Double Taxation Relief – will the Budget help the UK’s international competitiveness?

UK multinationals are expecting two years’ worth of consultation to bear fruit resulting in a simplification of the way in which UK companies obtain relief for foreign taxes.

Relief from double taxation ensures that the profits of overseas subsidiaries, taxed once in the country in which profits are generated are not also taxed a second time in the UK, e.g. when dividends are paid back to the UK parent company.

The Inland Revenue have indicated that they do not favour an exemption from UK tax for overseas dividends, a system used by many EU countries such as Germany. It is likely that the existing system will be maintained but ‘amended’ to remove some of the traps and pitfalls for the unwary.

It is also likely that the Inland Revenue will want to tighten up some areas where they perceive the current system is open to abuse.

If past experience is anything to go by, multinationals will need to beware. The devil will be in the detail and care will need to be taken to ensure legitimate transactions are not penalised.

As smaller companies become more involved in international trade the pressure is on the Inland Revenue to provide a simple method for obtaining relief from double taxation for smaller companies, so that they can have the relief without the need to maintain complex group structures.

However the Inland Revenue has indicated that a price may have to be paid for any simplification and this may result in overseas branch losses being disallowed, which would increase the costs of overseas investment for entrepreneurial companies. We would view such a measure as a retrograde step.

Multinationals will also be expecting to see measures to improve the operation of the single market from a corporation tax perspective. Some significant changes are expected to deal with the ramifications of the landmark ICI v Colmer case (which ruled that the UK law on group relief discriminated against non-UK companies) and other European Court of Justice rulings – the long reach of EU law may well be seen throughout the Budget.

The danger for the government is that if it does not go far enough it will place UK companies at a competitive disadvantage in the EU and risk an avalanche of litigation.

One such change we do expect change concerns the possibility of the transfer losses between members of a group of companies. Legislation currently covers the situation when a group has a UK parent but not when the parent is an EU company (a press release has already announced the Inland Revenue’s intention to extend the relief to cover this situation).

However, EU banks which operate through branches in the UK are at a disadvantage because the relief does not extend to the transfer of losses between a branch and a subsidiary. The Inland Revenue is under great pressure in this area and may face litigation if it does not change its view.

Another area concerns the capital gains review for companies. We consider that current UK law, which results in tax charges on transfers of assets within a UK/EU group, is contrary to EU law. We would hope that legislation is introduced in this area to pre-empt litigation and ensure UK companies can benefit more from the single market and not be at a competitive disadvantage.

Joy Svasti-Salee is partner in charge of KPMG’s International Tax Group and David Evans is a director in that group.

Related reading