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HMRC internal manual

International Manual

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DT applications and claims - Types of income: Interest

Background

Interest is the cost to the borrower of borrowing money. It is a payment from theborrower to the lender. In certain circumstances at the same time that the borrower paysthe interest, he is required by ICTA88/S349 to deduct tax at the basic rate.

Agreements for the avoidance of double taxation have been negotiated between the UK andthe governments of many other countries that provide for residents of those othercountries to claim relief from UK tax. These agreements provide for relief to be allowedeither at a reduced rate of UK tax or for exemption from UK tax to be allowed. The benefitof a double taxation agreement cannot be assumed; a claim must be made by the non-residentrecipient of the interest.

“Interest” is defined in Article 11 of the OECD Model Double Taxation Agreement(DTA) as

“The term “interest” as used in this Article means income from debt-claimsof every kind, whether or not secured by mortgage and whether or not carrying a right toparticipate in the debtor’s profits, and in particular, income from government securitiesand income from bonds and debentures, including premiums and prizes attaching to suchsecurities, bonds and debentures. Penalty charges for late payment shall not be regardedas interest for the purpose of this Article.”

The OECD Model double taxation agreement is used when countries are negotiating a newbilateral treaty. However, the standard text is only the starting point, used to informdiscussions. For instance, the UK does not normally include the words”including premiums and prizes attaching to such securities, bonds ordebentures”. But the UK does seek to include additional words to ensure that paymentswhich are categorised as a dividend or other distribution of profits are dealt with underthe terms of the article in the treaty that deals with dividends rather than under theterms of the interest article.

The country with which the agreement is being negotiated will often also have a preferredform of words that it normally seeks to include in the text of DTAs that it enters into.For this reason the final agreed text of double taxation agreements often containvariations in their terms country by country.

Interest can be calculated by reference to a fixed rate. Or it may be calculated byreference to a stated formula such as 1% above the London Interbank lending rate and ispaid on a fixed date.