If you get dividends from foreign companies, the tax situation can get rather complicated.
In my last article, I covered the UK tax treatment of dividends from UK companies. In response to a request by jonesjeff (thanks Jeff!), this article hopes to steer a path through the muddy waters of foreign source dividends.
The basics
In simple terms, foreign income dividends are charged to tax in the UK in the same way as UK dividends. As described previously, UK dividends have an attached tax credit of 10%, and this settles any tax liability arising at basic rates of tax, and the dividend rate of 32.5%/42.5% means higher/top rate taxpayers will pay extra amounts equivalent to the higher/top rate tax due.
However, the interaction of UK tax, tax credits and the different rates of withholding tax applied in different countries have been a thorny issue for some time.
Non-UK tax credits
Most other countries will levy some kind of withholding tax when paying dividends, at a rate set by that particular country. For example, the rate of withholding tax on dividends paid to UK taxpayers from a number of countries is 15%.
In any case, a basic rate taxpaying Fool receiving a foreign dividend might, understandably, consider that as his foreign withholding tax of 15% exceeds the UK 10% credit, that not only would he have no additional liability on those dividends, but he may even be due a repayment of tax.
The UK/foreign tax credit hoo-haa
This is, unfortunately, not the case. Until 2008/09, as UK dividends are paid from companies subject to UK corporation tax, the UK tax authorities are satisfied that the tax credit attaching to dividends will translate to some tax for them somewhere. They could not say the same about foreign dividends and so such dividends were treated as having no tax credit attached.
This meant that our poor foreign-dividend receiving Fool would (theoretically) have to trot off to the paying country and ask for his money back, having had to pay over his UK tax liability in the meantime. In practice, however, double tax agreements meant that the foreign tax suffered, up to the equivalent UK amount of tax, could be utilised to offset against UK tax on that income.
As a result of various appeals to European Court of Justice, the rules were amended in 2008/09 to attach a non-payable tax credit of 10% to foreign dividends received by an individual who is a "minority shareholder" i.e. an individual owning less than 10% of the company's issued share capital including any interests held in trust. Dividends from offshore funds were excluded from this treatment.
However, the rules were still considered discriminatory, as no such restriction on minority/majority shareholders applied to UK dividends in order to obtain a tax credit. As a result, from 22 April 2009 these non-payable 10% tax credits are extended to dividends received by an individual owning a 10% or greater holding in a non-resident company, provided that it is from a "qualifying territory".
A qualifying territory means a country with which the UK has a double tax treaty with a non-discrimination clause and includes all EU countries, US, Japan, China and Switzerland. It does not cover low tax jurisdictions such as Jersey, Guernsey, Isle of Man, Bermuda and Liechtenstein.
As ever, there are the exceptions to the rule and certain types of companies in some qualifying territories will not actually qualify for this treatment, as they are considered to already benefit from special tax treatment. This applies to some companies based in Barbados, Cyprus, Jamaica, Luxembourg, Malaysia and Malta.
Distributions from offshore funds, whatever the size of holding, benefit from non-payable tax credits from 22 April 2009. This is subject to an(other) exclusion of payments from offshore funds which are substantially invested in interest-bearing assets, where the distributions are taxed as if they were interest.
Spot the problem?
Those Fools who have been reading closely may have spotted a potential problem.
Double tax relief procedures, even under treaties, will normally restrict any relief to the equivalent UK tax arising on that income. In our dividend example above, if a basic rate taxpayer's liability is only 10% on foreign dividend income, he can only claim credit for 10% of foreign tax, meaning the rest of the withholding tax is lost unless he makes a separate claim to the foreign jurisdiction.
Note that a 15% withholding tax (which is paid on a gross dividend) can normally be offset in full against a UK tax liability (based on the tax credit), which is presumably why this is a commonly agreed rate for international dividend tax withholding.
But what about those countries where the withholding tax exceeds 15%? Unfortunately there is no magic answer to this one, but Fools in receipt of foreign dividends should receive, at least annually, details of how to reclaim any surplus foreign tax.
However, just in case, some of the more common countries and forms can be found here:
France There are a number of French forms dependent on whether "avoir fiscal" is due or not, and details can be found here
Spain (e.g. Santander). The standard rate of withholding tax in Spain is 18%, and if you have suffered this rate, a repayment of the excess 3% over the allowed 15% can be claimed on Form 210 (Santander also offer a good explanation of the process in this PDF file). However, UK residents are entitled to apply for a 15% withholding rate, or apply for exemption from Spanish tax (as appropriate) on form EE-EU, which can be requested from HMRC, as you need to get your tax office to sign it for you.
Similarly, in Switzerland (e.g. Ferrexpo) the standard rate of withholding tax is 35%, but UK resident taxpayers can reclaim the additional 20% by sending Form 86 to their tax office.
In the USA, you can complete form W8-BEN which will exempt UK resident taxpayers from withholding tax for up to three years.
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