Policy paper

Tax information and impact note on Income Tax: royalty withholding tax

Updated 27 June 2016

Who is likely to be affected

• persons who make intellectual property royalty payments to non-resident connected persons under tax avoidance arrangements
• persons who make intellectual property royalty payments to non-resident persons in respect of which there is currently no obligation to deduct income tax at source

General description of the measure

The measure will provide additional obligations to deduct income tax at source from royalties paid to non-resident persons where either:

• arrangements have been entered into which exploit the UK’s double taxation agreements (DTAs) in order to ensure that little or no tax is paid on royalties either in the UK or anywhere in the world
• the category of royalty is not currently one of those in respect of which there is an obligation to deduct tax under UK law
• royalties which do not have otherwise have a source in the UK are connected with the business that a non-UK resident person carries on in the UK through a permanent establishment in the UK

Policy objective

The measure will align the UK deduction of tax at source regime in respect of royalties with the UK taxing rights over such income and counteract contrived arrangements that are used by groups (typically by large multi-national enterprises) that result in the erosion of the UK tax base.

Background to the measure

This measure has not been previously announced.

Detailed proposal

Operative date

The measure will have effect for payments made under tax avoidance arrangements from 17 March 2016.

The change to the definition of royalties to which deduction of tax applies will have effect for payments made on or after the date of Royal Assent to the Finance Bill 2016.

The change to the source rules in respect of royalties paid under obligations which are connected with a permanent establishment in the UK will have effect for payments made on or after the date Royal Assent to the Finance Bill 2016.

Current law

Part 2 of the Taxation (International and Other Provisions) Act 2010 (TIOPA) sets out the rules that apply to double taxation arrangements, which provide for such payments to be made without deduction of income tax in certain cases, and for income tax deducted at source to be repaid.

The obligation to deduct income tax at source in respect of royalties and other income from intellectual property is set out at Chapter 6 (sections 899-903) and Chapter 7 (sections 906-909) of Part 15 of the Income Tax Act 2007.

The combined effect of these rules is that income tax is currently deductible at source from payments to a non-UK resident person in respect of the following intellectual property:

• copyright (with restrictions)
• a right in design
• public lending right in respect of a book
• royalties etc. in respect of the use of patents
• payments of royalties etc. that are annual payments

Part 5 of the Income Tax (Trading and Other Income) Act 2005 (ITTOIA) sets out the rules that impose the charge to income tax on receipts from intellectual property. Section 577 ITTOIA provides that income arising to a non-UK resident is only chargeable to tax if it is from a source in the UK.

Proposed revisions

A new section 917A ITA will be introduced in Finance Bill 2016. It will apply where a payment of a royalty is made to a connected person as part of arrangements the purpose of which is to obtain a tax advantage by virtue of a provision of a DTA other than where obtaining that benefit in those circumstances is in accordance with the object and purpose of that DTA. Where new section 917A of ITA applies, the payment must be made under deduction of income tax regardless of any DTA which would otherwise restrict the UK’s taxing rights.

Legislation will be introduced at a later stage of the Finance Bill 2016 process to amend the definition in section 907 of ITA of intellectual property rights, in respect of which the duty to deduct income tax from royalties applies to ensure it is consistent with the definition of rights in respect of which income is chargeable to tax in the Income Tax Acts.

Legislation will also be introduced at a later stage of the Finance Bill 2016 process to add a new provision to the Tax Acts providing that royalties connected with a permanent establishment that a non-UK resident person has in the UK will be considered to come from a source in the UK. Consequential changes will also be made to the Diverted Profits Tax in Part 3 of the Finance Act 2015 to ensure that no advantages accrue where royalties are connected with avoided permanent establishments as compared to actual permanent establishments.

Summary of impacts

Exchequer impact (£m)

2016 to 2017	2017 to 2018	2018 to 2019	2019 to 2020	2020 to 2021
+210	+165	+115	+120	+125

These figures are set out in Table 2.1 of Budget 2016 and have been certified by the Office for Budget Responsibility. More details can be found in the policy costing document published alongside Budget 2016.

Economic impact

This measure is not expected to have any significant macroeconomic impacts.

The costing allows for a number of behavioural responses, whereby those affected seek to mitigate the impact of the changes.

Impact on individuals, households and families

The proposed changes will apply mainly to companies. It will have an impact on only a very small number of individuals who make payments of royalties to persons outside the UK.

The measure is not expected to impact on family formation, stability or breakdown.

Equalities impacts

This measure applies mainly to companies and is not expected to impact on any equality group.

Impact on business including civil society organisations

Businesses affected by this measure will be those making payments of royalties to persons overseas.

Businesses and civil society organisations are expected to incur one off costs of familiarisation with the new rules.

It is expected that the decision making process regarding whether there is an obligation to withhold tax will become simpler as businesses will only need to consider:

• whether the payment they are making is a royalty
• whether there is a DTA
• whether the DTA provides for a withholding tax on royalties

If there is no DTA, or the DTA does provide for withholding tax on royalties, the government acknowledges that affected businesses will have additional obligations to deduct income tax at source from royalties paid to non-resident persons and will incur on-going costs of withholding the tax, keeping a record of amounts withheld, and reporting and paying the tax to HM Revenue and Customs (HMRC).

Overall, the impact on businesses is expected to be negligible. Although more businesses are expected to withhold tax, most businesses paying royalties overseas will be familiar with the regime for withholding tax on royalties, including completing the return and paying the tax to HMRC.

Operational impact (£m) (HMRC or other)

HMRC operational costs are anticipated to be negligible.

Other impacts

Other impacts have been considered and none have been identified.

Monitoring and evaluation

This measure will be kept under review through communication with affected taxpayer groups.

Further advice

If you have any questions about this change, please contact Tom Matthews on Telephone: 03000 585476 or email: tom.o.matthews@hmrc.gsi.gov.uk.

Steven Tovey on Telephone: 03000 542532 or email: steven.tovey@hmrc.gsi.gov.uk.