Policy paper

Making payments of interest or royalties to connected companies in the EU

Published 3 March 2021

Who is affected

UK companies, or UK permanent establishments of EU companies, making payments of annual interest or royalties to a connected company in the EU.

What has changed

The EU Interest and Royalties Directive (Council Directive 2003/49/EC of 3rd June 2003 – ‘the IRD’) ceased to apply to the UK when the Brexit transition period expired on 31 December 2020. The IRD was implemented into UK law by the Finance Act 2004 and later rewritten at sections 757 to 767 Income Tax (Trading and Other Income) Act 2005 (ITTOIA). This legislation applied independently of the IRD and therefore continued to exempt relevant payments of interest and royalties after the end of the Brexit transition period.

Legislation introduced in the Finance Bill 2021 will repeal sections 757 to 767 ITTOIA with effect from 1 June 2021. For payments made on or after this date, no exemption from UK withholding taxes on payments of annual interest and royalties arising in the UK made to connected companies in the EU is therefore due under section 758 ITTOIA.

Exemption notices issued under the Exemption From Tax For Certain Interest Payments Regulations 2004 (S.I. 2004/2622) are also revoked. As a consequence, from 1 June 2021 these notices no longer entitle a company to make payments of interest without the deduction of income tax, even where the date of expiry on existing letters extends beyond 1 June 2021.

Sections 914 to 917 Income Tax Act 2007 (ITA) are also repealed. These sections entitled a company to make payments of royalties without the deduction of income tax if they reasonably believed that the payment was exempt from income tax as a result of section 758 ITTOIA. For payments made on or after 1 June 2021, the repeal of section 758 ITTOIA means that such a belief cannot be reasonably held.

The repeal of section 758 ITTOIA is also protected by an anti-forestalling rule. This rule will deny relief where a payment is made under arrangements where the main purpose, or one of the main purposes, is to secure that section 758 ITTOIA continues to apply to the payment. Such arrangements would include those that accelerate the timing of a payment that would have been made on or after 1 June 2021 in the absence of the arrangements.

What do I need to do next

The deduction of tax from payments of interest and royalties arising in the UK is also restricted by the UK’s network of bilateral double taxation agreements. The UK has a double taxation agreement with every EU Member State and these agreements are not affected by the UK leaving the EU. A summary of the terms of the UK’s double taxation agreements can be found in HMRC’s Double Taxation Manual .

Find out more information about the UK’s tax treaties, related taxation documents and multilateral agreements.

Interest

Residents of an EU Member State can apply for relief under the provisions of a double taxation agreement either by way of relief at source or repayment. Find out more information about Double Taxation Relief.

Where an EU company has previously applied for exemption under the IRD and an exemption notice has been issued to the relevant payer, that company can apply for relief under relevant double taxation agreement by writing to HMRC confirming:

  • that they wish to make an application for relief at source under a double taxation agreement
  • the double taxation agreement under which the application is made
  • that they remain resident for tax purposes in the relevant EU Member State
  • that none of the circumstances relevant to relief under the double taxation agreement have changed since the application for exemption under the IRD was made

Letters confirming the above should be sent to Double Taxation Treaty team by email: dttteam.lbnottingham@hmrc.gov.uk.

Royalties

Section 911 ITA, allows companies to pay royalties overseas and deduct only the reduced rate of tax prescribed by the relevant double taxation agreement (“the treaty rate”) without seeking prior clearance from HMRC. The condition for the scheme is that the company reasonably believes that at the time the payment is made the beneficial owner of the payment is entitled to claim relief under a double taxation agreement. The ‘reasonable belief’ test enables the payer to pay at the treaty rate even when it is not in a position to know beyond doubt the status of the recipient. The payer can therefore act on the basis of assurances given by the recipient or by an intermediary if it considers these assurances to be sufficient grounds for reasonable belief.

In some cases the treaty rate will be zero, but in other cases the rate will be greater than zero although less than the basic rate of income tax. In all cases payers will have to consult the relevant double taxation agreement to ascertain both the treaty rate and the other conditions relevant for relief.

If a company resident in an EU Member State believes that tax has been withheld from a payment of royalties in excess of the treaty-rate then they are entitled to make a claim for relief under the double taxation agreement. Find out more information about Double Taxation Relief.