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Large foreign portfolio investors tend to use personal holding companies to avoid the imposition of the U.S. estate tax. Under current law, the shares of such companies, if held by nonresident aliens, are exempt from the U.S. estate tax, thus the use of this indirect device merely increases the cost and administrative burden of investing in the United States. The personal holding companies are normally incorporated in tax haven jurisdictions. In some instances, large investors simply utilize foreign banking institutions to avoid payment of the estate tax. The capital is merely transferred from the decedent's account to a new account for the heirs without payment of the U.S. estate tax.

The attitude of many foreign investors is that the U.S. estate tax is a foolish tax and can be easily avoided. Accordingly, there is a great deal of, intentional noncompliance by placing funds in foreign banking institutions. In addition, there is a genuine lack of awareness of the tax and thus non-compliance.

It is generally felt by banks and brokers that the existence of the estate tax has encouraged tremendous amounts of capital to be placed offshore with foreign financial institutions rather than U.S. institutions which have the obligation to ensure that all estate taxes on foreign investors' accounts are paid, at least to the extent of the property in the account. Accordingly, U.S. financial institutions are at a competitive disadvantage with their foreign counterparts which have no legal liability to ensure compliance.

There is some concern among foreign investors that overly aggressive tax authorities will seek to tax the foreign investor's entire estate, although he is a nonresident alien subject to tax only on U.S. securities and other property located within the United States. The fear stems from cases where the U.S. Government has alleged that U.S. citizens who have attempted to renounce their citizenship have failed to do so effectively and therefore are still, as citizens, subject to tax on their entire worldwide estate. However irrational that fear is, it has encouraged investment through indirect means (foreign trusts, Swiss banks, etc.) to avoid the imposition of any tax.

The exemption from the gift tax of gifts of intangible property such as portfolio investments apparently has not affected portfolio investment in the United States one way or the other. In most cases, foreign investors are not aware of our gift tax. There is general agreement that the present rules should be maintained in the interest of maintaining an unrestricted environment for foreign capital.

imposed on the brokerage community are very effective in encouraging foreign investors to take a positive view of the purchase of U.S. securities.

Availability of information. U.S. securities laws requiring issuers listed on major stock exchanges and many over-the-counter issuers to file public reports as to their financial condition, are regarded as a real selling point for U.S. securities. Sophisticated foreign investors and large foreign institutional buyers of American securities are aware of these requirements and utilize such information in their investment decisions. The requirement for prompt disclosure of any important development which may affect the value of securities is also generally regarded positively. The entire trend of disclosure to shareholders through proxy solicitations, annual reports, etc., is effective in encouraging foreign investments in U.S. securities. Foreign investors have expressed a fear of investments in closely held corporations which are not subject to disclosure requirements. The concern is that abuses of private owners would not be discovered until after the investment is made.

Disclosure of ownership rules. U.S. securities law, Federal regulatory agencies, and state laws have requirements in various degrees as to disclosure of beneficial ownership of stockholders. These requirements are said to be a substantial deterrent to investment in the U.S. securities market because there is a great fear on the part of many foreign investors of having their names on reports filed with the U.S. Government since it could, they fear, lead to reporting to their home governments, with unfortunate consequences for them.

There is also a difference in the foreign investor's regard for privacy, as opposed to that of the U.S. investor. Foreign investors regard their financial affairs as their own business and no one else's, including any government authority. The entire history of public reporting has been different abroad than in the United States.

U.S. laws and attitudes on disclosure are believed to have led to substantial foreign capital being invested in the United States through indirect means. Specifically, large foreign investors use foreign personal holding companies, foreign trusts, and Swiss banks to channel their capital into the U.S. securities market and preserve their anonymity. U.S. financial institutions are thus deprived of managing large amounts of foreign capital.

Liabilities under U.S. securities law. Liability under U.S. securities law for insider trading, manipulative practices, violations of resale restrictions, fraud, etc., is generally not a deterrent to the pure foreign portfolio investor. The general feeling is that foreign portfolio investors regard these provisions of U.S. laws as positive factors in regulating our securities markets. There is some concern among foreign investors about innocent violations of U.S. securities law due to unawareness and complexity of U.S. laws. There is also some feeling that the criminal penalty provision for violations deter some foreign investment. However, in general, foreign portfolio investors have accepted our laws with respect to liability and regard them as a positive factor in the overall regulation of the U.S. securities market.

U.S. Securities Law

Remedies and protections provided to foreign investors under U.S. laws. The provisions of U.S. securities law requiring substantial disclosure of material information in U.S. registered public offerings and provisions against fraudulent practices in unregistered offerings, are effective in inspiring confidence in the U.S. securities markets. The foreign investor has the overall feeling that our laws provide a more efficient, fairer market place for public offerings. In addition, the rules of fair practices

Credit restrictions. There is general agreement in the financial community that U.S. securities law restricting credit for the purchase of securities is not a factor in limiting or encouraging foreign portfolio investment in the United States. The universal experience in the financial community is that foreign portfolio investors bring their unencumbered capital to the U.S. markets for investment. They do not require credit, at least not from U.S. sources, prior to entry into the U.S. securities market.

clined to buy. Thus, these laws have not deterred foreign portfolio investment here.

Foreign portfolio investors believe the U.S. compares very favorably with other countries in regard to confiscation. Sophisticated foreign investors are well aware of the provisions of the Trading with the Enemy Act but have concluded that the U.S. Government will not ar. bitrarily expropriate their property. Foreign investors believe that the United States has a system of legal due process which sets limits on what government power can do with regard to expropriation. There is reportedly a strong feeling among many foreign investors that the United States is one of the few countries firmly committed to capitalism and that private property is sacred.

As of the present time, the feeling in the financial community is that they can sell the United States to their clients as a safe haven from confiscation. Particularly in comparison to other jurisdictions where government intervention and control are more advanced, the United States is being viewed increasingly as a safe haven from political instability and property confiscation.

Laws of Other Countries

Bank Secrecy Law

The Currency and Foreign Transactions Reporting Act—the “Bank Secrecy Act”-provides for reporting and recordkeeping requirements on transactions in currency of more than $10,000 per single transaction effected through U.S. financial institutions. The Act requires the collection of data on the movement of money through domestic financial institutions and of currency and monetary instruments amounting to more than $5,000 in one transaction across the borders of the United States. Accordingly, transactions by foreign investors with or through U.S. financial institutions may be subject to disclosure and reports of such transactions are required under the provisions of Treasury regulations issued under the Act.

This law has projected a negative image of U.S. banking practice to the foreign investor. Foreign investors are warned by foreign money managers not to place deposits in foreign branches of U.S. banking institutions due to the risk of disclosure. They are also warned that securities with U.S. banks or brokers will be reported to the U.S. Government, which, in turn, will—if askeddisclose such assets to the investors' home governments.

There is concern on the part of U.S. banks' officials that they will violate foreign secrecy laws if they are compelled to disclose records maintained by their banks' foreign subsidiaries. Specifically, if the U.S. bank secrecy law is construed to require such disclosure, foreign affiliates of U.S. companies will be in danger of violating their host countries' secrecy laws. This apparent threat is of concern to foreign investors and clients doing business with foreign affiliates and has resulted in some loss of business to such affiliates.

In the actual administration of the Act, there has been a request for information from one foreign government filed pursuant to the Act, which was denied. This information is prohibited from disclosure by the Bank Secrecy Act. However, treaties relating to taxes may require disclosure of such information irrespective of the Bank Secrecy Act. The possibility of disclosure to foreign governments may have acted as a deterrent to foreign investment in the United States.

This section summarizes the laws and regulations of eight selected foreign countries, dealing with the legal areas covered in the discussion of U.S. laws and regulations. The eight countries Australia, Canada, France, West Germany, Japan, Mexico, Switzerland, and the United Kingdom-were chosen to reflect a diversity of geographical and historical factors that might affect government policies in these areas.

It is difficult to make overall generalizations about the extent to which U.S. laws affecting foreign portfolio investments are more or less favorable to such investment than the laws of other countries. However, it can be stated that in general the United States is more active than other countries in requiring disclosure of financial transactions and affairs and in providing public and private sanctions against illegal or improper financial conduct. On the other hand, the United States imposes fewer substantive restrictions on the types and amounts of investment that can be made by foreign or domestic investors.

In the area of taxation, the U.S. pattern of a special withholding rate for income on "passive” foreign investment is comparable to that found in most other countries. In two other areas-securities law and bank secrecy law--the U.S. Government takes a more active role than do most other countries. In the areas of restrictions on foreign investment and exchange controls U.S. policy has been among the most liberal. Finally, on the question of expropriation, U.S. laws appear to provide broader authority for seizure of foreign assets than other countries, but foreign investors tend to discount this apparent difference in light of the U.S. tradition of political and economic stability.

Other Laws

Various U.S. laws limit the amount of foreign stockholdings in certain U.S. industries. However, the restrictions which are based on percentage limitations are in all cases well above the percentage of a U.S. company's stock which foreign portfolio investors are in

Summary

A brief comparative survey of the laws of the eight countries follows; a more detailed review of each area of law is provided below.

Tax laws. The tax laws of the eight countries studied present a great variety of provisions, about which it is difficult to generalize. Some of the countries have basic structures quite similar to that of the United States; others follow entirely different approaches with respect to the activities or incidents giving rise to taxation, the relative rates applicable to different kinds of taxes, or the roles of different levels of government in the taxing process.

With respect to the taxation of foreign portfolio investment, however, there is much greater uniformity. Most of the countries studied rely heavily on a withholding tax, usually comparable in amount and procedure to that imposed by the United States, as the principal mechanism for taxing the income flowing to foreign investors. While the tax laws of the various countries may herefore have a substantial impact in encouraging or discouraging particular types of direct investment, they would not seem to be a substantial factor in determining the international flow of portfolio investment.

Securities laws. None of the other countries studied has as comprehensive a system of regulation of securities transactions as does the United States. France, Japan, and Mexico have agencies with responsibilities similar to those of the U.S. Securities and Exchange Commission; the other countries do not. Australia and Canada rely largely on their states (provinces) for securities regulation.

All of the countries studied have some requirements for disclosure of material information by issuers making public offerings; these requirements apparently vary widely in their effectiveness. Germany and the United Kingdom, among others, require prior governmental approval of certain types of new issues, with a view toward assuring appropriate allocation of capital. Surveillance of secondary trading markets in other countries is generally not as intensive as in the United States. In some European countries, trading is dominated by the banks, which results in a somewhat different approach to regulation.

Several of these countries have recently modified their securities laws to incorporate provisions similar to those found in the United States, and proposals for comparable revisions are pending in others.

Restrictions on foreign investment. Foreign countries restrict the nature and quantity of foreign investment in their domestic economies in many ways. These restrictions are generally imposed to limit direct foreign investment; limitations on portfolio investment are normally not intended. Nevertheless, to forestall the possibility of foreigners becoming a dominant force in domestic enterprises, other countries often limit the percentage of foreign capital participation in particular enterprises or require government approval or prior disclosure of such investments. These provisions may affect large portfolio investors. Also, many foreign countries, like the United States, prohibit or sharply restrict foreign ownership in certain "sensitive" industries.

Several countries are currently changing their attitudes towards foreign investment, but in different directions. Some are in the process of liberalizing their foreign investment laws, while others are imposing new

limitations on the ability of foreign investors to participate in or control sectors of their economies.

Expropriation. The eight foreign countries analyzed in this study have had little experience with expropriation of foreign investment. After World War II, France nationalized certain industries, affecting the interests of foreign shareholders, and Mexico has expropriated oil properties and land owned by foreign interests. However, the expropriation laws, if any, of these eight countries generally play insignificant roles in their economic affairs today. Foreign investment in these countries is basically treated equally with domestic investment for expropriation and nationalization purposes. Moreover, these nations, like all sovereign states, are subject to minimum standards of international law with respect to expropriation and confiscation.

Bank secrecy. Almost all countries recognize a bank's obligation to treat its customers' affairs in a confidential manner. Generally, banks may not disclose customer information to third parties without express or implied consent from the customer. No country has absolute bank secrecy: usually the protection must yield to certain overriding considerations. The key factor which varies with the jurisdiction involved is the power of third parties to penetrate this veil of secrecy. Some countries severely restrict the ability of government administrative agencies to inspect a bank's customer records; others give such agencies considerably greater leeway.

Exchange controls. Some of the eight foreign countries studied follow the U.S. policy of imposing no substantive restrictions on the international movement of funds. Others, however, do impose restrictions on, or require permission for, certain types of exchange transactions, often with a view to restricting the ability of their own nationals or residents to take funds out of the country. None of the countries studied, however, place significant restrictions on the repatriation of income and capital by nonresident foreign portfolio investors.

A more detailed comparison by legal subject areas follows:

Tax laws

The tax laws of the eight countries studied present a variety of patterns, about which it is difficult to generalize. Some of the countries have basic structures quite similar to that of the United States; others follow entirely different approaches, with respect to the activities or incidents giving rise to taxation, the relative rates applicable to different kinds of taxes, or the roles of different levels of government in the taxing process.

Overall tax structure. The Australian and Canadian tax systems most closely resemble that of the United States. France has a complex mixture of revenue-raising devices of which a consumption tax is the most important. Germany has a more balanced system in which income, net worth, turnover, and property taxes are all sig. nificant sources of revenue. The primary taxing entities in Switzerland are the 25 cantonal governments, each of which imposes several types of taxes, with the Federal government relegated to a secondary role. Mexico has a complicated two-tier tax structure that categorizes taxpayers according to how much employment, business, and investment income they receive. Japan and Great Britain rely heavily on schedular income tax systems.

Taxation of foreign investors. With respect to taxation of foreign portfolio investment, however, there is greater uniformity. Foreign portfolio investors are usually taxed at different rates than are residents of the source country. Tax is withheld from foreigners at a flat rate depending on the type of investment income, while residents are subject to a graduated rate structure. Under certain conditions a foreign investor will not qualify for withholding rates and will be taxed as a resident. Each country tends to use the same criteria, although with different limits, in determining when withholding rates apply. The most important criteria are nonresident status, type of portfolio investment income, degree of business activity or business presence, and degree of speculative activities.

Withholding rates. Withholding rates among the countries studied range from 10 percent to 30 percent. Australia, Switzerland, and the United States have the highest rates on dividends. Mexico has the lowest overall rates. The generally applicable rates (in the absence of special treaty provisions) are as follows:

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Nonresident status. The test of “nonresident” status necessary to qualify for the withholding rates varies from country to country, but generally a person is deemed a nonresident if he is not physically present within the country for more than six months and does not maintain a home there. Foreign corporations are usually not classified as residents if central management and control are situated elsewhere. Branches or agencies of foreign corporations in Mexico are considered residents of Mexico for tax purposes.

In all countries except Canada, Mexico and Japan, foreign investors may be taxed at standard rates on their portfolio investment income if they are found to be "doing business” through a permanent establishment in the host country. Canada, Mexico and Japan maintain a distinction comparable to that found in U.S. law, by which portfolio investment not "effectively connected" with the local establishment can still receive the benefit of the withholding tax rate. For example, doing business through an agent in Japan triggers regular tax rates only on the income attributable to the agent's activity. Canada applies regular rates to foreigners "carrying on business" in Canada, including solicitation of orders or offering anything for sale in Canada, but again, the regular rates apply only to the income arising from such business. If a foreign investor is “doing business'' in Mexico, standard rates are not applied to his portfolio investment income if it can be shown that there is no relationship between his business operations and his portfolio investment.

Transfer taxes. Some countries impose a transfer tax on securities transactions. The tax may be a nominal stamp tax, as in France, Mexico, and the United Kingdom, or a transaction tax of slightly more significance, as in Germany, Japan, and Switzerland. The highest rate is a 1 percent tax levied on new issues of securities by German corporations and on transactions between shareholders and corporations that increase paid-in capital.

*Taxes on real estate. Generally no distinctions are made between residents and nonresidents in the taxation of real estate income. All countries impose annual taxes on the value of real estate, and some impose taxes on transfers of real property. In Canada the province of Ontario levies a 20 percent land transfer tax on nonresidents. France, Germany, and Japan impose a transfer tax on sales of real property, with the rate being 16.8 percent in France, about 7 percent in Germany, and 3 percent in Japan. Frequently capital gains realized on transactions in real estate are subject to special treatment. In France, gains on real estate held more than ten years are exempt income. Mexico also taxes a smaller proportion of real estate capital gains as the holding period increases: after a ten-year holding period only one-half the gain is taxed. The rate for capital gains on real estate held longer than five years is 20 percent in Japan. The United Kingdom may tax certain capital gains, classified as "real estate development gains," at ordinary income rates.

Property taxes. Annual net worth taxes are imposed on property situated in some of the countries studied.

30%

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& The 20% rate applies to dividends paid by resident corporations having a degree of Canadian ownership, the 25% to other dividends.

• The 25% rate applies to interest paid on bonds and most negotiable instruments, the 33 1/3% rate to other interest.

Interest is exempt if the yield is not more than 7%. The 10% rate applies to yields be. tween 79 and 89, the 16% rate to yields from 8% to 9% , and the 219 rate to yields above 9%.

There is no withholding tax per se on dividends paid to nonresident shareholders. In general, the income of British corporations is effectively subject to tax at a standard rate of 524 ; when dividends are paid to nonresident shareholders out of income effectively so taxed, the shareholder is not liable for any additional tax, by withholding or otherwise.

Capital Gains. Capital gains on securities transactions are usually tax free to qualifying foreign investors. Canada and the United Kingdom are the only countries studied which tax such transactions. Both countries limit the scope of the tax, however. In Canada foreign investors are taxed only on gains realized from dispositions of “taxable Canadian property''; publicly traded securities of a Canadian corporation are usually not considered "taxable Canadian property” unless the nonresident owns at least 25 percent of the capital stock. Although Great Britian has the theoretical power to tax securities capital gains, it is uncertain to what degree this power is exercised. Other countries may tax capital gains if the nonresident is a dealer. If a nonresident engages in "speculation," as opposed to holding securities for long-term investment, at least two countries, Japan and Australia, tax capital gains resulting from the speculative trading.

Germany and Switzerland both levy net worth taxes; the German rate is 1 percent.

Investment companies. Most of the countries grant favorable income tax treatment to investment companies. Japan is probably the only country which grants no such concessions; Japanese investment companies are taxed in the same way as other corporations. Concessions in other countries are designed to mitigate multiple taxation of corporate dividends and interest received by investment companies. Mexico does not tax dividends paid by investment companies. The more usual pattern is that followed by the United States: to treat the investment vehicle as a conduit by reducing or eliminating taxes on dividends and interest received from other resi. dent companies provided that the income is distributed to shareholders. Usually capital gains are taxed at normal rates. Canada taxes nonresident-owned investment. companies more heavily than those owned by residents.

Estate and gift taxes. Only Mexico imposes no estate or gift tax. No gift tax is levied in Great Britain, but there is an estate tax which is high compared to the other countries. The burden of the United States Federal estate tax falls in the middle range of the countries studied. Germany may be the most lenient: very little estate tax is paid by people who take care to qualify for the numerous exemptions allowed. In some cases, a nonresident foreigner could be liable for estate tax on portfolio investments in the host country.

Securities Laws

None of the other countries studied has as comprehensive a system of regulation of securities transactions as does the United States. This results in large part from the fact that the United States has had since 1934 an independent, vigorous, and effective Federal agency—the Securities and Exchange Commission—whose sole responsibility is the regulation of securities transactions and markets. Agencies with comparable responsibilities were established in Mexico in 1946, in Japan in 1948, and in France in 1967, but none of these has as yet had as significant an impact as the SEC has had in the United States.

Australia and Canada rely largely on their states or provinces for securities regulation; the Province of Ontario has probably the most comprehensive regulatory scheme found outside the United States. In the United Kingdom, the Department of Trade and Industry exercises some supervisory authority over publicly-held companies, but in Germany and Switzerland there is no government agency specifically charged with responsibility over securities trading.

Several of the countries have recently modified their securities laws to incorporate provisions similar to those found in the United States, and proposals for comparable provisions are pending in other countries, including proposals in Australia and the United Kingdom for establishment of an SEC-type agency.

Public offerings. A major focus of securities regulation in the United States is the requirement for full disclosure of material information about securities which are being

publicly offered by the issuer or its affiliates. These requirements provide important safeguards and reassurance for foreign as well as domestic purchasers of U.S. new issues. All of the other countries studied have provisions requiring the preparation and distribution of some kind of "prospectus'' with respect to new issues, applicable to roughly the same types of "public offerings" that are covered by the U.S. rules. However, more limited disclosure requirements and less effective administrative and judicial sanctions for violation of the requirements apparently result in most foreign prospectuses providing substantially less information and protection to investors than to their U.S. counterparts.

Periodic Disclosure. The comparative situation with respect to periodic disclosure by publicly-held companies is very similar to that with respect to public offerings. All of the countries studied have some requirement for periodic financial statements, but in several of the countries the requirement is imposed solely by the stock exchanges, with no government involvement. In none of the countries is the requirement thought to be as comprehensive, or as strictly enforced, as in the United States.

Insider trading. U.S. securities law imposes a variety of sanctions on trading of the stock of a publicly-held corporation by its officers, directors, and major stockholders or other insiders on the basis of undisclosed material information. The Canadian Province of Ontario and some of the Australian states have somewhat comparable provisions. Recommendations have recently been made in the United Kingdom and Germany for more effective controls on insider trading but, in general, enforcement of restrictions on the practice outside the United States is spotty.

Disclosure of Ownership. Australia and the Province of Ontario in Canada have provisions comparable to that found in the United States requiring disclosure of stockholdings of more than 10 percent in publicly-held corporations. The other countries studied generally have no comparable requirements. In continental European countries shares are commonly in bearer form and held on deposit in banks, which makes tracing of ownership or transfers difficult.

Tender Offers. Most of the countries studied have recently enacted provisions requiring disclosure or other procedures by persons making tender offers for stocks of publicly-held companies. However, the thresholds for such requirements are generally higher than the 5 percent level which applies under U.S. law. Australia regulates offers which would result in acquisition of more than 15 percent of a company's stock, Ontario 20 percent, and Japan 10 percent. Germany requires disclosure to the company of an acquisition of more than 25 percent of its stock. Great Britain provides for extensive but informal policing of tender offers under its “City Code.”

Investment through intermediaries. Most of the countries studied regulate mutual funds and other types of investment companies, although generally not as extensively as the United States. Australia has a law regulating unit trusts and investment trusts, as do Japan and Mexico. Germany and Switzerland both adopted new laws regulating the operation of mutual funds in light of

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