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With the government keen to encourage exportation of goods and services to help the UK economy grow, we examine the question of withholding tax and the steps that can

The UK has made comprehensive double taxation agreements with most Commonwealth and many foreign countries. But where there is no agreement, unilateral relief is provided whereby a resident of the UK is allowed credit against UK tax on overseas income for foreign tax paid thereon.

Comprehensive agreements between countries tend to be based on the OECD model agreement. They provide specific rules for relieving such double taxation, whereby certain types of income arising in a foreign country are exempt or charged at reduced rates if they flow to a resident of the other country. Where income remains taxable in both countries, a UK taxpayer may obtain double tax relief for any withholding tax deducted at source.

If a taxpayer is resident in the UK and has income and/or gains in another country, the overseas income may be subject to withholding tax in the country on the income/gains generated overseas. Typical rates of withholding tax can range anywhere between 10% and 25%.

Typical situations where withholding tax may be levied are:

  • a UK resident company which has a permanent establishment overseas
  • an overseas incorporated company that is resident in the UK because its central management and control is situated in the UK. It is also resident in the country of incorporation under the domestic law of that country. The company is subject to tax on its worldwide profits in both countries
  • an individual who is resident, ordinarily resident and domiciled in the UK and who receives income from abroad including dividends, interest, royalties, pensions and rental income
  • an individual may be ‘resident’ in two (or more) countries at once because, for example, he has homes in both countries and spends part of the year in each home. Such a ‘dual resident’ individual may be subject to taxation on his worldwide income in both countries
  • a UK resident individual who receives remuneration in respect of an employment carried on abroad.

A UK resident taxpayer may claim double taxation relief on any withholding tax deducted at source but this is restricted to the UK tax liability arising on that income.

Example

Mildred is a self-employed consultant. During the year ended 5 April 2013, her income details were as follows:

  • trading profits of £40,000, of which £5,000 related to income earned on a contract in Ruritania. The Ruritanian income was subject to withholding tax of £5,000
  • dividends from her UK share portfolio of £9,000 (net).

Mildred’s tax position for the year ended 5 April 2013 would be as follows:

Income:

£

£

Income from trade

40,000

Dividends (£9,000 x 100/90)

10,000

 

50,000

Less: Personal allowance

-8,105

 

£41,895

Tax thereon:

Trade (£40,000 – 8,105) = £31,895 x 20%

6,379.00

Dividends: (£9,000 x 100/90) = £10,000:

Balance of basic rate band:

3,010.00

(£34,370 – 31,895) = £6,379 x 10%

637.90

Higher rate (dividends):

(£10,000 – 6,379) = £3,621x 32.5%

1,176.82

 

Total tax due

 

£4,824.72

Less Tax deducted at source:

Notional tax credit on dividends:

-1,000.00

Double tax relief:

Foreign withholding tax = £5,000 x 25% =£1,250

Restricted to:

£5,000 x 20% = £1,000

 

-1,000.00

Further tax due

£2,824.72

 

Note: In this example, £250 of double tax relief is lost due to the rate of withholding tax exceeding the UK tax rate.

Certificates of UK tax residence

Where the UK has a double tax treaty in force with the foreign territory, it is often possible for the payer to pay the UK taxpayer without the deduction of withholding tax at source. This can help to avoid lost double tax relief, as in the above example, as well as improving cashflow for a business.

To enable the payer to make any payments gross, they may ask for a certificate of UK tax residence. Applications for such a certificate must be made to HMRC. Applications can be made by individual taxpayers and by companies. HMRC generally turns around the applications very quickly and it now has an online application process.

For advice and guidance on taxation matters in general, visit ACCA’s Technical Advisory taxation site.

Visit our new sub-site on residence and domicile issues, which includes details of the new statutory residence test.

Article contributed by ACCA