26 Jan 2021
Withholding tax on payments between the UK and EU Member States
Please find below a summary of the UK implications of not being able to rely on the Parent-Subsidiary Directive or the Interest and Royalties Directive following the end of the UK’s transition from the EU.
From 1 January 2021, some EU member states may start to levy withholding taxes from dividends, interest and royalty payments made into the UK. Equally there may be an obligation for the UK to withhold.
Historically, these payments have been exempt from withholding taxes where UK companies could rely on these two directives. The level of withholding tax will depend on domestic legislation and the application of the relevant double tax treaty.
It is important that clients understand the implications of this to avoid any unnecessary tax leakage. In many cases the recipient is likely to be able to claim relief for the tax withheld. However, it might not be possible to claim this in full, or there may be a timing difference (e.g. claiming relief from UK corporation tax).
The EU encourages free movement of capital between Member States and there are certain directives to support this. Two particularly important ones are The Parent Subsidiary Directive (which applies to dividends) and the Interest and Royalties directive (which applies to interest and royalities – unsurprisingly!).
The PSD applied a zero rate of withholding tax where there was a 10% interest and the IRD did the same but where there was a 25% interest.
The effect of this was to improve cashflow and prevent tax leakage on the extraction of profits.
Following the transition period, the UK is unable to benefit from these directives and as a result, a UK company that receives interest, royalties and dividends from a company based in an EU member state may suffer withholding tax at that particular country’s domestic rate.
It is not all doom and gloom, as the UK has the largest network of double tax treaties in the world and most UK – EU Member State DTAs provide or a nil withholding tax on interest (and royalties). However, there are some instances where consideration is still needed – for example, dividends paid from Portugal only allow the treaty rate to apply where the dividends are subject to tax in the UK and as such, a decision will need to be made as to whether the UK company will elect to tax the dividend to secure the treaty rate of withholding tax.
Equally other Member States can no longer benefit from these directives with payments from the UK and as such, there may be a requirement for a UK company to withhold taxes where they are made to an EU Member State.
You will already be aware that under domestic legislation the UK does not withhold tax on dividends but consideration will need to be given to other payments.
Entitlement to relief is not automatic and in order to benefit from any exemptions, an application may need to be made to the local tax authorities.
Where this is not possible, or the DTT does not reduce this to nil, a claim may be made within the Company Tax Return for the period.
Contact our specialist