The UK law change from 1 June 2021 will lead to withholding tax costs on UK outbound interest and royalty payments.
The March Budget revealed that, following Brexit taking proper effect on 1 January, the UK’s implementation of the Interest and Royalties Directive (‘the Directive’) will be repealed from 1 June. Multinational groups should review their structures to check whether UK-resident payers of interest or royalties to associated entities in EU member states will need to withhold tax at source and pay it to HMRC.
Under the Directive, there is no requirement to withhold tax at source on payments of interest or royalties to associated entities resident in other EU member states, provided the relevant conditions are met.
Payments by EU resident payers to UK payees: Following the end of the Brexit transition period on 31 December 2020, the Directive ceased to apply to payments from EU resident entities to UK associates. This means that withholding tax potentially applies to such payments (if applicable under the domestic law of the member state of residence of the payer) at the rate specified in the double tax treaty between the UK and the relevant member state. In some cases, the payment is exempt under the treaty. In other cases, there is entitlement to withhold tax at a lower rate than the standard domestic law rate; for example, an Italian payer of interest to a UK entity must withhold tax at 10%. This was a known consequence of Brexit; a similar position arises in respect of dividend payments under the EU’s Parent-Subsidiary Directive.
Payments by UK resident payers to EU payees: Under UK law, withholding tax applies to payments of interest and royalties to non-UK resident payees. Payments from the UK which met the relevant conditions benefitted from the provisions of the Directive, which were implemented into UK law and remained in force at the end of the transition period. It was announced in the Budget that the UK would repeal that law with effect from 1 June 2021. From that date, withholding tax will apply to payments from the UK to residents of EU member states at the rate specified in the double tax treaty between the UK and the relevant member state. In some cases, such as on payment of a royalty to a Luxembourg resident, withholding tax at 5% will apply. Anti-avoidance provisions will apply so that any attempt to accelerate payments with a main purpose of taking advantage of the current law will result in the new position applying to such payments with effect from Budget day on 3 March (rather than 1 June), negating any such arrangement. A similar amendment is not necessary in respect of the Parent-Subsidiary Directive as the UK does not impose withholding tax on dividends.
It is known that the UK is involved in discussions with a number of EU member states to renegotiate the terms of the UK’s double tax treaties with them, which might lead to removal of some or all of the potential withholding tax costs. Until that happens, groups should be aware that withholding tax is likely to be an issue on both UK inbound and outbound payments of interest and royalties. Where tax has been withheld, it can be reclaimed by the payee, but limits apply to the amount that can be reclaimed and the process is not a quick one (although it can be expedited in some cases).
The UK law change from 1 June 2021 will lead to withholding tax costs on UK outbound interest and royalty payments.
The March Budget revealed that, following Brexit taking proper effect on 1 January, the UK’s implementation of the Interest and Royalties Directive (‘the Directive’) will be repealed from 1 June. Multinational groups should review their structures to check whether UK-resident payers of interest or royalties to associated entities in EU member states will need to withhold tax at source and pay it to HMRC.
Under the Directive, there is no requirement to withhold tax at source on payments of interest or royalties to associated entities resident in other EU member states, provided the relevant conditions are met.
Payments by EU resident payers to UK payees: Following the end of the Brexit transition period on 31 December 2020, the Directive ceased to apply to payments from EU resident entities to UK associates. This means that withholding tax potentially applies to such payments (if applicable under the domestic law of the member state of residence of the payer) at the rate specified in the double tax treaty between the UK and the relevant member state. In some cases, the payment is exempt under the treaty. In other cases, there is entitlement to withhold tax at a lower rate than the standard domestic law rate; for example, an Italian payer of interest to a UK entity must withhold tax at 10%. This was a known consequence of Brexit; a similar position arises in respect of dividend payments under the EU’s Parent-Subsidiary Directive.
Payments by UK resident payers to EU payees: Under UK law, withholding tax applies to payments of interest and royalties to non-UK resident payees. Payments from the UK which met the relevant conditions benefitted from the provisions of the Directive, which were implemented into UK law and remained in force at the end of the transition period. It was announced in the Budget that the UK would repeal that law with effect from 1 June 2021. From that date, withholding tax will apply to payments from the UK to residents of EU member states at the rate specified in the double tax treaty between the UK and the relevant member state. In some cases, such as on payment of a royalty to a Luxembourg resident, withholding tax at 5% will apply. Anti-avoidance provisions will apply so that any attempt to accelerate payments with a main purpose of taking advantage of the current law will result in the new position applying to such payments with effect from Budget day on 3 March (rather than 1 June), negating any such arrangement. A similar amendment is not necessary in respect of the Parent-Subsidiary Directive as the UK does not impose withholding tax on dividends.
It is known that the UK is involved in discussions with a number of EU member states to renegotiate the terms of the UK’s double tax treaties with them, which might lead to removal of some or all of the potential withholding tax costs. Until that happens, groups should be aware that withholding tax is likely to be an issue on both UK inbound and outbound payments of interest and royalties. Where tax has been withheld, it can be reclaimed by the payee, but limits apply to the amount that can be reclaimed and the process is not a quick one (although it can be expedited in some cases).
