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Withholding taxes: The cost of Brexit on the movement of capital

The cost of Brexit on the movement of capital

We explore the impact of the potential loss of EU Directives on the taxation of cross-border dividends, interest and royalties.

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Partner and Head of International Tax

KPMG in the UK

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We have been hearing a great deal in the press about the impact of Brexit on trade agreements and customs duties for companies with international supply chains, and the impact of immigration controls on those industries and groups with a dependence on internationally mobile (or diverse) employee profiles. But whilst less likely to be grabbing the headlines, the impact of the potential loss of EU Directives on the taxation of cross-border dividends, interest and royalties is likely to affect most multinationals. 

In this article, we summarise the issue and the potential tax cost to UK businesses and then go on to set out what businesses may wish to consider over the coming months.

In a nutshell, the issue for UK (and indeed wider European) businesses is that Brexit will potentially result in the UK no longer being party to both the Parent-Subsidiary Directive and the Interest and Royalties Directive. These directives provide relief from withholding tax for related party payments of dividends, interest and royalties, subject to certain conditions. The obvious impact will be the tax cost for UK companies making payments to EU related parties (and vice versa). However, there could also be a broader impact, for example, we understand that in some instances the availability of relief under certain EU-US double tax treaties may also be impacted. 

Of course, in many instances, equivalent relief may be provided under either the domestic legislation or the relevant double tax treaty between the UK and the EU country. However there are some exceptions, including Germany (a 5% withholding tax applies to dividends under the double tax treaty) and Italy (withholding tax will apply to dividends (5%), interest (10%) and royalties (8%) under the double tax treaty). 

This is certainly a known concern for businesses and we see that it has not gone unnoticed by HM Treasury – indeed, we understand that they have undertaken a preliminary impact assessment and believe that the loss of these two EU Directives could result in a cost to UK business of c. £100 million. It is therefore encouraging that the UK government is actively considering what measures could be employed to mitigate the impact, whether through the renegotiation of existing double tax treaties (with Germany as a priority), or the entering into a new “Swiss style” arrangement with the EU to provide access to equivalent benefits to the UK after Brexit. 

These would appear to be the most straightforward solutions but if these are either not possible, or if the agreement of such arrangements proves time consuming, we would suggest that the UK government may need to consider a more radical solution to provide reassurance to business. For example could the UK government provide “compensation” to UK businesses in the form of a tax credit against chargeable profits?

In the meantime, what are we advising our clients to do? Firstly, understand where your pressure points are likely to be: look ahead at forecasts to identify what payments are in the pipeline. Establish the worst case scenario in terms of tax cost – we have an extensive database (GloW Track) which can help with checking domestic and treaty rates. Keep a watching brief on government messages regarding treaty negotiations or alternative solutions. If it becomes clear that you will need to make a payment post Brexit which will suffer withholding tax, consider the alternatives available to you: for example, for dividends it may be that a repayment of capital may achieve the same result. 

As with all matters related to Brexit, the importance and priority of any one issue will depend very much on the specific fact pattern of the business. But we consider that withholding taxes is one area which will have a broad influence and to this end, it is certainly something to keep on your Brexit action list.

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