be
promptly amended to incorporate a tax sparing credit provision
if the United States hereafter amends its laws concerning the
provision of tax sparing credits, or the United States reaches
agreement on the provision of a tax sparing credit with any
other country.
Both sides also agree that, for purposes of paragraph 4(c)
of Article 5 (Permanent Establishment) of the Convention, a
person shall be considered to habitually secure orders in a
Contracting State, wholly or almost wholly for an enterprise,
only if:

SECRETARY
1.

such person frequently accepts orders for goods or

merchandise on behalf of the enterprise;
2. substantially all of such person's sales-related
activities in the Contracting State consist of activities for
the enterprise;
3. such person habitually represents to persons
offering to buy goods or merchandise that acceptance of an
order by such person constitutes the agreement of the
enterprise to supply goods or merchandise under the terms and
conditions specified in the order; and
4. the enterprise takes actions that give purchasersthe basis for a reasonable belief that such person has
authority to bind the enterprise."
I have the honour to confirm the understandings contained
in Your Excellency's Note, on behalf of the Government of the
Republic of India.
Accept, Excellency, the renewed assurances of my highest
conside rat ion .

His Excellency
Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

N. K. Sengupta

EMBASSY OF THE
UNITED STATES OF AMERICA

New Delhi, September 1 2 , 1989

Excellency:

I have the honor to refer to the Convention signed

today

between the United States of America and the Republic of
India for the Avoidance of Double Taxation and the
Prevention of Fiscal Evasion with Respect to Taxes on Income
and to inform you on behalf of the United States of America
of the following:
During the course of the negotiations leading to
conclusion of the Convention signed today, the negotiators
developed and agreed upon a memorandum of understanding
intended to give guidance both to the taxpayers and the tax
authorities of our two countries in interpreting aspects of
Article 12 (Royalties and Fees for Included
relating to the scope of included services.
of understanding

Services)'
This memorandum

represents the current views of the United

States Government with respect to these aspects of Article
12, and it is my Government's understanding

that it also

represents the current views of the Indian Government.

is also my Government's view that as our Governments gain
experience in administering
Article 1 2 , the competent

the Convention, and particularly

authorities may develop and

publish amendments to the memorandum

of understanding and

further understandings and interpretations of the Convention

If this position meets with the approval of the
Government of the Republic of India, this letter and your
reply thereto will indicate that our Governments share a
common view of the purpose of the memorandum of
understanding relating to Article 12 of the Convention.
Accept, Excellency, the renewed assurances of my highest
considerat ion.

i f.^Ln-j
His Excellency

John R. Hubbard

Dr. N.K. Sengupta,

Ambassador

Secretary (Revenue),
Ministry of Finance,
New Delhi.

^~
*fa*
SECRETARY

Tf f*??fT-110001
GOVERNMENT OF INDIA
MINISTRY OF FINANCE, DEPARTMENT OF REVENUE
NEWDELHI-110001

September 12, 1989

Excellency:
I have the honour to acknowledge receipt of Your
Excellency's Note of today's date, which reads as follows:
"I have the honor to refer to the Convention signed today
between the United States of America and the Republic of India
for the Avoidance of Double Taxation and the Prevention of
Fiscal Evasion with Respect to Taxes on Income and to inform
you on behalf of the United States of America of the following:
During the course of the negotiations leading to conclusion
of the Convention signed today, the negotiators developed and
agreed upon a memorandum of understanding intended to give
guidance both to the taxpayers and the tax authorities of our
two countries in interpreting aspects of Article 12 (Royalties
and Fees for Included Services) relating to the scope of
included services. This memorandum of understanding represents
the current views of the United States Government with respect
to these aspects of Article 12, and it is my Government's
understanding that it also represents the current views of the
Indian Government. It is also my Government's view that as our
Governments gain experience in administering the Convention,
and particularly Article 12, the competent authorities may

CONTINUATION SHEET

develop and publish amendments to the memorandum of
understanding and further understandings and interpretations of
the Convention.
If this position meets with the approval of the Government
of the Republic of India, this letter and your reply thereto
will indicate that our Governments share a common view of the
purpose of the memorandum of understanding relating to Article
12 of the Convention."
I have the honour to confirm the understandings contained
in Your Excellency's Note, on behalf of the Government of the
Republic of India.
Accept, Excellency, the renewed assurances of my highest
consideration.

YP*
His Excellency N. K. Sengupta
Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

May 15, 1989
U . S . - INDIA TAX TREATY
MEMORANDUM OF UNDERSTANDING CONCERNING
FEES FOR INCLUDED SERVICES
IN ARTICLE 12
Paragraph 4 (in general)

Article 12 includes only certain technical and consultancy
services. By technical services, we mean in this context
services requiring expertise in a technology. By consultancy
services, we mean in this context advisory services. The
categories of technical and consultancy services are to some
extent overlapping because a consultancy service could also be
a technical service. However, the category of consultancy
services also includes an advisory service, whether or not
expertise in a technology is required to perform it.
Under paragraph 4, technical and consultancy services are
considered included services only to the following extent:
(1)
as described in paragraph 4 ( a ) , if they are ancillary and
subsidiary to the application or enjoyment of a right, property
or information for which a royalty payment is made; or (2) as
described in paragraph 4 ( b ) , if they make available technical
knowledge, experience, skill, know-how, or processes, or
consist of the development and transfer of a technical plan or
technical design. Thus, under paragraph 4 ( b ) , consultancy
services which are not of a technical nature cannot be included
services.
Paragraph 4 (a)
Paragraph 4 (a) of Article 12 refers to technical or
consultancy services that are ancillary and subsidiary to the
application or enjoyment of any right, property, or information
for which a payment described in paragraph 3(a) or (b) is
received. Thus, paragraph 4(a) includes technical and
consultancy services that are ancillary and subsidiary to the
application or enjoyment of an intangible for which a royalty
is received under a license or sale as described in

-2paragraph 3 ( a ) , as well as those ancillary and subsidiary to
the application or enjoyment of industrial, commercial, or
scientific equipment for which a royalty is received under a
lease as described in paragraph 3 ( b ) .
It is understood that, in order for a service fee to be
considered "ancillary and subsidiary" to the application or
enjoyment of some right, property, or information for which a
payment described in paragraph 3(a) or (b) is received, the
service must be related to the application or enjoyment of the
right, property, or information.
In addition, the clearly
predominant purpose of the arrangement under which the payment
of the service fee and such other payment are made must be the
application or enjoyment of the right, property, or information
described in paragraph 3. The question of whether the service
is related to the application or enjoyment of the right,
property, or information described in paragraph 3 and whether
the clearly predominant purpose of the arrangement is such
application or enjoyment must be determined by reference to the
facts and circumstances of each case. Factors which may be
relevant to such determination (although not necessarily
controlling) include:
1. the extent to which the services in question
facilitate the effective application or enjoyment of the
right, property, or information described in paragraph 3;
2. the extent to which such services are customarily
provided in the ordinary course of business arrangements
involving royalties described in paragraph 3;
3. whether the amount paid for the services (or which
would be paid by parties operating at arm's length) is an
insubstantial portion of the combined payments for the
services and the right, property, or information described
in paragraph 3;
4. whether the payment made for the services and the
royalty described in paragraph 3 are made under a single
contract (or a set of related c o n t r a c t s ) ; and
5. whether the person performing the services is the
same person a s , or a related person to, the person
receiving the royalties described in paragraph 3 (for this
purpose, persons are considered related if their
relationship is described in Article 9 (Associated
Enterprises) or if the person providing the service is
doing so in connection with an overall arrangement which
includes the payor and recipient of the r o y a l t i e s ) .
To the extent that services are not considered ancillary
and subsidiary to the aplication or enjoyment of some

-3right, property, or information for which a royalty
payment under paragraph 3 is made, such services shall be
considered "included services" only to the extent that
they are described in paragraph 4(b).
Example (1)
Facts:
A U.S. manufacturer grants rights to an Indian
company to use manufacturing processes in which the
transferor has exclusive rights by virtue of process
patents or the protection otherwise extended by law
to the owner of a process. As part of the
contractual arrangement, the U.S. manufacturer agrees
to provide certain consultancy services to the Indian
company in order to improve the effectiveness of the
latter's use of the processes. Such services
include, for example, the provision of information
and advice on sources of supply for materials needed
in the manufacturing process, and on the development
of sales and service literature for the manufactured
product. The payments allocable to such services do
not form a substantial part of the total
consideration payable under the contractual
arrangement. Are the payments for these services
fees for "included services"?
Analysis:
The payments are fees for included services. The
services described in this example are ancillary and
subsidiary to the use of a manufacturing process
protected by law as described in paragraph 3 (a) of
Article 12 because the services are related to the
application or enjoyment of the intangible and the
granting of the right to use the intangible is the
clearly predominant purpose of the arrangement.
Because the services are ancillary and subsidiary to
the use of the manufacturing process, the fees for
these services are considered fees for included
services under paragraph 4 (a) of Article 12,
regardless of whether the services are described in
paragraph 4 (b).
Example(2)
Facts:
An Indian manufacturing company produces a product
that must be manufactured under sterile conditions
using machinery that must be kept completely free of
bacterial or other harmful deposits. A U.S. company
has developed a special cleaning process for removing

-4such deposits from that type of machinery. The U.S.
company enters into a contract with the Indian company
under which the former will clean the latter's machinery
on a regular basis. As part of the arrangement, the
U.S. company leases to the Indian company a piece of
equipment which allows the Indian company to measure the
level of bacterial deposits on its machinery in order
for it to know when cleaning is required. Are the
payments for the services fees for included services?
Analysis:
In this example, the provision of cleaning services by
the U.S. company and the rental of the monitoring
equipment are related to each other. However, the
clearly predominant purpose of the arrangement is the
provision of cleaning services. Thus, although the
cleaning services might be considered technical
services, they are not "ancillary and subsidiary" to the
rental of the monitoring equipment. Accordingly, the
cleaning services are not "included services" within the
meaning of paragraph 4 (a).
Paragraph 4 (b)
Paragraph 4(b) of Article 12 refers to technical or
consultancy services that make available to the person
acquiring the service technical knowledge, experience, skill,
know-how, or processes, or consist of the development and
transfer of a technical plan or technical design to such
person. (For this purpose, the person acquiring the service
shall be deemed to include an agent, nominee, or transferee of
such person.) This category is narrower than the category
described in paragraph 4(a) because it excludes any service
that does not make technology available to the person acquiring
the service. Generally speaking, technology will be considered
"made available" when the person acquiring the service is
enabled to apply the technology. The fact that the provision
of the service may require technical input by the person
providing the service does not per se mean that technical
knowledge, skills, etc. are made avaTlable to the person
purchasing the service, within the meaning of paragraph 4 (b).
Similarly,- the use of a product which embodies technology shall
not per se be considered to make the technology available.
Typical categories of services that generally involve
either the development and transfer of technical plans or
technical designs, or making technology available as described
in paragraph 4 (b), include:
1. engineering services (including the subcategories of
bioengineering and aeronautical, agricultural,
ceramics,chemical, civil, electrical, mechanical,
metallurgical, and industrial engineering);

-52.

architectural services; and

3. computer software development.
Under paragraph 4 (b), technical and consultancy services
could make technology available in a variety of settings,
activities and industries. Such services may, for example,
relate to any of the following areas:
1. bio-technical services;
2. food processing;
3. environmental and ecological services;
4. communication through satellite or otherwise;
5. energy conservation;
6. exploration or exploitation of mineral oil
or natural gas;
7. geological surveys;
8. scientific services; and
9. technical training.
The following examples indicate the scope of the
conditions in paragraph 4 (b):
Example (3)
Facts:
A U.S. manufacturer has experience in the use of a
process for manufacturing wallboard for interior
walls of houses which is more durable than the
standard products of its type. An Indian builder
wishes to produce this product for its own use. It
rents a plant and contracts with the U.S. company to
send experts to India to show engineers in the Indian
company how to produce the extra-strong wallboard.
The U.S. contractors work with the technicians in the
Indian firm for a few months. Are the payments to
the U.S. firm considered to be payments for "included
services"?
Analysis:
The payments would be fees for included services.
The services are of a technical or consultancy
nature; in the example, they have elements of both
types of services. The services make available to the
Indian company technical knowledge, skill, and
processes.

-c-

Example (4)
Facts:
A U.S. manufacturer operates a wallboard fabrication
plant outside India. An Indian builder hires the
U.S. company to produce wallboard at that plant for a
fee. The Indian company provides the raw materials,
and the U.S. manufacturer fabricates the wallboard in
its plant, using advanced technology. Are the fees
in this example payments for included services?
Analysis:
The fees would not be for included services.
Although the U.S. company is clearly performing a
technical service, no technical knowledge, skill,
etc., are made available to the Indian company, nor
is there any development and transfer of a technical
plan or design. The U.S. company is merely
performing a contract manufacturing service.
Example (5)
Facts:
An Indian firm owns inventory control software for
use in its chain of retail outlets throughout India.
It expands its sales operation by employing a team of
travelling salesmen to travel around the countryside
selling the company's wares. The company wants to
modify its software to permit the salesmen to access
the company's central computers for information on
what products are available in inventory and when
they can be delivered. The Indian firm hires a U.S.
computer programming firm to modify its software for
this purpose. Are the fees which the Indian firm
pays treated as fees for included services?
Analysis:
The fees are for included services. The U.S. company
clearly performs a technical service for the Indian
company, and it transfers to the Indian company the
technical plan (i.e., the computer program) which it
has developed.
Example (6)
Facts:
An Indian vegetable oil manufacturing company wants
to produce a cholesterol-free oil from a plant which
produces oil normally containing cholesterol. An
American company has developed a process for refining
the cholesterol out of the oil. The Indian company
contracts with the U.S. company to modify the
formulas which it uses so as to eliminate the
cholesterol, and to train the employees of the Indian
company in applying the new formulas. Are the fees
paid by the Indian company for included services?

-7Analysis:
The fees are for included services. The services are
technical, and the technical knowledge is made
available to the Indian company.
Example (7)
Facts:
The Indian vegetable oil manufacturing firm has
mastered the science of producing cholesterol-free
oil and wishes to market the product world-wide. It
hires an American marketing consulting firm to do a
computer simulation of the world market for such oil
and to advise it on marketing strategies. Are the
fees paid to the U.S. company for included services?
Analysis:
The fees would not be for included services. The
American company is providing a consultancy service
which involves the use of substantial technical skill
and expertise. It is not, however, making available
to the Indian company any technical experience,
knowledge or skill, etc., nor is it transferring a
technical plan or design. What is transferred to the
Indian company through the service contract is
commercial information. The fact that technical
skills were required by the performer of the service
in order to perform the commercial information
service does not make the service a technical service
within the meaning of paragraph 4(b).
Paragraph 5
Paragraph 5 of Article 12 describes several categories of
services which are not intended to be treated as included
services even if they satisfy the tests of paragraph 4. Set
forth below are examples of cases where fees would be included
under paragraph 4, but are excluded because of the conditions
of paragr-aph 5.
Example (8)
Facts:
An Indian company purchases a computer from a U.S.
computer manufacturer. As part of the purchase
agreement, the manufacturer agrees to assist the Indian
company in setting up the computer and installing the
operating system, and to ensure that the staff of the
Indian company is able to operate the computer. Also,
as part of the purchase agreement, the seller agrees to
provide, for a period of ten years, any updates to the
operating system and any training necessary to apply the

-8update. Both of these service elements to the contr
would qualify unc3er par agraph 4(b) as an included
service. Would <sither or both be excluded from the
category of inclijded services, under paragraph 5 ( a ) ,
because they are ancill ary and subsidiary, as well a
inextricably and essent ially 1;inked, to the1 sale of
computer ?
Analysis:
The installation assistance and initial training are
ancillary and subsidiary to the sale of the computer,
and they are also inextricably and essentially linked to
the sale. The computer would be of little value to the
Indian purchaser without these services, which are most
readily and usefully provided by the seller. The fees
for installation assistance and initial training,
therefore, are not fees for included services, since
these services are not the predominant purpose of the
arrangement.
The services of updating the operating system and
providing associated necessary training may well be
ancillary and subsidiary to the sale of the computer,
but they are not inextricably and essentially linked to
the sale. Without the upgrades, the computer will
continue to operate as it did when purchased, and will
continue to accomplish the same functions. Acquiring
the updates cannot, therefore, be said to be
inextricably and essentially linked to the sale of the
computer.
Example (9)
Facts:
An Indian hospital purchases an X-ray machine from a
U.S. manufacturer. As part of the purchase agreement,
the manufacturer agrees to install the machine, to
perform an initial inspection of the machine in India,
to train hospital staff in the use of the machine, and
to service the machine periodically during the usual
warranty period (2 y e a r s ) . Under an optional service
contract purchased by the hospital, the manufacturer
also agrees to perform certain other services throughout
the life of the machine, including periodic inspections
and repair services, advising the hospital about
developments in X-ray film or techniques which could
improve the effectiveness of the machine, and training
hospital staff in the application of those new
developments. The cost of the initial installation,
inspection, training, and warranty service is relatively
minor as compared with the cost of the X-ray machine.
Is any of the service described here ancillary and
subsidiary, as well as inextricably and essentially
linked, to the sale of the X-ray machine?

-9Analysis:
The initial installation, inspection, and training
services in India and the periodic service during the
warranty period are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
X-ray machine because the usefulness of the machine to
the hospital depends on this service, the manufacturer
has full responsibility during this period, and the cost
of the services is a relatively minor component of the
contract. Therefore, under paragraph 5(a) these fees
are not fees for included services, regardless of
whether they otherwise would fall within paragraph 4 ( b ) .
Neither the post-warranty period inspection and repair
services, nor the advisory and training services
relating to new developments are "inextricably and
essentially linked" to the initial purchase of the X-ray
m a c h i n e . Accordingly, fees for these services may be
treated as fees for included services if they meet the
tests of paragraph 4 ( b ) .
Example (10)
Facts:
An Indian automobile manufacturer decides to expand into
the manufacture of helicopters. It sends a group of
engineers from its design staff to a course of study
conducted by the Massachusetts Institute of Technology
(MIT) for two years to study aeronautical engineering.
The Indian firm pays tuition fees to MIT on behalf of
the firm's employees.
Is the tuition fee a fee for an
included service within the meaning of Article 12?
Analysis:
The tuition fee is clearly intended to acquire a
technical service for the firm. However, the fee paid
is for teaching by an educational institution, and is,
therefore, under paragraph 5 ( c ) , not an included
service. It is irrelevant for this purpsoe whether MIT
conducts the course on its campus or at some other
location.
Example (11)
Facts:
As in Example (10), the automobile manufacturer wishes
to expand into the manufacture of helicopters. It
approaches an Indian university about establishing a
course of study in aeronautical engineering.
The
university contracts with a U . S . helicopter manufacturer
to send an engineer to be a visiting professor of
aeronautical engineering on its faculty for a year.
Are
the amounts paid by the university for these teaching
services fees for included services?

-10Analysis:
The fees are for teaching in an educational
institution. As such, pursuant to paragraph 5 ( c ) , they
are not fees for included services.
Example

(12)

Facts:
An Indian w i s h e s to install a computerized system in his
home to control lighting, heating and air conditioning,
a stereo sound system and a burglar and fire alarm
system. He hires an American electrical engineering
firm to design the necessary wiring system, adapt
standard software, and provide instructions for
installation. Are the fees paid to the American firm by
the Indian individual fees for included services?
Analysis:
The services in respect of which the fees are paid are
of the type which would generally be treated as fees for
included services under paragraph 4 ( b ) . However, because
the services are for the personal use of the individual
making the payment, under paragraph 5(d) the payments
would not be fees for included services.

EMBASSY OF THE
UNITED STATES OF AMERICA
New D e l h i , September

1 2 , 1989

Excellency:
I have the honor to refer to the Convention between the
Government

of the United States of America and the Government

of the Republic of India for the Avoidance of Double

Taxation

and the Prevention of Fiscal Evasion with Respect to Taxes on
Income which w a s signed

today

(hereinafter

referred

to as "the

C o n v e n t i o n " ) and to confirm, on behalf of the Government
United

States of America, the following understandings

between

of the

reached

the two G o v e r n m e n t s :

Both sides agree that a tax sparing credit shall not be
provided

in Article 25 (Relief from Double Taxation) of the

Convention at this time.

However, the Convention shall be

promptly amended to incorporate a tax sparing credit

provision

if the United States hereafter amends its laws concerning the
provision of tax sparing c r e d i t s , or the United States

reaches

agreement on the provision of a tax sparing credit with any
other

country.
Both sides also agree that, for purposes of paragraph 4(c)

of Article 5 (Permanent

E s t a b l i s h m e n t ) of the Convention, a

person shall be considered

to habitually secure orders in a

Contracting State, w h o l l y or almost w h o l l y for an e n t e r p r i s e ,
only if:
1.

such person frequently accepts orders for goods or

merchandise on behalf of the e n t e r p r i s e ;
2.

substantially

all of such person's

activities in the Contracting
the enterprise;

State consist

sales-related

of activities for

person haoitjaiiy represents to persons
offering to buy goods or merchandise that acceptance of an
order by such person constitutes the agreement of the
enterprise to supply goods or merchandise under the terms and
conditions specified in the order; and
4. the enterprise takes actions that give purchasers
the basis for a reasonable belief that such person has
authority to bind the enterprise.
I have the honor to request Your Excellency to confirm the
foregoing understandings of Your Excellency's Government.
Accept, Excellency, the renewed assurances of my highest
conside rat ion .
1

slUJJ~J,
His Excellency

(John R. Hubbard

Dr. N.K. Sengupta,

Ambassador

Secretary (Revenue),
Ministry of Finance,
New Delhi.

""
flf^ NEW DELHI-110001
SECRETARY

Tf r^T-110001
GOVERNMENT OF INDIA
MINISTRY OF FINANCE, DEPARTMENT OF REVENUE

September 12, 1989

Cuft / jftuA i t^'i ^n^ci

SECRETARY
1.

such person frequently accepts orders for goods or

merchandise on behalf of the enterprise;
2.

substantially all of such person's

activities in the Contracting

sales-related

State consist of activities for

the enterprise;
3.

such person habitually represents to persons

offering to buy goods or merchandise that acceptance of an
order by such person constitutes the agreement of the
enterprise to supply goods or merchandise under the terms and
conditions specified
4.

in the order; and

the enterprise takes actions that give purchasers

the basis for a reasonable belief that such person has
authority to bind the enterprise."
I have the honour to confirm the understandings

contained

in Your Excellency's Note, on behalf of the Government of the
Republic of India.
Accept, Excellency, the renewed assurances of my highest
consideration.

N. K. Sengupta

His Excellency
Dr. John

R.'Hubbard,

Ambassador of the
United States of America,
New Delhi.

E M B A S S Y OF THE
UNITED STATES OF AMERICA

New Delhi, September 1 2 , 1989

Excellency:

I have the honor to refer to the Convention signed

today

Services)
This memorandum

of understanding represents the current views of the United
States Government with respect to these aspects of Article
12, and it is my Government's understanding that it also
represents the current views of the Indian Government.

is also my Government's view that as our Governments gain
experience in administering
Article 1 2 , the competent

the Convention, and particularly

authorities may develop and

publish amendments to the memorandum of understanding and
further understandings and interpretations of the Convention

_ /"' -^LL^^-r~i
His Excellency

John R. Hubbard

Dr. N.K. Sengupta,

Ambassador

Secretary (Revenue),
Ministry of Finance,
New Delhi.

___
*""
flfa^ NEW DELHI-110001
SECRETARY

T>rT H1MH, TR^fTnTTT
Tf f*rrfM 10001
G O V E R N M E N T OF INDIA
MINISTRY OF FINANCE, DEPARTMENT OF REVENUE

September 1 2 , 1989

relating to Article

12 of the Convention."
I have the honour to confirm the understandings contained
in Your Excellency's Note, on behalf of the Government of the
Republic of India.
Accept, Excellency, the renewed assurances of my highest
consideration.

it
His Excellency N. K. Sengupta
Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

May 15, 1989
U . S . - INDIA TAX TREATY
MEMORANDUM OF UNDERSTANDING CONCERNING
FEES FOR INCLUDED SERVICES
IN ARTICLE 12
Paragraph 4 (in general)
This memorandum describes in some detail the category of
services defined in paragraph 4 of Article 12 (Royalties and
Fees for Included S e r v i c e s ) .
It also provides examples of
services intended to be covered within the definition of
included services and those intended to be excluded, either
because they do not satisfy the tests of paragraph 4, or
because, notwithstanding the fact that they meet the tests of
paragraph 4, they are dealt with under paragraph 5. The
examples in either case are not intended as an exhaustive list
but rather as illustrating a few typical cases. For ease of
understanding, the examples in this memorandum describe U . S .
persons providing services to Indian persons, but the rules of
Article 12 are reciprocal in application.
Article 12 includes only certain technical and consultancy
services. By technical services, we mean in this context
services requiring expertise in a technology. By consultancy
services, we mean in this context advisory services. The
categories of technical and consultancy services are to some
extent overlapping because a consultancy service could also be
a technical service. However, the category of consultancy
services also includes an advisory service, whether or not
expertise in a technology is required to perform it.
Under paragraph 4, technical and consultancy services are
considered included services only to the following extent:
(1)
as described in paragraph 4 ( a ) , if they are ancillary and
subsidiary to the application or enjoyment of a right, property
or information for which a royalty payment is made; or (2) as
described in paragraph 4 ( b ) , if they make available technical
knowledge, experience, skill, know-how, or processes, or
consist of the development and transfer of a technical plan or
technical design. Thus, under paragraph 4 ( b ) , consultancy
services which are not of a technical nature cannot be included
services.
Paragraph 4 (a)
Paragraph 4 (a) of Article 12 refers to technical or
consultancy services that are ancillary and subsidiary to the
application or enjoyment of any right, property, or information
for which a payment described in paragraph 3(a) or (b) is
received. Thus, paragraph 4(a) includes technical and
consultancy services that are ancillary and subsidiary to the
application or enjoyment of an intangible for which a royalty
is received under a license or sale as described in

-3right, property, or information for which a royalty
payment under paragraph 3 is m a d e , such services shall be
considered "included services" only to the extent that
they are described in paragraph 4 ( b ) .
Example (1 )
Facts:
A U.S. manufacturer grants rights to an Indian
company to use manufacturing processes in which the
transferor has exclusive rights by virtue of process
patents or the protection otherwise extended by law
to the owner of a process. As part of the
contractual arrangement, the U . S . manufacturer agrees
to provide certain consultancy services to the Indian
company in order to improve the effectiveness of the
latter's use of the processes. Such services
include, for example, the provision of information
and advice on sources of supply for materials needed
in the manufacturing process, and on the development
of sales and service literature for the manufactured
product. The payments allocable to such services do
not form a substantial part of the total
consideration payable under the contractual
arrangement. Are the payments for these services
fees for "included services"?
Analysis:
The payments are fees for included services. The
services described in this example are ancillary and
subsidiary to the use of a manufacturing process
protected by law as described in paragraph 3 (a) of
Article 12 because the services are related to the
application or enjoyment of the intangible and the
granting of the right to use the intangible is the
clearly predominant purpose of the arrangement.
Because the services are ancillary and subsidiary to
the use of the manufacturing process, the fees for
these services are considered fees for included
services under paragraph 4 (a) of Article 1 2 ,
regardless of whether the services are described in
paragraph 4 ( b ) .
Example(2)
Facts:
An Indian manufacturing company produces a product
that must be manufactured under sterile conditions
using machinery that must be kept completely free of
bacterial or other harmful d e p o s i t s . A U . S . company
has developed a special cleaning process for removing

-52.

architectural services; and

~...^w

,4)

Facts:
A U.S. manufacturer operates a wallboard fabrication
plant outside India. An Indian builder hires the
U . S . company to produce wallboard at that plant for a
fee. The Indian company provides the raw m a t e r i a l s ,
and the U . S . manufacturer fabricates the wallboard in
its plant, using advanced technology. Are the fees
in this example payments for included services?
Analysis:
The fees would not be for included services.
Although the U.S. company is clearly performing a
technical service, no technical knowledge, skill,
etc., are made available to the Indian company, nor
is there any development and transfer of a technical
plan or design. The U.S. company is merely
performing a contract manufacturing service.
Example (5)
Facts:
An Indian firm owns inventory control software for
use in its chain of retail outlets throughout India.
It expands its sales operation by employing a team of
travelling salesmen to travel around the countryside
selling the company's w a r e s . The company wants to
modify its software to permit the salesmen to access
the company's central computers for information on
what products are available in inventory and when
they can be delivered. The Indian firm hires a U . S .
computer programming firm to modify its software for
this purpose. Are the fees which the Indian firm
pays treated as fees for included services?
Analysis:
The fees are for included services. The U.S. company
clearly performs a technical service for the Indian
company, and it transfers to the Indian company the
technical plan (i.e., the computer program) which it
has developed.
Example (6)
Facts *
An'lndian vegetable oil manufacturing company w a n t s
to produce a cholesterol-free oil from a plant which
produces oil normally containing cholesterol. An
American company has developed a process for refining
the cholesterol out of the oil. The Indian company
contracts with the U . S . company to modify the
formulas which it uses so as to eliminate the
cholesterol, and to train the employees of the Indian
company in applying the new formulas. Are the fees
paid by the Indian company for included services?

-7Analysis:
The fees are for included services. The services are
technical, and the technical knowledge is made
available to the Indian company.
Example (7)
Facts:
The Indian vegetable oil manufacturing firm has
mastered the science of producing cholesterol-free
oil and wishes to market the product w o r l d - w i d e .
It
hires an American marketing consulting firm to do a
computer simulation of the world market for such oil
and to advise it on marketing strategies. Are the
fees paid to the U . S . company for included services?
Analysis:
The fees would not be for included services. The
American company is providing a consultancy service
which involves the use of substantial technical skill
and expertise. It is not, however, making available
to the Indian company any technical experience,
knowledge or skill, etc., nor is it transferring a
technical plan or design. What is transferred to the
Indian company through the service contract is
commercial information. The fact that technical
skills were required by the performer of the service
in order to perform the commercial information
service does not make the service a technical service
within the meaning of paragraph 4 ( b ) .
Paragraph 5
Paragraph 5 of Article 12 describes several categories of
services which are not intended to be treated as included
services even if they satisfy the tests of paragraph 4. Set
forth below are examples.of cases where fees would be included
under paragraph 4, but are excluded because of the conditions
of paragraph 5.
Example (8)
Facts:
An Indian company purchases a computer from a U.S.
computer manufacturer. As part of the purchase
agreement, the manufacturer agrees to assist the Indian
company in setting up the computer and installing the
operating system, and to ensure that the staff of the
Indian company is able to operate the computer.
Also,
as part of the purchase agreement, the seller agrees to
provide, for a period of ten years, any updates to the
operating system and any training necessary to apply the

-8update. Both of these service elements to the contract
would qualify under paragraph 4(b) as an included
service. Would either or both be excluded from the
category of included services, under paragraph 5 ( a ) ,
because they are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
computer?
Analysis:
The installation assistance and initial training are
ancillary and subsidiary to the sale of the computer,
and they are also inextricably and essentially linked to
the sale. The computer would be of little value to the
Indian purchaser without these services, which are most
readily and usefully provided by the seller. The fees
for installation assistance and initial training,
therefore, are not fees for included services, since
these services are not the predominant purpose of the
arrangement.
The services of updating the operating system and
providing associated necessary training may well be
ancillary and subsidiary to the sale of the computer,
but they are not inextricably and essentially linked to
the sale. Without the upgrades, the computer will
continue to operate as it did when purchased, and will
continue to accomplish the same functions.
Acquiring
the updates cannot, therefore, be said to be
inextricably and essentially linked to the sale of the
computer.
Example (9)
Facts:
An Indian hospital purchases an X-ray machine from a
U.S. manufacturer. As part of the p u r c h a s e # a g r e e m e n t ,
the manufacturer agrees to install the machine, to
perform an initial inspection of the machine in India,
to train hospital staff in the use of the machine, and
to service the machine periodically during the usual
warranty period (2 y e a r s ) . Under an optional service
contract purchased by the hospital, the manufacturer
also agrees to perform certain other services throughout
the life of the m a c h i n e , including periodic inspections
and repair services, advising the hospital about
developments in X-ray film or techniques which could
improve the effectiveness of the m a c h i n e , and training
hospital staff in the application of those new
developments. The cost of the initial installation,
inspection, training, and warranty service is relatively
minor as compared with the cost of the X-ray m a c h i n e .
Is any of the service described here ancillary and
subsidiary, as well as inextricably and essentially
linked, to the sale of the X-ray m a c h i n e ?

-9Analysis:
The initial installation, inspection, and training
services in India and the periodic service during the
warranty period are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
X-ray machine because the usefulness of the machine to
the hospital depends on this service, the manufacturer
has full responsibility during this period, and the cost
of the services is a relatively minor component of the
contract. Therefore, under paragraph 5(a) these fees
are not fees for included services, regardless of
whether they otherwise would fall within paragraph 4 ( b ) .
Neither the post-warranty period inspection and repair
services, nor the advisory and training services
relating to new developments are "inextricably and
essentially linked" to the initial purchase of the X-ray
m a c h i n e . Accordingly, fees for these services may be
treated as fees for included services if they meet the
tests of paragraph 4 ( b ) .
Example (10)
Facts:
An Indian automobile manufacturer decides to expand into
the manufacture of helicopters. It sends a group of
engineers from its design staff to a course of study
conducted by the Massachusetts Institute of Technology
(MIT) for two years to study aeronautical engineering.
The Indian firm pays tuition fees to MIT on behalf of
the firm's employees.
Is the tuition fee a fee for an
included service within the meaning of Article 12?
Analysis:
The tuition fee is clearly intended to acquire*a
technical service for the firm. However, the fee paid
is for teaching by an educational institution, and is,
therefore, under paragraph 5 ( c ) , not an included
service. It is irrelevant for this purpsoe whether MIT
conducts the course on its campus or at some other
location.
Example (11)
Facts:
As in Example (10), the automobile manufacturer wishes
to expand into the manufacture of helicopters. It
approaches an Indian university about establishing a
course of study in aeronautical engineering.
The
university contracts with a U . S . helicopter manufacturer
to send an engineer to be a visiting professor of
aeronautical engineering on its faculty for a year.
Are
the amounts paid by the university for these teaching
services fees for included services?

-10-

Analysis:
The fees are for teaching in an educational
institution. As such, pursuant to paragraph
are not fees for included services.
Example

5 ( c ) , they

(12)

Facts:
An Indian wishes to install a computerized system in his
home to control lighting, heating and air conditioning,
a stereo sound system and a burglar and fire alarm
system. He hires an American electrical engineering
firm to design the necessary wiring system, adapt
standard software, and provide instructions for
installation. Are the fees paid to the American firm by
the Indian individual fees for included services?
Analysis:
The services in respect of which the fees are paid are
of the type which would generally be treated as fees for
included services under paragraph 4 ( b ) . However, because
the services are for the personal use of the individual
making the payment, under paragraph 5(d) the payments
would not be fees for included services.

TREASURY NEWS

Department of the Treasury • Washington, D.C. • Telephone 5*6
TEXT AS PREPARED Li3RAi:"Y. ROOM 5510
EMBARGOED FOR RELEASE UPON DELIVERY
Expected at 8:30 p.m., E.D.T.
September 12, 1989

JJFP

:j ij '•<

Remarks by
Secretary of the Treasury
Nicholas F. Brady
at the
American Business Conference Dinner
The Treasury Department
Washington, D.C.
September 12, 1989
I'm delighted that the American Business Conference is able
to be here as the Treasury Department celebrates
Bicentennial.

its

Two hundred years ago yesterday, President Washington
nominated Alexander Hamilton to be the first Secretary of the
Treasury. He was confirmed by the Senate and took the oath of
office, all on the very same day, September 11, 1789 — a record
for speedy confirmation that we can safely assume will never be
broken.
I hope you enjoyed your tour of the Treasury building, which
has been in use since 1831 — longer than any other government
building in Washington except for the Capitol and the White
House.
This magnificent room is one of the most historic in the
Treasury Department. For more than a century, the Cash Room was
Treasury's bank lobby, where the public redeemed silver and gold
certificates and cashed government checks until 1976.
President Ulysses S. Grant held his Inaugural Ball in this
room on March 4, 1869. He arranged to have gas jets installed
for the occasion to spell out the word "PEACE" in nine-foot-tall
letters on the north columns.
From the very beginning of its history/ Treasury's primary
responsibility has been the nation's financial health. In 1790,
Alexander Hamilton stunned the Congress by proposing that the new
country repay its Revolutionary War debt and take on the
outstanding debt of the states, as well. This commitment laid
the foundation for our nation's financial system.
NB-450

2
Today, the Treasury is equally committed to guarding the
nation's financial health.
We are addressing the important
financial problems facing our nation at home and abroad — the
budget deficit, the savings and loan crisis and Third World debt
—• issues that had to be faced before we could concentrate our
efforts on the longer-term, systemic problems in our economy.
We're making progress in each of these areas. We've reached
a budget agreement with the Congress that will meet the GrammRudman-Hollings deficit reduction target for 1990 with no new
taxes.
Legislation is in place that gives us the tools to
address the problems in the savings and loan industry* And our
Third World debt plan has provided a new framework within which
we're working to reduce the debt burden of developing nations.
Of course, this doesn't mean these problems have been
solved. But we're off to a solid start and we're headed down the
right track.
Now it's time to turn our attention to a more basic economic
problem facing us all: The issue is, how are we to sustain our
position as the leading economic power in the international
arena? And, ultimately, will we be able to preserve and improve
our standard of living?
We have many strengths with which to approach this challenge
— strengths that were born of American traditions of independent
thinking and innovation, of daring vision and the drive to make
that vision a reality.
Our society has been characterized by a work ethic that
carries a commitment to quality, by the discipline to produce
only our best.
Traditionally, the whole American work force—
from the boardrooms to the factory floors — shared a pride in
their work unequaled in the world. That commitment to planning
and building for the future as well as for the present is one of
our proudest and most valuable legacies.
However, in recent years we have neglected our traditional
strengths and have seen the other nations move forward to
challenge our position in the world economy. We've been willing
to mortgage our future, to sacrifice quality and cut corners in
the pursuit of immediate payoff. It worries me when I see many
of the best minds in America concentrating on financial
engineering rather than laying plans for sound corporate
strategies for the future.
It may be that we were so successful in leading the world
economy in the post-war era that we let ourselves become
complacent. Perhaps we began to assume that what had come to us
by the fruits of our labors was instead a birthright due us as
Americans.

3
It's taken our nation some time to come to terms with the
new international realities, but we're doing so. Our approach to
the challenges of the 1990s and beyond should be to maintain our
competitiveness where it's strong, and to rebuild it where it has
faltered. This demands a combination of government and private
sector initiatives.
We must work together to find new ways to encourage
Americans to take the long-term view in their economic thinking
as we work to preserve America's economic leadership and our
standard of living.
This issue is one of the Bush
Administration's top priorities.
At Treasury, we're actively studying ways to encourage both
managers and investors to lengthen their planning horizons and to
increase the common interest between shareholders, managers and
workers.
We'll be looking at a range of options — including
regulatory and statutory changes that would enhance financial
incentives and eliminate financial disincentives.
A very important step we can take in fostering long-term
economic planning is to cut the cost of capital to corporations.
I know this issue has concerned the American Business Conference
from its inception.
The cost of capital is the weighted average of what a
company pays for equity and debt financing on an after-tax basis.
Currently, U.S. companies face a higher cost of capital than most
of our major trading partners. A recent Federal Reserve Bank of
New York study found, for example, that the capital cost for an
R&D project with a 10-year payoff was more than 20 percent in the
U.S., compared to less than nine percent in Japan and less than
15 percent in West Germany. You can't pay twice as much as your
competitors for a basic raw material — capital — and hope to
come out ahead. Our international competitors fully understand
this.
This higher cost of capital cripples the competitive
position of American companies. To pay for higher capital costs,
U.S. businesses must earn a higher return on investments than
their foreign competitors.
This higher required return may
preclude the funding of important projects like a new silicon
chip plant or an x-ray lithography research and development
facility.
It also makes it more difficult to lower prices in
order to capture market share. In short, it's harder to compete.

4
Our high cost of capital makes long-term investments too
expensive and forces capital into short-term projects.
High
capital costs mean projects have to pay off more quickly, and a
short-term focus may mean pressure to earn short-term profits.
But let me tell you what it doesn't mean.
It doesn't mean
innovation.
It doesn't mean long-term risk-taking.
And it
doesn't mean competitive prices.
The first step the government must take in bringing down the
cost of capital is to reduce the federal budget deficit.
The
effect of the deficit on interest rates has increased the cost of
capital and consequently discouraged long-term investment. The
Bush Administration is absolutely committed to reducing the
deficit by meeting the deficit targets established by the GrammRudman-Hollings legislation.
We've already taken a first, very important step by
achieving an agreement with the bipartisan leadership of Congress
on the fiscal 1990 budget — an agreement which meets the GrammRudman-Hollings target and reduces the deficit to just below 100
billion dollars without raising taxes.
Now it's up to the
Congress to enact reconciliation legislation consistent with that
agreement.
The second step we can take to lower the cost of capital is
to approve President Bush's proposal to permanently lower the tax
rate on capital gains. It will reduce the cost of capital in the
United States and create incentives for investment in the longterm productive capacity of American industry.
A lower capital gains tax rate helps small and growing
businesses, which create most of our new jobs.
Because new
ventures often have difficulty raising start-up capital, lower
rates can create incentives for the kind of risk-taking that
leads to new technology and a competitive edge.
Relative to our developed trading partners, the United
States has among the highest taxes on capital gains.
Belgium,
Italy and the Netherlands don't tax capital gains at all. West
Germany doesn't tax the gain on assets held more than six months.
And France and Japan provide a differential rate for long-term
capital gains that is considerably below ours. Why should we be
the exception?
The President's capital gains proposal will encourage
investors to make a long-term commitment, promoting growthproducing investment rather than short-term profit-taking.

5
A third major step toward lowering the cost of capital would
be to increase the rate of personal savings in this country. If
we provided for more of our domestic investment needs with our
savings, we'd have to import less capital from abroad, thus
improving our trade balance.
We're asking for trouble if we
allow ourselves to become more and more dependent on borrowed
capital from abroad.
In the coming months, we will look at a number of options
that give people the incentive to save, instead of to consume.
In addition to the three steps I've suggested to lower the
cost of capital, we must also work toward the goal of tax
integration — removing the double taxation on dividends. This
would provide a great incentive for long-term growth by lowering
the overall cost of capital.
But it would do more. It would
also end the bias of the tax system toward debt financing and
return millions of Americans as active investors in our equity
markets.
There has been a great deal of concern expressed about the
leveraging of America in recent years. Congress correctly traces
much of this increased leverage to the unequal tax treatment of
debt and equity. The answer put forth by some in Congress is to
limit the deductibility of interest on corporate debt. But this
would be a mistake. We ought not to make capital more expensive
for American companies and hurt their ability to compete.
Rather, if one is interested in removing the bias toward
debt in our financial system in a manner which enhances
competitiveness, we must focus on removing the double taxation of
dividends.
Our primary trade partners — Canada, Japan, West
Germany, and the United Kingdom —
all have some form of
corporate/shareholder integration.
None of these efforts will produce quick results. Neither
will they be easy.
But fundamental changre is required if our
companies are to be truly successful worldwide.

6
Tonight I've mentioned some basic but critical steps that we
as a nation must take to ensure our economic leadership in the
world economy and to preserve our standard of living. We must
emphasize the long-term view in business decision-making. To do
this, we must lower the cost of capital by taking the following
actions:
o Reduce the federal budget deficit,
o permanently cut the tax rate on long-term capital
gains,
o increase the rate of personal savings in the U.S.,
o and reduce the double taxation of dividends.
The members of the American Business Conference are among
the best and brightest of America's growth companies. You demand
a lot from yourselves and your employees, and as a result you
generate success.
Tonight I ask you to help me spread the message that we must
renew the traditional American commitment to quality, to building
for the future. Together, we can assure that American companies
continue into the next century as innovative, financially fit
competitors in a global market.
-30-

TREASURY NEWS
Itpartment of the Treasury • Washington, D.c. • Telephone 566-2041
\M-. ;-0 0H 5310
FOR IMMEDIATE RELEASE
September 13, 1989

SFP I ii
HtK.

1 11

STATEMENT BY SECRETARY BRADY
Treasury Secretary Nicholas F. Brady today welcomed the announcement by the Government of Mexico and its Bank Advisory Committee
that they have reached agreement on a detailed term sheet for the
1989-92 commercial bank financing package. This agreement represents another important step forward in implementing the
strengthened debt strategy and in Mexico's efforts to obtain
needed debt reduction and new financing to support its economic
reform program.

OoO

NB-451

TREASURY NEWS
lipartmont of tho TreasuryL13RA3Y.
• Washington,
o.c. • Tolophono 566-2041
ROOM 5510
SEP

J 11 un
September 14, 1989

FOR IMMEDIATE RELEASE

Statement of
Nicholas F. Brady
Secretary of the Treasury

The vote in the Ways and Means Committee today to reduce the
tax rate on capital gains is a major step forward in providing
incentives for long-term investment in the United States.
Congressmen Jenkins and Archer are to be commended for their
leadership, and we are grateful to the other 17 members who
supported them. We also appreciate Chairman Rostenkowski's
efforts to work out a compromise and to keep the reconciliation
process moving ahead. We believe a reduction in the capital
gains rate is important for all Americans. It creates jobs. It
lowers the cost of capital in the U.S., which is significantly
higher than our principal international competitors. And it
promotes economic growth.
###

NB-4 52

TREASURY NEWS
Department of the Treasury • Washington, o.c. • Telephone 566-2041
.>o10
For Release Upon Delivery
September 15, 1989
W.P I
JCrAKT^M

REMARKS
BY
JOHN E. ROBSON
DEPUTY SECRETARY OP THE TREASURY
BEFORE
THE LEADERSHIP CONFERENCE OF
THE AMERICAN BANKERS ASSOCIATION
SEPTEMBER 15, 1989
Thank you for inviting me here today to speak about a
subject that has occupied a great deal of the nation's attention
and the time of the Federal Government over the past several
months —
the creation and startup of the largest financial
institution workout in United States history.
Less than 2 0 days after assuming office, President Bush
announced the Administration's proposal for a major initiative to
address the nation's savings and loan crisis. And scarcely over
a month ago in the Rose Garden, the President signed this
comprehensive legislation. We are proud of the role the Treasury
Department and Secretary Brady had in shaping the proposal and
shepherding the Financial Institutions Reform, Recovery, and
Enforcement Act of 1989 through Congress to enactment. As the
President said at the signing ceremony, the FIRREA legislation
represents "a crucial step toward restoring public confidence."
The central features of FIRREA that are designed to rebuild
public confidence include the following:
— First, a sweeping restructuring of thrift industry
regulation and deposit insurance;
— Second, the imposition of tough capital standards and
other regulatory controls;
— Third, stronger tools to enable law enforcement agencies
to deal more swiftly and effectively with instances of fraud and
abuse; and
— Fourth, massive funding and the creation of two new
agencies — the Resolution Trust Corporation and the Oversight
Board — to pay for and manage the near-term cleanup of insolvent
thrifts.
NB-453

3
duties, and the number is expected to grow considerably larger
before the job is completed.
Recognizing that FIRREA commits substantial taxpayer funds
to pay for the losses in our Federal deposit insurance system,
Congress established the Oversight Board as an accountable
Executive Branch agency. The Secretary of the Treasury serves as
chairman, and is joined by the Secretary of Housing and Urban
Development, the Chairman of the Federal Reserve Board, and two
members to be appointed by the President.
The Oversight Board sets the overall strategies, policies,
and goals for RTC, for example, policies and procedures
governing case resolutions, asset management and disposition, and
the use of private contractors. It also approves R T C s financial
plans, authorizes and audits the use of funds by RTC, and has
the responsibility for monitoring and evaluating R T C s
performance.
As an organization with policy making and financial duties,
rather than operational responsibilities which are the province
of RTC, the Oversight Board expects to maintain a lean staff of
skilled professionals.
The Oversight Board will not be involved in individual
cases. It will not sell assets, liquidate or merge thrifts, or
retain private sector companies and individuals to assist in the
sale or management of properties. These activities are the
responsibility of RTC. So if you have interests or questions
about these activities, you should make them known to RTC.
The customary practice for new Administrations is to recount
their accomplishments after the first 100 days. Since the RTC
and Oversight Board have existed for little more than one month,
and operated for just 2 6 business days, we do not have the
luxury of such leisurely reflection. Nevertheless, I think it
fair to say that we have accomplished a great deal even in this
short period:
o Only an hour after President Bush signed the FIRREA
legislation, the Oversight Board held its first meeting,
completed the necessary organizational actions, promulgated
its initial policies for RTC, made its first authorization
of funds, and appointed its interim officers and staff.
Within hours on the same day RTC held its first board
meeting and got the operations underway.
o To date, the Oversight Board has authorized and released to
RTC over $11 billion for thrift resolutions, liquidity needs
and replacement of high cost funds. Authorized funds are
released to RTC upon presentation of specific requests that
document the amount and purposes of the funds required.

4
o

The RTC has so far used its funds to close or transfer the
deposits of 14 insolvent thrifts and to lower the cost of
funds at numerous other institutions, thereby reducing their
losses. This translates to savings for the taxpayer. It
also should have the broader effect of reducing the cost of
funds for healthy thrifts.
At the first meeting of the Oversight Board, interim ethics
and conflict of interest guidelines were adopted, pending
final regulations. These provide that temporary Oversight
Board employees, from other federal agencies are subject to
the ethical standards of their respective home agencies, and
that FDIC ethical standards apply to all other Oversight
Board employees to the RTC, and to private contractors.
In addition to issuing 9 policies for RTC — covering
matters ranging from financial procedures to the terms of
RTC funding of thrifts — The Oversight Board established a
joint Oversight Board-RTC policy development task force to
make recommendations concerning strategies, policies and
goals for the RTC, and concerning the strategic plan the
Oversight Board must submit to Congress by December 31,
1989. This group, with personnel from both agencies, is
developing policies that are responsive to the R T C s
immediate needs, as well as developing policies that will
give long term guidance. In areas in which the Oversight
Board has not yet acted, RTC will carry out its
responsibilities in accordance with FDIC policies.
One interim policy asks the RTC to concentrate initially on
resolutions that do not involve complex and controversial
asset disposition and financing techniques, such as longterm yield maintenance agreements, asset guarantees and the
retention of equity positions. This policy is not intended
to preclude resolving large institutions, or initiating the
lengthy process to resolve institutions that might require
more complex techniques. It simply provides the Oversight
Board and the RTC some time to develop appropriate policies
for complex transactions, a task that is actively underway.
The Oversight Board has selected and appointed the required
two additional directors of the Resolution Funding
Corporation, the fund raising vehicle under FIRREA, and has
been actively recruiting the two public members of the
Oversight Board, its permanent chief executive officer, and
members for the regional advisory councils.
Most importantly, the oversight Board and RTC have
successfully begun an orderly, cooperative and professional
working relationship. This may be the most significant

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
OH 5510
FOR RELEASE AT 12:00 NOON

vl
3 i f\i CONTACT: Office of Financing
202/376-4350

<!H.

September 15, 1989
TREASURY'S 52-WEEK BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for approximately $9,500
million of 364-day Treasury bills
to be dated September 28, 1989, and to mature September 27, 1990
(CUSIP No. 912794 UQ 5 ) . This issue will provide about $75
million of new cash for the Treasury, as the maturing 52-week bill
is outstanding in the amount of $9,419
million. Tenders will be
received at Federal Reserve Banks and Branches and at the Bureau
of the Public Debt, Washington, D. C. 20239, prior to 1:00 p.m.,
Eastern Daylight Saving time, Thursday, September 21, 1989.
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. This series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for
Treasury bills maturing September 28, 1989. In addition to the
maturing 52-week bills, there are $13,694 million of maturing bills
which were originally issued as 13-week and 26-week bills. The disposition of this latter amount will be announced next week. Federal
Reserve Banks currently hold $3,194 million as agents for foreign
and international monetary authorities, and $5,617 million for their
own account. These amounts represent the combined holdings of such
accounts for the three issues of maturing bills. Tenders from Federal Reserve Banks for their own account and as agents for foreign
and international monetary authorities will be accepted at the
weighted average bank discount rate of accepted competitive tenders.
Additional amounts of the bills may be issued to Federal Reserve
Banks, as agents for foreign and international monetary authorities,
to the extent that the aggregate amount of tenders for such accounts
exceeds the aggregate amount of maturing bills held by them. For
purposes of determining such additional amounts, foreign and international monetary authorities are considered to hold $472
million
of
NB-454
the original 52-week issue. Tenders for bills to be maintained
on the book-entry records of the Department of the Treasury should
be submitted on Form PD 5176-3.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No
8/89deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from any one
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
8/89
the Public Debt.

DEPARTMENT OF THE TREASURY

Interim Report to the Congress
Concerning
International Discussions on an
International Debt Management Authority

September 1989

DEPARTMENT OF THE TREASURY

Interim Report to the Congress
Concerning
International Discussions on an
International Debt Management Authority

September 1989

Interim Report to the Congress
Concerning
International Discussions on an
International Debt Management Authority
September 1989

Legislative Requirements

Section 3111 of the Omnibus Trade and Competitiveness Act
of 1988 (P.L. 100-418) (the Act) requires the Secretary of the
Treasury to study the feasibility and desirability of establishing
an International Debt Management Authority (the Authority) to
purchase and restructure the sovereign debt of less developed
countries. Two interim reports, as well as a final report, are
to be prepared on the progress made on the study or in international discussions on establishing such an authority. The
first report was submitted on March 15, 1989. This is the second
interim report.

According to the provisions of the Act, in studying the
feasibility and advisability of establishing the Authority, the
Secretary may determine that the initiation of international
discussions on the establishment of the Authority would:

cause a material increase in the discount on sovereign debt;

- 2 materially increase the probability of default on such
debt; or
materially enhance the likelihood of debt service disruption.

If such a determination is not made, the Secretary must initiate
discussions with those countries he determines to be appropriate
for the purpose of establishing the Authority. The Secretary
must include in interim reports to the Congress an explanation
in detail of the reasons for the determination.

The first interim report concluded that in light of new
initiatives by Treasury Secretary Brady to strengthen the
international debt strategy, and ongoing discussions of these
proposals within the international community, it would not be
appropriate at that time to begin formal negotiations concerning
the Authority. The report noted that the new initiatives could
produce substantial reduction of debt and debt service burdens
without the public sector assuming the underlying risk of
outstanding commercial bank debt. Furthermore, it was the
determination of the Secretary of the Treasury that such formal
negotiations could materially depress secondary market prices and
materially enhance the likelihood of debt service disruption.
Indeed, past discussions of such facility proposals have
contributed to domestic pressures to restrict debt/equity swap
programs, which, in turn, have had a negative impact on secondary
market prices.

- 3 The Strengthened Debt Strategy

Secretary of the Treasury Brady suggested in March 1989 a
new approach to revitalize the international debt strategy.
This new approach: (1) builds upon the fundamental principles
of the previous debt strategy; (2) focuses international efforts
on achieving broadly based, voluntary debt reduction to ease
debt and debt service burdens and improve prospects for strong
growth; (3) recognizes the continuing need for new lending from
the commercial banks in conjunction with voluntary debt reduction,
while placing stronger emphasis on new investment flows and the
repatriation of flight capital; (4) maintains a central role for
the IMF and the World Bank within the debt strategy in encouraging
debtor policy reforms and catalyzing financial support; and (5)
redirects and increases available IMF and World Bank resources —
from their current resources — to support debt and debt service
reduction transactions agreed upon by the commercial banks and
debtor nations as an additional spur to growth in the debtor
nations.

We believe this approach can provide substantial benefits for
debtor nations through lower levels of debt, more manageable
debt service obligations, smaller and more realistic financing
needs, stronger economic growth, and higher standards of living.
It is a versatile approach, creating opportunities for voluntary
debt and debt service reduction by commercial banks as well as

- 4 encouraging new lending and alternative sources of private
capital.

Unlike proposals for a debt facility, this strategy

(1) minimizes the cost or contingent shift in risk to creditor
governments, (2) avoids mandatory prices for debt exchanges (with
prices pre-set by the facility), and (3) maintains a marketoriented approach to debt restructurings.

During the April 1989 meetings of the International Monetary
Fund and the World Bank, these ideas received strong support from
the Group of Seven and Group of Ten industrial nations.

Both the

IMF Interim Committee and the Development Committee of the IMF
and World Bank also strongly endorsed the strengthened debt
strategy.

For example, the Interim Committee, which represents the
views of both debtor and creditor governments, welcomed the U.S.
proposals to strengthen the debt strategy and "requested the
[IMF] Executive Board to consider as a matter of urgency the
issues and actions involved."

In particular, the Committee

agreed that "the Fund should provide resources in appropriate
amounts to members to facilitate debt reduction for countries
undertaking ... economic reforms, by setting aside a portion of
members• purchases under Fund-supported arrangements."

Further-

more, "the question of provision of resources for limited
interest support transactions involving significant debt or debt
service reduction should be examined."

- 5 In addition, the Development Committee "agreed that the
[World] Bank and [International Monetary] Fund should set aside
a portion of members' policy-based financing to support debtreduction operations" and, like the Interim Committee, called
for an examination of the "possibility of limited interest
support for transactions involving significant debt or debtservice reduction."

The IMF and World Bank managements established a joint task
force to prepare papers on implementation of these new suggestions.
The Executive Boards of the International Monetary Fund and the
World Bank subsequently adopted operational guidelines for
providing financial support for debt and debt service reduction
at the end of May. For countries requesting such support, the
IMF and World Bank would set aside approximately one-fourth of
their regular policy-based lending programs to support debt
reduction. The IMF would provide additional resources of up to
40 percent of a country's quota for interest support. The World
Bank also will make available additional resources to support
interest payments in connection with debt or debt service
reduction transactions, generally up to 15 percent of the total
3-year lending program.

This financing will be available to countries with large
external commercial bank debt which have adopted sound mediumterm adjustment programs, which can demonstrate a clear need for

- 6 debt and debt service reduction to accomplish medium-term growth
and development objectives, and which reach agreement with their
commercial bank creditors on operations involving significant
debt and debt service reduction. Sound adjustment programs will
include measures aimed at encouraging foreign investment and
flight capital repatriation and should, in addition, emphasize
debt/equity swap programs.

Consistent with Section 3113 of the Act, the U.S. Executive
Directors at the IMF and World Bank with the support of other
directors requested studies which reviewed and analyzed the debt
burden of developing countries. The IMF and World Bank have
both prepared major papers for their Executive Boards on the debt
situation and on alternative ways for dealing with it, including
new lending instruments, rescheduling and refinancing of existing
debt, securitization and debt conversion techniques, and discounted
debt repurchases. IMF and World Bank staff have also analyzed
the potential costs and benefits of international debt facilities,
and both have held seminars or symposia on alternative ways for
dealing with the debt strategy, including the use of debt
facilities. Both the IMF Interim Committee and the Development
Committee of the IMF and World Bank concluded at the spring
meetings that the proposals put forth by Secretary Brady to
strengthen the international debt strategy provide the best
approach for addressing the external financing problems of
developing countries.

- 7 These general endorsements have been translated into
specific support for reform in a number of individual countries.
The IMF Board has approved the use of Fund resources to support
debt and debt service reduction in connection with the adoption
of strong economic programs in Mexico, the Philippines, Costa
Rica and Venezuela. In addition, the World Bank has approved
policy-based loan commitments with provisions for debt reduction
support for Mexico and Venezuela. The Paris Club has agreed to
reschedule loans, including interest obligations, of Mexico, the
Philippines, and Costa Rica.

At the Paris Economic Summit held July 14-16, 1989, the
Group of Seven industrial countries firmly endorsed the strengthened debt strategy. In its communique, the Group urged the
debtor countries to move promptly to develop strong economic reform
programs as a basis for achieving debt and debt service reduction.
It welcomed the steps taken by the IMF and World Bank to support
debt and debt service reduction. Finally, it urged the commercial
banks to take realistic and constructive approaches in their
negotiations with the debtor countries and to move rapidly to
conclude financial arrangements including debt reduction, debt
service reduction and new money.

Mexico reached an agreement in principle in late July with
its commercial bank advisory committee on financing arrangements
that have the potential for significant debt and debt service

- 8 reduction (see below). A tentative agreement was also reached in
mid-August between the Philippines and its commercial bank
advisory committee which offers a combination of renewed voluntary
lending, restructured payments and significant debt reduction.
Commercial bank discussions with Costa Rica and Venezuela are
currently underway.

The Mexican Financing Package

The Mexican financing package, a medium-term financing
agreement for the period 1989 through 1992, is the first practical
application of the key elements of the strengthened debt strategy.
The package supports the Mexican economic reforms negotiated
with the IMF and World Bank, including a medium-term macroeconomic
program, trade and financial liberalization, investment reforms,
and privatization of the public sector.

The financial support offered by the commercial banks
includes options for debt reduction, debt service reduction, and
new financing, as follows:

(1) Fully collateralized, registered debt reduction bonds
which may be exchanged for existing medium-term debt
at a discount of 35 percent from current face value
with a single principal repayment in 30 years and an
interest rate of LIBOR plus 13/16 of one percent.

- 9 (2) Debt service reduction bonds which will be exchanged
at face value for existing medium-term debt, but with
a reduced, fixed interest rate of 6.25 percent. As in
the case of the debt reduction bonds, these instruments
will have a maturity of 30 years, will be fully
collateralized by 30-year zero-coupon bonds, and will
be repaid at maturity with a single payment. Commercial
banks will also have the option after 1997 to recover
some of the income foregone if Mexican real oil prices
and real oil revenues increase.

(3) New financing over a four-year period which is equal
to 25 percent of the bank exposure not exchanged for
one of these two instruments. This new financing may
be in the form of new Mexican bonds, onlending to
public sector borrowers, or medium-term trade credits.

Interest support of 1 1/2-2 years for both the debt and debt
service reduction bonds will be available. Seven billion dollars
in IMF, World Bank, and other Mexican resources are expected to
be used to enhance the new debt and debt service reduction
instruments. Japan will provide two billion dollars in resources
in parallel with IMF and World Bank loans to support the Mexican
program.

- 10 Banks may choose one or more of these options, in any
combination, based on their own interests and strategies. Loans
extended between 1983 and 1988 which are not converted into new
instruments will be rescheduled for 15 years, with a seven year
grace period, and an interest rate of LIBOR plus 13/16 of one
percent. The banks participating in this agreement will be able
to participate in a new debt/equity swap program permitting the
exchange of up to $3.5 billion in debt for equity holdings
between January 1990 and June 1993.

The precise effects of this agreement will depend upon the
choices made by Mexico's creditor banks. However, it is expected
that the benefits accruing to Mexico will include significantly
reduced principal or interest payments on approximately $40 billion
in Mexican medium-term and long-term bank debt and a reduction in
annual Mexican interest payments on the medium-term and long-term
bank debt by nearly one-third. By the end of 1992, the stock of
Mexican debt is expected to be some $10 to $12 billion lower than
it would have been were Mexico to rely on getting new money
alone. Moreover, some $40 billion in principal payments will be
"defeased" through the purchase of zero-coupon bonds, lifting the
burden of these payments from future Mexican generations.

This package represents a major step forward in international
efforts to encourage debt and debt service reduction. It
demonstrates that voluntary debt and debt service reduction can

- 11 be accomplished to the benefit of both debtor and creditor
without the need for centralized facilities that control, manage,
and possibly mandate prices for the debt reduction process.

Secondary Market Prices

The first interim report contained a broad discussion of
secondary market prices and how they are influenced by marketwide demand and supply conditions, country-specific developments,
and general expectations regarding future developments. As
pointed out in that report, short-term factors are clearly more
dominant in determining secondary market prices than long-term
prospects for individual nations to return to voluntary access
to markets. In general, prices quoted in the secondary market
reflect the most recent transaction rather than a homogeneous,
highly liquid market.

There were two major drops in secondary market prices during
1987 and 1988. During 1987, average secondary market prices for
the 15 major debtors1 fell from 64 cents to 47 cents per dollar
of face value, largely reflecting the impact of a Brazilian
moratorium on payments to commercial banks and substantial
reserving by U.S. money center banks early in the year.

Includes Argentina, Bolivia, Brazil, Chile, Colombia,
Ecuador, Ivory Coast, Mexico, Morocco, Nigeria, Peru, Philippines,
Uruguay, Venezuela, and Yugoslavia.

- 12 The second major decline in secondary market prices occurred
from mid- to late 1988, when the weighted average price fell to
about 40 cents per dollar. Market participants suggested that
this decline was generated by adverse market psychology fueled, in
part, by the impression that investment opportunities in the
debtor countries were narrowing and, in part, by the regional
banks' selling off claims to clear their books of LDC debt by the
end of the year. Canadian provisioning requirements may also
have increased the supply of Canadian paper for sale. Moreover,
a number of country-specific developments reflected either
worsening domestic economic situations or increased rhetorical
stridency within some of the key debtors. In particular,
speculation about a possible suspension of Venezuelan payments,
as well as heightened publicity on proposals for the establishment
of an international debt facility in the latter part of 1988,
also contributed to the downward pressures on prices.

This downward movement continued into 1989 as weighted
average prices for the 15 major debtors fell from approximately
40 cents at the beginning of the year to 29 cents by the first
week in March, the lowest level over the January 1989 to August
1989 period. Brazil's suspension of its debt/equity program may
have contributed to a drop of more than 13 cents in its secondary
market price over this two-month period. In addition, Venezuela
decided in January to halt principal payments to commercial banks
to conserve reserves. Its secondary market prices fell by 11.5

- 13 cents over the same period. Because of the size of their debt,
both the Brazilian and Venezuelan actions further reduced
secondary market values for their debt and depressed the market
for Latin American debt in general. According to some reports,
shorting of the market by speculative holders of debt paper may
also have affected secondary market quotations during this period.

Average secondary market prices began to rebound dramatically
from their early March low following Secretary Brady's speech on
March 10 which offered specific proposals to strengthen the
international debt strategy. In response to these proposals,
which included the use of official resources to support debt and
debt service reduction, demand for debt paper rose while commercial
banks tended to hold off on further sales in the market. As a
result, prices rose by an average of more than seven cents through
the end of April.

Especially buoyed were the prices of three likely candidates
for debt relief under the strengthened strategy — Mexico, the
Philippines, and Venezuela. By the end of April, the price of
Mexican debt had shot up 30 percent from the beginning of March;
Philippine debt, by 31 percent; and Venezuelan debt, by 41
percent — or by roughly 10 to 11 cents per dollar for each of
these countries. These dramatic increases were matched only by
the 40 percent increase in prices for Brazilian debt paper.
Although Brazil had not been considered a likely "first" candidate,

- 14 its standing as the largest developing country debtor certainly
fueled the assumption in the market that Brazil would soon be
seeking similar debt reduction. In sharp contrast, Argentina,
with all of its economic uncertainty, was not at that time viewed
as a serious candidate in the near term. The secondary market
price of its debt dropped by 8 percent, second in magnitude only
to the 25 percent decline in the price of Peruvian debt paper.

From the end of April until early June, market prices fell
by three cents on average, due to protracted discussions of new
financing arrangements for Mexico. Secondary market prices for
Mexican debt paper fell 9 percent in this six-week period.
Mexico had suspended its debt/equity swap program in 1988, with a
consequent evaporation of a major source of demand for Mexican
paper, and traders did not expect that this program would resume
until the conclusion of the agreement with the negotiating banks.

Prices subsequently rose steadily between June and mid-July,
generated, in part, by the expectation that the Mexican agreement
would be completed by the time of the July Paris Summit of key
industrial nations. In late May and early June, several developments within the debt strategy influenced market perceptions.
The IMF and World Bank announced guidelines for supporting debt
and debt service reduction transactions between debtor countries
and commercial banks. At this time, they also indicated to
Mexico and its commercial banks the specific amounts that could

- 15 be made available to support Mexican debt and debt service
reduction. Accordingly, the banks and Mexico began serious,
intensive negotiations.

Furthermore, Mexico, as well as the Philippines, Venezuela,
and Costa Rica, received IMF Board approval for the use of Fund
resources to support debt and debt service reduction in conjunction
with strong economic programs. The Paris Club also agreed to
reschedule outstanding loans as well as interest obligations of
Mexico, the Philippines, and Costa Rica. On July 23, nine days
after the Paris Summit, Mexico reached agreement in principle
with its bank advisory committee on a financing package. Market
prices at that point had fully regained the high of late April,
confirming the early market response to the strengthened debt
strategy.

Conclusion

The strengthened debt strategy has boosted secondary market
prices. The proposals put forth for voluntary, market-oriented
debt and debt service reduction have been viewed as potentially
effective steps in resolving deep-rooted debt problems. When
negotiations on debt and debt service reduction appeared to
stall, as the Mexican negotiations did in May, secondary market
prices declined. This further affirms the finding presented in

- 16 the first interim report that protracted delays in debt work-out
negotiations undermine secondary market prices.

With the Mexican agreement concluded in principle, a
preliminary agreement reached in the Philippines, and active
engagement by Costa Rica and Venezuela in negotiations with their
respective bank advisory groups, extensive discussions on the
establishment of an international debt facility would at this
juncture prove counterproductive. Negotiations would be disrupted,
preliminary agreements reassessed, and the overall process of
debt reduction delayed. Prevailing uncertainty would propel
secondary market prices lower. The prospect of an international
debt facility would also fuel expectations of across-the-board
debt relief. This could encourage actions to restrict debt/equity
programs or to countenance debt service arrearages in anticipation
of subsequent large scale debt relief.

Consistent with the previous report, it is once again the
determination of the Secretary of the Treasury that formal
negotiations on the establishment of an International Debt
Management Authority would be disruptive to the market and would
unnecessarily delay negotiations already underway between
commercial bank creditors and debtor nations, with potential debt
service disruptions and price declines in the secondary market
for debtor country debt paper. In addition, with the operational
details of the strengthened debt strategy in place and with

- 17 significant progress already being made in its implementation,
the establishment of an Authority is considered unnecessary.

As shown by the negotiation of the Mexican and Philippine
financing packages, debt and debt service reduction in conjunction
with debtor reform can be formulated without the intervention of
an international debt management authority. We expect several
other countries which are undertaking serious economic reforms
and which stand to gain measurably from debt and debt service
reduction to take advantage of the opportunities within this
approach to reduce debt burdens and enhance their prospects for
growth.

Table 1

Secondary Market Prices for the 15
Major Debtors' Bank Debt
(Selected Dates and in Cents per Dollar)

Mar 02

Mar 30

Apr 13

Apr 27

Mav 11

Mav 25

Jun 08

Jun 22

Jul 06

Jul 20

Argentina
Bolivia
Brazil
Chile
Colombia

17.3
9.0
26.8
55.3
50.0

16.5
11.0
33.5
58.5
50.0

16.3
11.0
37.0
58.5
55.3

16.0
11.0
37.5
58.5
57.0

15.0
11.0
34.0
58.5
57.0

12.5
11.0
32.0
59.0
57.0

11.8
11.0
31.0
60.0
57.0

14.3
11.0
31.0
62.0
57.0

17.3
11.0
29.5
64.5
57.0

18.3
11.0
32.5
64.5
60.0

Ecuador
Ivory Coast
Mexico
Morocco
Nigeria

12.0
15.0
33.0
44.0
21.0

10.0
14.0
40.0
42.0
21.0

10.5
14.0
42.5
42.0
20.0

12.3
14.0
42.8
41.8
21.0

12.3
14.0
40.8
41.8
21.0

12.3
14.0
40.0
41.8
21.0

12.3
14.0
39.0
42.8
21.0

12.0
14.0
40.0
43.0
23.0

13.5
6.0
41.5
43.5
23.5

14.5
6.0
44.0
44.0
23.5

Peru
Philippines
Uruguay
Venezuela
Yugoslavia

4.0
36.0
57.0
27.3
43.3

3.0
41.0
56.0
34.0
43.5

3.0
46.0
56.0'
37.5
44.0

3.0
47.0
56.0
38.5
44.5

3.0
46.5
56.0
37.0
46.0

3.0
46.3
56.0
36.3
47.0

3.0
47.3
56.0
36.8
49.0

3.0
48.5
55.0
37.0
50.0

3.0
49.5
55.0
37.8
51.0

3.5
53.5
55.0
40.0
53.5

29.4

33.8

36.1

36.5

34.8

33.7

33.3

34.1

34.7

36.8

Countrv

Weighted Average

Weighted by outstanding commercial bank claims as of year-end 1988.
Source: Salomon Brothers

SECONDARY MARKET PRICES
In Cents per $1 Face Value

Mar 02
Apr 13
May 11
Jun 08
Jul 06
Mar 30
Apr 27
May 25
Jun 22
Jul 20
Weighted Average for 15 Major Debtors
Source: Salomon Brothers

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
i;,-.a...v..fcO0K 5 3 1 0
ui no
FOR IMMEDIATE RELEASE

SEP i

e*~4.

DiPARTMiU

1 QRQ

CONTACT: Bob Levine
(202) 566-2041

BOLIVIAN BRIDGE LOAN
The Department of ther Treasury today announced an agreement
- with the Republic of Bolivia on a new facility to succeed the
existing $100 million short-term bridge financing facility. This
short-term facility will provide further support for Bolivia's
financial position as the government of President Paz Zamora
continues the program of comprehensive structural reform designed
to provide the basis for sustained economic growth. The facility
complements the arrangements being made for longer-term financial
assistance from the International Monetary Fund, multilateral
development banks and bilateral donors.
The United States Government supports the determination of
the Bolivian government"to consolidate its success in reforming
the economy and achieving a dramatic reduction of inflation.

0O0

NB-455

TREASURY NEWS
Department of tho Treasury • Washington, o.c. • Telephone 506-2041
•M ytio
FOR ^IM^EDIATft, ^ W S
September 18

CONTACT: Office of Financing
202/376-4350

RESULTS-OF TREASURY'S WEEKLY BILi, AUCTIONS
Tenders for $7,200 million of 13-week bills and for $7,201 million
of 26-week bills, both to be issued on September 21, 1989, were accepted today.
RANGE OF ACCEPTED
COMPETITIVE BIDS:

Low
High
Average

13-week bills
maturing December 21, 1989
Discount Investment
Price
Rate
Rate 1/

26-week bills
maturing March 22, 1990
Discount Investment
Rate
Rate 1/
Price

7.61%
7.65%
7.64%

7.60%a/
7.68%
7.64%

7.87%
7.91%
7.90%

98.076
98.066
98.069

8.01%
8.10%
8.06%

96.158
96.117
96.138

a./ Excepting 2 tenders totaling $2,925,000.
Tenders at the high discount rate for the 13-week bills were allotted 82%.
Tenders at the high discount rate for the 26-week bills were allotted 62%.

Location
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco
Treasury
TOTALS

TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Received
Accepted
Received

Accepted

$
22,630
22,210,440
14,190
24,060
41,310
23,370
1,544,375
36,340
6,215
28,510
30,485
766,735
331,555

$
22,630
6,484,565
14,190
24,060
38,950
23,370
39,375
20,440
6,215
28,510
20,485
146,035
331,555

•$
25,215
• 18,797,150
19,325
23,810
34,290
18,840
1,270,780
25,170
4,980
36,440
28,095
600,945
286,620

$
25,215
5,926,150
19,325
23,810
34,290
18,840
320,780
25,170
4,980
36,440
28,095
450,945
286,620

$25,080,215

$7,200,380

$21,171,660

$7,200,660

$22,285,520
860,615
$23,146,135

$4,405,685
860,615
$5,266,300

$17,040,355
754,705
$17,795,060

$3,069,355
754,705
$3,824,060

1,883,380

1,800,000

50,700

1,576,600

$25,080,215

$7,200,380

$21,171,660

$7,200,660

Type
Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS
U

Equivalent coupon-issue yield.

NB-456

TREASURY NEWS

Department of tho Treasury • Washington, D.C. • Telephone 5665310
CONTACT: Office of Financing
S°e ptilfel§ l9* lf8§ - - ' 202/376-4350
TREASURY'S WEEKLY BILL OFFERING
The Department of the Treasury, by this public notice, invites
tenders for two series of Treasury bills totaling approximately
$14,800 million, to be issued September 28, 1989. This offering
will provide about $1,100 million of new cash for the Treasury, as
the maturing bills are outstanding in the amount of $13,694 million.
Tenders will be received at Federal Reserve Banks and Branches and at
the Bureau of the Public Debt, Washington, D. C. 20239, prior to 1:00
p.m., Eastern Daylight Saving time, Monday, September 25, 19 89.
The two series offered are as follows:
91-day bills (to maturity date) for approximately $7,400
million, representing an additional amount of bills dated
June 29, 1989,
and to mature December 28, 1989 (CUSIP No.
912794 TJ 3), currently outstanding in the amount of $6,557 million,
the additional and original bills to be freely interchangeable.
182-day bills for approximately $7,400 million, to be dated
September 28, 1989, and to mature March 29, 1990
(CUSIP No.
912794 TX 2 ).
The bills will be issued on a discount basis under competitive
and noncompetitive bidding, and at maturity their par amount will
be payable without interest. Both series of bills will be issued
entirely in book-entry form in a minimum amount of $10,000 and in
any higher $5,000 multiple, on the records either of the Federal
Reserve Banks and Branches, or of the Department of the Treasury.
The bills will be issued for cash and in exchange for Treasury
bills maturing September 28, 1989. I n addition to the maturing
13-week and 26-week bills, there are $9,419
million of maturing
52-week bills. The disposition of this latter amount was announced
last week. Tenders from Federal Reserve Banks for their own account
and as agents for foreign and international monetary authorities will
be accepted at the weighted average bank discount rates of accepted
competitive tenders. Additional amounts of the bills may be issued
to Federal Reserve Banks, as agents for foreign and international
monetary authorities, to the extent that the aggregate amount of
tenders for such accounts exceeds the aggregate amount of maturing
bills held by them. For purposes of determining such additional
amounts, foreign and international monetary authorities are considered to hold $2,622 million of the original 13-week and 26-week
issues. Federal Reserve Banks currently hold $3,09 4 million as
agents for foreign and international monetary authorities, and $5,617
million for their own account. These amounts represent the combined
holdings of such accounts for the three issues of maturing bills.
NB-457
Tenders for bills to be maintained on the book-entry records of the
Department of the Treasury should be submitted on Form PD 5176-1
(for 13-week series) or Form PD 5176-2 (for 26-week series).
M1

0 P M

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 2
Each tender must state the par amount of bills bid for,
which must be a minimum of $10,000. Tenders over $10,000 must
be in multiples of $5,000. Competitive tenders must also show
the yield desired, expressed on a bank discount rate basis with
two decimals, e.g., 7.15%. Fractions may not be used. A single
bidder, as defined in Treasury's single bidder guidelines, shall
not submit noncompetitive tenders totaling more than $1,000,000.
Banking institutions and dealers who make primary
markets in Government securities and report daily to the Federal
Reserve Bank of New York their positions in and borrowings on
such securities may submit tenders for account of customers, if
the names of the customers and the amount for each customer are
furnished. Others are only permitted to submit tenders for their
own account. Each tender must state the amount of any net long
position in the bills being offered if such position is in excess
of $200 million. This information should reflect positions held
as of one-half hour prior to the closing time for receipt of
tenders on the day of the auction. Such positions would include
bills acquired through "when issued" trading, and futures and
forward transactions as well as holdings of outstanding bills
with the same maturity date as the new offering, e.g., bills
with three months to maturity previously offered as six-month
bills. Dealers, who make primary markets in Government securities and report daily to the Federal Reserve Bank of New York
their positions in and borrowings on such securities, when submitting tenders for customers, must submit a separate tender for
each customer whose net long position in the bill being offered
exceeds $200 million.
A noncompetitive bidder may not have entered into an
agreement, nor make an agreement to purchase or sell or otherwise dispose of any noncompetitive awards of this issue being
auctioned prior to the designated closing time for receipt of
tenders.
Payment for the full par amount of the bills applied for
must accompany all tenders submitted for bills to be maintained
on the book-entry records of the Department of the Treasury.
A cash adjustment will be made on all accepted tenders for the
difference between the par payment submitted and the actual
issue price as determined in the auction.
No
8/89deposit need accompany tenders from incorporated banks
and trust companies and from responsible and recognized dealers
in investment securities for bills to be maintained on the bookentry records of Federal Reserve Banks and Branches.

TREASURY'S 13-, 26-, AND 52-WEEK BILL OFFERINGS, Page 3
Public announcement will be made by the Department of the
Treasury of the amount and yield range of accepted bids. Competitive bidders will be advised of the acceptance or rejection
of their tenders. The Secretary of the Treasury expressly
reserves the right to accept or reject any or all tenders, in
whole or in part, and the Secretary's action shall be final.
Subject to these reservations, noncompetitive tenders for each
issue for $1,000,000 or less without stated yield from any one
bidder will be accepted in full at the weighted average bank
discount rate (in two decimals) of accepted competitive bids
for the respective issues. The calculation of purchase prices
for accepted bids will be carried to three decimal places on the
basis of price per hundred, e.g., 99.923, and the determinations
of the Secretary of the Treasury shall be final.
Settlement for accepted tenders for bills to be maintained
on the book-entry records of Federal Reserve Banks and Branches
must be made or completed at the Federal Reserve Bank or Branch
on the issue date, in cash or other immediately-available funds
or in Treasury bills maturing on that date. Cash adjustments
will be made for differences between the par value of the
maturing bills accepted in exchange and the issue price of the
new bills.
If a bill is purchased at issue, and is held to maturity,
the amount of discount is reportable as ordinary income on the
Federal income tax return of the owner for the year in which
the bill matures. Accrual-basis taxpayers, banks, and other
persons designated in section 1281 of the Internal Revenue Code
must include in income the portion of the discount -for the period
during the taxable year such holder held the bill. If the bill
is sold or otherwise disposed of before maturity, any gain in
excess of the basis is treated as ordinary income.
Department of the Treasury Circulars, Public Debt Series Nos. 26-76, 27-76, and 2-86, as applicable, Treasury's single
bidder guidelines, and this notice prescribe the terms of these
Treasury bills and govern the conditions of their issue. Copies
8/89
of the circulars, guidelines, and tender forms may be obtained
from any Federal Reserve Bank or Branch, or from the Bureau of
the Public Debt.

TREASURY NEWS
Department of the Treasury • Washington, D.c. • Telephone 566-2041
FOR IMMEDIATE RELEASE
September 19, 1989

CONTACT: LARRY BATDORF
Phone: (202) 566-2041

TREASURY ANNOUNCES ADDITIONS TO THE LIST OF CUBAN FRONTS
CONDUCTING TRANSACTIONS IN PANAMA ON BEHALF OF CUBA
The Department of Treasury today added 14 names to the
existing list of 117 Cuban fronts which the Noriega regime allows
to conduct transactions in Panama on behalf of Cuba.
Any person subject to the jurisdiction of the United States
is prohibited from engaging, directly or indirectly, in any
transactions with the Specially Designated Nationals of Cuba or
in any transaction involving any property in which there exists
any interest of Cuba.
The listing of names as Specially Designated Nationals of
Cuba in Panama has the effect of transferring the full force of
the U.S. trade embargo against Cuba to these designated persons
and firms operating in Panama. Additional names of those acting
for or on behalf of Cuba in Panama and elsewhere in the world,
wherever Cuba conducts business relations, will continue to be
added to the list and published in the Federal Register
as they are identified:
Violations by corporations are punishable criminally under
the Trading with the Enemy Act by fines of up to $500,000 per
count. Individuals can be fined up to $250,000 per count and
willful individual violators can be imprisoned up to 12 years.
A copy of the notice filed with the Federal Register is
attached.

NB-458

IN ADVANCE OF PRINTED COPY
4810-25-M

DEPARTMENT OF THE TREASURY

JREIVED !* THE CFFitt
af IKE FE5EWI EBISia

Office of Foreign Assets Control

if ' i[0/

31 CFR Part 515

Supplemental List of Specially Designated
Nationals (Cuba) in Panama

AGENCY: Office of Foreign Assets Control, Department of the
Treasury.
ACTION:

Notice of Additions to the List of Specially Designated

Nationals of Cuba.
SUMMARY:

This notice provides the names of firms operating in

Panama that have been added to the list of Specially Designated
Nationals under the Treasury Department's Cuban Assets Control
Regulations (31 CFR Part 5 1 5 ) .

Also provided is a complete

current listing of Specially Designated Nationals of Cuba in
Panama.
EFFECTIVE DATE: [Date of publication]
FOR FURTHER INFORMATION CONTACT: Richard J. Hollas, Chief,
Enforcement Division, Office o f Foreign Assets Control, T e l :
(202) 376-0400.

Copies of the list o f Specially Designated

Nationals are available upon request at the following location:
Office of Foreign Assets Control, Department of the Treasury,
1331 G Street, N.W., Room 300, Washington, D . C . 2 0 2 2 0 .

- 2 -

SUPPLEMENTARY INFORMATION:
Under the Cuban Assets Control Regulations, persons subject
to the jurisdiction of the United States are prohibited from
engaging, directly or indirectly, in transactions with any
nationals or specially designated nationals of Cuba, or involving
any property /in which there exists an interest of any national or
specially designated national of Cuba, except as authorized by
the.Treasury Department's Office of Foreign Assets Control by
means of a general or specific license.
Section 515.302 of Part 515 defines the term "national," in
part, as (a) a subject or citizen domiciled in a particular
country, or (b) any partnership, association, corporation, or
other organization owned or controlled by nationals of that
country, or that is organized under the laws of, or that has had
its principal place of business in that foreign country since the
effective date (for Cuba, 12:01 a.m., e.s.t., July 8, 1963), or
(c) any person that has directly or indirectly acted for the
benefit or on behalf of any designated foreign country.

Section

515.305 defines the term "designated national" as Cuba or any
national thereof, including any person who is a specially
designated national. Section 515.306 defines "specially
designated national" as any person who has been designated as
such by the Secretary of the Treasury; any person who, on or
since the effective date, has either acted for or on behalf of
the government of, or authorities exercising control over any
designated foreign country; or any partnership, association,

- 3 -

corporation or other organization that, on or since the
applicable effective date, has been owned or controlled directly
or indirectly by such government or authorities, or by
any specially designated national.
Section 515.201 prohibits any transaction, except as
authorized by the Secretary of the Treasury, involving property
in which there exists an interest of any national or specially
designated national of Cuba. The list of Specially Designated
Cuban Nationals is a partial one, since the Department of the
Treasury may not be aware of all the persons located outside Cuba
that might be acting as agents or front organizations for Cuba,
thus qualifying as specially designated nationals of Cuba. Also,
names may have been omitted because it seemed unlikely that those
persons would engage in transactions with persons subject to the
jurisdiction of the United States. Therefore, persons engaging
in transactions with foreign nationals may not rely on the fact
that any particular foreign national is not on the list as
evidence that it is not a specially designated national.
The Treasury Department regards it as incumbent upon all
U.S. persons engaging in transactions with foreign nationals to
take reasonable steps to ascertain for themselves whether such
foreign nationals are specially designated nationals of Cuba, or
other designated countries (at present, Cambodia, North Korea,
and Vietnam)•

The list of Specially Designated Nationals was

last published on December 10, 1986, in the Federal Register (51
FR 44459), and vas amended on November 3, 1988 (53 FR 44397),

- 4 -

January 24, 1989 (54 FR 3446), April 10, 1989 (54 FR 14215) and
August 4, 1989 (54 FR 32064) .
Please take notice that section 16 of the Trading with the
Enemy Act (the "Act"), as amended, provides in part that whoever
willfully violates any provision of the Act or any license, rule
or regulation issued thereunder:
"Shall, upon conviction, be fined not more than $50,000, or,
if a natural person, imprisoned for not more than ten years, or
both; and the officer, director, or agent of any corporation who
knowingly participates in such violation shall be punished by a
like fine, imprisonment, or both; and any property, funds,
securities, papers, or other articles or documents, or any
vessel, together with her tackle, apparel, furniture, and
equipment, concerned in such violation shall be forfeited to the
United States."
In addition, persons convicted of an offense under the Act
may be fined a greater amount than set forth in the Act, as
•

provided in 18 U.S.C. 3571 and 3581.
Authority: 50 U.S.C. App. 5(b) and 18 U.S.C. 3571 and 3581.

Specially Designated Nationals of Cuba in Panama (New Additions
at this Publication)
Dugue, Carlos
Panama
Facobata
Panama

- 5 -

Fruni Trading, S.A.
Panama City, Panama
Gallo Import
Panama
Guaca Export
Panama
Interconsult
Panama
International Petroleum, S.A.
Colon Free Zone, Panama
IPESCO (See International Petroleum, S.A.)
Panama
Kave, S.A.
Panama
Lakshmi
Panama
Marine Registration Company
Panama
Piramide Internacional
Panama
Transit, S.A.
Panama

- 6 -

Trust Import-Export, S.A.
Panama

Complete Current List of Specially Designated Nationals of Cuba
in Panama

Abastecadora Naval Y Industrial, S.A. (a.k.a. Anainsa)
Panama
Abdelnur, Nury De Jesus
Panama
Agencia de Viajes Guama (a.k.a. Viajes Guama Tours, Guamatur,
S.A. and Guama Tour)
Bal Harbour Shopping Center, Via Italia,
Panama City, Panama
Alfonso, Carlos, (a.k.a. Carlos Alfonso Gonzalez)
Panama
Alvarez, Manuel (Aguirre)
Panama
Anainsa (a.k.a. Abastecadora Naval y Industrial, S.A)
Panama
Angelini, Alejandro Abood
Panama
Avalon, S.A.
Colon Free Zone, Panama

- 7 -

Batista, Miguel
Panama
Bewell Corporation, Inc.
Panama
Boutique La Maison
42 Via Brasil
Panama City, Panama
Bradfield Maritime Corp., Inc.
Panama
Caballero, Roger Montanes (a.k.a. Roger Montanes and Roger Edward
Dooley)
Panama
Canapel, S.A.
Panama
Caribbean Happy Lines (a.k.a. Caribbean Happy Lines Co.)
Panama
Caribsugar, S.A.
Panama
Carisub, S.A.
Panama
Casa del Respuesto
Panama

8 -

Castell, Osvaldo Antonio (Valdez)
Panama
Cecoex, S.A.
Panama City, Panama
Chamet Importf S.A.
Panama
Cimex, S.A.
Panama
Coll, Gabriel (Prado)
Panama
Colon, Eduardo (Betancourt)
Panama
Colony Trading, S.A.
Panama
Comercial Cimex, S.A.
Panama
Comexcial Muralla, S.A. (a.k.a. Muralla, S.A.)
Panama City, Panama
Compania Pesquera Internacional, S.A.
Panama
Contex, S.A.
Panama

9 -

Corporacion Cimex, S.A.
Panama
Cubana Airlines (a.k.a. Empress Cubana de Aviacion)
Calle 29 y Avda Justo Arosemena
Panama City, Panama
Cuenca, Ramon Cesar
Panama
pelgado, Antonio (Arsenio)
Panama
Deprosa, S.A. (a.k.a. Desarrollo De Proyectos, S.A.)
Panama City, Panama
Desarrollo De Proyectos, S.A. (a.k.a. Deprosa, S.A.)
Panama City, Panama
Dooley, Michael P.
Panama
Dooley, Roger Edward (a.k.a. Roger Montanes Caballero and Roger
Montanes)
• Panama
Dugue, Carlos
Panama
Echeverri, German
Panama

- 10 -

Edyju, S.A.
Panama
Empresa Cubana de Aviacion (see Cubana Airlines)
Panama
Fabro Investment, Inc.
Panama
Facobata
Panama
Fruni Trading, S.A.
Panama City, Panama
Gallo Import
Panama
Garcia Santamaria de la Torre, Alfredo Rafael (see also
"Santamarina")
Panama
Global Marine Overseas, Inc.
Panama
Golden Comet Navigation Co., Ltd.
Panama
Gonzalez, Carlos Alfonso (a.k.a. Carlos Alfonso)
Panama
Grete Shipping Co., S.A.
Panama

- 11 -

Guaco Export
Panama
Guama Tour (a.k.a. Agencia de Viajes Guama, Viajes Guama Tours
and Guamatur, S.A.)
Bal Harbour Shopping Center, Via Italia
Panama City, Panama
Guamar Shipping Co., S.A.
Panama
Guamatur, S.A. (a.k.a. Agencia de Viajes Guama, Viajes Guama
Tours and Guama Tour)
Bal Harbour Shopping Center, Via Italia
Panama City, Panama
Havanatur, S.A.
Panama City, Panama
Havinpex, S.A. (a.k.a. Transover, S.A.)
Panama City, Panama
Haya, Francisco
. Panama
Hermann Shipping Corp., Inc.
Panama
Heywood Navigation Corp.
Panama

- 12 -

Imprisa, S.A.
Panama
Interconsult
Panama
International Petroleum, S.A.
Colon Free Zone, Panama
International Transport Corporation
Colon Free Zone, Panama
Inversiones Lupamar, S.A. (a.k.a. The Lupamar Investment
Company)
Panama
IPESCO (a.k.a. International Petroleum S.A.)
Colon Free Zone, Panama
Jiminez, Gillermo (Soler)
Panama
Kaspar Shipping, S.A.
Panama
Kave, S.A.
Panama
Lakshmi
Panama
Leybda Corporation, S.A.
Panama

- 13 -

Louth Holdings, S.A.
Panama
Manzper Corp.
Panama
Marine Registration Company
Panama
Marisco (or Mariscos) de Faralion, S.A.
Panama
Marketing Associates Corporation
Calle 52 E, Campo Alegre
Panama City, Panama
Maryol Enterprises, Inc.
Panama
Medina, Anita (a.k.a. Ana Maria Medina)
Panama
Mercurius Import/Export Company, Panama, S.A.
Calle C, Edificio 18
Box 4048, Colon Free zone, Panama
Monet Trading Company
Panama
Montanes, Roger (a.k.a. Roger Montanes Caballero and Roger Edward
Dooley)
Panama

14 -

Montanez, Michael
Panama
Moonex International, S.A.
Panama
Muralla, S.A. (a.k.a. Comercial Muralla, S.A.)
Panama City, Panama
Navigable Water Corp., Ltd.
Panama
Ortega, Dario (Pina)
Edificio Saldivar
Panama City, Panama
Panamerican Import and Export Commercial Corp.
Panama
Panoamericana
Panama
Pena, Jose (Torres)
Panama
Pena, Victor
Panama
Perez, Alfonso
Panama
Perez, Manuel Martin
Panama

- 15 -

Perez, Osvaldo (Cruz)
Panama
Pescados Y Mariscos de Panama (a.k.a. Pesmar or Pezmar) S.A.
Panama City, Panama
Pesmar (or Pezmar), S.A. (a.k.a. Pescados y Mariscos de Panama)
Panama City, Panama
Piramide Internacional
Panama
Pons, Alberto
Executive Representative
Banco Nacional de Cuba
Federico Boyd Ave. & 51 St.
Panama City, Panama
Prado, Julio (a.k.a. Julio Lobato)
Panama
Presa, S.A.
Panama
Rad^o Service, S.A.
Panama
Reciclaje Industrial, S.A.
Panama
Rent-A-Car, S.A.
Panama

- 16 -

Reyes, Guillermo (Vergara)
Panama City, Panama
Rocha, Antonio
Panama City, Panama
Rodriguez, Jasus (Borges or Borjes)
Panama
Romeo, Charles.(a.k.a. Charles Henri Robert Romeo)
Panama
Roque, Roberto (Perez)
Panama
Ruiz, Ramon Miguel (Poo)
Panama
Santamarina, de la Torre Rafael Garcia (see also "Garcia")
Panama
Servimpex, S.A.
Panama
Servi.naves, S.A.
Panama
Shipley Shipping Corp.
Panama
Siboney Internacional, S.A.
Edificio Balmoral, 82 Via Argentina
Panama City, Panama

- 17 -

Suplidora Latino Americana, S.A. (a.k.a. Suplilat, S.A.)
Panama City, Panama
Suplilat, S.A., (a.k.a. Suplidora Latino Americana, S.A.)
Panama City, Panama
Taller De Reparaciones Navales, S.A. (a.k.a. Tarena)
Panama City, Panama
Tarena, S.A. (a.k.a. Taller De Reparaciones Navales S.A/)
Panama
Technic Digemex Corp.
Calle 34 No. 4-50, Office 301
Panama City, Panama
Technic Holding Inc.
Calle 34 No. 4-50, Office 301
Panama City, Panama
Tends Shipping Co.
Panama
Tosco, Arnaldo (Garcia)
Panama
Tramp Pioneer Shipping Co.
Panama
Transit, S.A.
Panama

18 -

Transover, S.A. (a.k.a. Havinpex, S.A.)
Panama City, Panama
Treviso Trading Corporation
Edificio Banco de Boston
Panama City, Panama
Trober, S.A. (a.k.a. Trover, S.A.)
Edificio Saldivar
Panama City, Panama
Trust Import-Export, S.A.
Panama
Valletta Shipping Corp.
Panama
Vasquez, Oscar D. (a.k.a. Vazques, Oscar D.)
Panama
Viacon International, Inc.
Apartment 7B Torre Mar Building
Punta Paitilla Area, Panama City, Panama
France Field, Colon Free Zone, Panama
Viajes Guama Tours (a.k.a. Guamatur, S.A., Guama Tour and Agencia
de Viajes Guama)
Bal Harbour Shopping Center, Via Italia
Panama City, Panama

- 19 -

Wittgreen, Carlos (a.k.a. Carlos Wittgreen Antinori, Carlos
Wittgreen A., and Carlos Antonio Wittgreen)
Panama

R / Richard Newcomb
Director,
Office of Foreign Assets
Control

[11 SEP 1989
Approved:

,OOQ
, 1989

in P. Simpson
Acting Assistant Secretary
(Enforcement)

Filed: September 19, 1989
Publication date: September 20, 1989

TREASURY NEWS
Otpartmont of th6 Treasury • Washington, D.C. • Telephone 566-2041
FOR RELEASE AT 4:00 P.M.
September 20, 1989

CONTACT:

Office of Financing
202/376-4350

TREASURY TO AUCTION 2-YEAR AND 4-YEAR NOTES
TOTALING $17,500 MILLION
The Treasury will auction $9,750 million of 2-year notes
and $7,750 million of 4-year notes to refund $16,529 million of
securities maturing September 30, 1989, and to raise about $975
million new cash. The $16,529 million of maturing securities are
those held by the public, including $1,730 million currently held
by Federal Reserve Banks as agents for foreign and international
monetary authorities.
The $17,500 million is being offered to the public, and
any amounts tendered by Federal Reserve Banks as agents for
foreign and international monetary authorities will be added
to that amount. Tenders for such accounts will be accepted
at the average prices of accepted competitive tenders.
In addition to the public holdings, Federal Reserve Banks,
for their own accounts, hold $1,466 million of the maturing
securities that may be refunded by issuing additional amounts
of the new securities at the average prices of accepted competitive tenders.
Details about each of the new securities are given in the
attached highlights of the offerings and in the official offering
circulars.
oOo
Attachment

NB-459

OF 2-YEAR

Amount Offered to the Public ..
Description of Security;
Terra and type of security
Series and CUSIP designation ..
Maturity date
Interest Rate
Investment yield
Premium or discount
Interest payment dates
Minimum denomination available
Terms of Sale;
Method of sale
Competitive tenders
Noncompetitive tenders
Accrued interest payable
by investor
Payment Terms;
Payment by non-institutional
investors
Deposit guarantee by
designated institutions
Kev Dates;
Receipt of tenders
Settlement (final payment
due from institutions);
a) funds immediately
available to the Treasury ..
b) readily-collectible check ..

HTS OF TREASURY OFFERINGS TO THE PUBLIC
m 4-YEAR NOTES TO BE ISSUED OCTOBER 2, 1989
September 20, 1989
$9,750 million

$7,750 million

2-year notes
Series AE-1991
(CUSIP No. 912827 XZ 0)
September 30, 1991
To be determined based on
the average of accepted bids
To be determined at auction
To be determined after auction
March 31 and September 30
$5,000
Yield auction
Must be expressed as
an annual yield, with two
decimals, e.g., 7.10%
Accepted in full at the average price up to $1,000,000
None

4-year notes
Series Q-1993
(CUSIP No. 912827 YA 4)
September 30, 1993
To be determined based on
the average of accepted bids
To be determined at auction
To be determined after auction
March 31 and September 30
$1,000
Yield auction
Must be expressed as
an annual yield, with two
decimals, e.g., 7.10%
Accepted in full at the average price up to $1,000,000
None

Full payment to be
submitted with tender

Acceptable

Tuesday, September 26, 1989,
prior to 1;00 p.m., EDST

Wednesday, September 27, 1989,
prior to 1:00 p.m., EDST

Monday, October 2, 1989
Thursday, September 28, 1989

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
FOR IMMEDIATE RELEASE
September 21 , 1989

L!dR .»v.Ko0M 53, CONTACT:

LARRY BATDORF

(202) 566-2041
r

": •'"i

TAX TREATY NEGOTIATIONS WITH ITALY
Treasury Department today announced that discussions will be
held with Italy during the week of October 9th about possible
amendments to the bilateral income tax treaty, signed in April,
1984.
The discussions will take into account changes in the tax
laws'of the two countries since that time, including the changes
in U.S. law introduced by the 1986 Tax Reform Act.
Interested persons are invited to submit comments about the
operation of the treaty and suggestions as to desirable
modifications by writing to Philip Morrison, Acting International
Tax Counsel, room 3064, U.S. Treasury Department, Washington,
D.C. 20220.
o 0 o

NB-460

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
fOP TMMEDTATE RELEASE
September 20, 1989

Dr. Linda M. Combs
Assistant Secretary (Management)
Dr. Linda M. Combs was confirmed as Assistant Secretary for
Management on July 27, 1989. She succeeds Jill E. Kent.
In this position, Dr. Combs is responsible for directing the
Department's personnel and financial management, information
systems, and administrative operations. As Assistant Secretary
for Management, Dr. Combs is also the principal policy advisor to
the Secretary and Deputy Secretary on the annual planning ana
budget process.
Prior to joining Treasury, Dr. Combs served as Acting Associate
Deputy Administrator for Management at the Department of Veterans
Affairs. Before joining Veterans Affairs, she held numerous
positions in both the private and public sector. Her public
positions included Advisor to the Governor of North Carolina,
Executive Secretary of the U.S. Department of Education, and
Deputy Under Secretary for Management at the Department of
Education. Dr. Combs' private sector experience was with
Wachovia Corporation in Winston-Salem, North Carolina where she
served as Operations Officer and Manager of National Direct
Student Loans. In addition, Dr. Combs has held elective office,
serving as a member of the Winston-Salem/Forsyth County Board of
Education. She is currently a member of the Board of Visitors of
the Babcock School of Management at Wake Forest University.
Dr. Combs earned a masters degree from Appalachian State
University, a Doctorate from Virginia Polytechnic State
University, and is a graduate of the Program for Senior Managers
in Government at Harvard University. She also has an honorary
Doctorate from Gardner-Webb College.
Dr. Combs is married to David M. Combs and resides in Montgomery
County, Maryland.

NB-461

TREASURY NEWS
Department of the Treasury • Washington, D.C. • Telephone 566-2041
FOR IMMEDIATE RELEASE
September 21, 1989
Monthly Release of U.S. Reserve Assets
kcr/i.-HHu,

The Treasury Department today released U.S. reserve assets data
for the month of August 1989.
As indicated in this table, U.S. reserve assets amounted to $62,364 million at the end of August, down from $63,462 million in
July.

U,,S . Reserve Assets
(in mi llions of doll ars)

End
of
Month

Total
Reserve
Assets

63,462
62,364

Gold
Stock 1/

Special
Drawing
Rights 2/3/

Foreign
Currencies 4/

11,066
11,066

9,340
9,240

34,001
33,413

Reserve
Position
in IMF 2/

1989
July
August

9,055
8,644

1/ Valued at $42.2222 per fine troy ounce.
2/ Beginning July 1974, the IMF adopted a technique for valuing the SDR
based on a weighted average of exchange rates for the currencies of
selected member countries. The U.S. SDR holdings and reserve
position in the IMF also are valued on this basis beginning July
1974.
3/ Includes allocations of SDRs by the IMF plus transactions in SDRs.
4/ Valued at current market exchange rates.

NB-462

TREASURY NEWS
apartment of the Treasury • Washington,
D.C. •
Telephone
566-2041
., r 7 l A CONTACT:
Office
of Financing
h J)i0

202/376-4350

FOR IMMEDIATE RELEASE .?_ i
September 21, 1989
•'?
RESULTS OF TREASURY'S 52-WEEK BILL AUCTION
Tenders for $9,506 million of 52-week bills to be issued
September 28, 1989, and to mature September 27, 1990, were accepted
today. The details are as follows:
RANGE OF ACCEPTED COMPETITIVE BIDS:
Discount
Investment Rate
Rate
(Equivalent Coupon-Issue Yield) Price
8.18%
92.316
Low
7.60% a/
8.20%
92.295
High
7.62%
8.19%
92.305
Average 7.61%
a/ Excepting 2 tenders totaling $2,250,000.
Tenders at the high discount rate were allotted 68%.
TENDERS RECEIVED AND ACCEPTED
(In Thousands)
Accepted
Received
Location
Boston
$ 11,770
$ 11,770
New York
8,901,125
23,049,125
Philadelphia
9,005
9,005
Cleveland
12,255
12,255
Richmond
22,050
22,050
Atlanta
14,600
14,600
Chicago
127,755
1,313,355
St. Louis
15,655
17,975
Minneapolis
13,335
16,535
Kansas City
20,775
20,775
Dallas
12,155
18,755
San Francisco
141,830
849,830
Treasury
204,085
204,085
TOTALS
$9,506,395
$25,560,115
T

YPe

Competitive
Noncompetitive
Subtotal, Public
Federal Reserve
Foreign Official
Institutions
TOTALS
NB-463

$22,750,250
469,865
$23,220,115
2,200,000

$6,696,530
469,865
$7,166,395
2,200,000

140,000
$25,560,115

140,000
$9,506,395

Removal Notice
The item identified below has been removed in accordance with FRASER's policy on handling
sensitive information in digitization projects due to copyright protections.

Citation Information
Document Type: Transcript

Number of Pages Removed: 13

Author(s):
Title:

USIA Foreign Press Center Background Briefing

Date:

1989-09-22

Journal:

Volume:
Page(s):
URL:

Federal Reserve Bank of St. Louis

https://fraser.stlouisfed.org

TREASURY MEWS
Department of the Treasury • Washington, ox. • Telephone 566-2041
FOR IMMEDIATE RELEASE
September 12, 1989

CONTACT:

LARRY BATDORF
$6-2041

(202) 5

NEW INCOME TAX CONVENTION SIGNED WITH THE
REPUBLIC OF INDIA
The Treasury Department announced today the signing of an
Income Tax Convention and accompanying Protocol ("the treaty")
between the United States and the Republic of India. The
proposed treaty was signed in New Delhi on September 12, 1989 by
Ambassador John R. Hubbard for the United States, and by Revenue
Secretary Dr. N. K. Sengupta for the Republic of India. The
proposed treaty will be submitted to the Senate for its advice
and consent to ratification. Following notification by both
countries that all ratification procedures have been completed,
the treaty will enter into force. The treaty will have effect in
the United States as of January 1 of the year following the year
in which the treaty enters into force. In India the treaty will
have effect as of April 1 of the year following entry into force.
This will be th'e first income tax treaty between the two
countries. An earlier treaty, signed in 1959, did not enter into
force. The proposed treaty differs from the U.S. Model Income
Tax Convention in a number of respects in order to reflect
India's status as a developing country. In this regard it is
similar to other U.S. treaties with developing countries.
The treaty provides maximum rates of tax at source on
payments of dividends, interest and royalties. Dividends from a
subsidiary to a parent corporation are taxable at a maximum rate
of 15 percent; other dividends may be taxed at source at a
maximum of 25 percent rate. Interest is, in general, taxable at
source at a maximum of 15 percent, although interest received by
a financial institution is taxable at a maximum rate of 10
percent, and interest received by either of the two Governments,
by certain governmental financial institutions, and by residents
of a Contracting State on certain Government approved loans, is
exempt from tax at source.
The royalty provisions contain several significant departures
from standard U.S. treaty policy. In general, industrial and
copyright royalties are taxable at source at a maximum rate of 20
NB-449 for the first five years of the treaty's life, dropping
percent
to 15 percent thereafter. Where the payor of the royalty is one
of the Governments, a political subdivision or a public sector

-2-

ARTICLE 1
General Scope

1. This Convention shall apply to persons who are residents
of one or both of the Contracting States, except as otherwise
provided in the Convention.
2. The Convention shall not restrict in any manner any
exclusion, exemption, deduction, credit, or other allowance now
or hereafter accorded:
a) by the laws of either Contracting State; or
b) by any other agreement between the Contracting
States.
3. Notwithstanding any provision of the Convention except
paragraph 4, a Contracting State may tax its residents (as
determined under Article 4 (Residence)) , and by reason of
citizenship may tax its citizens, as if the Convention had not
come into effect. For this purpose, the term "citizen" shall
include a former citizen whose loss of citizenship had as one of
its principal purposes the avoidance of tax, but only for a
period of 10 years following such loss.
4. The provisions of paragraph 3 shall not affect
a) the benefits conferred by a Contracting State under
paragraph 2 of Article 9 (Associated Enterprises), under
paragraphs 2 and 6 of Article 20 (Private Pensions,
Annuities, Alimony, and Child Support), and under Articles 25
(Relief From Double Taxation), 26 (Non-Discrimination), and
27 (Mutual Agreement Procedure); and

-3-

the benefits conferred by a Contracting State under

ARTICLE 2
Taxes Covered

1. The existing taxes to which this Convention shall apply

a) in the United States, the Federal income taxes
imposed by the Internal Revenue Code (but excluding the
accumulated earnings tax, the personal holding company tax,
and social security taxes), and the excise taxes imposed on
insurance premiums paid to foreign insurers and with respect
to private foundations (hereinafter referred to as "Unite:!
States tax"); provided, however, the Convention shall apply
to the excise taxes imposed.on insurance premiums paid to
foreign insurers only to the extent that the risks covered by
such premiums are not reinsured with a person not entitled to
exemption from such taxes under this or any other Convention
which applies to these taxes; and
b) in India:

the income tax including any surcharge

thereon, but excluding

income tax on undistributed

income of companies, imposed under the Income-tax Act;
and
ii)

the surtax

(hereinafter referred to as "Indian

tax").

Taxes referred to in (a) and (b) above shall not include any
amount payable in respect of any default or omission in relation
to the above taxes or which represent a penalty imposed

relating

to those taxes.

2. The Convention shall apply also to any identical or
substantially similar taxes which are imposed after the date of
signature of the Convention in addition to, or in place of, the
existing taxes.

The competent authorities of the Contracting

States shall notify each other of any significant changes which
have been made in their respective taxation laws and of any
official published material concerning the application of the
Convention.

ARTICLE 3
General

Definitions

1. In this Convention, unless the context otherwise
requires:
a)

the term "India" means the territory of India and

includes the territorial sea and airspace above it, as well
as any other maritime zone in which India has sovereign

-5-

h) the term "competent authority" m e a n s , in the case of
India, the Central Government in the Ministry of Finance
(Department of Revenue) or their authorized representative,
and in the case of the United States, the Secretary of the
Treasury or his delegate;
i) the term "national" means any individual possessing
the nationality or citizenship of a Contracting State;
j) the term "international traffic" means any transport
by a ship or aircraft operated by an enterprise of a
Contracting State, except when the ship or aircraft is
operated solely between places within the other Contracting
State;
k) the term "taxable year" in relation to Indian Tax
means "previous year" as defined in the Income-tax Act, 1961.
2. As regards the application of the Convention by a
Contracting State any term not defined therein shall, unless the
context otherwise requires or the competent authorities agree to
a common meaning pursuant to the provisions of Article 27
(Mutual Agreement Procedure), have the meaning which it has
under the laws of that State concerning the taxes to which the
Convention applies.

ARTICLE 4
Residence

1. For the purposes of this Convention, the term "resident
of a Contracting State" means any person who, under the laws of

-7-

that State, is liable to tax therein by reason of his domicile,
residence, citizenship, place of management, place of
incorporation, or any other criterion of a similar nature,
provided, however, that
a) this term does not include any person who is liable
to tax in that State in respect only of income from sources
in that State; and
b) in the case of income derived or paid by a
partnership, estate, or trust, this term applies only to the
extent that the income derived by such partnership, estate,
or trust is subject to tax in that State as the income of a
resident, either in its hands or in the hands of its partners
or beneficiaries.
2. Where by reason of the provisions of paragraph 1, an
individual is a resident of both Contracting States, then his
status shall be determined as follows:
a) he shall be deemed to be a resident of the State in
which he has a permanent home available to him; if he has a
permanent home available to him in both States, he shall be
deemed to be a resident of the State with which his personal
and economic relations are closer (centre of vital
interests);
b) if the State in which he has his centre of vital
interests cannot be determined, or if he does not have a
permanent home available to him in either State, he shall be
deemed to be a resident of the State in which he has an
habitual abode;

-o-

c) if he has an habitual abode in both States or in
neither of them, he shall be deemed to be a resident of the
State of which he is a national;
d) if he is a national of both States or of neither of
them, the competent authorities of the Contracting States
shall settle the question by mutual agreement.
3. Where, by reason of paragraph 1, a company is a resident
of both Contracting States, such company shall be considered to
be outside the scope of this Convention except for purposes of
paragraph 2 of Article 10 (Dividends), Article 26 (NonDiscrimination) , Article 27 (Mutual Agreement Procedure), Article
28 (Exchange of Information and Administrative Assistance) and
Article 30 (Entry Into Force) . 4. Where, by reason of the provisions of paragraph 1, a
person other than an individual or a company is a resident of
both Contracting States, the competent authorities of the
Contracting States shall settle the question by mutual agreement
and determine the mode of application of the Convention to such
person.

ARTICLE 5
Permanent Establishment

1. For the purposes of this Convention, the term "permanent
establishment" means a fixed place of business through which the
business of an enterprise is wholly or partly carried on.

-9-

The term "permanent establishment" includes especially:

a) a place of management;
b) a branch;
c) an office;
d) a factory;
e) a workshop;
f) a mine, an oil or gas well, a quarry, or any other
place of extraction of natural resources;
g) a warehouse, in relation to a person providing
storage facilities for others;
h) a farm, plantation or other place where agriculture,
forestry, plantation or related activities are carried on;
i) a store or premises used as a sales outlet;
j) an installation or structure used for the exploration
or exploitation of natural resources, but only if so used for
a period of more than 120 days in any twelve month period;
k) a building site or construction, installation or
assembly project or supervisory activities in connection
therewith, where such site, project or activities (together
with other such sites, projects or activities, if any)
continue for a period .of more than 120 days in any twelve
month period;
1) the furnishing of services, other than included
services as defined in Article 12 (Royalties and Fees for
Included Services), within a Contracting State by an
enterprise through employees or other personnel, but only if:

-10-

activities of that nature continue within that

-11-

Notwithstanding the provisions of paragraphs 1 and 2,

-12-

ordinary course of their business.

However, when the activities

ARTICLE 6
Income From Immovable Property (Real Property)

1. Income derived by a resident of a Contracting State from
immovable property (real property), including income from
agriculture or forestry, situated in the other Contracting State
may be taxed in that other State.
2. The term "immovable property" shall have the meaning
which it has under the law of the Contracting State in which the
property in question is situated.
3. The provisions of paragraph 1 shall also apply to income
derived from the direct use, letting, or use in any other form of
immovable property.

The provisions of paragraphs 1 and 3 shall also apply to

the income from immovable property of an enterprise and to income
from immovable property used for the performance of independent
personal services.

ARTICLE 7
Business Profits

1. The profits of an enterprise of a Contracting State shall
be taxable only in that State unless the enterprise carries on
business in the other Contracting State through a permanent
establishment situated therein. If the enterprise carries on
business as aforesaid, the profits of the enterprise may be taxed
in the other State but only so much of them as is attributable to
a) that permanent establishment; b) sales in the' other State of
goods or merchandise of the same or similar kind as those sold
through that permanent establishment; or c) other business
activities carried on in the other State of the same or similar
kind as those effected through that permanent establishment.
2. Subject to the provisions of paragraph 3, where an
enterprise of a Contracting State carries on business in the
other Contracting State through a permanent establishment
situated therein, there shall in each Contracting State be
attributed to that permanent establishment the profits which it
might be expected to make if it were a distinct and independent
enterprise engaged in the same or similar activities under the

-14-

same or similar conditions and dealing wholly at arm's-length
with the enterprise of which it is a permanent establishment and
other enterprises controlling, controlled by or subject to the
same common control as that enterprise. In any case where the
correct amount of profits attributable to a permanent
establishment is incapable of determination or the determination
thereof presents exceptional difficulties, the profits
attributable to the permanent establishment may be estimated on a
reasonable basis. The estimate adopted shall, however, be such
that the result shall be in accordance with the principles
contained in this Article.
3. In the determination of the profits of a permanent
establishment, there shall be allowed as deductions expenses
which are incurred for the purposes of the business of the
permanent establishment, including a reasonable allocation of
executive and general administrative expenses, research and
development expenses, interest, and other expenses incurred for
the purposes of the enterprise as a whole (or the part thereof
which includes the permanent establishment), whether incurred in
the State in which the permanent establishment is situated or
elsewhere, in accordance with the provisions of and subject to
the limitations of the taxation laws of that State. However, no
such deduction shall be allowed in respect of amounts, if any,
paid (otherwise than toward reimbursement of actual expenses) by
the permanent establishment to the head office of the enterprise
or any of its other offices, by way of royalties, fees or other

-15-

-16-

ARTICLE 8
Shipping and Air Transport.

-17-

c) the rental of ships or aircraft incidental to any
activity directly connected with such transportation.
3. Profits of an enterprise of a Contracting State described
in paragraph 1 from the use, maintenance, or rental of containers
(including trailers, barges, and related equipment for the
transport of containers) used in connection with the operation
of ships or aircraft in international traffic shall be taxable
only in that State.
4. The provisions of paragraphs 1 and 3 shall also apply to
profits from participation in a pool, a joint business, or an
international operating agency.
5. For the purposes of this Article, interest on funds
connected with the operation of ships or aircraft in
international traffic shall be regarded as profits derived from
the operation of such ships or aircraft, and the provisions of
Article 11 (Interest) shall not apply in relation to such
interest.
6. Gains derived by an enterprise of a Contracting State
described in paragraph 1 from the alienation of ships, aircraft
or containers owned and operated by the enterprise, the income
from which is taxable only in that State, shall be taxed only in
that State.

ARTICLE 9
Associated Enterprises

1. Where:

-18-

an enterprise of a Contracting State participates

directly or indirectly in the management, control or capital
of an enterprise of the other Contracting State; or
b) the same persons participate directly or indirectly
in the management, control, or capital of an enterprise of a
Contracting State and an enterprise of the other Contracting
State,
and in either case conditions are made or imposed between the two
enterprises in their commercial or financial relations which
differ from those which would be made between independent
enterprises, then any profits which, but for those conditions
would have accrued to one of the enterprises, but by reason of
those conditions have not so accrued, may be included in the
profits of that enterprise an'd taxed accordingly.
2. Where a Contracting State includes in the profits of an
enterprise of that State, and taxes accordingly, profits on which
an enterprise of the other Contracting State has been charged to
tax in that other State, and the profits so included are profits
which would have accrued to the enterprise of the first-mentioned
State if the conditions made between the two enterprises had been
those which would have been made between independent enterprises,
then that other State shall make an appropriate adjustment to the
amount of the tax charged therein on those profits. In
determining such adjustment, due regard shall be had to the
other provisions of this Convention and the competent authorities
of the Contracting States shall if necessary consult each other.

-19-

ARTICLE 10
Dividends

-20-

The term "dividends" as used in this Article means income

-21-

ARTICLE 11
Interest

-22-

local authority thereof, the Reserve Bank of India, or the
Federal Reserve Banks of the United States, as the case may
be, and such other institutions of either Contracting State
as the competent authorities may agree pursuant to Article 27
(Mutual Agreement Procedure);
b) with respect to loans or credits extended or endorsed
i) by the Export Import Bank of the United States,
when India is the first-mentioned Contracting State; and
ii) by the EXIM Bank of India, when the United States
is the first-mentioned Contracting State; and
c) to the extent approved by the Government of that
State, and derived and beneficially owned by any person,
other than a person referred to in subparagraphs (a) and (b),
who is a resident of the other Contracting State, provided
that the transaction giving rise to the debt-claim has been
approved in this behalf by the Government of the firstmentioned Contracting State;
shall be exempt from tax in the first-mentioned Contracting
State.
4. The term "interest" as used in this Convention means
income from debt-claims of every kind, whether or not secured by
mortgage, and whether or not carrying a right to participate in
the debtor's profits, and in particular, income from government
securities, and income from bonds or debentures, including
premiums or prizes attaching to such securities, bonds, or
debentures. Penalty charges for late payment shall not be

-23-

regarded as interest for the purposes of the Convention.
However, the term "interest" does not include income dealt with
in Article 10 (Dividends) .
5. The provisions of paragraphs 2 and 3 shall not apply if
the beneficial owner of the interest, being a resident of a
Contracting State, carries on business in the other Contracting
State in which the interest arises, through a permanent
establishment situated therein, or performs in that other State
independent personal services from a fixed base situated therein,
and the interest is attributable to such permanent establishment
or fixed base. In such case the provisions of Article 7
(Business Profits) or Article 15 (Independent Personal Services),
as the case may be, shall apply.
6. Interest shall be deemed to arise in a Contracting State
when the payer is that State itself or a political subdivision,
local authority, or resident of that State. Where, however, the
person paying the interest, whether he is a resident of a
Contracting State or not, has in a Contracting State a permanent
establishment or a fixed base, and such interest is borne by suet
permanent establishment or fixed base, then such interest shall
be deemed to arise in the Contracting State in which the
permanent establishment or fixed base is situated.
7. Where, by reason of a special relationship between the
payer and the beneficial owner or between both of them and some
other person, the amount of the interest, having regard to the
debt-claim for which it is paid, exceeds the amount which would

-24-

ARTICLE 12
Royalties and Fees for Included Services

1. Royalties and fees for included services arising in a
Contracting State and paid to a resident of the other Contracting
State may be taxed in that other State.
2. However, such royalties and fees for included services
may also be taxed in the Contracting State in which they arise
and according to the laws of that State; but if the beneficial
owner of the royalties or fees for included services is a
resident of the other Contracting State, the tax so charged shall
not exceed:
a) in the case of royalties referred to in sub-paragraph
(a) of paragraph 3 and fees for included services as defined
in this Article (other than services described in
sub-paragraph (b) of this paragraph):
i) during the first five taxable years for which
this Convention has effect,
A) 15 percent of the gross amount of the

-25-

royalties or fees for included services as defined in
this Article, where the payer of the royalties or
fees is the Government of that Contracting State, a
political subdivision or a public sector company; and
B) 20 percent of the gross amount of the
royalties or fees for included services in all other
cases; and
ii) during the subsequent years, 15 percent of the
gross amount of royalties or fees for included services;
and
b) in the case of royalties referred to in sub-paragraph
(b) of paragraph 3 and fees for included services as defined
in this Article that are ancillary and subsidiary to the
enjoyment of the property for which payment is received under
paragraph 3 (b) of this Article, 10 percent of the gross
amount of the royalties or fees for included services.
3. The term "royalties" as used in this Article means:
a) payments of any kind received as a consideration for the
use of, or the right to use, any copyright of a literary,
artistic, or scientific work, including cinematograph films or
work on film, tape or other means of reproduction for use in
connection with radio or television broadcasting, any patent,
trademark, design or model, plan, secret formula or process, or
for information concerning industrial, commercial or scientific
experience, including gains derived from the alienation of any
such right or property which are contingent on the productivity,
use, or disposition thereof; and

-26-

b) payments of any kind received as consideration for the use
of, or the right to use, any industrial, commercial, or
scientific equipment, other than payments derived by an
enterprise described in paragraph 1 of Article 8 (Shipping and
Air Transport) from activities described in paragraph 2(c) or 3
of Article 8.
4. For purposes of this Article, "fees for included
services" means payments of any kind to any person in
consideration for the rendering of any technical or consultancy
services (including through the provision of services of
technical or other personnel) if such services:
a) are ancillary and subsidiary to the application or
enjoyment of the right, property or information for which a
payment described in paragraph 3 is received; or
b) make available technical knowledge, experience, skill,
know-how, or processes, or consist of the development and
transfer of a technical plan or technical design.
5. Notwithstanding paragraph 4, "fees for included services"
does not include amounts paid:
a) for services that are ancillary and subsidiary, as well
as inextricably and essentially linked, to the sale of property
other than a sale described in paragraph 3(a);
b) for services that are ancillary and subsidiary to the
rental of ships, aircraft, containers or other equipment used in
connection with the operation of ships or aircraft in
international traffic;

-27-

for teaching in or by educational institutions;

d) for services for the personal use of the individual or
individuals making the payment; or
e) to an employee of the person making the payments or to
any individual or firm of individuals (other than a company) for
professional services as defined in Article 15 (Independent
Personal Services).
6. The provisions of paragraphs 1 a-nd 2 shall not apply if
the beneficial owner of the royalties or fees for included
services, being a resident of a Contracting State, carries on
business in the other Contracting State, in which the royalties
or fees for included services arise, through a permanent
establishment situated therein, or performs in that other State
independent personal services from a fixed base situated therein,
and the royalties or fees for included services are attributable
to such permanent establishment or fixed base. In such case the
provisions of Article 7 (Business Profits) or Article 15
(Independent Personal Services), as the case may be, shall apply.
7. (a) Royalties and fees for included services shall be
deemed to arise in a Contracting State when the payer is that
State itself, a political subdivision, a local authority, or a
resident of that State. Where, however, the person paying the
royalties or fees for included services, whether he is a resident
of a Contracting State or not, has in a Contracting State a
permanent establishment or a fixed base in connection with which
the liability to pay the royalties or fees for included services

ARTICLE 13

Gains

Except as provided in Article 8 (Shipping and Air Transport)
of this Convention, each Contracting State may tax capital gains

-29-

in accordance with the provisions of its domestic law.

ARTICLE 14
Permanent Establishment Tax

1. A company which is a resident of India may be subject in
the United States to a tax in addition to the tax allowable under
the other provisions of this Convention.
a) Such tax, however, may be imposed only on:
i) the portion of the business profits of the
company subject to tax in the United States which
represents the dividend equivalent amount; and
ii) the excess, if any, of interest deductible in
the United States in computing the profits of the
company that are subject to tax in the United States and
either attributable to a permanent establishment in the
United States or subject to tax in the United States
under Article 6 (Income From Immovable Property (Real
Property)), Article 12 (Royalties and Fees for Included
Services) as fees for included services, or Article 13
(Gains) of this Convention over the interest paid by or
from the permanent establishment or trade or business in
the United States.
b) For purposes of this article, business profits means
profits that are effectively connected (or treated as
effectively connected) with the conduct of a trade or

-30-

The tax referred to in subparagraph (a) shall not be

imposed at a rate exceeding:
i) the rate specified in paragraph 2 (a) of Article
10 (Dividends) for the tax described in subparagraph (a)
(i) ; and
ii) the rate specified in paragraph 2 (a) or (b)
(whichever is appropriate) of Article 11 (Interest) for
the tax described in subparagraph (a) (ii).
2.

A company which is a resident of the United States may

be subject to tax in India at a rate higher than that
applicable to the domestic companies.

The difference in the

tax rate shall not, however, exceed the existing difference
of 15 percentage points.
3.

In the case of a banking company which is a resident of

the United States, the interest paid by the permanent
establishment of such a company in India to the head office
may be subject in India to a tax in addition to the tax
imposable under the other provisions of this Convention at a
rate which shall not exceed the rate specified in paragraph 2
(a) of Article 11 (Interest) .

-31-

ARTICLE 15
Independent Personal Services

1. Income derived by a person who is an individual or firm
of individuals (other than a company) who is a resident of a
Contracting State from the performance in the other Contracting
State of professional services or other independent activities of
a similar character shall be taxable only in the first-mentioned
State except in the following circumstances when such income may
also be taxed in the other Contracting State:
a) if such person has a fixed base regularly available
to him in the other Contracting State for the purpose of
performing his activities; in that case, only so much of the
income as is attributable to that fixed base may be taxed in
that other State; or
b) if the person's stay in the other Contracting State
is for a period or periods amounting to or exceeding in the
aggregate 90 days in the relevant taxable year.
2. The term "professional services" includes independent
scientific, literary, artistic, educational or teaching
activities as well as the independent activities of physicians,
surgeons, lawyers, engineers, architects, dentists and
accountants.

ARTICLE 16
Dependent Personal Services

1. Subject to the provisions of Articles 17 (Directors'
Fees), 18 (Income Earned by Entertainers and Athletes), 19
(Remuneration and Pensions in Respect of Government Service), 20
(Private Pensions, Annuities, Alimony, and Child Support), 21
(Payments Received by Students and Apprentices) and 22 (Payments
Received by Professors, Teachers and Research Scholars),
salaries, wages, and other similar remuneration derived by a
resident of a Contracting State in respect of an employment shall
be taxable only in that State unless the employment is exercised
in the other Contracting State. If the employment is so
exercised, such remuneration as is derived therefrom may be taxed
in that other State.
2. Notwithstanding the provisions of paragraph 1,
remuneration derived by a resident of a Contracting State in
respect of an employment exercised in the other Contracting State
shall be taxable only in the first-mentioned State if:
a) the recipient is present in the other State for a
period or periods not exceeding in the aggregate 183 days in
the relevant taxable year;
b) the remuneration is paid by, or on behalf of, an
employer who is not a resident of the other State; and
c) the remuneration is not borne by a permanent
establishment or a fixed base or a trade or business which
the employer has in the other State.

Notwithstanding the preceding provisions of this Article,

remuneration derived in respect of an employment exercised aboard
a ship or aircraft operated in international traffic by an
enterprise of a Contracting State may be taxed in that State.

ARTICLE 17
Directors' Fees

ARTICLE 18
Income Earned by Entertainers and Athletes

1. Notwithstanding the provisions of Articles 15
(Independent Personal Services) and 16 (Dependent Personal
Services) , income derived by a resident of a Contracting State as
an entertainer, such as a theatre, motion picture, radio or
television artiste, or a musician, or as an athlete, from his
personal activities as such exercised in the other Contracting
State, may be taxed in that other State, except where the amount
of the net income derived by such entertainer or athlete from
such activities (after deduction of all expense incurred by him
in connection with his visit and performance) does not exceed

-34-

one thousand five hundred United States dollars ($1,500) or its
equivalent in Indian rupees for the taxable year concerned.
2. Where income in respect of activities exercised by an
entertainer or an athlete in his capacity as such accrues not to
the entertainer or athlete but to another person, that income of
that other person may, notwithstanding the provisions of Articles
7 (Business Profits), 15 (Independent Personal Services) and 16
(Dependent Personal Services), be taxed in the Contracting State
in which the activities of the entertainer or athlete are
exercised unless the entertainer, athlete, or other person
establishes that neither the entertainer or athlete nor persons
related thereto participate directly or indirectly in the profits
of that other person in any manner, including the receipt of
deferred remuneration, bonuses, fees, dividends, partnership
distributions, or other distributions.
3. Income referred to in the preceding paragraphs of this
Article derived by a resident of a Contracting State in respect
of activities exercised in the other Contracting State shall not
be taxed in that other State if the visit of the entertainers or
athletes to that other State is supported wholly or substantially
from the public funds of the Government of the first-mentioned
Contracting State, or of a political subdivision or local
authority thereof.
4. The competent authorities of the Contracting States may,
by mutual agreement, increase the dollar amounts referred to in
paragraph 1 to reflect economic or monetary developments.

-35-

ARTICLE 19
Remuneration and Pensions in Respect of Government Service

-36-

ARTICLE 20
Private Pensions, Annuities, Alimony and Child Support

1. Any pension, other than a pension referred to in Article
19 (Remuneration and Pensions in Respect of Government Service). 5
or any annuity derived by a resident of a Contracting State from
sources within the other Contracting State may be taxed only in
the first-mentioned Contracting State.
2. Notwithstanding paragraph 1, and subject to the
provisions of Article 19 (Remuneration and Pensions in Respect of
Government Service), social security benefits and other public
pensions paid by a Contracting State to a resident of the other
Contracting State or a citizen of the United States shall be
taxable only in the first-mentioned State.
3. The term "pension" means a periodic payment made in
consideration of past services or by way of compensation for
injuries received in the course of performance of services.
4. The term "annuity" means stated sums payable periodically
at stated times during life or during a specified or
ascertainable number of years, under an obligation to make the
payments in return for adequate and full consideration in money
or money's worth (but not for services rendered).

-37-

Alimony paid to a resident of a Contracting State shall

ARTICLE 21
Payments Received by Students and Apprentices

-38-

ARTICLE 22
Payments Received by Professors, Teachers
and Research Scholars

— J^ —

ARTICLE 23
Other Income

1. Subject to the provisions of paragraph 2, items of income
of a resident of a Contracting State, wherever arising, which are
not expressly dealt with in the foregoing Articles of this
Convention shall be taxable only in that Contracting State.
2. The provisions of paragraph 1 shall not apply to income,
other than income from immovable property as defined in paragraph
2 of Article 6 (Income from Immovable Property (Real Property)),
if the beneficial owner of the income, being a resident of a
Contracting State, carries on business in the other Contracting
State through a permanent establishment situated therein, or
performs in that other State independent personal services from a
fixed base situated therein, and the income is attributable to
such permanent establishment or fixed base. In such case the
provisions of Article 7 (Business Profits) or Article 15
(Independent Personal Services), as the case may be, shall apply.
3. Notwithstanding the provisions of paragraphs 1 and 2,
items of income of a resident of a Contracting State not dealt
with in the foregoing articles of this Convention and arising in
the other Contracting State may also be taxed in that other
State.

-40-

ARTICLE 24
Limitation on Benefits

than the business of making or managing investments, unless these
activities are banking or insurance activities carried on by a
bank or insurance company).
3. The provisions of paragraph 1 shall not apply if the
person deriving the income is a company which is a resident of a
Contracting State in whose principal class of shares there is
substantial and regular trading on a recognized stock exchange.
For purposes of the preceding sentence, the term "recognized
stock exchange" means:
a) in the case of the United States, the NASDAQ System
owned by the National Association of Securities Dealers,
Inc. and any stock exchange registered with the Securities
and Exchange Commission as a national securities exchange
for purposes of the Securities Act of 1934;
b) in the case of India, any stock exchange which is
recognized by the Central Government under the Securities
Contracts Regulation Act, 1956; and
c) any other stock exchange agreed upon by the
competent authorities of the Contracting States.
4. A person that is not entitled to the benefits of this
Convention pursuant to the provisions of the preceding paragraphs
of this Article may, nevertheless, be granted the benefits of the
Convention if the competent authority of the State in which the
income in question arises so determines.

-42-

ARTICLE 25
Relief From Double Taxation

-43-

-44-

with in Article 12 (Royalties and FeOs for Included Services).
The rules of this paragraph shall not apply in determining
credits against United States tax for foreign taxes other than
the taxes referred to in paragraphs lb) and 2 of Article 2 (Taxes
Covered).

ARTICLE 26
Non-discrimination

-45-

Except where the provisions of paragraph 1 of Article 9

-46-

ARTICLE 27
Mutual Agreement Procedure

-47-

an agreement in the sense of the preceding paragraphs. The
competent authorities, through consultations, shall develop
appropriate bilateral procedures, conditions, methods and
techniques for the implementation of the mutual agreement
procedure provided for in this Article. In addition, a competent
authority may devise appropriate unilateral procedures,
conditions, methods and techniques to facilitate the abovementioned bilateral actions and the implementation of the mutual
agreement procedure.

ARTICLE 28
Exchange of Information and Administrative Assistance

-48-

of, the enforcement or prosecution in respect of, or the
determination of appeals in relation to, the taxes which are the
subject of the Convention. Such persons or authorities shall use
the information only for such purposes, but may disclose the
information in public court proceedings or in judicial decisions.
The competent authorities shall, through consultation, develop
appropriate conditions, methods and techniques concerning the
matters in respect of which such exchange of information shall be
made, including, where appropriate, exchange of information
regarding tax avoidance.
2. The exchange of information or documents shall be either
on a routine basis or on request with reference to particular
cases, or otherwise. The competent authorities of the
Contracting States shall agree from time to time on the list of
information or documents which shall be furnished on a routine
basis.
3. In no case shall the provisions of paragraph 1 be
construed so as to impose on a Contracting State the obligation:
a) to carry out administrative measures at variance with
the laws and administrative practice of that or of the other
Contracting State;
b) to supply information which is not obtainable under
the laws or in the normal course of the administration of
that or of the other Contracting State;
c) to supply information which would disclose any trade,
business, industrial, commercial, or professional secret or
trade process, or information the disclosure of which would
be contrary to public policy (ordre public).

-49-

If information is requested by a Contracting State in

ARTICLE 29
Diplomatic Agents and Consular Officers

Nothing in this Convention shall affect the fiscal privileges
of diplomatic agents or consular officers under the general rules

-50-

of international law or under the provisions of special
agreements.

ARTICLE 30
Entry Into Force

The Convention shall enter into force on the date of the

latter of such notifications and its provisions shall have
effect:
a)

in the United States
i)

in respect of taxes withheld at source, for

amounts paid or credited on or after the first day of
January next following the date on which the Convention
enters into force;
ii)

in respect of other taxes, for taxable periods

beginning on or after the first day of January next
following the date on which the Convention enters into
force; and
b)

in India, in respect of income arising in any

taxable year beginning on or after the first day of April
next following the calendar year in which the Convention
enters into force.

-51-

ARTICLE 31
Termination
This Convention shall remain in force indefinitely but either
of the Contracting States may, on or before the thirtieth day of
June in any calendar year beginning after the expiration of a
period of five years from the date of the entry into force of the
Convention, give the other Contracting State through diplomatic
channels, written notice of termination and, in such event, this
Convention shall cease to have effect:
a) in the United States
i) in respect of taxes withheld at source, for
amounts paid or credited on or after the first day of
January next following the calendar year in'which notice
of termination is given; and
ii) in respect of other taxes, for taxable periods
beginning on or after the first day of January next
following the calendar year in which the notice of
termination is given;
and
b) in India, in respect of income arising in any
taxable year beginning on or after the first day of April
next following the calendar year in which the notice of
termination is given.

IN WITNESS WHEREOF, the undersigned, being duly authorized by
their respective Governments, have signed this Convention.

DONE at New Delhi in duplicate, this 12th day of September,
1989, in the English and Hindi languages, both texts being
equally authentic.

In case of divergence between the two texts,

the English text shall be the operative one.

FOR THE GOVERNMENT OF THE

UNITED STATES OF AMERICA:

REPUBLIC OF INDIA:

• Li / -.-•u^-i
,/John R. Hubbard
Ambassador

N.K. Sengupta
Secretary to the
Government of India

PROTOCOL

I. Ad Article 5

II.

Ad Article 7

Where the law of the Contracting State in which a permanent
establishment is situated imposes, in accordance with the
provisions of paragraph 3 of Article 7 (Business Profits), a
restriction on the amount of executive and general administrative
expenses which may be allowed as a deduction in determining the
profits of such permanent establishment, it is understood that in
making such a determination of profits the deduction in respect
of such executive and general administrative expenses in no case
shall be less than that allowable under the Indian Income-tax Act
as on the date of signature of this Convention.

III. Ad Articles 7, 10, 11, 12, 15, and 23

-3-

IV.

Ad Article 12

It is understood that fees for included services, as defined
in paragraph 4 of Article 12 (Royalties and Fees for Included
Services) will, in accordance with United States law, be subject
to income tax in the United States based on net income and, when
earned by a company, will also be subject to the taxes described
in paragraph 1 of Article 14 (Permanent Establishment Tax). The
total of these taxes which may be imposed on such fees, however,
may not exceed the amount computed by multiplying the gross fee
by the appropriate tax rate specified in subparagraph a) or b),
whichever is applicable, of paragraph 2 of Article 12.

V. Ad Article 14

as effectively connected, with the conduct of a trade or business
in the United States).

Any income which is subject to tax under

those Articles based on gross income is not subject to tax under
Article 14.

IN WITNESS WHEREOF, the undersigned, being duly authorized by
their respective Governments, have signed this Protocol.

DONE at New Delhi in duplicate, this 12th day of September,
1989, in the English and Hindi languages, both texts being
equally authentic.

In case of divergence between the two texts,

the English text shall be the operative one.

FOR THE GOVERNMENT OF THE

UNITED STATES OF AMERICA:

REPUBLIC OF INDIA:

/ -, i . -' * >
''John R. Hubbard
Ambassador

WW' -a.uN.K. Sengupta
Secretary to the
Government of India

EMBASSY OF THE
UNITED STATES OF AMERICA
New Delhi, September 12, 1989

Excellency:
I have the'honor to refer to the Convention between the
Government of the United States of America and the Government
of the Republic of India for the Avoidance of Double Taxation
and the Prevention of Fiscal Evasion with Respect to Taxes on
Income which was signed today (hereinafter referred to as "the
Convention") and to confirm, on behalf of the Government of the
United States of America, the following understandings reached
between the two Governments:
Both sides agree that a tax sparing credit shall not be
provided in Article 25 (Relief from Double Taxation) of the
Convention at this time.

However, the Convention shall be

promptly amended to incorporate a tax sparing credit provision
if the United States hereafter amends its laws concerning the
provision of tax sparing credits, or the United States reaches
agreement on the provision of a tax sparing credit with any
other country.
Both sides also agree that, for purposes of paragraph 4(c)
of Article 5 (Permanent Establishment) of the Convention, a
person shall be considered to habitually secure orders in a
Contracting State, wholly or almost wholly for an enterprise,
only if:
1.

such person frequently accepts orders for goods or

merchandise on behalf of the enterprise;
2.

substantially all of such person's sales-related

activities in the Contracting State consist of activities for
the enterprise;

such person habitually represents to persons

the enterprise takes actions that give purchasers

the basis for a reasonable belief that such person has
authority to bind the enterprise.
I have the honor to request Your Excellency to confirm the
foregoing understandings of Your Excellency's Government.
Accept, Excellency, the renewed assurances of my highest
consideration.

U/. £siLu.
i/John R. Hubbard

His Excellency
Dr. N.K. Sengupta,
Secretary

(Revenue),

Ministry of Finance,
New Delhi.

Ambassador

fatT 4lHiJ, < M M fil»lMl
Tffi?r*ft-110001
GOVERNMENT OF INDIA
MINISTRY OF FINANCE. DEPARTMENT OF REVENUE
NEW DELHI-110001
SECRETARY
September 12, 1989

SECRETARY
1.

such person frequently accepts orders for goods or

merchandise on behalf of the enterprise;
2.

substantially all of such person's sales-related

activities in the Contracting State consist of activities for
the enterprise;
3.

such person habitually represents to persons

the enterprise takes actions that give purchasers

the basis for a reasonable belief that such person has
authority to bind the enterprise."
I have the honour to confirm the understandings contained
in Your Excellency's Note, on behalf of the Government of the
Republic of India.
Accept, Excellency, the renewed assurances of my highest
consideration.

His Excellency

N. K. Sengupta

Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

EMBASSY OF THE
UNITED STATES OF AMERICA

New Delhi, September 12, 1989

Excellency:

I have the honor to refer to the Convention signed today
between the United States of America and the Republic of
India for the Avoidance of Double Taxation and the
Prevention of Fiscal Evasion with Respect to Taxes on Income
and to inform you on behalf of the United States of America
of the following:
During the course of the negotiations leading to
conclusion of the Convention signed today, the negotiators
developed and agreed upon a memorandum of understanding
intended to give guidance both to the taxpayers and the tax
authorities of our two countries in interpreting aspects of
Article 12 (Royalties and Fees for Included Services)
relating to the scope of included services.

This memorandum

is also my Government's view that as our Governments gain
experience in administering the Convention, and particularly
Article 12, the competent authorities may develop and
publish amendments to the memorandum of understanding and
further understandings and interpretations of the Convention.

His Excellency

//John R. Hubbard

Dr. N.K. Sengupta,
Secretary

(Revenue),

Ministry of Finance,
New Delhi.

Ambassador

Tfr^ft-110001
GOVERNMENT OF INDIA
MINISTRY OF FINANCE. DEPARTMENT OF REVENUE
NEW DELHI-110001
SECRETARY

September 12, 1989

This memorandum of understanding

represents

the current views of the United States Government with respect
to these aspects of Article 12, and it is my Government's
understanding that it also represents the current views of the
Indian Government.

It is also my Government's view that as our

Governments gain experience in administering the Convention,
and particularly Article 12, the competent authorities may

CONTINUATION SHEET

TV*
His Excellency N. K. Sengupta
Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

May 15, 1989
U.S. - INDIA TAX TREATY
MEMORANDUM OF UNDERSTANDING CONCERNING
FEES FOR INCLUDED SERVICES
IN ARTICLE 12
Paragraph 4 (in general)
This memorandum describes in some detail the category of
services defined in paragraph 4 of Article 12 (Royalties and
Fees for Included Services). It also provides examples of
services intended to be covered within the definition of
included services and those intended to be excluded, either
because they do not satisfy the tests of paragraph 4, or
because, notwithstanding the fact that they meet the tests of
paragraph 4, they are dealt with under paragraph 5. The
examples in either case are not intended as an exhaustive list
but rather as illustrating a few typical cases. For ease of
understanding, the examples in this memorandum describe U.S.
persons providing services to Indian persons, but the rules of
Article 12 are reciprocal in application.
Article 12 includes only certain technical and consultancy
services.. By technical services, we mean in this context
services requiring expertise in a technology. By consultancy
services, we mean in this context advisory services. The
categories of technical and consultancy services are to some
extent overlapping because a consultancy service could also be
a technical service. However, the category of consultancy
services also includes an advisory service, whether or not
expertise in a technology is required to perform it.
Under paragraph 4, technical and consultancy services are
considered included services only to the following extent:
(1)
as described in paragraph 4(a), if they are ancillary and
subsidiary to the application or enjoyment of a right, property
or information for which a royalty payment is made; or (2) as
described in paragraph 4(b), if they make available technical
knowledge, experience, skill, know-how, or processes, or
consist of the development and transfer of a technical plan or
technical design. Thus, under paragraph 4(b), consultancy
services which are not of a technical nature cannot be included
services.
Paragraph 4 (a)
Paragraph 4 (a) of Article 12 refers to technical or
consultancy services that are ancillary and subsidiary to the
application or enjoyment of any right, property, or information
for which a payment described in paragraph 3(a) or (b) is
received. Thus, paragraph 4(a) includes technical and
consultancy services that are ancillary and subsidiary to the
application or enjoyment of an intangible for which a royalty
is received under a license or sale as described in

-2paragraph 3(a), as well as those ancillary and subsidiary to
the application or enjoyment of industrial, commercial, or
scientific equipment for which a royalty is received under a
lease as described in paragraph 3(b).
It is understood that, in order for a service fee to be
considered "ancillary and subsidiary" to the application or
enjoyment of some right, property, or information for which a
payment described in paragraph 3(a) or (b) is received, the
service must be related to the application or enjoyment of the
right, property, or information. In addition, the clearly
predominant purpose of the arrangement under which the payment
of the service fee and such other payment are made must be the
application or enjoyment of the right, property, or information
described in paragraph 3. 'The question of whether the service
is related to the application or enjoyment of the right,
property, or information described in paragraph 3 and whether
the clearly predominant purpose of the arrangement is such
application or enjoyment must be determined by reference to the
facts and circumstances of each case. Factors which may be
relevant to such determination (although not necessarily
controlling) include:
1. the extent to which the services in question
facilitate the effective application or enjoyment of the
right, property, or information described in paragraph 3;
2. the extent to which such services are customarily
provided in the ordinary course of business arrangements
involving royalties described in paragraph 3;
3. whether the amount paid for the services (or which
would be paid by parties operating at arm's length) is an
insubstantial portion of the combined payments for the
services and the right, property, or information described
in paragraph 3;
4. whether the payment made for the services and the
royalty described in paragraph 3 are made under a single
contract (or a set of related contracts); and
5. whether the person performing the services is the
same person as, or a related person to, the person
receiving the royalties described in paragraph 3 (for this
purpose, persons are considered related if their
relationship is described in Article 9 (Associated
Enterprises) or if the person providing the service is
doing so in connection with an overall arrangement which
includes the payor and recipient of the royalties).
To the extent that services are not considered ancillary
and subsidiary to the aplication or enjoyment of some

-3right, property, or information for which a royalty
payment under paragraph 3 is made, such services shall be
considered "included services" only to the extent that
they are described in paragraph 4(b).
Example (1)
Facts:
A U.S. manufacturer grants rights to an Indian
company to use manufacturing processes in which the
transferor has exclusive rights by virtue of process
patents or the protection otherwise extended by law
to the owner of a process. As part of the
contractual arrangement, the U.S. manufacturer agrees
to provide certain consultancy services to the Indian
company in order to improve the effectiveness of the
latter's use of the processes. Such services
include, for example, the provision of information
and advice on sources of supply for materials needed
in the manufacturing process, and on the development
of sales and service literature for the manufactured
product. The payments allocable to such services do
not form a substantial part of the total
consideration payable under the contractual
arrangement. Are the payments for these services
fees for "included services"?
Analysis:
The payments are fees for included services. The
services described in this example are ancillary and
subsidiary to the use of a manufacturing process
protected by law as described in paragraph 3 (a) of
Article 12 because the services are related to the
application or enjoyment of the intangible and the
granting of the right to use the intangible is the
clearly predominant purpose of the arrangement.
Because the services are ancillary and subsidiary to
the use of the manufacturing process, the fees for
these services are considered fees for included
services under'paragraph 4 (a) of Article 12,
regardless of whether the services are described in
paragraph 4 (b).
Example(2)
Facts:
An Indian manufacturing company produces a product
that must be manufactured under sterile conditions
using machinery that must be kept completely free of
bacterial or other harmful deposits. A U.S. company
has developed a special cleaning process for removing

-4such deposits from that type of machinery. The U.S.
company enters into a contract with the Indian company
under which the former will clean the latter's machinery
on a regular basis. As part of the arrangement, the
U.S. company leases to the Indian company a piece of
equipment which allows the Indian company to measure the
level of bacterial deposits on its machinery in order
for it to know when cleaning is required. Are the
payments for the services fees for included services?
Analysis:
In this example, the provision of cleaning services by
the U.S. company and the rental of the monitoring
equipment are related to each other. However, the
clearly predominant purpose of the arrangement is the
provision of cleaning services. Thus, although the
cleaning services might be considered technical
services, they are not "ancillary and subsidiary" to the
rental of the monitoring equipment. Accordingly, the
cleaning services are not "included services" within the
meaning of paragraph 4 (a).
Paragraph 4 (b)
Paragraph 4(b) of Article 12 refers to technical or
consultancy services that make available to the person
acquiring the service technical knowledge, experience, skill,
know-how, or processes, or consist of the development and
transfer of a-technical plan or technical design to such
person. (For this purpose, the person acquiring the service
shall be deemed to include an agent, nominee, or transferee of
such person.) This category is narrower than the category
described in paragraph 4(a) because it excludes any service
that does not make technology available to the person acquiring
the service. Generally speaking, technology will be considered
"made available" when the person acquiring the service is
enabled to apply the technology. The fact that the provision
of the service may require technical input by the person
providing the service does not per se mean that technical
knowledge, skills, etc. are made available to the person
purchasing the service, within the meaning of paragraph 4 (b).
Similarly,- the use of a product which embodies technology shall
not per se be considered to make the technology available.
Typical categories of services that generally involve
either the development and transfer of technical plans or
technical designs, or making technology available as described
in paragraph 4 (b), include:
1. engineering services (including the subcategories of
bioengineering and aeronautical, agricultural,
ceramics,chemical, civil, electrical, mechanical,
metallurgical, and industrial engineering);

-52.

architectural services; and

3. computer software development.
Under paragraph 4 (b), technical and consultancy services
could make technology available in a variety of settings,
activities and industries. Such services may, for example,
relate to any of the following areas:
1. bio-technical services;
2. food processing;
3. environmental and ecological services;
4. communication through satellite or otherwise;
5. energy conservation;
6. exploration or exploitation of mineral oil
or natural gas;
7. geological surveys;
8. scientific services; and
9. technical training.
The following examples indicate the scope of the
conditions in paragraph 4 (b):
Example (3)
Facts:
A U.S. manufacturer has experience in the use of a
process for manufacturing wallboard for interior
walls of houses which is more durable than the
standard products of its type. An Indian builder
wishes to produce this product for its own use. It
rents a plant and contracts with the U.S. company to
send experts t'o India to show engineers in the Indian
company how to produce the extra-strong wallboard.
The U.S. contractors work with the technicians in the
Indian firm for a few months. Are the payments to
the U.S. firm considered to be payments for "included
services"?
Analysis:
The payments would be fees for included services.
The services are of a technical or consultancy
nature; in the example, they have elements of both
types of services. The services make available to the
Indian company technical knowledge, skill, and
processes.

-6Example (4)
Facts:
A U.S. manufacturer operates a wallboard fabrication
plant outside India. An Indian builder hires the
U.S. company to produce wallboard at that plant for a
fee. The Indian company provides the raw materials,
and the U.S. manufacturer fabricates the wallboard in
its plant, using advanced technology. Are the fees
in this example payments for included services?
Analysis:
The fees would not be for included services.
Although the U.S. company is clearly performing a
technical service, no technical knowledge, skill,
etc., are made available to the Indian company, nor
is there any development and transfer of a technical
plan or design. The U.S. company is merely
performing a contract manufacturing service.
Example (5)
Facts:
An Indian firm owns inventory control software for
use in its chain of retail outlets throughout India.
It expands its sales operation by employing a team of
travelling salesmen to travel around the countryside
-selling the company's wares. The company wants to
modify its software to permit the salesmen to access
the company's central computers for information on
what products are available in inventory and when
they can be delivered. The Indian firm hires a U.S.
computer programming firm to modify its software for
this purpose. Are the fees which the Indian firm
pays treated as fees for included services?
Analysis:
The fees are for included services. The U.S. company
clearly performs a technical service for the Indian
company, and it transfers to the Indian company the
technical plan (i.e., the computer program) which it
has developed.
Example (6)
Facts:
An Indian vegetable oil manufacturing company wants
to produce a cholesterol-free oil from a plant which
produces oil normally containing cholesterol. An
American company has developed a process for refining
the cholesterol out of the oil. The Indian company
contracts with the U.S. company to modify the
formulas which it uses so as to eliminate the
cholesterol, and to train the employees of the Indian
company in applying the new formulas. Are the fees
paid by the Indian company for included services?

-7Analysis:
The fees are for included services. The services are
technical, and the technical knowledge is made
available to the Indian company.
Example (7)
Facts:
The Indian vegetable oil manufacturing firm has
mastered the science of producing cholesterol-free
oil and wishes to market the product world-wide. It
hires an American marketing consulting firm to do a
computer simulation of the world market for such oil
and to advise it on marketing strategies. Are the
fees paid to the U.S. company for included services?
Analysis:
The fees would not be for included services. The
American company is providing a consultancy service
which involves the use of substantial technical skill
and expertise. It is not, however, making available
to the Indian company any technical experience,
knowledge or skill, etc., nor is it transferring a
technical plan or design. What is transferred to the
Indian company through the service contract is
commercial information. The fact that technical
skills were required by the performer of the service
in order to perform the commercial information
service does not make the service a technical service
within the meaning of paragraph 4(b).
Paragraph 5
Paragraph 5 of Article 12 describes several categories of
services which are not intended to be treated as included
services even if they satisfy the tests of paragraph 4. Set
forth below are examples.of cases where fees would be included
under paragraph 4, but are excluded because of the conditions
of paragraph 5.
Example (8)
Facts:
An Indian company purchases a computer from a U.S.
computer manufacturer. As part of the purchase
agreement, the manufacturer agrees to assist the Indian
company in setting up the computer and installing the
operating system, and to ensure that the staff of the
Indian company is able to operate the computer. Also,
as part of the purchase agreement, the seller agrees to
provide, for a period of ten years, any updates to the
operating system and any training necessary to apply the

-8update. Both of these service elements to the contract
would qualify under paragraph 4(b) as an included
service. Would either or both be excluded from the
category of included services, under paragraph 5(a),
because they are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
computer?
Analysis:
The installation assistance and initial training are
ancillary and subsidiary to the sale of the computer,
and they are also inextricably and essentially linked to
the sale. The computer would be of little value to the
Indian purchaser without these services, which are most
readily and usefully provided by the seller. The fees
for installation assistance and initial training,
therefore, are not fees for included services, since
these services are not the predominant purpose of the
arrangement.
The services of updating the operating system and
providing associated necessary training may well be
ancillary and subsidiary to the sale of the computer,
but they are not inextricably and essentially linked to
the sale. Without the upgrades, the computer will
continue to operate as it did when purchased, and will
continue to accomplish the same functions. Acquiring
the updates cannot, therefore, be said to be
inextricably and essentially linked to the sale of the
computer.
Example (9)
Facts:
An Indian hospital purchases an X-ray machine from a
U.S. manufacturer. As part of the purchase agreement,
the manufacturer agrees to install the machine, to
perform an initial inspection of the machine in India,
to train hospital staff in the use of the machine, and
to service the machine periodically during the usual
warranty period (2 years). Under an optional service
contract purchased by the hospital, the manufacturer
also agrees to perform certain other services throughout
the life of the machine, including periodic inspections
and repair services, advising the hospital about
developments in X-ray film or techniques which could
improve the effectiveness of the machine, and training
hospital staff in the application of those new
developments. The cost of the initial installation,
inspection, training, and warranty service is relatively
minor as compared with the cost of the X-ray machine.
Is any of the service described here ancillary and
subsidiary, as well as inextricably and essentially
linked, to the sale of the X-ray machine?

-9Analysis:
The initial installation, inspection, and training
services in India and the periodic service during the
warranty period are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
X-ray machine because the usefulness of the machine to
the hospital depends on this service, the manufacturer
has full responsibility during this period, and the cost
of the services is a relatively minor component of the
contract. Therefore, under paragraph 5(a) these fees
are not fees for included services, regardless of
whether they otherwise would fall within paragraph 4(b).
Neither the post-warranty period inspection and repair
services, nor the advisory and training services
relating to new developments are "inextricably and
essentially linked" to the initial purchase of the X-ray
machine. Accordingly, fees for these services may be
treated as fees for included services if they meet the
tests of paragraph 4(b).
Example (10)
Facts:
An Indian automobile manufacturer decides to expand into
the manufacture of helicopters. It sends a group of
engineers from its design staff to a course of study
conducted by the Massachusetts Institute of Technology
(MIT) for two years to study aeronautical engineering.
The Indian firm pays tuition fees to MIT on behalf of
the firm's employees. Is the tuition fee a fee for an
included service within the meaning of Article 12?
Analysis:
The tuition fee is clearly intended to acquire a
technical service for the firm. However, the fee paid
is for teaching by an educational institution, and is,
therefore, under paragraph 5(c), not an included
service. It is irrelevant for this purpsoe whether MIT
conducts the course on its campus or at some other
location.
Example (11)
Facts:
As in Example (10), the automobile manufacturer wishes
to expand into the manufacture of helicopters. It
approaches an Indian university about establishing a
course of study in aeronautical engineering. The
university contracts with a U.S. helicopter manufacturer
to send an engineer to be a visiting professor of
aeronautical engineering on its faculty for a year. Are
the amounts paid by the university for these teaching
services fees for included services?

-10-

Analysis:
The fees are for teaching in an educational
institution. As such, pursuant to paragraph 5(c), they
are not fees for included services.
Example

(12)

Facts:
An Indian wishes to install a computerized system in his
home to control lighting, heating and air conditioning,
a stereo sound system and a burglar and fire alarm
system. He hires an American electrical engineering
firm to design the necessary wiring system, adapt
standard software, and provide instructions for
installation. Are the fees paid to the American firm by
the Indian individual fees for included services?
Analysis:
The services in respect of which the fees are paid are
of the type which would generally be treated as fees for
included services under paragraph 4(b). However, because
the services are for the personal use of the individual
making the payment, under paragraph 5(d) the payments
would not be fees for included services.

EMBASSY OF THE
UNITED STATES OF AMERICA
New Delhi, September 12, 1989

Excellency:
I have the honor to refer to the Convention between the
Government of the United States of America and the Government
of the Republic of India for the Avoidance of Double Taxation
and the Prevention of Fiscal Evasion with Respect to Taxes on
Income which was signed today (hereinafter referred to as "the
Convention") and to confirm, on behalf of the Government of the
United States of America, the following understandings reached
between the two Governments:
Both sides agree that a tax sparing credit shall not be
provided in Article 25 (Relief from Double Taxation) of the
Convention at this time.

However, the Convention shall be

promptly amended-to incorporate a tax sparing credit provision
if the United States hereafter amends its laws concerning the
provision of tax sparing credits, or the United States reaches
agreement on the provision of a tax sparing credit with any
other country.

Both sides also agree that, for purposes of paragraph 4(c)
of Article 5 (Permanent Establishment) of the Convention, a
person shall be considered to habitually secure orders in a
Contracting State, wholly or almost wholly for an enterprise,
only if:
1.

such person frequently accepts orders for goods or

merchandise on behalf of the enterprise;
2.

substantially all of such person's sales-related

activities in the Contracting State consist of activities for
the enterprise;

such person habitually represents to persons

the enterprise takes actions that give purchasers

. /f.^Lu
{/John R. Hubbard

His Excellency
Dr. N.K. Sengupta,
Secretary

(Revenue),

Ministry of Finance,
New Delhi.

Ambassador

5Tf r«r?<rft-110001

GOVERNMENT OF INDIA
MINISTRY OF FINANCE, DEPARTMENT OF REVENUE
NEW DELHI-110001

SECRETARY
September 12, 1989

However, the Convention shall be

CONTINUATION SHEET

SECRETARY
1.

such person frequently accepts orders for goods or

merchandise on behalf of the enterprise;
2.

substantially all of such person's sales-related

activities in the Contracting State consist of activities for
the enterprise;
3.

such person habitually represents to persons

the enterprise takes actions that give purchasers

His Excellency

N. K. Sengupta

Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

EMBASSY OF THE
UNITED STATES OF AMERICA

New Delhi, September 12, 1989

Excellency:

This memorandum

If this position meets with the approval of the
Government of the. Republic of India, this letter and your
reply thereto will indicate that our Governments share a
common view of the purpose of the memorandum of
understanding relating to Article 12 of the Convention.
Accept, Excellency, the renewed assurances of my highest
consideration.

ill f'.^LU^
His Excellency

//John R. Hubbard

Dr. N.K. Sengupta,
Secretary

(Revenue),

Ministry of Finance,
New Delhi.

Ambassador

*f f*rrft-i 10001
GOVERNMENT OF INDIA
MINISTRY OF FINANCE. DEPARTMENT OF REVENUE
NEW DELHI-110001
SECRETARY

September 12, 1989

This memorandum of understanding

represents

It is also my Government's view that as our

Governments gain experience in administering the Convention,
and particularly Article 12, the competent authorities may

SECRETARY
develop and publish amendments to the memorandum of
understanding and further understandings and interpretations of
the Convention.
If this position meets with the approval of the Government
of the Republic of India, this letter and your reply thereto
will indicate that our Governments share a common view of the
purpose of the memorandum of understanding relating to Article
12 of the Convention."
I have the honour to confirm the understandings contained
in Your Excellency's Note, on behalf of the Government of the
Republic of India.
Accept, Excellency, the renewed assurances of my highest
consideration.

VJw c '* ( i(^ t
N. K. Sengupta

His Excellency
Dr. John R. Hubbard,
Ambassador of the
United States of America,
New Delhi.

May 15, 1989
U.S. - INDIA TAX TREATY
MEMORANDUM OF UNDERSTANDING CONCERNING
FEES FOR INCLUDED SERVICES
IN ARTICLE 12
Paragraph 4 (in general)
This memorandum describes in some detail the category of
services defined in paragraph 4 of Article 12 (Royalties and
Fees for Included Services). It also provides examples of
services intended to be covered within the definition of
included services and those intended to be excluded, either
because they do not satisfy the tests of paragraph 4, or
because, notwithstanding the fact that they meet the tests of
paragraph 4, they are dealt with under paragraph 5. The
examples in either case are not intended as an exhaustive list
but rather as illustrating a few typical cases. For ease of
understanding, the examples in this memorandum describe U.S.
persons providing services to Indian persons, but the rules of
Article 12 are reciprocal in application.
Article 12 includes only certain technical and consultancy
services. By technical services, we mean in this context
services requiring expertise in a technology. By consultancy
services, we mean in this context advisory services. The
categories of technical and consultancy services are to some
extent overlapping because a consultancy service could also be
a technical service. However, the category of consultancy
services also includes an advisory service, whether or not
expertise in a technology is required to perform it.
Under paragraph 4, technical and consultancy services are
considered included services only to the following extent:
(1)
as described in paragraph 4(a), if they are ancillary and
subsidiary to the application or enjoyment of a right, property
or information for which a royalty payment is made; or (2) as
described in paragraph 4(b), if they make available technical
knowledge, experience, skill, know-how, or processes, or
consist of the development and transfer of a technical plan or
technical design. Thus,- under paragraph 4(b), consultancy
services which are not of a technical nature cannot be included
services.
Paragraph 4 (a)
Paragraph 4 (a) of Article 12 refers to technical or
consultancy services that are ancillary and subsidiary to the
application or enjoyment of any right, property, or information
for which a payment described in paragraph 3(a) or (b) is
received. Thus, paragraph 4(a) includes technical and
consultancy services that are ancillary and subsidiary to the
application or enjoyment of an intangible for which a royalty
is received under a license or sale as described in

-2paragraph 3(a), as well as those ancillary and subsidiary to
the application or enjoyment of industrial, commercial, or
scientific equipment for which a royalty is received under a
lease as described in paragraph 3(b).
It is understood that, in order for a service fee to be
considered "ancillary and subsidiary" to the application or
enjoyment of some right, property, or information for which a
payment described in paragraph 3(a) or (b) is received, the
service must be related to the application or enjoyment of the
right, property, or information. In addition, the clearly
predominant purpose of the arrangement under which the payment
of the service fee and such other payment are made must be the
application or enjoyment of the right, property, or information
described in paragraph 3. The question of whether the service
is related to the application or enjoyment of the right,
property, or information described in paragraph 3 and whether
the clearly predominant purpose of the arrangement is such
application or enjoyment must be determined by reference to the
facts and circumstances of each case. Factors which may be
relevant to such determination (although not necessarily
controlling) include:
1. the extent to which the services in question
facilitate the effective application or enjoyment of the
right, property, or information described in paragraph 3;
2. the extent to which such services are customarily
provided in the ordinary course of business arrangements
involving royalties described in paragraph 3;
3. whether the amount paid for the services (or which
would be paid by parties operating at arm's length) is an
insubstantial portion of the combined payments for the
services and the right, property, or information described
in paragraph 3;
4. whether the payment made for the services and the
royalty described in paragraph 3 are made under a single
contract (or a set of related contracts); and
5. whether the person performing the services is the
same person as, or a related person to, the person
receiving the royalties described in paragraph 3 (for this
purpose, persons are considered related if their
relationship is described in Article 9 (Associated
Enterprises) or if the person providing the service is
doing so in connection with an overall arrangement which
includes the payor and recipient of the royalties).
To the extent that services are not considered ancillary
and subsidiary to the aplication or enjoyment of some

-3right, property, or information for which a royalty
payment under paragraph 3 is made, such services shall be
considered "included services" only to the extent that
they are described in paragraph 4(b).
Example (1)
Facts:
A U.S. manufacturer grants rights to an Indian
company to use manufacturing processes in which the
transferor has exclusive rights by virtue of process
patents or the protection otherwise extended by law
to the owner of a process. As part of the
contractual arrangement, the U.S. manufacturer agrees
to provide certain consultancy services to the Indian
company in order to improve the effectiveness of the
latter's use of the processes. Such services
include, for example, the provision of information
and advice on sources of supply for materials needed
in the manufacturing process, and on the development
of sales and service literature for the manufactured
product. The payments allocable to such services do
not form a substantial part of the total
consideration payable under the contractual
arrangement. Are the payments for these services
fees for "included services"?
Analysis:
The payments are fees for included services. The
services described in this example are ancillary and
subsidiary to the use of a manufacturing process
protected by law as described in paragraph 3 (a) of
Article 12 because the services are related to the
application or enjoyment of the intangible and the
granting of the right to use the intangible is the
clearly predominant purpose of the arrangement.
Because the services are ancillary and subsidiary to
the use of the manufacturing process, the fees for
these services are considered fees for included
services under"paragraph 4 (a) of Article 12,
regardless of whether the services are described in
paragraph 4 (b).
Example(2)
Facts:
An Indian manufacturing company produces a product
that must be manufactured under sterile conditions
using machinery that must be kept completely free of
bacterial or other harmful deposits. A U.S. company
has developed a special cleaning process for removing

-4such deposits from that type of machinery. The U.S.
company enters into a contract with the Indian company
under which the former will clean the latter's machinery
on a regular basis. As part of the arrangement, the
U.S. company leases to the Indian company a piece of
equipment which allows the Indian company to measure the
level of bacterial deposits on its machinery in order
for it to know when cleaning is required. Are the
payments for the services fees for included services?
Analysis:
In this example, the provision of cleaning services by
the U.S. company and the rental of the monitoring
equipment are related to each other. However, the
clearly predominant purpose of the arrangement is the
provision of cleaning services. Thus, although the
cleaning services might be considered technical
services, they are not "ancillary and subsidiary" to the
rental of the monitoring equipment. Accordingly, the
cleaning services are not "included services" within the
meaning of paragraph 4 (a).
Paragraph 4 (b)
Paragraph 4(b) of Article 12 refers to technical or
consultancy services that make available to the person
acquiring the service technical knowledge, experience, skill,
know-how, or processes, or consist of the development and
transfer of a technical plan or technical design to such
person. (For this purpose, the person acquiring the service
shall be deemed to include an agent, nominee, or transferee of
such person.) This category is narrower than the category
described in paragraph 4(a) because it excludes any service
that does not make technology available to the person acquiring
the service. Generally speaking, technology will be considered
"made available" when the person acquiring the service is
enabled to apply the technology. The fact that the provision
of the service may require technical input by the person
providing the service does not per se mean that technical
knowledge, skills, etc. are made available to the person
purchasing the service, within the meaning of paragraph 4 (b).
Similarly,- the use of a product which embodies technology shall
not per se be considered to make the technology available.
Typical categories of services that generally involve
either the development and transfer of technical plans or
technical designs, or making technology available as described
in paragraph 4 (b), include:
1. engineering services (including the subcategories of
bioengineering and aeronautical, agricultural,
ceramics,chemical, civil, electrical, mechanical,
metallurgical, and industrial engineering);

-52.

architectural services; and

3. computer software development.
Under paragraph 4 (b), technical and consultancy services
could make technology available in a variety of settings,
activities and industries. Such services may, for example,
relate to any of the following areas:
1. bio-technical services;
2. food processing;
3. environmental and ecological services;
4. communication through satellite or otherwise;
5. energy conservation;
6. exploration or exploitation of mineral oil
or natural gas;
7. geological surveys;
8. scientific services; and
9. technical training.
The following examples indicate the scope of the
conditions- in paragraph .4 (b):
Example (3)
Facts:
A U.S. manufacturer has experience in the use of a
process for manufacturing wallboard for interior
walls of houses which is more durable than the
standard products of its type. An Indian builder
wishes to produce this product for its own use. It
rents a plant and contracts with the U.S. company to
send experts to India to show engineers in the Indian
company how to produce the extra-strong wallboard.
The U.S. contractors work with the technicians in the
Indian firm for a few months. Are the payments to
the U.S. firm considered to be payments for "included
services"?
Analysis:
The payments would be fees for included services.
The services are of a technical or consultancy
nature; in the example, they have elements of both
types of services. The services make available to the
Indian company technical knowledge, skill, and
processes.

-b-

Example (4)
Facts:
A U.S. manufacturer operates a wallboard fabrication
plant outside India. An Indian builder hires the
U.S. company to produce wallboard at that plant for a
fee. The Indian company provides the raw materials,
and the U.S. manufacturer fabricates the wallboard in
its plant, using advanced technology. Are the fees
in this example payments for included services?
Analysis:
The fees would not be for included services.
Although the U.S. company is clearly performing a
technical service, no technical knowledge, skill,
etc., are made available to the Indian company, nor
is there any development and transfer of a technical
plan or design. The U.S. company is merely
performing a contract manufacturing service.
Example (5)
Facts:
An Indian firm owns inventory control software for
use in its chain of retail outlets throughout India.
It expands its sales operation by employing a team of
travelling salesmen to travel around the countryside
selling the company's wares. The company wants to
modify its software to permit the salesmen to access
the company's central computers for information on
what products are available in inventory and when
they can be delivered. The Indian firm hires a U.S.
computer programming firm to modify its software for
this purpose. Are the fees which the Indian firm
pays treated as fees for included services?
Analysis:
The fees are for included services. The U.S. company
clearly performs a technical service for the Indian
company, and it transfers to the Indian company the
technical plan (i.e., the computer program) which it
has developed. Example (6)
Facts:
An Indian vegetable oil manufacturing company wants
to produce a cholesterol-free oil from a plant which
produces oil normally containing cholesterol. An
American company has developed a process for refining
the cholesterol out of the oil. The Indian company
contracts with the U.S. company to modify the
formulas which it uses so as to eliminate the
cholesterol, and to train the employees of the Indian
company in applying the new formulas. Are the fees
paid by the Indian company for included services?

-7Analysis:
The fees are for included services. The services are
technical, and the technical knowledge is made
available to the Indian company.
Example (7)
Facts:
The Indian vegetable oil manufacturing firm has
mastered the science of producing cholesterol-free
oil and wishes to market the product world-wide. It
hires an American marketing consulting firm to do a
computer simulation of the world market for such oil
and to advise it on marketing strategies. Are the
fees paid to the U.S. company for included services?
Analysis:
The fees would not be for included services. The
American company is providing a consultancy service
which involves the use of substantial technical skill
and expertise. It is not, however, making available
to the Indian company any technical experience,
knowledge or skill,.etc., nor is it transferring a
technical plan or design. What is transferred to the
Indian company through*the service contract is
commercial information. The fact that technical
skills were required by the performer of the service
in order to perform the commercial information
service does not make the service a technical service
within the meaning of paragraph 4(b).
Paragraph 5
Paragraph 5 of Article 12 describes several categories of
services which are not intended to be treated as included
services even if they satisfy the tests of paragraph 4. Set
forth below are examples,of cases where fees would be included
under paragraph 4, but are excluded because of the conditions
of paragraph 5.
Example (8)
Facts:
An Indian company purchases a computer from a U.S.
computer manufacturer. As part of the purchase
agreement, the manufacturer agrees to assist the Indian
company in setting up the computer and installing the
operating system, and to ensure that the staff of the
Indian company is able to operate the computer. Also,
as part of the purchase agreement, the seller agrees to
provide, for a period of ten years, any updates to the
operating system and any training necessary to apply the

-8update. Both of these service elements to the contract
would qualify under paragraph 4(b) as an included
service. Would either or both be excluded from the
category of included services, under paragraph 5(a),
because they are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
computer?
Analysis:
The installation assistance and initial training are
ancillary and subsidiary to the sale of the computer,
and they are also inextricably and essentially linked to
the sale. The computer would be of little value to the
Indian purchaser without these services, which are most
readily and usefully provided by the seller. The fees
for installation assistance and initial training,
therefore, are not fees for included services, since
these services are not the predominant purpose of the
arrangement.
The services of updating the operating system and
providing associated necessary training may well be
ancillary and subsidiary to the sale of the computer,
but they are not inextricably and essentially linked to
the sale. Without the upgrades, the computer will
continue to operate as it did when purchased, and will
continue to accomplish the same functions. Acquiring
the updates cannot, therefore, be said to be
inextricably and essentially linked to the sale of the
computer.
Example (9)
Facts:
An Indian hospital purchases an X-ray machine from a
U.S. manufacturer. As part of the purchase agreement,
the manufacturer agrees to install the machine, to
perform an initial inspection of the machine in India,
to train hospital staff in the use of the machine, and
to service the machine periodically during the usual
warranty period (2 years). Under an optional service
contract purchased by the hospital, the manufacturer
also agrees to perform certain other services throughout
the life of the machine, including periodic inspections
and repair services, advising the hospital about
developments in X-ray film or techniques which could
improve the effectiveness of the machine, and training
hospital staff in the application of those new
developments. The cost of the initial installation,
inspection, training, and warranty service is relatively
minor as compared with the cost of the X-ray machine.
Is any of the service described here ancillary and
subsidiary, as well as inextricably and essentially
linked, to the sale of the X-ray machine?

-9Analysis:
The initial installation, inspection, and training
services in India and the periodic service during the
warranty period are ancillary and subsidiary, as well as
inextricably and essentially linked, to the sale of the
X-ray machine because the usefulness of the machine to
the hospital depends on this service, the manufacturer
has full responsibility during this period, and the cost
of the services is a relatively minor component of the
contract. Therefore, under paragraph 5(a) these fees
are not fees for included services, regardless of
whether they otherwise would fall within paragraph 4(b).
Neither the post-warranty period inspection and repair
services, nor the advisory and training services
relating to new developments are "inextricably and
essentially linked" to the initial purchase of the X-ray
machine. Accordingly, fees for these services may be
treated as fees for included services if they meet the
tests of paragraph 4(b).
Example (10)
Facts:
An Indian automobile manufacturer decides to expand into
the manufacture of helicopters. It sends a group of
engineers from its design staff to a course of study
conducted by the Massachusetts Institute of Technology
(MIT) for two years to study aeronautical engineering.
The Indian firm pays tuition fees to MIT on behalf of
the firm's employees. Is the tuition fee a fee for an
included service within the meaning of Article 12?
Analysis:
The tuition fee is clearly intended to acquire a
technical service for the firm. However, the fee paid
is for teaching by an educational institution, and is,
therefore, under paragraph 5(c), not an included
service. It is irrelevant for this purpsoe whether MIT
conducts the course on its campus or at some other
location.
Example (11)
Facts:
As in Example (10), the automobile manufacturer wishes
to expand into the manufacture of helicopters. It
approaches an Indian university about establishing a
course of study in aeronautical engineering. The
university contracts with a U.S. helicopter manufacturer
to send an engineer to be a visiting professor of
aeronautical engineering on its faculty for a year. Are
the amounts paid by the university for these teaching
services fees for included services?

-10-

Analysis:
The fees are for teaching in an educational
institution. As such, pursuant to paragraph 5(c), they
are not fees for included services.
Example

(12)

Facts:
An Indian wishes to install a computerized system in his
home to control lighting, heating and air conditioning,
a stereo sound system and a burglar and fire alarm
system. He hires an American electrical engineering
firm to design the necessary wiring system, adapt
standard software, and provide instructions for
installation. Are the fees paid to the American firm by
the Indian individual fees for included services?
Analysis:
The services in respect of which the fees are paid are
of the type which would generally be treated as fees for
included services under paragraph 4(b). However, because
the services are for the personal use of the individual
making the payment, under paragraph 5(d) the payments
would not be fees for included services.

September 23, 1989
STATEMENT OF THE GROUP OF SEVEN

The Finance Ministers and Central Bank Governors of Canada,
France, the Federal Republic of Germany, Italy, Japan, the United
Kingdom, and the United States met on September 23, 1989, in
Washington for an exchange of views on current international
economic and financial issues. The Managing Director of the IMF
participated in the multilateral surveillance discussions.
The Ministers and Governors reviewed their economic policies
and prospects. They noted that their economies were experiencing
further solid growth this year and that the current expansion was
expected to continue in the coming year. Moreover, inflation
remains contained thanks to the implementation of appropriate
policies, but vigilance is still required, particularly in those
countries where inflationary pressures persist. Some further
progress is also being made in reducing large external imbalances
although adjustment has slowed. The Ministers and Governors
considered the rise in recent months of the dollar inconsistent
with longer run economic fundamentals. They agreed that a rise of
the dollar above current levels or an excessive decline could
adversely affect prospects for the world economy. In this
context, they agreed to cooperate closely in exchange markets.
The Ministers and Governors reaffirmed support for the
economic policy coordination process and stressed the importance
of continuing to implement the economic policies which have
produced 7 years of sustained growth with relatively low
inflation. They encouraged the ongoing efforts of the United
States to reduce the Federal budget deficit by implementing
measures that will achieve the Gramm-Rudman-Hollings budget
deficit targets. They also encouraged further deficit reduction
in Canada and Italy, as well as the efforts of those countries and
of the U.K. to reduce inflation. France will continue to promote
savings so as to facilitate investment. The surplus countries,
Japan and Germany, will continue to undertake economic policies
aimed at promoting non-inflationary growth with a sufficient
margin in the medium term between domestic demand and output
growth to reduce substantially their large external imbalances.
All need to implement reforms promoting economic efficiency, open
their economies to foreign goods and services, curb subsidies and
excessive regulations, and to take appropriate measures to foster
savings where they are inadequate.

-2The Ministers and Governors reaffirmed the importance they
attach to an early and successful conclusion of the Uruguay Round
of trade negotiations. They expressed their determination to
resist protectionism and to strengthen the open multilateral
trading system.
The Ministers and Governors discussed the historic events
now in progress in some of the countries cf Eastern Europe,
especially in Poland and Hungary, and expressed their strong
support for plans to create more open and market-based economies.
They urged the Polish Government to reach an early agreement with
the IMF on a strong and sustainable program and they stand ready
to support such a program through bilateral and multilateral
actions, including Paris Club rescheduling.
The Ministers and Governors expressed their support for the
strengthened debt strategy and recognized the substantial progress
which has been achieved. They commended the Fund and the Bank
for their prompt and effective response in developing the
operational guidelines governing their support for debt and debt
service reduction.
The Ministers and Governors reaffirmed the key role of
commercial banks in resolving debt problems. They further agreed
that diversified financial support from the banks is needed to
support sound economic reform programs through a broad array of
new lending and debt/debt service reduction mechanisms. They also
noted that they had reviewed, in a manner consistent with
maintaining the safety and soundness of the financial system,
their regulatory, tax and accounting practices with a view to
eliminating unnecessary obstacles to debt/debt service reduction
transactions and that this review had helped to clarify procedures
to facilitate such transactions.
The Ministers and Governors reemphasized the central
importance of sustained implementation by debtor countries of
macroeconomic and structural policy reforms in order to achieve
sustainable growth, viable balance of payments positions, and
restoration of normal access to private credit markets. They
noted that complementary efforts to reverse capital flight and
attract foreign investment were particularly important elements
of Fund and Bank programs for countries seeking to gain access to
support for debt and debt service reduction.
The Ministers and Governors also reviewed other issues to be
discussed in the forthcoming meetings of the Fund and the Bank.
The Ministers and Governors recalled that the Executive Board of
the IMF has been urged to complete its work on the 9th Review of
Quotas with a view to a decision on this matter by the Board of
Governors before the end of the year.

Removal Notice
The item identified below has been removed in accordance with FRASER's policy on handling
sensitive information in digitization projects due to copyright protections.

Citation Information
Document Type: Transcript

Number of Pages Removed: 8

Author(s):
Title:

Press Conference with Nicholas Brady and Roger Bolton

Date:

1989-09-23

Journal:

Volume:
Page(s):
URL:

Federal Reserve Bank of St. Louis

https://fraser.stlouisfed.org

2 3 "7

^vnr

mmmmT

IIBBART

ici