Tax provision season is in full swing for many corporate groups. This is therefore an ideal time to review withholding tax compliance . Set out below is a brief summary of the key focus areas for groups to review.
- UK corporates are most likely to encounter withholding taxes on cross-border payments made in relation to royalties and interest.
- Broadly, a withholding tax liability is triggered when there is a payment, but it is not always clear what constitutes a payment and not all payments trigger a withholding liability. Consideration should, therefore, be given to the facts and circumstances, including accounting entries, when concluding on whether a transaction triggers a withholding tax liability.
- A UK company is required to withhold tax at the domestic rate of 20 per cent (ie the basic rate of income tax) on payments that fall within the definition of royalties or interest, unless there is a specific exemption or mechanism to reduce the rate below 20 per cent.
- Historically, withholding tax applied to royalties in respect of copyright, a right in design, patents, lending rights in respect of a book, and annual payments. Finance Act 2016 extended the scope of this definition to include any ‘trade mark, design, model, plan, or secret formula or process’, together with ’any information concerning industrial, commercial or scientific experience’.
- Groups should therefore revisit their cross-border royalty arrangements to ensure compliance with these new rules.
- Intellectual property and its uses continually evolve, and an ongoing challenge for groups is to ensure that their royalty arrangements are consistent with the benefit received by the paying company. HMRC may challenge the deduction taken by UK companies where this link cannot be evidenced.
- A UK tax payer is currently required to self-assess whether a royalty payment is subject to withholding tax by reference to either the EU Interest and Royalties Directive, where the recipient party is in the EU, or the relevant double tax treaty between the UK and the jurisdiction of the recipient. A key part of this exercise is to determine whether the payment falls within scope of a ‘royalty’, where that term is specifically defined in the Directive/double tax treaty.
- HMRC would expect the taxpayer to provide contemporaneous documentation in support of the withholding tax position taken.
- Additional disclosure by way of the CT600-H should be considered in the annual corporation tax return of the UK payer. Payments on which tax is withheld are reportable through the CT61 mechanism.
- A withholding tax obligation arises in respect of certain annual cross-border interest payments. However, there are circumstances where an interest payment does not trigger a withholding tax liability and the main exemptions are for:
i. ‘short’ interest (ie on borrowings with a term of less than 12 months);
ii. quoted Eurobonds; and
iii. interest payable to or by a UK bank or UK branch of an overseas bank.
- To the extent that these exemptions do not apply, a formal clearance from HMRC is required to access a reduced rate of withholding tax under the relevant double tax treaty. Clearances generally have a three year term so care is needed to ensure that it remains within date.
- Whilst no withholding tax should be due on interest payable where the EU Interest and Royalties Directive applies, it is nonetheless necessary to seek specific clearance from HMRC to be able to benefit from this relief.
- The clearance only applies to the borrower, lender and debt specified on the application. If a debt has been refinanced under new terms or where the asset/liability is transferred intra-group, this can invalidate the clearance.
- Where a loan is within the scope of the Treaty Passport scheme, the UK borrower should be entitled to relief from withholding tax in accordance with the relevant double tax treaty between the UK and jurisdiction of the passport holder. Relief is typically granted for a five year period under this scheme.
- If a loan falls within the Syndicated Loan scheme, the UK borrower should be entitled to relief from withholding tax over the term of the loan in accordance with the relevant double tax treaty between the UK and jurisdictions of the various syndicate members.
We recommend that groups review interest and royalties documentation to ensure that it includes:
i. the basis on which payments are being made;
ii. the withholding tax position taken in respect of those payments; and
iii. up to date clearances/passport documentation (in relation to interest payments only).
If this exercise identifies any instances of non-compliance, we would recommend that you raise this with your usual RSM tax adviser immediately.
For more information, please get in touch with Suze McDonald, or your usual RSM contact.