For the purposes of this article, in which I want to provide a guide to overseas dividends and withholding tax for contractors, it is assumed that the contractor will use a UK-registered limited company, also known as a personal service company, writes Kevin Austin, managing director of Access Financial.
Overseas dividends are free of corporation tax if…
UK limited companies are generally exempt from paying corporation tax on overseas dividends, provided they meet the following three conditions:
- The dividend arises from a company resident in a country with which the UK has a Double Taxation Treaty (DTT).
- The UK company controls at least 10% of the voting power of the overseas company.
- The UK company has held the shares in the overseas company for at least 12 months.
If the UK company does not meet all these conditions, the overseas dividends will be subject to corporation tax at the standard rate.
When might a UK limited company contractor pay an overseas dividend?
A UK-registered PSC might pay or receive a dividend if it holds shares in another entity or the other entity holds shares with it. An example might be a UK-limited company with a Belgian subsidiary.
What is withholding tax?
Withholding tax is a levy deducted from certain payments, such as dividends, interest, and royalties, before payment to the recipient. The country where the payment is made sets the rate of withholding tax.
The UK, under its tax authority HMRC, does not have a dividend withholding tax on dividend payments.
However, the overseas country may withhold tax on dividends paid to a UK company. The withholding tax rate will vary depending on the country where the overseas company resides.
Double Taxation Treaties or Agreements (DTTs or DTAs)
DTTs (and DTAs) are agreements between two countries to eliminate double taxation on income and gains. DTTs typically include provisions that reduce or eliminate withholding tax on certain types of payments, such as dividends.
If the UK company receives dividends from a company resident in a country with which the UK has a DTT, then the UK company may be able to claim relief from withholding tax (also known as WHT). The amount of WHT relief available will depend on the terms of the DTT.
How to claim relief from withholding tax
To claim relief from withholding tax, the UK company must provide the overseas company with a certificate of residence from HMRC. This certificate will confirm that the UK company is resident in the UK and is entitled to relief from withholding tax under the relevant DTT.
The rate of withholding tax that the tax authority will demand is applied and will then be the ‘Treaty rate,’ which is usually below the standard rate of WHT.
Treaty rate, a definition
The treaty rate is a rate of tax withholding agreed in a DTA that is less than the standard domestic rate.
Take Switzerland, for example. The standard rate of withholding tax on Swiss dividends is 35%. Under the Swiss Luxembourg DTA, the rate is reduced to 15% or:
(i) 5% of the gross amount of the dividends if the beneficial owner is a company (other than a partnership) that holds directly at least 25% of the capital of the company paying the dividends;
(ii) 15% of the gross amount of the dividends in all other cases.
Usually, you can claim ‘Foreign Tax Credit Relief’ (FTCR) when you report your overseas income in your tax return. But how much relief you get depends on the UK’s double tax agreement with the country your income is from.
Not getting the total foreign tax payment back, because…
You usually still get relief even if there is not an agreement, unless the foreign tax does not correspond to UK income tax or capital gains tax.
Be aware,you may not get back the total amount of foreign tax you paid. You get back less if either:
- a smaller amount is set by the country’s double-tax agreement.
- the income would have been taxed at a lower rate in the UK
If you want more detail, HMRC has guidance on how FTCR is calculated, including the special rules for interest and dividends (which are outlined in HMRC’s Foreign Notes.)
However, you cannot claim this relief if the UK’s double-taxation agreements require you to claim tax back from the country your income was from.
The EU Parent-Subsidiary Directive
There is no WHT on dividends paid to a qualifying company under the EU parent-subsidiary directive (2003/123/CE), except if the transaction qualifies as an abuse of law under the General Anti-Abuse Rule (GAAR). The benefits of the directive have been extended to parent companies resident in non-EU tax treaty countries (under certain conditions).
For a parent-subsidiary relationship, the shareholding has to be 10% in the other company, and the shares typically have to have been held for twelve months.
You may need advance clearance before making inter-company dividend payments before using this concession, which is undoubtedly true in the case of Switzerland. Otherwise, the standard WHT rate of 35% is applied.
Overseas dividends: in a (tax) nutshell
UK limited companies are generally exempt from corporation tax on overseas dividends, provided the relevant conditions are met.
However, the overseas country may withhold tax on dividends paid to a UK company.
If the UK company receives dividends from a company resident in a country with which the UK has a DTT, then the UK company may be able to claim relief from withholding tax.
UK limited companies should seek professional advice to claim all the tax relief they are entitled to.
Wednesday 18th Oct 2023
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