We act for a number of UK companies who are subsidiaries of a wider EU group.
Extracting profits from the UK back to the ‘home’ jurisdiction is a significant matter and one that should be considered in the context of Brexit.
The three principle methods for extracting profits out of the UK include dividends, interest and royalties. From a tax perspective and in cross border scenarios, the withholding tax (WHT) position on each source of these incomes must always be assessed. If WHT is deductible on a payment, this has an impact on cashflow and potentially the overall tax cost to the group.
The following briefly sets out the UK WHT position for dividends, interest and royalties.
There is no obligation on a UK company to deduct UK income tax on dividends paid to recipients in any non UK jurisdiction. Therefore Brexit will have no impact on the payment of dividends.
The default starting position is that a UK company must deduct income tax at 20% on payments to non-UK resident recipients. There are certain situations in which income tax is not deductible but they outside the scope of this article.
Under the EU interest and royalties directive (the Directive) this rate is reduced to 0% when the EU company holds at least 25% of the capital or voting power of the UK company. An interest payment exemption notice must be obtained by the non-UK resident recipient from HMRC and provided to the UK payer before the 0% rate can be applied.
Post Brexit, the Directive may not have force in the UK. In such a case it will be necessary to review the relevant UK tax treaty to determine whether a reduced rate of interest can apply. For example, if interest is being paid to a Portuguese group company then the UK WHT rate is reduced from 20% to 10%. In this example it is important to note that a WHT obligation now exists and the UK company must deduct income tax on the payment of interest. The UK payer cannot assume that 0% WHT will continue.
It is unclear at this stage whether any exemption notices issued under the Directive will continue to have effect post 29 March 2019 – it will depend on the terms of the deal (or “no deal” if that’s the case). It may be necessary for the EU company to make a new request for exemption from tax (or a reduced treaty rate) and this should be considered sooner rather than later. A protective claim for treaty exemption could be desirable to avoid future time delays due to reliance on HMRC processing claims.
Again, the default position is that income tax is deductible at 20% on payments to non-UK resident recipients. It is worth a side note that the definition of royalties was extended in 2016 to bring the UK definition more closely aligned with the OECD.
Currently, the Directive applies once again to reduce the WHT rate to 0%. In a post Brexit environment the same comments made above apply i.e. the need to review the relevant UK treaty.
One key difference to note is that currently a claim for 0% WHT under the Directive is not required. Instead, the UK tax payer is allowed to make a payment gross provided they have a reasonable belief that the recipient will be entitled to the exemption under the directive.
Once (and assuming) the Directive no longer has force in the UK, the UK tax payer will be allowed to reduce the amount of WHT payable if they have a reasonable belief that the recipient will be entitled to the reduced rate under the terms of the treaty. The key will be for the UK payer to review the terms of the relevant treaty and not to assume that 0% WHT still applies.
Evidence of the review and conclusion are strongly recommended.
I recommend that UK companies who make payments to EU companies of the types discussed above review existing arrangements and communicate the possible consequences with the wider EU group. Once the position has been assessed, planning may be required if the existing structure and transactions result in an undesirable outcome.