The Spanish Directorate General for Taxation (Dirección General de Tributos, DGT) has examined the Spanish tax treatment of the US Transition Tax under Section 965 of the Internal Revenue Code in binding ruling V0948-25 of 29 May 2025. The ruling addresses whether a US citizen who is tax resident in Spain may treat the Transition Tax as a deductible expense, a capital loss, or benefit from any double tax relief under the Spain–US tax treaty.
1. Facts: Spanish tax resident and US citizen subject to Section 965
The taxpayer is both a Spanish national and a US citizen, and has been tax resident in Spain for several years. He files Spanish Personal Income Tax (PIT) and Wealth Tax returns and is, directly or indirectly, the main shareholder and director of several Spanish companies. These companies are incorporated and tax resident in Spain, with their place of effective management, personnel, premises, business activity and turnover located entirely in Spain.V0948-2025
By reason of his US citizenship, he is also subject to US federal tax rules, specifically Section 965 IRC, which introduced the so called Transition Tax. This tax applies to US shareholders of certain foreign corporations, including non resident US citizens, on undistributed earnings and profits accumulated between 2001 and 2017, where the US person holds at least a 10 per cent participation. The standard effective tax rate is 17.5 per cent, which may be reduced to 9.1 per cent in particular cases. Payment can be spread over eight annual instalments, ending in 2025. For tax years after 2017, the Global Intangible Low Taxed Income (GILTI) regime continues to tax certain undistributed profits of foreign corporations.
The taxpayer asks, in essence, whether:
- Spain should grant relief for double taxation in respect of the Transition Tax paid in the United States, or
- Alternatively, the Transition Tax could be treated as a deductible expense or as a capital loss for Spanish PIT purposes.
2. Treaty residence and primary taxing rights under the Spain – US tax treaty
The DGT first analyses the Spain – US Double Taxation Convention of 22 February 1990. The treaty provides that treaty residence determines which State has primary taxing rights over a taxpayer’s worldwide income, subject to the specific distributive rules in each article.
On the facts, and subject to verification by the Spanish tax authorities, the taxpayer is regarded as resident only in Spain for treaty purposes. As such, he is subject in Spain to PIT on his worldwide income, including income that may arise in or be connected with the United States, except where the treaty grants exclusive taxing rights to the United States on a particular category of income.
The ruling emphasises that, when a Spanish company earns profits and retains them as reserves, any subsequent income imputed or distributed to a shareholder who is resident in Spain corresponds to Spanish source income. These profits are not US source income and, in principle, only Spain has taxing rights over them under the treaty.
3. The citizenship saving clause and its effect on the Transition Tax
The key element in the analysis is the citizenship saving clause in article 1(3) of the treaty, complemented by the protocol. This provision permits each contracting State to tax its own citizens as if the treaty were not in force, subject to limited exceptions.
On this basis, the United States is entitled to levy the Transition Tax on the taxpayer solely by reason of his US citizenship, even though he is not a US tax resident under the treaty and the underlying profits belong to Spanish companies. In other words, the US Transition Tax is a unilateral exercise of taxing power by the United States, based on citizenship, over income that the treaty otherwise allocates to Spain as the State of residence.
The DGT then considers which State is responsible for eliminating double taxation in such a case. Article 24 of the treaty provides that:
- Spain grants a foreign tax credit only where the United States taxes income by reference to criteria other than citizenship, for example source based taxation.
- For US citizens resident in Spain, the obligation to relieve double taxation arising from taxation based solely on citizenship falls on the United States, not on Spain.
The ruling therefore concludes that Spain is not required, under the treaty, to grant any foreign tax credit in Spanish PIT for the Transition Tax. The US Transition Tax remains a unilateral US tax charge that must be addressed, if at all, through US domestic foreign tax credit or other relief mechanisms.
4. No foreign tax credit and no impact on future dividend taxation
The taxpayer also queries whether the Transition Tax could give rise to a foreign tax credit in Spain at the time when the Spanish companies distribute the retained earnings that have previously been subject to Transition Tax in the United States.
The DGT’s reasoning is consistent. Any future distribution of reserves by a Spanish company to a shareholder resident in Spain constitutes Spanish source investment income, taxable in Spain as such under the Spanish Internal PIT Law, irrespective of the prior imputation of those profits for US purposes.
If the United States also taxes those dividends, again by invoking the citizenship saving clause, any double taxation must be relieved by the United States. Spain will tax the dividends in accordance with its internal law without granting a foreign tax credit in respect of the Transition Tax paid earlier.
5. Transition Tax not deductible and not a capital loss in Spanish PIT
The DGT then addresses whether the Transition Tax could be treated as:
- a deductible expense in computing investment income derived from the participation in the Spanish companies, or
- a capital loss for Spanish PIT purposes.
Under article 25 of the Spanish PIT Law, income obtained from the participation in the equity of companies, such as dividends or profit distributions, is classified as investment income (rendimientos del capital mobiliario), not as capital gains or losses.
Article 33 of the PIT Law defines capital gains and losses as variations in the taxpayer’s net worth that become apparent as a result of any change in the composition of that net worth, provided they are not characterised as another type of income. Since income from shares and equity interests is expressly classified as investment income, any tax cost associated with such income cannot be recharacterised as a capital loss.
As regards deductible expenses, article 26 of the PIT Law allows only very limited categories of expenses to be deducted from gross investment income, essentially administration and deposit fees charged by financial intermediaries for custody or administration of securities. Taxes imposed on the shareholder, such as the US Transition Tax, do not qualify as administration or deposit expenses and therefore cannot be deducted in determining net investment income.
On this basis, the DGT concludes that the Transition Tax:
- is not a deductible expense for Spanish PIT purposes, and
- does not constitute a capital loss, since it does not derive from a change in the composition of the taxpayer’s assets but from a unilateral tax imposed by a foreign jurisdiction.
6. Overall conclusion and practical implications
In summary, ruling V0948-25 confirms that:
- A US citizen who is tax resident in Spain must be taxed in Spain on the undistributed profits and future dividends of his Spanish companies under Spanish PIT rules, without regard to the US Transition Tax.
- The US Transition Tax, levied under Section 965 by reason of citizenship and supported by the treaty’s citizenship saving clause, does not give rise to any foreign tax credit in Spain, either at the time of imputation or upon subsequent distribution of reserves.
- The amounts paid in respect of the Transition Tax cannot be treated as a deductible expense or as a capital loss in Spanish PIT.
From a practical standpoint, US individuals resident in Spain who are subject to the Transition Tax, or to subsequent regimes such as GILTI, should assume that the economic cost of these US charges will not be neutralised under the Spanish tax system. Any relief from double taxation will depend exclusively on the application of US domestic law, including the foreign tax credit and any specific relief rules applicable to Section 965 and GILTI. Careful modelling of combined US and Spanish liabilities is therefore essential when structuring investments in Spanish entities and planning distributions from accumulated profits.
