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Letter Ruling

Letter Ruling Letter Ruling 96-7: Classification of a Foreign Corporation as a Financial Institution under G.L. c. 63, s. 1

Date: 12/27/1996
Organization: Massachusetts Department of Revenue
Referenced Sources: Massachusetts General Laws

Corporate Excise

December 27, 1996

You requested the following rulings on behalf of the *************** ("Financial"):

1. Financial is a "financial institution" within the meaning of G.L. c. 63, § 1; and

2. Assuming all of Financial's income is exempt from tax under section 892(a)(1) of the Code and that Financial invests in no obligations of any U.S. state, Financial will be subject to no tax under G.L. c. 63 other than the minimum excise imposed pursuant to G.L. c. 63, § 2(a).

We rule that Financial is a financial institution within the meaning of G.L. c. 63, § 1. We further rule that if all Financial's income is excluded from federal gross income under IRC § 892(a)(1) and if Financial invests in no obligation of any state, Financial will be responsible only for the minimum excise imposed pursuant to Section 2(a) and no other excise imposed under G.L. c. 63.


A. Overview of Financial

The taxpayer represents the following facts. Financial is a body corporate created by an act of the *************** ("Country") Government. Financial is beneficially owned by the government of Country and is part of the Country's Ministry of Finance. It does not have shareholders. It is managed by a board of directors, all six of whom are senior officials in the Country government appointed by the Sultan of Country. The chairman of the board is the Minister of Finance. Under Country Law, all officers and employees of Financial are government employees.

Financial is expressly designated as being the financial agent of the Country government and the manager of its external assets. The principal purposes for which Financial was created are:

(a) to hold and manage in Country and overseas the General Reserve Fund of the Government and all external assets of the Government;

(b) to provide the Government with money management services with respect to such sums as the Government may from time to time remit and with respect to interest, dividend and any other payments or corporate actions arising from the investment of such sums; and

(c) to carry out such other objectives as His Majesty, the Sultan, and *************** may specify by Order published in the Government ***************.

Financial's powers as enumerated in the Laws of Country, c. 137 (Rev. ed. 1984) include the power to "purchase, acquire by exchange or other means, hold, sell or otherwise dispose of various types of investment assets as shall be specifically authorized by the act or by his majesty on the recommendations of the Board."

In executing its authorized powers, Financial functions as part of the Ministry of Finance. The amount of assets to be invested is determined by the Ministry of Finance. The determination of investment policy is made in consultation with the Ministry of Finance, and involves an assessment of the overall needs and policies of the Country government.

All of the income, profits, and earnings from investments made by Financial are credited to the account of, and belong to, the Country government and no part may accrue to the benefit of any private person. Moreover, with respect to Financial's directors, officers and employees, no salary, fee, wage or other remuneration may be established by reference to the results of Financial's investment activities. Thus, no employee of Financial may share in any of Financial's income, profits or earnings.

B. Financial's Responsibilities

1. Financial's responsibilities for issuing currency and general monetary policy.

Financial is directly involved with Country Currency Board in determining the amount of currency which will be issued and outstanding. If Financial determines that currency is in demand, it can cause the Currency Board to print and distribute currency.

Its involvement in issuing currency also follows from its receipt of royalty and tax payments on behalf of the government from the foreign oil and gas company operating in Country. The foreign oil company must make the payments in Country currency. If Financial requires the company to purchase Country currency on the open market, the money supply will be reduced. Alternatively, Financial can cause the Country Currency Board to issue additional currency which the oil and gas company can purchase to make payments. This additional currency is then circulated to the public, thereby increasing the money supply.

Financial influences the money supply in other ways. The amount of gold held by Financial affects the amount of currency in circulation. Also Financial affects the money supply through its international dealings in Country currency, specifically with ***************.

2. Financial's responsibilities as fiscal agent.

Income from Financial's investments and other sources fund finance bills passed by the government. On behalf of the government, Financial makes loans and guarantees third-party loans to a government owned farm. Financial is authorized to manage any public debt. Financial functions as the counter-party to any other central bank or foreign sovereign in financial transactions. Financial is the lender on loans to foreign sovereigns or central banks. Financial would also participate in any international effort directed at supporting the value of a foreign currency.

3. Financial's responsibilities for regulating banks.

Financial has acted as the liquidity agent for local banks which have encountered difficulty in meeting their obligations. In a specific instance, Financial provided a local bank with additional reserves to enable the bank to continue operating its business and honoring its deposits. Financial personnel assumed management roles at the bank to ensure it success. In another instance, Financial, along with the Supervision Division, took over a bank that had failed. Financial provided funds to repay depositors, liquidated the bank's assets, recovered the amounts owed, and ultimately wound up the bank's operations.

C. Financial's Investment Activities in U.S.

Financial currently holds debt and equity securities of United States issuers and, indirectly, all of the stock of certain U.S. corporations that own several United States commercial real properties. Financial intends to establish a United States office in Boston. The office will be operated by Financial directly and not by a separate corporate entity. It is contemplated that the Boston office will be staffed initially by eight people (six officers and two clerical employees), all of whom are citizens of Country, and will be residents in the United States. Each individual will have responsibility for portfolio management of equity and fixed income investments. Portfolio management will include the analysis and determination of the trading activity to be conducted by the office, as well as the placement of cash deposits. All trades will be executed by third party securities broker-dealers or banks. In addition, one of the officers will be responsible for office administration and another officer will be responsible for the accounting of the office's business activities.

The Boston office's activities initially will consist solely of passive investing in publicly traded equities of United States and Canadian issuers and in debt obligations of United States and Canadian public and private issuers. In the future, the Boston office may make other passive investments throughout the United States. It is not intended that the Boston office will invest in any obligations of any state or municipality or that it will engage in "commercial activities" within the United States, as defined in Treasury Regulation Section 1.892-4T(b).


A. Classification as a Financial Institution under G.L. c. 63,§ 1

Massachusetts General Laws chapter 63, section 1, defines financial institutions as "any bank, banking association, trust company, federal or state savings and loan association, . . . whether of issue or not, existing by authority of the United States, or any state, or a foreign country or any law of the commonwealth . . ." The term "bank", though not well defined in Massachusetts, generally refers to commercial entities engaged in accepting deposits and making loans. See Letter Ruling 89-8. However, the term "any bank" appears broad enough to include an entity operating as the central bank of a foreign sovereign, though not engaged in a traditional commercial banking business.

Whether a financial entity qualifies as a central bank turns on whether it performs functions typically performed by a central bank. Some functions of a central bank are to issue and regulate currency; to hold its country's reserves; collect revenue on behalf of its government; to act as banker for the government; to represent its country in international monetary transactions; to regulate its country's banks; and to perform other functions similar to those performed by the Federal Reserve System.

Country has no separately organized central bank. Financial in conjunction with other parts of Country's Ministry of Finance performs functions typically performed by a central bank. Financial is directly involved in determining the amount of currency which will be issued and outstanding. Financial is the primary custodian of the Country's reserves. Income from Financial's investment help fund finance bills passed by the government. Financial is authorized to manage any public debt. Financial has some oversight responsibilities for local banks. Financial is similar to the Federal Reserve System in that it was created to hold and manage Country government's reserve, to provide money management services to the government, and to act as the government's fiscal agent.

The IRS has ruled that Financial qualifies as a central bank of issue within the meaning of section 1.895‑1(b) of the Temporary Regulations. Although this characterization is not controlling, nevertheless such a determination is significant, and we find no facts that warrant a contrary conclusion under Massachusetts law. Thus, we conclude that Financial is a central bank of issue which qualifies as a financial institution within the definition of G.L. c. 63, § 1.

B. Taxation under G.L. c. 63

Pursuant to G.L. c. 63, §§ 2 and 2A, every financial institution engaged in business in the commonwealth shall pay on account of each taxable year, an excise measured by its net income apportioned to Massachusetts. However, the excise imposed shall be no less than four hundred and fifty-six dollars. G.L. c. 63, § 2. The excise imposed pursuant to section 2 shall be in lieu of any and all taxes imposed under chapter 63. G.L. c. 63, § 7.

Net income is defined as gross income (other than ninety-five percent of dividends received in any taxable year beginning on or after January first, nineteen hundred and ninety-nine from or on account of the ownership of any class of stock if the financial institution owns fifteen percent or more of the voting stock of the institution paying the dividend), less the deductions, but not the credits allowable under the provisions of the Internal Revenue Code, as amended and in effect for the taxable year. G.L. c. 63, § 1. [1] Under G.L. c. 63, § 1, gross income is income as defined under the provisions of the Internal Revenue Code, as amended and in effect for the taxable year, plus the interest from bonds, notes, and evidences of indebtedness of any state, including this commonwealth. Thus, Financial's Massachusetts net income is predicated on its federal gross income.

Internal Revenue Code section 892(a)(1) generally excludes from federal gross income a foreign government's income received from investments in the United States in stocks, bonds, other domestic securities, financial instruments held in the execution of governmental financial or monetary policy, and interest on deposits in banks in the United States of moneys belonging to such foreign governments. However, the exclusion allowed under IRC § 892(a)(1) does not apply to income of a foreign government that is (a) derived from the conduct of any commercial activity, (b) received directly or indirectly from a controlled commercial entity, or (c) derived from the disposition of any interest in a controlled commercial entity. IRC § 892(a)(2)(A) and Temp. Treas. Reg. § 1.892-4T.

The IRS ruled that to the extent that Financial is not engaged in commercial activities within the United States, as defined in section 1.892-4T(b) of the Temporary Regulations, its income from the investments in items listed in IRC § 892(a)(1) shall be excluded from federal gross income and exempt from taxation pursuant to section 892(a)(1) of the Code. Assuming that all Financial's income is excluded from federal gross income under IRC § 892(a)(1), and that Financial invests in no obligation of any state, Financial will be responsible only for the minimum excise imposed pursuant to section 2(a). If Financial receives income that is not excluded from federal gross income under IRC § 892 (a)(1) (or otherwise), or if it receives income from the obligations of any state, any such income will be subject to tax under the applicable provisions of G.L. c. 63, §§ 1-7.

Very truly yours,

/s/Mitchell Adams

Mitchell Adams
Commissioner of Revenue


LR 96-7

Table of Contents

[1] The definition continues by disallowing particular deductions otherwise permitted under the Code.

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