Withholding tax – explained (Practical guide).

Withholding taxes are special taxes imposed at source on payments made from (usually) high tax countries to parties in (usually) low tax countries.

They generally apply to 3 types of payments.

(i) Interest payments
(ii) Royalties
(iii) Dividends.

They are anti tax avoidance provisions, the intention of which is to discourage the movement of money from places like UK, France Germany, USA to low tax countries like the BVI, the Channel Islands and the Isle of Man.

High tax countries often have special arrangements in their Double Tax agreements (DTAs) which reduce withholding tax rates between them but usually such arrangements are not available to low tax countries.

Withholding taxes are easily overlooked so beware.

Some examples….

Royalties: The withholding tax rate on royalties between the US and a non treaty country is 30% therefore if a US company had an obligation to pay a royalty of GBP10,000 to an Isle of Man company then the US company would be required to deduct GBP3,000 from the payment as tax and remit to the IRS before paying the remaining GBP7,000 to the Manx Company.

Interest: The UK imposes a withholding tax of interest payments of 20%. Therefore if a UK company (or person) borrows money from a BVI or other offshore company incurring a £10,000 interest charge then the UK company would be required to deduct GBP2000 from the payment as tax and remit it to the HMRC before paying the remaining GBP8000 to the BVI Company.

The position is similar for dividends… Ireland imposes a 20% withholding tax on dividend payments….Germany (15%) France (30%) USA (30%) etc. (Note the UK does not impose dividend withholding tax)

PWC publishes a useful list of withholding tax rates here but as mentioned these are often reduced by application of double tax agreements.

Does the imposition of these taxes mean that offshore companies are of no benefit when (for example) commercialising Intellectual Property ?

Not necessarily, often IP rights can be commercialised directly without triggering a royalty payment. For example a physical product might be manufactured and sold which incorporates the patented design or a Software as a Service (SAAS) business based in a low tax country like the Isle of Man might receive trading income directly for the services it delivers; such a strategy can effectively avoid withholding taxes.

Contact Martin Katz for more information.

©2017 Middleton Katz Chartered Secretaries LLC is licensed by the Isle of Man Financial Services Authority

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