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is characterized as compensation for personal services and is
treated as income from sources within the United States. As
petitioners' effectively connected income argument presumes
foreign source income, we find that argument to have no merit.
LTD’s Pace investments income is any "income, gain, or loss
from sources within the United States" not already described in
the first two categories of U.S. source income and, therefore,
falls under the third category of U.S. source income of a foreign
corporation engaged in the active conduct of a banking,
financing, or similar business. Sec. 1.864-4(c)(5)(vi)(b),
Income Tax Regs. Accordingly, we analyze LTD’s Pace investment
income pursuant to either the asset-use or business-activities
test. Id.
The business-activities test is of primary significance
under circumstances, inter alia, where "service fees are derived
in the active conduct of a servicing business". Sec. 1.864-
4(c)(3)(i), Income Tax Regs. LTD’s Pace investments income
consists of service fees derived in the active conduct of a
servicing business. Consequently, we apply the business-
activities test to decide whether such fee is effectively
connected income.
Before applying the business-activities test, however, we
must address the exception for activities relating to the
management of investment portfolios provided in section 1.864-
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