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Budget 2016: Royal(ty) blood? Withholding tax on royalty payments

Author

Andy Wood

Andy is a practical, creative tax adviser who assists a variety of clients in achieving their personal and commercial objectives in the most tax efficient manner.

Background

It was announced at the Budget that withholding tax (WHT) will apply to most royalty payments from later this year.

As one might expect, there are also additional measures in order to prevent avoidance of withholding taxes on royalty payments made to connected persons.

The mischief this is trying to prevent is the shifting of profits from the UK to low(er) tax jurisidctions by means of ‘artificial’ intellectual property (IP) structures. The target is very much large multinational groups… some of whom may or may not sell coffee!

Wider range of payments

At the moment, WHT should be withheld from a relatively limited range of royalty payments. For example, one needs to apply the tax on some royalties payments for copyright, patents and rights in design).

The proposals seek to apply WHT to a wider range of royalty payments for the use of IP.  For example, royalties from trademarks and brand names which are currently only subject to withholding tax if they are “annual payments”.  However, such royalties will now become taxable regardless of whether they are an annual payment or not.

The intention is to align the UK’s rules with the OECD model tax treaty definition of royalties and that WHT will apply to any payment of a royalty which is not covered by a tax treaty or an EU directive.

These measures will take effect from Royal Asset to the Finance Bill 2016.

Anti-Treaty Shopping

There will be measures to prevent the avoidance of tax by using tax treaties where the main purpose is to obtain treaty benefits which were not intended.

Again, these are aimed fairly and squarely at those multinational groups whose names we have all become sadly familiar with over the last few years.

They are aimed to prevent them holding IP in a low tax jurisdiction where there is limited activity (and does not have a tax treaty with the UK) and a direct payment from the UK to that jurisdiction would be subject to UK WHT.

For example, this would counteract a so-called ‘Dutch sandwich’ where a UK payment could be paid to the Netherlands without any WHT and the Netherlands would then route the payment, again without WHT, to a low tax jurisdiction.

These provisions are based on the proposed OECD anti-abuse rule which is a product of the BEPS project. It is expected that this will be included in the OECD model tax convention.

These measures will apply to payments made on or after 17 March 2016.

Royalties paid in respect of a UK Permanent Establishment (PE)

WHT will also apply to royalties which are ‘connected’ with a UK permanent establishment of a non-UK resident Company.

This will apply to payments which do not have a source in the UK.   These payments will be deemed to arise from a UK source.

This will be borrowed from the OECD model tax treaty in respect of interest where it is treated as having a UK source if the debt is ‘connected’ to a PE.

The proposal is that these new measures will apply to payments of royalties made from one non-UK resident to another non-UK Company.  How this can be enforced remains to be seen.

These changes will take effect from Royal Asset to the Finance Bill 2016.

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