As a result of the UK's exit from the EU, from 1 July 2021, UK companies will no longer benefit from the two directives that provide automatic relief from withholding taxes on the payments of interest, royalties and dividends.
The basic rule is that a UK company must withhold tax on interest or royalties to a person who is not a tax resident in the UK; the UK does not impose a withholding tax on dividends. The rate of withholding tax is 20%. So, for example, if a UK company paid interest on money that it borrowed from a French company, it would be required to withhold tax on the interest at 20% and pay that to HMRC. Of course, where a withholding tax is applied, the French company (in this case) will almost certainly be able to offset that tax against any tax payable on that income in France. However, there are a number of cases where that is either not the case or the payee is resident in a jurisdiction with a lower tax rate (or none at all). Moreover, it creates a cash flow issue.
Whilst the UK was a member of the EU, UK companies, like those in the EU, benefited from two directives:
- the interest and royalties directive; and
- the parent subsidiary directive
The effect of both is to provide full relief – meaning that no withholding tax was payable – as long as the conditions were met. Oddly, whilst the UK left the EU on 31 December 2020, it continues to benefit from these two directives until 30 June 2021. But from 1 July 2021, unless the payment qualifies for another relief, UK companies will need to withhold tax on the payment of interest and royalties to EU persons in the same way as they have had to for payments of interest and royalties to a person in the rest of the world. Importantly, the effect is both ways. So, if a UK company is in receipt of interest, royalties or dividends and was previously relying upon the two directives for relief from withholding taxes, then they will not be able to from 1 July 2021.
Fortunately, there are other reliefs. However, by far and away the most common relief is provided by the double tax treaty between the two countries. Double tax treaties are agreements between countries that determine which country gets taxing rights whilst often providing relief against some withholding taxes. The relief commonly acts as a cap on the rate of tax that can be withheld which may work to reduce the withholding tax to nil.
The UK has one of the most extensive double tax treaty networks in the world, but not all treaties are the same. Indeed, those that we have with the French and the Germans – arguably our closest and largest trading partners – vary significantly on withholding taxes.
Critically, as there are conditions for the reliefs to apply and the relief is rarely automatic, the companies party to the arrangement must make a claim. The claim should be made in advance but takes time to do – sometimes as long as six months – as pieces of paper need to be certified by Government agencies.
So what should you do?
If you are a UK company, you should review your debt, intellectual property and dividend arrangements and establish if you receive or pay any interest, royalties or dividends to EU persons. If you do, then you should review the withholding tax position. The result may be that you need to simply make a claim for a relief under a double tax treaty, or it may be that you need to consider reorganising the relationship.
If you are an EU company with an arrangement whereby you pay or receive interest, royalties or dividends, you equally need to review the situation to establish what withholding taxes may be payable and make any claims or changes to your arrangements to best manage the situation.
We at CBW are working closely with our clients to do exactly this. In our experience, there is often a good and commercial way of resolving any issues that arise and we would be more than happy to discuss your situation with you. Please contact Thomas Adcock to discuss further.