Fowler Case: domestic law and treaty interpretation

Luís Eduardo Schoueri1 and Renan Baleeiro Costa2

1.     Introduction

The contribution of Prof. Rainer Prokisch to the international tax is remarkable: not only due to his writing, but especially for when one considers his long journey as a professor. Rainer’s greatest joy is to provoke his students to develop their own thoughts, even when these do not correspond to his own ideas. One may even dare to say that Prof. Rainer Prokisch appreciates mostly being challenged – what is a different task for his students, since he is always able to find new arguments to sustain his point of view. As a result, both participants gain a better understanding from the discussion (even if they continue to dissent).

This experience, which was certainly testified by several students, goes back to Munich, when the first author of this article met Prof. Rainer Prokisch, who acted as an assistant of Prof. Klaus Vogel. For two years, daily meetings offered an unique opportunity for learning international tax, while a doctoral thesis was developed. In this sense, this article should be considered as a continuation of a dialogue, always hoping that a better understanding of a fundamental issue in the area of tax treaties is achieved.

Accordingly, this article aims at briefly discussing a highly complex, controversial issue in international taxation: the resort to domestic law in the interpretation of tax treaties. For this purpose, this article elects as object of analysis the Fowler Case, recently judged by the Supreme Court of the United Kingdom3. The issue at dispute in the case is whether Mr. Fowler’s income should fall within article 7 (business profits) or article 14 (employment income) of the double taxation convention between the UK and South Africa (“UK-South Africa DTC”). Since Prof. Rainer Prokisch has very much contributed not only to the study of tax treaty interpretation but also specifically to that of employment income taxation as the responsible for article 15 of the OECD Model in Vogel’s Commentaries4, the discussion of the Fowler Case somewhat celebrates the particular importance of Prof. Rainer Prokisch to these two research fields. 

Without intending to “solve” the Fowler Case in place of the UK Supreme Court, this article intends to sustain the primacy of the autonomous interpretation of treaty concepts, showing that the UK Supreme Court did not take this approach when ruling the Fowler Case.

First, this article (1) presents the Fowler Case along very general lines. It focuses on the decision of the case by the UK Supreme Court. Lower courts decisions on the case are not considered5.

Second, this paper (2) articulates the authors’ fundamental position regarding the interpretation of tax treaties.

Lastly, this article (3) criticizes the interpretative approach undertaken by the UK Supreme Court in view of the authors’ position.

2.     The Fowler Case as decided by the UK Supreme Court

Mr. Martin Fowler is a qualified diver resident in South Africa, who undertook diving engagements in the waters of the UK Continental Shelf during the 2011/12 and 2012/13 tax years. The British tax authorities thus claimed that the income Mr. Fowler earned from those diving engagements would qualify as employment income, therefore taxable in the UK pursuant to article 14(1) of the UK-South Africa DTC. According to such provision, if “employment is exercised in the other Contracting State” (i.e., the source state, which in the case is the UK), the employment income “may be taxed in that other State” (i.e., the UK).

On the other side, Mr. Fowler argued that his income would not qualify as employment income, but rather as business income, thus taxable only in South Africa pursuant to article 7 of the UK-South Africa DTC (being common ground that Mr. Fowler had not had a permanent establishment in the UK). In his view, Mr. Fowler would be immune to British income taxation since the British income tax legislation would require employment income from divers to be treated for income tax purposes as if it were trade income. Therefore, article 7 should apply to Mr. Fowler’s situation, thereby disallowing British income taxation.

It is worth describing what the British income tax legislation says about the taxation of income from employed divers.

ITEPA [Income Tax (Earnings and Pensions) Act 2003] provides that “[e]mployment income is not charged to tax under this Part if it is within the charge to tax under Part 2 of ITTOIA 2005 (trading income) by virtue of section 15 of that Act (divers and diving supervisors)”.

Section 15 of ITTOIA [Income Tax (Trading and Other Income) Act 2005], titled “Divers and diving supervisors”, begins by regulating its own application scope. Section 15(1) then sets three requirements for it to apply: first, it is needed that “a person performs the duties of employment as a diver or diving supervisor in the United Kingdom” (…); second, that the “duties consist wholly or mainly of seabed diving activities”; and third, that “any employment income from the employment would otherwise be chargeable to tax under Part 2 of ITEPA 2003”. Then, Section 15(2) provides that “the performance of the duties of employment is instead treated for income tax purposes as the carrying on of a trade in the United Kingdom”.

From the taxpayer’s perspective, Section 15 of ITTOIA would have the effect of qualifying the income earned by Mr. Fowler as trade income, as such not taxable in the UK pursuant to article 7 of the UK-South Africa DTC.

Due to procedural reasons, the appeal (brought by the tax authorities) reached the Supreme Court on the assumption that Mr. Fowler had performed these activities as an employee. The Supreme Court was thus called to decide the case assuming that Mr. Fowler indeed was an employee.

That said, one might see that the fundamental question of the case was relatively simple: assuming that Mr. Fowler had undertaken the diving engagements as an employee, would the UK be entitled to tax the income derived therefrom according to the UK-South Africa DTC?

The position of the Court may be put as following: the UK would be entitled to tax the income derived by Mr. Fowler from the diving engagements since Section 15 of ITTOIA, as a deeming provision, would not be able to alter the true nature of Mr. Fowler’s income as employment income under British tax law. In other words, the legal qualification of the income earned by Mr. Fowler under British tax law would be that of employment income; the provisions of Section 15 of ITTOIA would merely concern the tax treatment to be given to such income, not its nature. Therefore, the Court concluded, article 14 of the UK-South Africa DTC (employment income) should apply, Mr. Fowler’s income thus being taxable in the UK.

For the moment, at least one aspect of the Court’s decision deserves to be highlighted (irrespective of the fact that it will be further discussed in section 3), that is: the UK Supreme Court clearly took the view that non-defined treaty terms shall derive their meaning from the domestic law of the contracting state applying the treaty. This view, held the Court, would be supported by article 3(2) of the UK-South Africa DTC, worded as follows:

“As regards the application of the provisions of this Convention at any time by a Contracting State, any term not defined therein shall, unless the context otherwise requires, have the meaning that it has at that time under the law of that State for the purposes of the taxes to which this Convention applies, any
meaning under the applicable tax laws of that State prevailing over a meaning given to the term under other laws of that State”.

This position of the UK Supreme Court is expressed many times along the decision. In the very introduction of the judgment, the Court observes that “terms used in the Treaty, if not defined in the Treaty itself, are to be given the meaning which they have in the tax law, or the general law, of the state seeking to recover tax, here the UK”. This is again confirmed some pages later, where the Court states that “the question which of articles 7 and 14 of the Treaty applies (…)  depends upon the true construction of those articles, in the context of the Treaty as a whole and its purposes, with the meaning of terms within those articles ascertained as required by article 3(2) by reference to UK income tax law”. Applying this methodological approach to the case at hand, the Court concluded that “UK tax law would not regard him [Mr. Fowler] as making profits from a trade, or his business as being that of an establishment”.

This methodological aspect of the Court’s decision is crucial for the purposes of this article, as it will be more evident in section 3.

This article now turns to the presentation of the authors’ position on the interpretation of tax treaties.

“Unless the context otherwise requires”: the primacy of the autonomous interpretation of tax treaty terms

Legal scholars usually refer to “qualification” when double taxation conventions contain legal terms that also appear in the material, domestic law of the contracting states.6 Just as it occurs in international private law, also in international tax law the issue of qualification is highly discussed. The three main possible approaches to the qualification issue in international tax law are the following: “lex fori”, i.e., qualification by the state applying the treaty (each state qualifies a term employed in the double taxation convention in accordance with its own domestic law); “lex causae”, i.e., qualification by the state of source (both states adopt the same qualification in accordance with the domestic law of the state where the income arises); and “autonomous qualification”, by which both states endeavor to reach the same qualification as required by the context of the convention.

If treaty terms are given the meaning they have in the domestic law of the state applying the treaty, a distortive application of the treaty is likely to take place.  If each contracting state gives treaty terms the meaning they have in their own domestic laws (i.e., on a “lex fori” approach) double taxation (or double non-taxation) is likely to occur. Double taxation (and perhaps double non-taxation either) is clearly not aimed at by tax treaties.7

The defense of the qualification by the state of source (i.e., the “lex causae” approach) arose as a means to avoid the asymmetric application of tax treaties which “lex fori” could lead to. Indeed, binding the state of residence to the qualification settled by the state of source leads to a uniform application of the treaty, in the sense that both parties apply to the case the same treaty provision. “Lex cause” so avoids the occurrence of double taxation and double non-taxation. 

But the qualification by the state of source produces undesirable effects as well. The primacy of the qualification by the state of source is likely to harm the balance of the treaty: it subjects the residence state to the unilateral discretion of the state of source in qualifying treaty terms. “Lex cause” gives to the state of source the ability to broaden the scope of treaty terms by altering its domestic law, and so favors the contracting party “that attaches the broader meaning to the term to be qualified”.8 Even some of those who sustain the primacy of the source state qualification admit that certain domestic law modifications might go too far and so shall be disregarded at the qualification of treaty terms.9 The qualification by the state of source demands due consideration on the possibility of containing treaty abuse by the States themselves (treaty dodging).10

Autonomous qualification has none of these disadvantages. By deriving a common qualification from the context of the treaty, the autonomous approach avoids the occurrence of double taxation/double non-taxation, which divergences between the domestic laws of contracting states could cause. Since domestic law is irrelevant, neither does autonomous qualification allow for unilateral discretion from a contracting state in the manipulation of the scope of treaty terms. In addition, autonomous qualification is the one that better reconciles with the context of the treaty since it leads to the application of the treaty irrespective of what contracting states might unilaterally provide for in their domestic laws.

In any case, autonomous qualification encounters some feasibility challenges: the search for an autonomous qualification by contracting states might not be effectively possible due to either interpretative limits or practicability obstacles (i.e., access to foreign case law).11 As Klaus Vogel alerts, deriving an autonomous qualification “is a difficult task” since the interpreter will often seek “in vain” for criteria to support such a qualification.12

Among all possible solutions to the qualification issue (and still not considering article 3(2) of the OECD Model Convention), Klaus Vogel has initially defended autonomous qualification as “the only supportable solution”, as it would be able to ensure “the desired common interpretation of treaty terms”.13 As Vogel and Prokisch put, the interpreter of the convention “should strive for an autonomous qualification whenever possible”.14

Indeed, a tax treaty is a bilateral agreement signed with the purpose of distributing tax rights. Signing parties give each other reciprocal concessions with the purpose of attaining what they imagine to be an appropriate distribution of tax rights. When negotiating a tax treaty, the parties take into consideration a wide range of aspects (their revenue needs, particularities of their tax policy which they are not intended to waive, the status of the signing partner as a developed or developing country, etc.). This means that, once a final text is agreed upon, it implies an intrinsic, natural balance as regards the distribution of tax rights. The parties only agree upon a final text because they consider such a final text to be, at some extent, a fair (or at least convenient) distribution of tax rights.

Therefore, tax treaties are the result of delicate, meticulous negotiating proceedings in which each party tries to promote its political and economic interests. A tax treaty thus implies an inherent equilibrium; otherwise, it would most probably not have been signed (just as it happens with any other bilateral agreement).

If this is true, it is clear that the autonomous qualification is the interpretation method that better respects the context (i.e., the inherent equilibrium) of the treaty. When tax authorities of a contracting state settle the meaning of a treaty term taking the treaty itself as reference for interpretation (instead of the state’s domestic law), tax authorities are much more likely to respect the inherent balance of the treaty.

However, autonomous qualification has to face the wording of article 3(2) of the OECD Model Convention, which might reasonably be considered to favor a “lex fori” solution. Article 3(2) states that “any term not defined therein [in the treaty] shall (…) have the meaning that it has at that time under the law of that State [the state applying the convention]”. On the other side, the same provision puts that the domestic law of the state applying the treaty shall not prevail if the “context otherwise requires”, thus opening room for autonomous qualification.

Klaus Vogel reports that “the undesirable legal consequences” which could result from treaty interpretation in accordance with domestic law “have induced” legal scholars to try to limit reference to domestic law in article 3(2) by supporting that the treaty should be interpreted according to its context to the greatest possible extent.  “Unfortunately”, Vogel says, these efforts could be supported only “to a limited extent” since a systematic preference for interpretation from the context over interpretation by reference to national law would be “impossible to infer from Art. 3(2)”.15

Vogel additionally observes that investigating whether the context otherwise requires (that is, whether the context requires an approach other than resorting to domestic law) assumes, pursuant to the “rules of logic”, that the interpreter has previously established a domestic law meaning. Only if confronted to a domestic law meaning would the interpreter logically be able to assess whether the context requires otherwise. This assumption would indicate that an interpretation according to domestic law “should take preference” in article 3(2).16 Moreover, Vogel emphasizes the wording of article 3(2) as a provision stating “unless the context otherwise requires”, and not “unless the context yields no other, or absolutely no other, interpretation”. This would indicate that not every autonomous interpretation, but only that supported by “relatively strong arguments” could claim to prevail over a domestic law interpretation.17

Holding a different position, Michael Lang notes that “much suggests” that the formulation unless the context otherwise requires means “the precedence of an autonomous interpretation”. He observes that “interpretation conflicts would be inevitable” if each of the contracting parties were able to interpret the convention in accordance with their internal law. As a result, treaty provisions would “fail to fulfil their task – the allocation of taxation rights between the two countries”.18

Furthermore, the fact that the formulation in article 3(2) begins by “unless” would be of no relevance since it would not matter whether the interpreter starts the interpretation proceeding by examining what would be the “general rule” or the “exception”. In this sense, it could be said that “it makes no difference” whether the formulation “emphasizes its exceptional role or not”. Indeed, what matters, in Lang’s view, is that an interpretation supported by the context of the treaty should prevail over any interpretation based on domestic law. Therefore, Michael Lang concludes that the “logical order” of article 3(2) of the OECD Model is that “treaty definitions come first” (since it applies only to non-defined treaty terms) and the “context comes second”. Domestic law would be the last recourse.19

Another (highly disputed) issue concerning the interpretation of article 3(2) is whether this provision supports a source-controlling qualification (“lex causae”). Notably defended by Avery Jones and his co-authors from the International Tax Group,20 this position sustains that the source state’s qualification of income shall bind the residence state. The sole ability of the residence state would be to assess whether the source state had levied taxes in accordance with the treaty for purposes of avoiding double taxation. Klaus Vogel, who at first rejected this approach,21 accepted it later22. Endorsing “lex causae”, Vogel observed that tax treaties oblige residence states to avoid double taxation of income which “may be taxed in the other contracting state in accordance with the provisions of this convention”. Under a “lex causae” approach, it would be up to the source state to qualify income under its domestic law (by command of article 3(2)) and then conclude whether it is entitled to tax such income in accordance with the provisions of the convention. The source states’ own domestic law would serve as basis for determining what would be in accordance with the provisions of this convention. Then, such a qualification should bind residence states since tax treaties, as Vogel emphasizes, do not condition double taxation relief upon income being taxed in accordance with the residence state’s view”.23

Although not ignoring the possibility of unbalanced treaty application due to differences in the scope of domestic law definitions (even in case of treaty dodging), Vogel considers this disadvantage as less harmful than the double taxation effects which the application of article 3(2) by both states could give rise to. In addition, at the end of the day the residence state would always be able to disregard for treaty purposes a modification in the domestic law of the source state, where such a modification is considered to have been made with the purpose of expanding the source state’s tax base under the treaty.24

Having considered all that, the authors sustain a preference for an autonomous interpretation under article 3(2) of the OECD Model Convention. On this point, the authors’ position aligns largely to Michael Lang’s: it does not matter whether one starts interpreting a given term by the “exception” (context) or the “rule” (domestic law). Moreover, the term “requires” shall be understood not literally, but rather in light of the purpose and object of tax treaties. Provided that tax treaties have as their principal aim the distribution of tax rights, one should interpret “unless the context otherwise requires” as a clause ensuring the prevalence of a context-oriented interpretation as it is the interpretation that better favors the treaty itself. Of course, article 3(2) assumes that situations will occur in which autonomous qualification will not be possible; otherwise article 3(2) would have only referred to context. Therefore, resort to domestic law (whether under a “lex fori” or a “lex causae” approach) is mandatory where an autonomous qualification cannot be derived.

This article now turns again to the Fowler Case to make some conclusive remarks on the interpretative approach followed by the UK Supreme Court.

3.     Resort to the domestic law in the Fowler Case: a misguided debate

As section 1 put it, the UK Supreme Court took British internal law as reference for the qualification of Mr. Fowler’s income. This led the case to be decided on misleading terms.

Since British internal law was of relevance, the Court was forced to decide on the potential effect of particular, tricky issues of British internal law on the qualification of Mr. Fowler’s income under the UK-South Africa DTC.

British tax law subjects diving income to taxation under the rules of trade income taxation. British tax law thus seems to regulate the taxation of diving income through a deeming mechanism, by which income of employed divers would not be treated for income tax purposes as employment income, but rather as trade income. Section 15(2) of ITTOIA would be the deeming provision, as it requires that “the performance of the duties of employment” (by divers in the United Kingdom) be “instead treated for income tax purposes as the carrying on of a trade in the United Kingdom”.

As put in section 1 of this article, the Court concluded that Section 15 of ITTOIA would not be able to alter the true legal qualification of the income earned by Mr. Fowler under British tax law as employment income. The Court ruled that “[n]othing in the Treaty requires articles 7 and 14 to be applied to the fictional, deemed world which may be created by UK income tax legislation”. Instead, stated the Court, these articles “are to be applied to the real world”.

In the Court’s view, Section 15 would use “employment”, “employment income” and “trade” in their usual meaning under British tax law. The sole particularity in Section 15 would be the deeming effect. Therefore, the Court concluded that “nothing in section 15 purports to alter the settled meaning of the relevant terms of the Treaty”. As the Court held, Section 15 “erects a fiction” constructed upon the usual meaning of those terms merely to impose “a different way of recovering income tax from qualifying divers”. This would not be enough for modifying the qualification of Mr. Fowler’s income as employment income.

Regardless of what the correct treaty qualification of Mr. Fowler’s income might be according to British tax law, it is clear how tricky it became for the Court to decide Mr. Fowler’s case. The Court had to deal with specific, complex regulation of British internal law regarding diving income, investigating its potential effects on the UK-South Africa DTC.

For instance, Michael Lang opposed the Court’s approach to deeming provisions versus “real world”. The distinction as such would be flawed since both employment and trade would be defined under UK tax law “for certain situations”, being thus “arbitrary” to consider some parts of these definitions as reflecting the real world and others as deeming provisions. Moreover, the term instead in Section 15(2) of ITTOIA would merely be part of “legislative technique” as legal definitions would consist of “general rules” as well as “exceptions”. Therefore, Lang sustains, provided that domestic law was to be considered, there would be “no reason to just look at the general rule but not at the exception”. At the end of the day, the legislative power would be “completely free” to define expressions such as employment or trade, being thus senseless to distinguish between what would be the usual meaning of a term and a fiction.25 

To complicate things further, a change in the wording of UK legislation (occurred along the first decade of the 21^st century by virtue of the ‘Tax Law Rewrite” process, of which the ITEPA and the ITTOIA were part) seems to have gone unnoticed through the Court’s judgement. Originally, British tax law required the performance by the diver of the duties of employment to be treated “as if” he was carrying on a trade, while the performance of those duties is currently treated “as” the carrying on of a trade. Avery Jones admits that the distinction might seem “subtle”. However, he observes that if something is treated as if it were a trade, “obviously it does not become a trade”, while if something is treated as a trade, “it does” (become a trade). Jones then defends that the legislator “must have had the distinction in mind” in Section 15 as he would have “deliberately” made this distinction also in previous sections of ITTOIA. If this is true, Section 15(2) of ITTOIA would have overridden “by implication” the categorization of diving/diving income as employment/employment income. As a matter of fact, Jones says, overriding by implication would be “the drafter’s normal practice”.26

In addition, the Court investigated on the purpose of the deeming provision in Section 15(2) to hold it as irrelevant for the qualification of Mr. Fowler’s income. At this point, the Court made some interesting remarks for the purposes of this article. The Court observed that the fiction in Section 15 of ITTOIA is “not for the purpose of deciding whether qualifying employed divers are to be taxed in the UK upon their employment income”. Rather, the fiction would be concerned with the manner in which that income is to be taxed, especially “by allowing a more generous regime for the deduction of expenses”. The deeming provision, stated the Court, would clearly not have the purpose of “rendering a qualifying diver immune from tax in the UK”, nor it would have the purpose of “adjudicating between the UK and South Africa as the potential recipient of tax”.

These excerpts are interesting since they show that the UK Court based its conclusion also on the fact that domestic deeming provisions do not serve the purpose of distributing tax rights under tax treaties. What the Court perhaps missed is that “usual meaning” (i.e., non-deeming) internal law provisions do not serve that purpose neither. Saying that the “fiction” does not have the purpose of “adjudicating between the UK and South Africa as the potential recipient of tax”, while saying at the same time that British internal law should govern the qualification of treaty terms is to some extent inconsistent.

In the authors’ view, the Court faced problems it could (and should) have escaped. Instead of going through the (tricky) details of British domestic legislation, the Court should have adopted an autonomous approach on qualification. This question simply does not appear to have occurred to the Court: does the context accept the qualification according to British law? Would not this be a case in which the context would require an autonomous qualification?

Under an autonomous approach, the Court could have reached the same conclusion it reached under a domestic law approach (taxability of Mr. Fowler’s income in the UK under article 14 of the UK-South Africa DTC). But the methodological path also matters, and the Court could have at least tried to undertake an autonomous interpretation in the case. If viable, autonomous interpretation would have brought advantages to all parties involved. In the first place, the Court itself would have been removed the burden of going through into detailed, tricky internal law regulation. Secondly, the treaty would have been applied pursuant to interpretative sources much more appropriate for a tax treaty interpretation than any internal law (such as the OECD Commentaries on the Model Convention, foreign case law, treaty practice, etc.). This would have benefited both signing parties since a contextual treaty application is more likely to serve treaties’ function as international agreements on the distribution of tax rights, including by protecting treaties’ inherent balance. Lastly, an autonomous approach would have set aside any suspects on national courts and national law. As a UK Court concluded that UK was entitled to tax pursuant to UK internal law, it could have raised doubts on whether a context-oriented, equidistant interpretation of the treaty would have led the Court to the same result. This reinforces the preference for autonomous interpretation whenever possible. 

Accordingly, the authors believe that articles 7 and 15 of tax treaties (articles 7 and 14 of the UK-South Africa DTC) are not in the same position. The latter deals with a specific item of income, while the former has a rather general scope. Thus, the main question is not whether Mr. Fowler’s income is business profits or income from employment. The first question is rather to determine whether article 15 (article 14 of the UK-South Africa DTC) is applicable, i.e., one should only ask what “income from employment” under the treaty is. An autonomous qualification would easily resort to the sources of international tax in order to understand the reason why the state of source may tax such income under some circumstances.

Prof. Rainer Prokisch was responsible for article 15 of Vogel’s commentary, and there one can learn that taxation in the state of residence corresponds to the systematic of the treaty, since it assumes that the state of residence is in a better position  to tax the whole income (internal and foreign). In addition, this systematic should not be affected by a minor presence in the state of source.27 However, since the determination of a minor presence could be arguable, article 15 adopts the 183-day-rule,28 which can objectively determine the right of the source state to tax. This solution is different from that of article 7, which demands the presence of a permanent establishment for the source state to be able to tax (instead of requiring a physical presence test). This seems to present a relevant hint for autonomous qualification: the treaty is always looking for a ground for an exception to the rule of exclusive taxation by the residence state. In both article 7 and article 15, the treaty looks for a sufficient liaison (economic allegiance) to the state of source as to grant it tax rights. In case of an employment, the mere physical presence is enough, i.e., the employee is deemed to have a sufficient connection to the state of source if he stays there for more than 183 days. The treaty is considering not only the activities performed, but the whole circumstance of belonging to the community. This brings less relevance to whether the activity enriched the state of source. In this sense, also weekends and holidays count for the 183 days. The idea is that the dependence of the taxpayer to an employer of the state of source and the long lasting physical presence would imply economic allegiance. For article 7, on the other hand, one should consider the activities performed by a permanent establishment, i.e., the focus is not on the presence, but rather on an economic activity actually and permanently performed in the state of source.

This being said, it does not seem to be reasonable to exclude the application of article 15 based on the fact that internal legislation of the state of source (the UK, in the Fowler Case) might not qualify the income as derived from employment for tax purposes. All in all, the tax treatment of diving income in the UK does not alter the fact that Mr. Fowler undertook diving work in the UK and stayed in that jurisdiction for a non-insignificant period. Article 15’s scope seems to cover exactly this kind of liaison.

It does not seem to be reasonable to investigate whether Mr. Fowler had a PE in the UK if he acted under the orders of his employer. Article 7’s scope is for independent activities, irrespective of whether performed by companies or by individuals. Pasquale Pistone reports that in the OECD Model 2000 article 15 was changed from “Income from dependent personal services” to “Income from employment”, a trend followed by the UK-South Africa DTC (which was signed in 2002). The Commentary on Article 15 of the OECD Model (2000) then clarified that this change did not intend to modify the scope of article 15. Pistone so concludes that “the essence of dependent personal services and the typical features of employment now, in fact, match”.29 This would be confirmed by article 3(1)(h) of the OECD Model (article 3(1)(d) of the UK-South Africa DTC), as it establishes that the definition of business shall include “the performance of professional services and other activities of an independent character”. Accordingly, Pistone clarifies that there would be a “mutual exclusion” between independent activities (falling under article 7) and those activities of a dependent character (outside article 7).30 Mr. Fowler’s activity had a clear dependent character.

In the past, one would discuss whether an activity of an individual would be dependent or independent, in order to decide for the application of article 14 or 15. Presently, article 14 is absent in tax treaties. Thus, if article 15 is not applicable, article 7 shall apply. The latter, however, concerns business profits, i.e., an independent activity, which does not seem to be the case of Mr. Fowler. The context of the treaty, which refers to permanent establishment in article 7 and to physical presence in article 15, is enough evidence that a dependent activity cannot fall within article 7. It makes no sense to refer to a PE held by the employee, even if the employee remains in the source state for the whole year.

Additionally, even if a precise, exclusive definition is not possible, one might derive some interpretative criteria for assessing what would be a “dependent” (employment) activity in contrast to an independent activity.

In spite of the absence of an express definition of employment in the OECD/UN Model Conventions, Rainer Prokisch explains that these models “are based on a common understanding of the type of activities to be covered by the term 'dependent personal services’”. The meaning of ‘dependent personal services’, he argues, should be derived “on the one hand by distinguishing it from other types of income” (such as business profits/independent activities) and “on the other hand by referring to a common international understanding”. In this regard, Prokisch states that “dependent services” (currently “employment”) usually refer to “a person – the employee” that “makes his capacity for work available to another – the employer”, the former being “obligated to follow the directions and instructions” of the latter when performing his working duties.31

Similarly, Pasquale Pistone refers to three main elements derived from the OECD Public Discussion Draft (2007) which could be useful to assess the meaning of employment. These would be that “employment involves the exercise of activities under the direction, control and instruction” of the employer; this would be the subordination element. Other typical features of employment relations would be that the employer “bears all risk” of the economic activities, as well as that he makes “structures available to the employee”. These criteria, Pistone argues, could “contribute to delimiting the framework” within which a contracting state can resort to domestic law at qualifying employment income for treaty purposes.32 By saying that, Pasquale tries to reconcile the renvoi to domestic law through article 3(2) with the search for autonomous interpretation (which he expressly defends).33 

Indeed, case law around the world provides some material on typical features of employment relations that may serve for autonomous treaty interpretation.

In Canada, for instance, a case discussed whether the income earned by a US-resident engineer working in Canada should qualify as employment income. The fundamental question was whether the taxpayer had performed his working duties as an independent contractor (in which case he was only taxable in the US) or as an employee (in which case he was taxable also in Canada). To decide it, the Court relied on precedents of Canadian courts and considered factors such as the “level of control” the employer exercised over the worker’s activities, the “ownership of the equipment necessary to perform the work”, whether the worker “hired his own helpers”, and the “degree of financial risk and of profit” taken by the worker. The conclusion of the Court was that the taxpayer provided independent personal services, given that “higher profit coupled with higher risk”, “mobility” and “independence” would have characterized the taxpayers’ working activity.34

The ‘subordination’ criterion was also present in a case ruled by the Supreme Court of Belgium involving a taxpayer resident in the Netherlands who had worked as a manager of a Belgium company (in which he also held a substantial shareholding). Considering the independent character of managerial functions, as opposed to employment relations marked by the authority that the employer holds over the employee, the Supreme Court ruled that the taxpayer’s income was not from dependent personal services (employment) under Belgian law, and so not taxable in Belgium under article 15 of the Belgium-Netherlands Double Taxation Convention. Contrary to the Court of Appeal of Brussels (wherefrom the case was brought to the Supreme Court), the Supreme Court held that the fact that the manager was answerable to the other shareholders would not be able to affect the independent character of his activities.35

Of course, discussion of facts has not been the main issue at the UK Supreme Court in the Fowler Case. Therefore, one cannot know exactly how the legal relationship between Mr. Fowler and his ‘employer’ was framed. Be as it may, the judgment of the Fowler Case is nevertheless misguiding. The Court did not even consider the possibility of a contextual interpretation of the UK-South Africa DTC, which would have been a more appropriate approach to the case, as already discussed.

The authors’ view is that British internal law is dispensable and misleading for ruling the Fowler Case. Provided that Mr. Fowler’s activities were of a dependent, subordinated nature along the lines of a ‘common understanding’ of the meaning of employment, the Court should have subjected Mr. Fowler’s income to article 15 of the UK-South Africa DTC following the very logic of the treaty (and not British internal law).