Move to new offices
I am delighted to announce that with effect from 26 August 2008 IFS will be moving from 45 Clarges Street to a property that I purchased a few years ago on the edge of Regent’s Park in London (view map). For the present, we all feel that this house is an ideal base for the development of IFS Consultants, IFS Corporate Services and our new team, and we look forward to welcoming our clients and colleagues to meetings there in an atmosphere of exceptional charm.
Our address will be 40 Townshend Road, London, NW8 6LE and our telephone number will be 020 7449 6970 with direct lines which will be advised to you on request. Our email addresses of course remain the same, except that we have dropped the first letter of our surname to be more user-friendly, so my address is simply firstname.lastname@example.org. Our website remains as www.interfis.com.
A busy time for IFS
In addition to our move to new premises announced, IFS has been exceptionally busy, with new clients ranging from a €300 million private equity fund specialising in renewable energy, to the acquisition of a large shopping centre in an Eastern European capital city, and advising on various licensing structures for brands where there are cross-border arrangements envisaged. The major introducers of such business are lawyers, accountants, private bankers and other professionals all over the world. They view IFS as a niche international tax boutique with a reputation for optimising business structures from a commercial and legally acceptable point of view. They know that IFS neither creates nor markets ‘tax schemes’ as such, and IFS’ clients are comfortable with their status vis à vis all tax administrations all round the world. We welcome our close relationships with our professional colleagues as the way in which IFS will continue to grow in the years to come.
Each monthly newsletter will include an interesting article written by one of our professional colleagues. Dr Philip Baker QC has penned the first article on Taxation and Human Rights, very apposite coming at the same time as the Olympics in Beijing.
We will also feature a particular country in each newsletter which is known for its favourable tax laws relevant for international transactions and we are pleased to include Raymond Busuttil’s article on Malta below in this issue.
We hope that you will enjoy reading about our area of expertise and which topics are interesting to us, and we hope that this method of communication maintains the close relationships that we have enjoyed with our clients and professional colleagues over the past 35 years. We welcome any suggestions or other comments that you may have (click here) and please do not hesitate to contact us at any time.
With kind personal regards
Current Developments in International Taxation
Changes to the OECD Model Tax Convention re Permanent Establishments
On 17 July 2008, the OECD Council approved the contents of the 2008 Update to the OECD Model Tax Convention. We will comment on particular aspects of the changes in instalments over the course of the next few newsletters, the first of which is below.
Of particular interest is the introduction of an alternative service permanent establishment (PE) paragraph in the PE article of the Model Convention (Article 5). Under the Model Convention, services performed in the territory of a State by an enterprise of the other State are generally only taxable in the resident State, unless they are attributable to a PE situated in the source State. Although no change to the PE definition in the Model Tax Convention has been proposed, the Commentary is now to address the tax treaty treatment of services. Briefly, a deemed service PE would be present if either:
a) An individual engaged in a project is present in the project State for 183 days or more and more than 50% of the gross revenue of the enterprise is derived from the services performed in that other State through the individual; or
b) Services are performed for 183 days or more for the same project or for connected projects by one or more individuals who are present and performing such services in that other State.
The alternative provision would have the effect of creating a deemed PE in circumstances where, under the main provisions of Art. 5, a PE would not exist.
This alternative provision raises a number of interesting technical issues. Firstly, subparagraph (b) seems to be in conflict with paragraph 3 of Article 5 if the services are relevant to a construction site for less than the period of time referred to in that paragraph. The Commentary deals with this point and states that if a shorter period is used in the alternative provision, this will significantly reduce the practical effect of paragraph 3 in the case of activities performed exclusively at a single site. The Commentary therefore suggests that States that wish to use the alternative provision consider referring to the same periods of time in that provision and in paragraph 3 of Article 5.
It has also been queried whether subparagraph b) of the alternative provision would apply where work is performed through subcontractors. The OECD have stated that subparagraph b) would exclude most situations where an enterprise does work through a subcontractor since it only applies if an enterprise supervises, directs or controls the manner in which the relevant services are performed by an individual, which will typically not be the case where the individual is employed by a subcontractor. However, in the absence of a clear rule that the activity of employees of a separate enterprise cannot be treated as the performance of services by a non-resident enterprise and, therefore, cannot create a PE for that enterprise, this provision is likely to lead to some uncertainty. Another area of potential uncertainty is the concept of “connected projects” in subparagraph b) as there is no set rule for determining whether a commercial coherence exists in any particular case, although the Commentary points to various indicative factors.
Subparagraph (a) appears to sound the death-knell for personal service companies whose income derives entirely from the services of one individual (who generally also is the owner of the SPV).
Attempts to widen tax base in the UK frustrated
The UK tax authorities received a blow on 4 July 2008 with the decision of the UK High Court in the case of Vodafone 2 v. The Commissioners of Her Majesty’s Revenue & Customs. This case was concerned with the compatibility of the UK Controlled Foreign Company (CFC) rules with EU law, and in particular the principle of freedom of establishment enshrined in the EC Treaty. Since 2002, HM Revenue and Customs have been attempting to claim tax on the activities of a Luxembourg financing company within the Vodafone group. HMRC claimed that the UK’s CFC legislation meant that the interest on money that the Luxembourg company lent to German subsidiaries was taxable in the UK. The judge concluded that the UK rules are not compatible with EU law and are therefore ineffective in respect of CFCs established in EU Member States. According to the case therefore, the UK can no longer tax the profits of low-taxed EU-based subsidiaries.
These findings are in line with the 2006 European Court of Justice decision in the Cadbury Schweppes case, which established that the UK CFC rules restrict the freedom of establishment principle unless they are limited to wholly artificial companies with no real economic activity. These cases are interesting not only for UK practitioners but also those overseas in EU countries. And even transferring the residence of companies between EU Member States (as envisaged by the Société Européene but without the difficulties attached to such an entity) may become acceptable planning without incurring relevant ‘exit’ charges that may otherwise be involved.
The UK has also been forced to abandon its attempts to strengthen its CFC rules as part of its overhaul of the taxation of foreign profits. In summary, it was proposed to introduce a Dutch-style exemption method for foreign dividends on shareholdings of 10% or more, allowing UK-based companies to repatriate their foreign profits tax free. However, the proposal was to limit the dividend exemption to situations where enhanced CFC rules apply, and it was this that has caused a furore in the business community with the actual and threatened exodus of multinationals from the UK.
The new CFC rules were to be income-based (as opposed to the current equity-based rules), with the aim to distinguish mobile passive income from active income, thereby enabling the UK to tax artificially located profits that were effectively within the control of the UK parent. These proposals were not acceptable to multinationals, particularly those with high levels of global intangible assets, the income from which would fall within these rules. The Treasury has now announced that these anti-avoidance proposals have been axed and that it indeed aims to strengthen the competitiveness of the UK’s intellectual property tax structure.
As regards the proposed dividend exemption, the Treasury has stated that this will not be introduced in next year’s Finance Bill, and is no doubt working on alternative ways to protect tax revenues before re-starting discussions on this. Although HMRC will no doubt appeal the decision of the Vodafone 2 case, it will clearly have to work hard now to find ways in which protect the UK tax base whilst ensuring that it adheres to EU law and does not alienate UK-based multinationals.
Taxation and Human Rights
There can be no better time than now, with China hosting the Olympics, to explain in an international tax newsletter that human rights are not just concerned with torture, extra-judicial executions and forced labour, but also with taxation (which usually – but not always – involves none of these). Increasingly, however, human rights law is not simply concerned with the egregious breaches of individual rights: more broadly, it is concerned with limits on what a government can do to its nationals, its residents and others affected by its decisions. And since the department of government with which most people have most contact on a regular basis is the revenue department, taxation and human rights must be inter-linked. That being said, the protection of human rights in the field of taxation has not exactly advanced by leaps and bounds. In some countries a constitutional bill of rights has been applied to protect taxpayers, and in a few instances – Germany is perhaps the most notable – constitutional courts have struck down tax rules or actions of the revenue authority. In recent years there has also been a trend to enact codes of taxpayers’ rights (and sometimes obligations) in the tax legislation itself or in a taxpayers’ charter or taxpayers’ bill of rights. This process is certainly gaining momentum, with countries such as Italy and Spain enacting such legislation in recent years.
At the international level, most human rights conventions were adopted without much thought being given to fiscal issues. The European Convention on Human Rights, dating from the 1950s, was adopted without any particular consideration of tax matters (as an examination of the travaux préparatories to the Convention show). However, the European Convention has been applied in an increasing number of tax cases both before the European Convention’s own Court in Strasbourg, and before national courts which have been called upon to apply the Convention. The Strasbourg Court has not shown itself to be particularly assiduous in its concern for taxpayers, but there have been some positive developments.
On the one hand, the European Court of Human Rights has held that ordinary tax disputes do not benefit from the guarantee of a right to a fair trial under Article 6 of the Convention, and the Court has frequently recognised the “wide margin of appreciation” enjoyed by States in enacting tax legislation. Thus, for example, there is no right under the Convention to the determination of a tax case within a reasonable time; and, recently, the Court held that it was not discriminatory to deny an exemption from inheritance tax to two siblings living together as a family unit, while such exemption would have applied if they had been a married couple (or a homosexual couple in a registered civil partnership).
On the other hand, the Court has now decided that virtually all tax-geared penalties should be regarded as “criminal charges” for the purposes of the Convention, so that the penalty hearing must be concluded within a reasonable time, there is a right to full information about the charges which may lead to the penalty, and there is an (albeit limited) right to legal aid. Equally, discriminatory tax legislation has been struck down on several occasions, and the right to privacy in tax matters has been upheld.
As revenue authorities seek and acquire more extensive powers (see, for example, the results of the Powers Review in the United Kingdom), these safeguards become more and more important. It also becomes more important that tax advisers are aware of the rights of their clients when seeking to advise them. An example is the right to silence in the context of a criminal investigation (which, as explained, will include an investigation which may lead to a tax-geared penalty). It may not always be advisable for a client to exercise the right to silence and refuse to supply information to the revenue authority: nevertheless, it is important to be aware that such a right exists.
The starting perception is that human rights are concerned with disappearances, executions and torture. However, as these extreme breaches of rights become (thankfully) rarer in most countries, acts of government which may make the life of the ordinary citizen unbearable or even just unacceptable, are being recognised as worthy of intervention by courts applying human rights norms. We are likely to see this trend continuing in future years.
We are grateful to Dr Philip Baker QC for the above contribution and would invite readers who have any comments that you would like IFS to relate to him to click here.
The Maltese Fiscal Regime
The City of London publication “Global Financial Centres Index”, has recently recognized that in terms of competitiveness and growth, Malta ranks fourth out of sixty-six worldwide jurisdictions as a centre ‘that is most likely to increase in importance over the next few years’ and fifth in ranking of ‘Top Financial Centres where organizations may open new operations in the next two to three years’.
Undoubtedly one of the key drivers of this success is entrenched in Malta’s attractive fiscal regime which has received endorsement by the European Commission through an agreement signed with the EU early in 2007, preserving the competitive full-imputation taxation system.
Major changes in the Maltese Income Tax Law came into effect on the 1st January 2007 when significant amendments were made to remove the distinction between resident and non-resident shareholders, thus becoming compliant with EU non-discrimination principles. Companies incorporated in Malta are now considered to be ordinarily resident and domiciled in Malta and are therefore subject to tax on their world-wide income at the standard 35% tax rate. Companies incorporated outside Malta are considered resident, if their management and control is exercised in Malta.
However, Malta operates a full imputation system that applies on the taxation of dividends. A shareholder, irrespective of nationality, residence or domicile, becomes entitled to a credit for the company tax paid upon distribution of profits. A refund is paid in part or in full in a pay, claim and rebate, 14 day process. The tax refund is set at 6/7ths of the 35% advance corporate tax paid (5/7ths in the case of passive interest or royalties), bringing the effective tax rate down to 5% (or 10% for passive income as above) final tax in Malta. A Malta resident shareholder will remain neutral and derive no benefit since personal income tax will in most cases eliminate any advantages on rebate. Moreover, the timing can be arranged so as to limit cash flow to the effective tax rate.
Malta also gives special tax treatment in the Maritime sector. The Malta flag is the 6th largest fleet worldwide, and 2nd in Europe. Vessels owned through a resident Malta Company pay an annual tonnage fee and are otherwise tax exempt. Maltese law also provides for bareboat charter registration of foreign ships under the Malta flag, and the bareboat charter of Maltese ships under a foreign flag, both acquiring the same fiscal incentives.
Redomiciliation to Malta of corporate entities from other jurisdictions that make such relocation possible, has become a significant planning opportunity. Thus it is possible to bring black-listed offshore companies within an acceptable jurisdiction in order to avoid anti-avoidance laws of high-tax countries. Similarly Malta allows its corporate entities to relocate elsewhere, without any interruption of business. Malta also has a very advantageous double taxation treaty networks spanning 48 countries. These treaties, combined with zero tax on gains of listed securities makes Malta a very attractive destination for investment funds, boosting its aspirations as an international centre for business and finance.
IFS would like to thank Raymond Busuttil for the above article. Ray is a Maltese ex-banker whose commercial expertise on the boards of the Maltese companies for several of IFS’ clients is greatly valued. If you would like to comment on Ray’s article, please click here.