INTM506030 - Payment of interest overseas: double taxation agreements

Application to pay interest gross – exemption authorities

Under the strict letter of the law no United Kingdom company paying interest to someone overseas may assume that it can pay the interest gross, or at the reduced treaty rate, until it receives treaty clearance from HM Revenue & Customs's Centre for Non-Residents ('CNR'). The CNR will normally act upon the recommendation of the Inspector who deals with the paying company. However, the Inland Revenue has, under its care and management powers, adopted a practice to smooth the process. The main elements of this practice are:

Practice from the date of the loan to the date of receipt of a certified treaty claim by CNR

• Between the date of the issue of the loan and the date of receipt of a certified application for treaty clearance by CNR the lender may not assume that treaty clearance will be given.
• If any interest is paid overseas during this period, tax must be deducted at the prescribed rate and paid to HM Revenue & Customs.
• If the interest is paid gross, assessments may be made to recover the lost tax.
• If a situation arises whereby an assessment may be made to recover lost tax but it is clear that at a later date the tax will be repayable, then HM Revenue & Customs will recover TMA70/S87 interest either by contract settlement or by using the mechanism of assessment in such a way that payment of the tax is not required but payment of interest is.
• If interest is paid gross which should have been paid under deduction of tax and included in an ICTA88/SCH16 return then the payer will have failed to make a return (or will have made an incorrect return). Penalties for the failure (or incorrect return) are chargeable under TMA70/S98. Where a company has failed to make a return of the tax that should have been deducted, the General or Special Commissioners can impose a penalty of up to £3,000 instead of the normal £300 where the company could not reasonably believe that one of the conditions in ICTA88/S349B allowing gross payment is satisfied. Both the lower or higher level penalty may be sought even where there is no net tax due, for example because treaty clearance for gross payment is subsequently given. Effective compliance action including seeking a penalty is needed to curb the growing practice of making payments in advance of treaty clearance. However, approval is needed from Tax Administration Advice, as set out in the Enquiry Manual, before the higher level of penalty can be sought.

Practice between the date of receipt of a certified treaty claim by CNR and the date of final determination of the claim

• Between the date of receipt of a certified application for treaty clearance and the date that the treaty claim is finally determined it is open to the Inspector working the case to come to a view, based upon the information available, as to the amount of the loan that could have been obtained, and would have been obtained, at arm’s length ('the arm’s length amount').
• The arm’s length amount will be clearly notified to the interest payer.
• The Inspector will then recommend to CNR that treaty clearance be given for the amount of interest corresponding to the arm’s length amount.
• The clearance may be informal, but will be made in writing.
• Any remaining interest must have tax withheld from it and paid to HMRC.
• If the remaining interest is paid gross, assessments may be made to recover the lost tax, but may be postponed until the claim is finally determined and the position become clear, to minimise administrative burdens.
• If there is a possibility of an assessment being made in this period before the claim is determined, then reference should be made to the Thin Cap/Arbitrage Group at CT & VAT, International CT for guidance.
• If a situation arises whereby an assessment may be made to recover lost tax but it is clear that at a later date the tax will be repayable, then HM Revenue & Customs will recover the interest that will be payable under TMA70/S87 either by contract settlement or by the mechanism of an assessment for interest purposes only in such a way that payment of the tax is not required but payment of interest is.
• If interest is paid gross which should have been paid under deduction of tax and included in an ICTA88/SCH16 return then the payer will have failed to make a return (or will have made an incorrect return). Penalties for the failure (or incorrect return) are chargeable under TMA70/S98. Where a company has failed to make a return of the tax that should have been deducted the General or Special Commissioners can impose a penalty of up to £3,000 instead of the normal £300 where the company could not reasonably believe that one of the conditions in ICTA88/S349B allowing gross payment is satisfied. Both the lower or higher level penalty may be sought even where there is no net tax due, for example because treaty clearance for gross payment is subsequently given. Effective compliance action including seeking a penalty is needed to curb the growing practice of making payment in advance of treaty clearance. However, approval is needed from Cross-Cutting Policy (Technical) underEM8051 before the higher level of penalty can be sought. (Check ref)

Once CNR has given authorisation, the rules under which a United Kingdom company accounts for income tax on cross-border interest payments are modified as follows:

• payments authorised by CNR to be paid without deduction of tax are not within ICTA88/SCH16 and need not be shown on form CT61(Z)
• payments authorised to be paid under deduction of tax at a reduced rate are to be entered into the appropriate section of Part A of form CT61(Z) and the reference number of the authorisation should be quoted.

Guidance on the circumstances where both payer and recipient are outside the United Kingdom but interest payments may nonetheless be United Kingdom source is given in CNR DT Guidance Note No 1.