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April/May 2003 1
April/May 2003
Highlights of this edition of International Tax News include:
– An update from Belgium on the latest position with regard to coordation centres (page 4).
– News from Italy, Sweden, and Slovakia on major corporate tax reforms affecting international business (pages 7, 12 & 14).
– Spanish tax proposals affecting Tier 1 Capital Issues (page 13).
– An update on the EU Savings Tax Directive and its application to bond issues (page 19).
International Tax News.
Contents Belgium 4 Germany 6 Italy 7 Poland 9 Russia 10 Slovakia 12 Spain 13 Sweden 14 UK 16 EU 19 OECD 22
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The full list of items in this edition’s International Tax News is:
Belgium
Belgian Coordination Centres and EU proceedings (page 4)
The New Ruling Procedure (page 5)
New Private Equity Investment Vehicle (page 5)
Germany News from our Frankfurt office on a recent case on the grant of options and some tax planning on long term debts (page 6)
Italy Our Italian specialists comment on the Reform of Italian corporate taxation recently approved by the Italian Parliament (page 7)
Poland Our Warsaw office provide an update on New Double Tax Treaties (page 9)
Russia Our Moscow office reports on: The Unified Social Tax on Non-Russian nationals’ remuneration which may increase the tax burden for non-Russian nationals working in Russian Office of foreign companies (page 11)
Russian Transfer Pricing Rules (page 12)
Slovakia
Significant tax reform will make Slovakia one of the most attractive investment locations in CEE. Our Bratislava tax department report on the changes (page 12)
Spain Our Madrid office reports on a proposal for changes of the Preferred Shares regime (Tier 1 Capital) issued by Spanish banks (page 13)
International Tax News. 3
Sweden Our Swedish Office reports on an approved Government Bill on the proposal for major changes of the Swedish corporate income tax laws, which will exempt capital gains on share sales and dividends. The changes will make Sweden an attractive location for investing into Europe (page 14)
UK Our London Tax Department report on:
– the UK Budget and Finance Bill (page 16)
– the tax treatment of share buybacks (page 16)
– the UK/US Double Tax Treaty (page 19)
The referral of the Marks & Spencer to the ECJ (page 19)
EU EU Savings Directive: Update for Bond Issues (page 19)
VAT and the Place of Supply of Services EC consultative document 8th May 2003 (page 20)
EU accounting directives amended (page 22)
Administrative co-operation in the field of VAT (page 22)
OECD Attribution of Profits to a Permanent Establishment: the OECD Releases two further Discussion Drafts for Public Comment (page 23)
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Belgium
Our Belgian office reports on:
– Belgian Coordination Centres and EU proceedings.
– The New Ruling Procedure.
– New Private Equity Investment Vehicle.
Belgian coordination centres and EU proceedings
As explained in the March 2003 edition of Linklaters' International Tax News, the Belgian coordination centre tax regime is currently subject to two separate proceedings at the level of the European Union.
Firstly, the Council of the European Finance Ministers (the "ECOFIN") is due to agree formally on the so-called "tax package" which includes a Code of conduct for business taxation which provides for the gradual phasing out of the existing coordination centre regime, along with 65 other measures considered as being "harmful". In the March edition, we covered the ECOFIN meeting of 21 January 2003 which had agreed in principle to grandfather the Belgian coordination centres until 31 December 2010 through a phasing out of the centres' current 10-year recognition decree. A formal agreement was being blocked by Italy due to issues regarding its milk quotas.
At the ECOFIN of 19 March 2003, Belgium received from all other delegations except Italy support for a unanimous Council decision that would overrule the European Commission's State Aid decision of 17 February 2003 mentioned below. The Commission has explicitly stated that it reserves its rights to attack such a Council decision before the European Court of Justice.
The next ECOFIN meeting is scheduled for 3 June 2003. Secondly, the European Commission has been investigating the coordination centre regime based on the State Aid legislation. It delivered a negative decision regarding the existing regime on 17 February 2003, also reported on in the March issue. This decision agreed to the same grand-fathering of the regime through a phasing out until 31 December 2010. However, it also decided to refuse the possibility for the Belgian authorities of granting any renewals as of the date of the decision, although in the scope of the abovementioned Code of Conduct discussions, it had been assumed that centres could be renewed until the end of 2005.
We had reported that this would probably elicit a strong reaction from the Belgian authorities. Such a reaction came on 25 April 2003 with the filing before the European Court of Justice of an appeal to partially annul the Commission's decision of 17 February 2003 regarding its prohibition of granting renewals until end 2005.
International Tax News. 5
Furthermore, during negotiations on the existing regime, the Belgian authorities had notified a new coordination centre regime. On 23 April 2003, the European Commission took a partially positive decision regarding the new regime, accepting the application of the so-called "cost-plus" method of determining the taxable basis, but rejecting certain specific exemptions (on withholding tax on interest and dividends paid by a centre, on capital duty, and on the fact that centres are, according to the Commission, not taxed on abnormal advantages received). Regarding these exemptions, the Commission has opened a "formal investigation procedure" during which the exemptions will be analysed further and where reactions from interested parties will be requested.
New Ruling Procedure The existing Belgian ruling practice, which included many different procedures, was further developed and unified during the corporate tax reform at the end of 2002.
The new general ruling practice enhances the ease of obtaining legal certainty by taxpayers, potential investors and other economic players. From now on, it should be possible to obtain a ruling within a reasonable timeframe with respect to the tax consequences of transactions one intends to undertake. The memorandum provides further details.
New private equity investment vehicle
A new bill regarding a new type of investment fund specialising in private equity investments, the “pricaf privée/private privak”, has been enacted by Parliament.
This private equity fund is a non-listed and non-public special purpose vehicle for investments in non-listed Belgian or foreign companies.
It is managed by a Belgian management company or a foreign management company with a branch in Belgium.
Investors can be Belgian or foreign individuals or corporations. Each investor has to subscribe for an amount of at least €250,000.00 in cash and should have a shareholding representing a minimum of 4% and a maximum of 16% of the capital.
The fund is an entity with legal capacity and can be incorporated as (i) a “société en commandite simple/gewone commanditaire vennootschap”, (ii) a “société en commandite sur actions/ commanditaire vennootschap op aandelen” or (iii) a “société anonyme/ naamloze vennootschap”.
The first form is comparable to a UK limited partnership or a German “Kommanditgesellschaft” and is likely to be treated as tax transparent in the UK and Germany and in other continental jurisdictions.
Under Belgian tax law the fund is subject to Belgian corporate income tax at the normal rate of 33.99% but only a very limited basis, so that it is virtually
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tax exempt. The purpose of this special tax regime is to ensure that taxation on investments through the fund will not be more burdensome than direct investments in the target companies.
The fund can also distribute dividends free of withholding tax provided that the dividends originate from capital gains realised on shares held by the fund or that they are distributed at the occasion of a share-buy-back by or the liquidation of the fund.
The fund is exempt from indirect taxes: no registration taxes are due on capital contributions into the fund and the fund is VAT exempt. No VAT is due on the management services performed by the management company.
The new law is expected to enter into force in the course of May 2003.
Germany
News from our Frankfurt office on a recent case on the grant of options and some tax planning on long term debts
Writing Options
The tax authorities to date required the issuer of an option to immediately record the premium for writing the option as taxable income.
The Federal Fiscal Court has ruled that the premium for writing the option does not immediately create taxable income but is to be compensated by a liability of equal value. Only upon expiration or exercise of the option the liability is to be deleted from the balance sheet and, thus, to be recorded as income.
Long Term Debts: Trade Tax
Interest expenses paid under long-term debts (i.e. exceeding one year) are only half deductible as business expenses for trade tax purposes. This increases the trade tax burden. In a worse case scenario, this could lead to a trade tax liability without income.
A potential solution to this disallowance is as follows:
– The company which requires financing (borrower) raises a loan in Yen currency (instead of EUR), or issues a Yen denominated bond.
– Since the Yen interest rate is almost zero, the interest payments, only one half of which is deductible, are immaterial.
International Tax News. 7
– Simultaneously, the company enters into a currency swap (EUR/Yen) with physical settlement (physical settlement is essential to avoid adverse tax consequences) to get the Yen amount necessary to settle its payable upon maturity.
– Obviously, the interest expenses for the financing are transformed into the swap rate.
Two Fiscal Courts have ruled that swap costs are not to be treated as long-term financing expenses for trade tax purposes (disregarding the underlying economics). This means, the expenses are fully tax deductible (instead of one half).
It should be stated that the tax authorities have taken appeal against the judgments and the cases are pending before the Federal Fiscal Court. However, regardless of the outcome from the appeal, the structure of this transaction is already now interesting for companies seeking financing because it offers the upside of fully trade tax deductible interest expenses without a downside: Even if the Federal Fiscal Court subscribed to the position of the tax authorities, the above swap rate would be half tax deductible for trade tax purposes as it would be the case for straight interest expenses if the company directly raised financing.
Italy
Our Italian specialists comment on the Reform of Italian corporate taxation recently approved by the Italian Parliament
The Italian Parliament has passed a delegation law (Law No. 80 of April 7, 2003, the “Law”), effective as of May 3, 2003, pursuant to which the Italian Government has been empowered to issue – within two years as from the entry into force of the Law - legislative decrees to facilitate a wide reform of the Italian tax system (the “Decrees”), based on the principles outlined in same Law. The enactment of the Law represents a crucial step, since it is expressly intended to render the Italian tax system more efficient, and as, such competitive with other European countries. The Government has expressed its intention to enact most of the Decrees by the end of the current year, so to have the reform effective as from January 1, 2004.
The following is a brief outline the main provisions included in the Law on
corporate taxation:
– Group taxation: group companies will be entitled to elect for the consolidation of their taxable income, which will be subject to tax in the hands of the Italian parent company. Group taxation will separately apply with respect to Italian group companies and foreign group companies, the main difference being that all foreign group companies will have to be
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included in the tax group, whereas such requirement would not apply to Italian group companies.
– Participation exemption: a participation exemption regime will be introduced in Italy, so that capital gains realised by resident companies on the sale of participation in both resident and non resident companies will be exempt from tax in Italy, subject to certain conditions (inter alia, a holding period requirement of not less than one-year and the condition that the participated company carries out an effective business activity). It is worth mentioning that no minimum shareholding appears to be required. Capital losses and any expenses directly related to the sale of shareholding benefiting from the participation exemption regime will not be deductible.
– Dividend taxation: the current dividend tax credit system will be repealed and dividends received by Italian companies from both resident and non resident companies will be exempt from tax in Italy for 95% of the amount thereof. Dividends distributed within a tax group will be fully exempt.
– Thin capitalisation rules: an ad-hoc debt/equity ratio will be provided with respect to financing granted or secured by shareholders holding, directly or indirectly, at least 10% of the capital of the Italian company (or any related party). Should the debt/equity ratio be exceeded, evidence must be provided by the Italian borrower that the excess derives from its own capacity of raising funds, instead of that of the relevant shareholder. Otherwise, interest on the financing will not be deductible
– In addition, limited deductibility will apply with respect to financial expenses related to shareholdings benefiting from the participation exemption regime. In relation to this issue the impact on the decision of the European Court of Justice in the Lankhorst-Hohorst case (C-324/00) will have to be duly evaluated.
– “Check the box” rules: resident companies will be entitled, in certain cases, to elect for transparency for tax purposes. In particular, the income of the “transparent” company will be directly taxable in the hands of the resident (and, subject to certain conditions, non resident) shareholders that own at least 10% of its stated capital - irrespective of any distribution thereof - as if the “transparent” company were a partnership. The payment of taxes by the relevant shareholders will be secured also by the assets of the “transparent” company.
– Corporate reorganisations: the tax regime applicable to corporate reorganisations, including sales of stock and mergers, will be substantially changed. In particular, the 19% substitutive tax regime currently provided with respect to sales and contributions of going concern and stock, as well as with respect to merger deficit, will be repealed. The tax neutrality already provided for certain transactions (e.g., contribution of going concern) will be maintained.
International Tax News. 9
– International tax law: the applicability of controlled foreign corporations (CFC) rules will be extended, so to include affiliate companies also. An ad-hoc definition of permanent establishment – which is presently absent in the Italian tax system – will be introduced, based on the criteria outlined in double tax treaties.
Poland
Our Warsaw office provide an update on New Double Tax Treaties
Effective from 1 January 2003, the new double tax treaty between Poland and Denmark provides for the following maximum rates of withholding tax:
– on dividends – 15, 5 or 0 per cent. The zero rate is applicable where the beneficiary is a company whose share in the dividend payer is at least 25%, held for not less than 1 year. The 5 per cent rate applies where the beneficiary is a pension fund or another institution offering pension schemes;
– on interest – 5 per cent . A zero rate applies where interest is paid on bonds or a loan by a state financial institution; and
– on royalties – 5 per cent.
The Treaty, which came into force on 31 December 2002 but has not been published in the Journal of Laws yet, applies to any income received after 1 January 2003. The Treaty with Mexico took effect on 1 January 2003. The table below indicates the upper rates of withholding tax in the particular double tax treaties:
– on dividends – 15 or 5 per cent. The 5 per cent rate is applicable where the beneficiary is a company whose share in the dividend payer is at least 25 per cent;
– on interest – 15 per cent or 5 per cent. The 5 per cent rate is applicable for interest on bonds traded on a stock exchange market or where the beneficiary is a bank or insurer; and
– on royalties – 10 per cent.
April/May 2003 10
Russia
Our Moscow office reports on:
– The Unified Social Tax on Non-Russian nationals’ remuneration which may increase the tax burden for non-Russian nationals working in Russian Office of foreign companies.
– Russian Transfer Pricing Rules.
Background Historically, Russian tax laws have required that Russian employers pay social contributions to four different non-budgetary funds (the Pension Fund, the Social Insurance Fund, the Medical Insurance Fund or the Employment Fund) at an aggregate rate of 38.5% of their gross payroll.
However, the remuneration of non-Russian nationals was not subject to these contributions. The state authorities responsible for taxation in Russia issued a number of letters on this subject explaining that these social contributions were only payable in respect of the remuneration of non-Russian nationals when such non-Russian nationals were permanently resident in the Russia Federation.
The Unified Social Tax Chapter In 2001, the Unified Social Tax Chapter of the Tax Code came into effect and a unified social tax (“Unified Social Tax”) replaced the social contributions thereby establishing a regressive tax ranging from 35.6% to 2% of each individual employee’s salary, depending upon their level of remuneration. The Unified Social Tax purports to simplify tax administration and reduce tax evasion in respect of salary-based taxes/contributions. The Unified Social Tax Chapter expressly states that it would not apply to the remuneration of non-Russian nationals, unless and until they benefited from the Russian welfare system.
Recent Developments
A recent federal law has apparently abolished the above exemption for the remuneration of non-Russian nationals from the Unified Social Tax and as a result Russian companies (and Russian offices of foreign companies) with non-Russian employees face increased tax liabilities. For example, Russian offices of foreign companies would have to pay 2% in tax on the salary of every employee earning over 600,000 Russian Roubles (approx. $19,180) per. annum.
International Tax News. 11
Application of the Unified Social Tax to foreign companies with offices in Russia The Russian tax authorities have however attempted to mitigate the affect of the Unified Social Tax in respect of the remuneration of non-Russian nationals by Russian offices of foreign companies.
The Moscow Tax Inspectorate (the “Inspectorate”) has recently published a letter (the “Letter”) in which the taxation of non-Russian nationals’ remuneration was reviewed. In the Letter, which was written in response to a question from a particular foreign company, the Inspectorate stated that in certain circumstances, the remuneration of non-Russian nationals employed in Russian offices of foreign companies, would not be subject to the Unified Social Tax.
The Inspectorate accepted that the Unified Social Tax should not apply to the remuneration of non-Russian nationals when:
– a non-Russian national employee concludes a labour contract with the head office of the employer where such head office is situated outside Russia;
– the labour contract is governed by a law other than Russian law; and
– the remuneration in question is paid outside Russia.
Legal effect of the Letter
There are doubts about the correctness of the view expressed in the Letter and whether the Letter can be relied upon by companies other than the direct recipient.
Such letters received by a taxpayer from Inspectorate officials provide only limited protection in Russia as tax authorities such as the Inspectorate cannot generally issue any rules which bind themselves, (there are a few express exceptions to this position). The Inspectorate is therefore entitled to change its position and impose tax and interest on a taxpayer who has relied on such letters (but they cannot penalise a taxpayer who has acted in accordance with such letters). In practice, many domestic taxpayers (who are the direct recipients of such letters) rely on these letters in the conduct of their taxation affairs.
Future Guidance?
No guidance is given by the Tax Code itself, as it does not expressly include any relief or exemptions in respect of the remuneration of non-Russian nationals by foreign companies. The Russian Tax Ministry, which is ultimately responsible for all taxation issues in Russia, is in the process of formulating a view on this issue, but there has been no indication of what the Ministry’s final position will be. Until such guidance is forthcoming, the situation remains unclear.
April/May 2003 12
Transfer Pricing Rules
Victor Matchekhin from our Moscow office has written an article on “Transfer Pricing Rules, Practice and Potential Development”, in the most recent edition of International Transfer Pricing Journal. Click here for the full text of the article.
Slovakia
Significant tax reform will make Slovakia one of the most attractive investment locations in CEE. Our Bratislava tax department report on the changes.
The Slovak Ministry of Finance recently announced a massive tax reform, introducing the most significant changes to the Slovak tax system since its adoption in 1993. The tax reform should take effect on 1 January 2004, with several elements postponed until 2005. It is expected to make the Slovak tax system one of the most attractive in the region and also very competitive among other European tax systems after Slovakia joins the EU.
The philosophy of the tax reform is to transfer the burden of taxation from earnings and ownership of property (i.e. to decrease direct and property taxes) to consumption (i.e. to increase indirect taxes), a trend being followed in many developing countries. The new tax system should eliminate double taxation of profits and property, which may lead to the abolition of some existing taxes, in particular real estate transfer tax and withholding tax on dividends. Together with other reforms in Slovakia, including social security and health care systems, the tax reform is expected to help develop Slovak economy and make it one of the most attractive investment locations in Central and Eastern Europe.
In summary, the new tax system should be based on the following principles:
– Flat tax on profits, applying equally to individuals and companies, is proposed at the rate of 20%, being one of the lowest in the EU. This tax should replace the existing personal income tax (12-38%) and corporate tax (25%).
– Clear and unambiguous definition of “profit” for each category of taxpayers - employees, entrepreneurs, companies and other entities. Existing legislation is rather unclear in definition of the tax base and includes a complex system of exemptions and special rules on tax deductible and non-deductible items, which often significantly increase the effective tax rate.
– Single taxation of any income and property. As a result, withholding tax on dividends, real estate transfer tax, gift and inheritance taxes should be abolished.
International Tax News. 13
– In the area of value added tax, the current dual rates of 20% and 14% should be unified at 20% for all taxable supplies. It is also expected that the minimum turnover threshold for obligatory VAT registration will be reduced by 50 per cent.
– Market valuation of property for the purpose of real estate tax should be used. Present statutory rates are based on 1993 price levels and also the method of calculating the tax base requires substantial “modernisation” and simplification.
The above outline is based on unofficial drafts of the legislation and announcements made by the Slovak Finance Ministry officials. We expect that these features and details of the tax reform will evolve with political and professional debates on the topic in the next few months and we will inform the readers on this process in one of the next issues of International Tax News.
Spain
Our Madrid office reports on a proposal for changes of the Preferred Shares regime (Tier 1 Capital) issued by Spanish banks
In past years issuance of Preferred Shares were the only Tier1 Capital instrument available for Spanish banks which allowed tax deduction for the return paid. These instruments were indirectly issued by Spanish banks through a 100% controlled Special Purpose Vehicle ("SPV") set up in a tax haven and which are consolidated for capital regulatory and accounting purposes.
This scheme was under scrutiny by the Spanish Tax Authorities in the past year. As a result, a new regime for Preferred Shares is currently being currently discussed in the Spanish Parliament and it is forecasted that it will be approved in the coming weeks. This new regime establishes (i) the conditions that should be met by the Preferred Shares and (ii) their tax regime:
Conditions
The Preferred Shares should be issued by (a) a Spanish bank or (b) by a SPV resident in Spain or resident in a European Union country or territory (not classified as a tax haven for Spanish tax purposes) which is 100% controlled by a Spanish bank.
The Preferred Shares should be listed on a secondary organised securities market. Apart from this requirement, the other conditions are in general substantially similar to those provided in previous regulations (i.e. loss absorption, guarantee by parent bank, non voting rights, etc.).
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Tax regime of Preferred Shares issued by a Spanish resident bank/SPV
The issue of Preferred Shares would be exempt from Capital Tax.
The return to be paid on the Preferred Shares would be a deductible expense for Corporate Income Tax purposes.
Income derived from the Preferred Shares by non-resident investors not acting through a permanent establishment in Spain will have the same Non-Resident Income Tax ("NRIT") regime (i.e. withholding tax) as that applicable to income derived by such investors from Spanish public debt. Accordingly, income derived from the Preferred Shares will be exempt from NRIT unless the income is derived by a non-resident investor through a territory classified as a tax haven for Spanish tax purposes.
Please note that this new regime is currently being discussed in the Spanish Parliament and, as a consequence, there may be changes which affect the taxation regime described above before its final approval. At the same time, an amendment to this new regime is being discussed in the Parliament in order to extend it to Spanish non-financial corporates.
Sweden
Our Swedish Office reports on an approved Government Bill on the proposal for major changes of the Swedish corporate income tax laws, which will exempt capital gains on share sales and dividends. The changes will make Sweden an attractive location for investing into Europe
Government Bill on abolition of capital gains tax On May 14 2003, the Swedish Parliament passed a Government Bill on the proposal for changes to the Swedish corporate income tax laws, which was reported on in the February/March edition of International Tax News. The new rules will enter into force on 1 July 2003.
Under the new rules capital gains on shares held for business purposes will be tax exempt for Swedish corporate entities. Foreign companies resident within the EEA conducting business in Sweden from a permanent establishment (PE) will also benefit from the exemption if the shares are attributable to the PE. The exemption applies to shares in Swedish companies as well as in foreign companies subject to taxation comparable to Swedish taxation. Under the new rules capital losses on shares held for business purposes will no longer be deductible
Dividends received from shares held for business purposes will also be tax exempt. These rules will apply to dividends that following Swedish GAAP are recognised in the accounts in the financial year starting 1 January 2004 or
International Tax News. 15
later. Foreign companies within the EEA will also benefit from this exemption.
Foreign companies will not have to pay withholding tax on a dividend on shares held for business purposes, provided that the foreign company is subject to taxation comparable to Swedish taxation and the dividend would have been tax exempt for a Swedish company, but only if the holding period requirement is fulfilled when the dividend payment is made. For foreign companies, payments upon liquidation, merger consideration (not including shares in the acquiring company), repurchase of the company’s own shares and reduction of the share capital by redemption of shares will be exempt from witholding tax as from 1 July 2003.
Shares in non-listed companies will always be considered as held for business purposes. Listed shares, will attain the same status, provided that the company has a holding corresponding to 10 per cent of the voting rights, or if the company holds shares for business purposes. Listed shares must also have been held for at least 1 year.
Please note that the new rules do not include capital gains tax exemption for shares held by Swedish partnerships and a special exception will apply for the disposal of so-called “shell” companies. A sale of a “shell” company will result in a taxation of the seller (subject to certain exceptions), where the market value of cash, shares or other securities held by the company (other than shares held for business purposes) exceed 50 per cent of the consideration paid for the shares. In such a case, the gross consideration is taxed without deduction for acquisition costs.
The fact that capital gains or losses are exempted will not affect the right to deduct financing costs, i.e. any interest paid relating to the holding of exempt as well as non-exempt shares is still deductible (no thin capitalisation rules). This will make Sweden a very attractive jurisdiction to use as a base for investing in Europe.
The present special rules on taxation of holding companies will substantially be abolished. For individual shareholders it will be possible to transfer shares at book value from the holding company to the individual shareholders until the end of 2004, subject only to tax under certain circumstances.
Under the present legislation, investment companies are taxed for a standard yield on the value of the securities held by the investment company at the end of the fiscal year. As a consequence of the new rules on tax-exempt capital gains, the rules on investment companies are to be changed. Shares will not be included in the standard tax base of an investment company, if a capital gain on such shares would have been tax exempt provided the shares had been sold at the beginning of the fiscal year and the investment company had been a company that can hold shares for business purposes.
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UK
Our London Tax Department report on:
– the UK Budget and Finance Bill
– the tax treatment of share buybacks
– the UK/US Double Tax Treaty; and
– The referral of the Marks & Spencer to the ECJ
UK Budget and Finance Bill Highlights from the UK Budget and recently published Finance Bill include:
Stamp Duty - Abolition for Property other than Land and Shares
From 1 December 2003 (subject to consultation) stamp duty is in general to be abolished on all transactions involving property other than land, shares and interests in partnerships. The detailed abolition provisions in the Finance Bill retain stamp duty on a small category of debts (for example, loan notes which are convertible), but most transfers of debts will be exempt. The change should therefore benefit certain securitisations and debt factoring.
Stamp Duty on Land: Reforms
The Budget and Finance Bill confirm the details of and propose changes to the modernised regime for stamp duty on land and buildings announced in Budget 2002. The new regime, known as Stamp Duty Land Tax, is due to come into force on 1 December 2003 (subject to consultation) and will include new compliance and enforcement powers, tougher anti-avoidance measures and a proposed new regime for leases. The new system will be similar to Stamp Duty Reserve Tax which applies to shares.
Residence and Domicile Rules affecting Individuals
The Government have issued a background information paper on their review of the residence and domicile rules affecting the taxation of individuals, first announced in Budget 2002.
Although there are no firm proposals yet, one outcome of the review could be eventually to bring long-term residents within the full UK tax net even if they are not domiciled in the UK. The review will be relevant to many key executives.
International Tax News. 17
Treasury Shares
The Finance Bill sets out the tax treatment of treasury shares.
Currently, under UK company law, companies are not permitted to hold their own shares. This has meant that, unlike in certain other territories, any shares which companies repurchase have to be cancelled. Following a consultation process, under Regulations published in draft in February 2003, certain listed companies are to be allowed to purchase their own shares, hold them and subsequently sell them back into the market or cancel them. These rules and the consequential tax changes (noted below) will both be effective from an appointed day.
The Finance Bill contains provisions to treat shares purchased into treasury as if they had been cancelled, and shares sold out of treasury as being newly issued, in effect treating repurchases without cancellation in broadly the same way as repurchases with cancellation. This will mean:
– shareholders would be taxed on the proceeds of a repurchase of shares into treasury in the same way as a normal share repurchase. So, for a direct purchase of shares into treasury an individual shareholder would be subject to tax as income on the element of the repurchase price which exceeds the amount originally subscribed for the shares;
– as shares held in treasury would be treated as though they had been cancelled, they would be excluded from the company's issued share capital for tax purposes, so that they would be disregarded when applying tests based on a percentage of issued share capital (e.g. certain tax grouping tests);
– sales of shares from treasury would be treated in broadly the same way as a new issue. Therefore, the sale would not give rise to a chargeable gain or an allowable loss in the hands of the company. Also, share for share rollover should be available when consideration shares on a takeover are satisfied out of treasury;
– as with a normal share repurchase, stamp duty would be payable when a company purchases its own shares into treasury. In line with the general principle that shares sold from treasury are to be treated as if they had been newly issued, shares transferred from treasury would be free of ad valorem stamp duty and stamp duty reserve tax (unless transferred to a clearance service or depositary receipts system). There will, however, be a £5 stamp duty charge per transfer (not per share);
Reform of Corporation Tax
A second consultation document is to be published in the summer setting out the Government’s strategy for taking forward the proposed reforms of corporation tax. The proposed reforms include:
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– the possibility of further alignment between taxable profits and accounting profits;
– reviewing the scope for greater alignment between the treatment of investment and trading companies;
– a possible review of a move to consolidated tax groups.
The Government have stated that the reforms are to be considered in their broader European and international context, and that the corporation tax system must be protected against legal challenges under European law. Certain UK tax provisions such as the Controlled Foreign Companies legislation and the current tax exemption for UK dividends received by UK companies are widely considered to be vulnerable to EU challenge, but this Government statement suggests that they are far from ready to throw in the towel.
Strand Futures and Options Ltd v Vojak
A High Court decision has overturned the Inland Revenue’s established position on the tax treatment of share buy backs. It only affects taxable corporate shareholders, not other categories of shareholders and not the company making the buy-back, so is unlikely to change the general view as to how a return of capital is best effected, but it is important to know about it.
When a company buys back shares directly from it shareholders (not where a dealer buys as principal and then sells back as principal to the company), the proceeds received by the shareholder are partly a capital element and partly a distribution/income element. The capital element is equal to the capital originally paid up on the shares, and the income or distribution element is the balance. For an individual shareholder, the distribution element is taxed as if it were a dividend, with a credit, and the capital element as consideration in a capital gains tax computation. For a corporate shareholder, the effective position (in line with the Revenue’s Statement of Practice) has always been that the whole of the consideration received was treated as disposal consideration for capital tax gains purposes, so the shareholder would make a gain or loss, according to how the consideration compared with his indexed base cost in the shares. Under the recent Court decision, though, the income/distribution element is treated as exempt, for purposes of taxation on capital gains as well as for taxation of income (previously the exemption was limited to income tax purposes). The effect of this is that only the (usually small) capital element will be consideration for capital gains tax purposes, so corporate shareholders will generally make a capital loss when they sell shares into a buy-back.
Life companies are the most likely category to be affected. Investment trusts (which are exempt from capital gains tax) are unaffected. As already noted, the treatment of other shareholders (individuals, pension funds, etc) is unaffected.
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London tax partners, Mike Hardwick and Ian Bowler have written an article on the implications of this decision in the most recent edition of International Tax Review. Click here to view the article.
UK/US Double Taxation Agreement Inland Revenue Tax Bulletin Special Edition A special edition of the Tax Bulletin gives the Inland Revenue’s views on the application of the new UK/US treaty, which came into force on 31 March 2003. The Bulletin pays particular attention to those articles that are new, or have been substantially altered from the previous treaty.
Particular points covered in the Bulletin include:
– The Definition of “Equivalent Beneficiary”
– Article 1(8): US LLCs - Relief for US Tax
– Conduit Arrangements - Article 3(1)(n
– Business Profits - Article 7
– Zero Withholding Tax on US Dividends - Articles 10 and 23
– Taxation of Gains - Article 13
– Limitation on Benefits - Article 23)
Marks & Spencer - EU group relief
The High Court has referred Marks & Spencer's group relief claim in respect of its European subsidiaries to the ECJ for a ruling. Marks & Spencer lost its case before the UK Special Commissioners in which it argued it should be able to offset the losses from its EU subsidiaries against the profits of its UK parent.
EU
EU Savings Directive: Update for Bond Issues
The current position with the proposed EU Savings Directive’s application to bond issues is summarised below:
– It has been agreed to delay the start date for both withholding and information exchange under the Directive from 1 January 2004 to 1 January 2005. In addition, it has also been agreed that if it is not clear by 30 June 2004 that agreement with Switzerland and other third countries will be in place from the same effective date, the implementation of the Directive will be further delayed.
– Previously, Austria, Belgium and Luxembourg have been permitted to operate a withholding system for a transitional period of seven years.
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Now they will be permitted to operate the withholding system indefinitely, for so long as Switzerland (and possibly third countries) do the same.
– A change has been made to the "grandfathering" provisions. Under these provisions domestic and international bonds and other negotiable debt securities which have been first issued before 1 March 2001 or for which original issuing prospectices have been approved before that date by competent authorities within the EU (or by the responsible authorities in third countries) are grandfathered from the Directive for the transitional period (subject to the possibility of "ungrandfathering" in the case of fungible issues by government securities made after 1 March 2002). The intention had been that at the end of the transitional period withholding would fall away and consequently grandfathered bonds would fall within exchange of information. Now that withholding has been extended indefinitely (see 2 above), it has been agreed that grandfathering from withholding (but not from exchange of information) will likewise be extended indefinitely in the case of bonds having a gross-up and redemption clause (i.e. a slightly narrower class of obligations than the totality of those covered by the Directive).
VAT and the Place of Supply of Services EC consultative document 8th May 2003 The European Commission has published a consultation paper on changes to the VAT place of supply rules for business-to-business supplies in the EU.
In July 2000, the European Commission stated its intention to put forward a number of new proposals and to review existing proposals in the VAT area. The rules on the place of supply of services are identified as one of the potential future priorities.
On 7 May 2002, the E-Commerce VAT Directive amending the rules on the taxation of electronically supplied services on radio and television broadcasting was adopted. At that time, it was announced that this Directive would be the last individual change to Article 9 of the Sixth VAT Directive before a more general and thorough review of the rules governing the place of supply of services in totality.
The goal of the Commission paper is to provide a report on the current status of the review of the pace of supply of services rules and outline the framework in which the work has progressed. In response, the Commission is seeking reactions and input on the proposed framework and related issues.
The paper considers the idea of a shift in the underlying principle of the existing legislation; that is, a change from the origin principle to the destination principle with respect to the place of taxation of services supplied to taxable persons. Such a change could result in increased use of the
International Tax News. 21
reverse charge mechanism, decreased cross-border registration and additional administrative demands (e.g., the possible corresponding extension of the VAT Information Exchange System to services).
At the present time work is focusing solely on amending the provisions relating to business to business supplies. The issue of supplies to non-taxable persons (business to consumer suppliers) will be addressed at a later date.
Following their discussions with Member States, the Commission services are investigating the possibility that, for supplies of services to taxable persons, the general rule with respect to the place of supply of services should be based on where the customer (i.e., the taxable person) is established rather than where the supplier is established. The effect of such a change would be two-fold. First, it would limit the instances whereby a supplier would be required to register for VAT purposes when performing services in a Member State other than when they are established. Second, it would increase the reliance on the reverse charge mechanism where a taxable person receives services from a person not establishing the same Member State.
If the basic rule for the place of supply of services rules were to be altered in this way, it would still be necessary to utilise certain exclusions to this general rule for both administrative and policy reasons. The identified exclusions include: services connected with immovable property; passenger transportation services; cultural, artistic, sporting, entertainment or similar services; services physically carried out on moveable property; and services that are tangible in nature, such as restaurants.
In the course of conducting the review of the place of supply of services rules two other issues are dealt with in the paper. These are the meaning of “fixed establishment” and VAT Information Exchange System for Services.
On “fixed establishment” it has been suggested that the meaning is problematic.
The issue has been the subject of a number of Court decisions. Essentially these decisions have concluded that an establishment must possess a sufficient degree of permanence and a structure adequate, in terms of human and technical resources to supply the services in question on an independent basis. The paper says that it is reasonable to argue that the status quo is acceptable. It has been pointed out that the introduction of a definition may in fact result in new uncertainties. The Commissions are not convinced that a definition is necessary but are of the view that this issue should be largely viewed as one of fact determination rather than one of clarifying legislation.
The paper also says that it has also been suggested that where a taxable person makes a supply and has more than one establishment (e.g., a permanent establishment in one Member State and a fixed establishment in another Member State), that in certain instances it may be ambiguous as to
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which establishment actually makes or receives the supply. The papers says that although this is ultimately a question of fact, the introduction of criteria to be considered in making such a determination coupled with a default rule in Article 9 could provide administrative certainty for customers and tax administrations.
Comments are invited on the consultation documents by 30 June 2003.
EU accounting directives amended
On 6 May 2003 the EU Council approved the adoption of a Directive amending the EU forth and seventh Company Law Directives (also known as the Accounting Directives). These amendments are intended to eliminate the inconsistencies between the Accounting Directives and International Accounting Standards (IAS). From 2005, all companies traded on regulated markets within the EU are required to use IAS when preparing their consolidated accounts. The amended Accounting Directives will be used by companies where the obligation to use IAS is not applicable, e.g. companies that are not traded on a regulated market or those that are not required to prepare consolidated accounts.
A copy of the Directive can be found at by clicking here.
Administrative co-operation in the field of VAT
The Council reached agreement on a Regulation which would both strengthen co-operation between Member States' tax authorities to combat fraud relating to value added tax (VAT) and extend the scope of the Mutual Assistance Directive 77/799/EEC to allow Member States to exchange information concerning taxes levied on insurance premiums. The two legal texts are based on the Commission proposal of 19 June 2001
Before the Council can formally adopt the Directive, it must re-consult the European Parliament. A Parliament opinion on the Regulation is necessary because the Council has changed its legal basis from Article 95 of the Treaty (co-decision by Council and Parliament) to Article 93, under which the Council decides on the proposal unanimously following an opinion from the Parliament. The Commission believes that Article 95 is the correct legal basis.
OECD
Attribution of Profits to a Permanent Establishment: the OECD Releases two further Discussion Drafts for Public Comment The Discussion Drafts address one of the most complex areas in international taxation, i.e. how to determine the taxing rights of a country
International Tax News. 23
where an enterprise that is resident of another country undertakes business through a permanent establishment (“a PE”) rather than through a subsidiary.
As a first step in its consultation process, the OECD has developed a working hypothesis as to the preferred approach for attributing profits to a PE. In doing so, the OECD examined the feasibility of treating a PE as a hypothetical distinct and separate enterprise and reviewed ways in which the principles of the 1995 OECD Transfer Pricing Guidelines could be applied by analogy in order to attribute profits to a PE in accordance with the “arm’s length principle”. This work is of particular importance for a number of highly integrated sectors of activities, e.g. banking and other financial sector activities, where international business models involving permanent establishments are widespread.
Two discussion drafts were released for public comments in February 2001. Part 1 was dedicated to PEs in general, whilst Part II concentrated on PEs of banking enterprises. Because of the importance and of the variety of comments received, in April 2002 the OECD held a consultation with business to discuss the comments on the Discussion Drafts.
It was decided following the public consultation to concentrate first on revising Part II and on issuing a new document (Part III), which covers the related topic of the global trading of financial instruments. The OECD is still working on releasing a revised version of Part 1, focusing on issues related to intangible property and capital attribution/funding.
The OECD has now released a revised version of Part II and a new Part III. The revised version of Part II (Banks) tries to address the major concerns expressed by the commentators on the earlier version and focuses on issues such as the booking of loans, attribution of “free” capital and recognition of dealings.
Part III is dedicated to the global trading of financial instruments. The starting point for this analysis is the 1998 OECD document “The taxation of Global trading of Financial Instruments”, which has been updated to take into consideration changes both in the global financial markets and in thinking about the taxation of PE’s. The draft also discusses transfer pricing issues arising where global trading is carried on between associated enterprises.
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This publication is intended merely to highlight issues and not to be comprehensive, nor to provide legal advice. Should you have any questions on issues reported here or on other areas of law, please contact one of your regular contacts at Linklaters, or contact the editors.
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A03104727/0.3/20 May 2003
The OECD has invited comments on the two Discussion Drafts to be sent to the OECD Secretariat by 31 May 2003.
PEs Banks: http://www.oecd.org/pdf/M00039000/M00039357.pdf PEs Fis: http://www.oecd.org/pdf/M00039000/M00039349.pdf
