EU initiative to make tax refunds of withholding tax FASTER

Lord Denning said in a 1974 court decision that “when we come to matters with a European element, the Treaty is like an incoming tide. It flows into the estuaries and up the rivers. It cannot be held back”. Pete “Maverick” Mitchell said “I feel the need, the need for speed” in the original “Top Gun” movie. And now Denning and Maverick can be said to be of the one mind. Earlier this summer, the European Commission proposed a new Directive on Faster and Safer Relief of Excess Withholding Taxes (‘FASTER’). The Commission has launched a public consultation on the proposal, which will run until mid-September of this year.

Directives, when final, have to be implemented into domestic law and we’ve seen plenty of them in the past number of years. We’ll see another one implemented into our law later this year as part of the OECD Pillar two directive which brings about the 15% rate of corporation tax.

This newly proposed “FASTER” directive is aimed at making withholding tax procedures in the EU more efficient and secure for investors, financial intermediaries and tax administrations. The Directive also seeks to remove obstacles to cross-border investment and to curb certain abuses.

The accompanying press release explains that in case of cross-border investments, many Member States levy withholding taxes on dividends on holdings of equities and on the interest on holdings of bonds paid to investors who live abroad. However, investors must also pay income tax in their country of residence on the same income. It notes that according to the International Monetary Fund, securities held by non-domestic investors in the European Union in 2019 were worth 10.7 trillion dollars. To avoid double taxation, many countries have agreed to share taxing rights between the income’s source country and the investor residence countries by signing double tax treaties. These treaties may entitle non-resident investors to a lower rate of withholding taxes or to an exemption in the country they are levied and so lead to refunds of withholding tax.

For example, many of our tax treaties with various countries allow withholding tax rates of between zero and 15% on the payment of dividends notwithstanding our domestic rate is generally 20%. There are various other forms of exemption existing in our law on Dividend Withholding Tax which other countries may not have and so this FASTER directive seeks to fill in that hole. In short, this will help deal with current inefficiencies in certain markets.

The Commission’s press release continues that the “problem is that these refund procedures are often lengthy, costly and cumbersome, causing frustration for investors and discouraging cross-border investment within and into the EU”. Currently, the withholding tax procedures applied in each Member State are very different. Investors must deal with more than 450 different forms across the EU, most of which are only available in national languages.

Regular readers will know my mantra that when it comes to investment, simplicity eats complexity for breakfast. And that’s what this EU directive wants to do, to make life simpler, faster and better than it was before for investors, financial intermediaries and national tax authorities. The nuts and bolts of this new-fangled system follows:

Firstly, there is to be a common EU digital tax residence certificate. This is to make withholding tax relief procedures faster and more efficient. The Commission gives the example of investors with a diversified portfolio in the EU; they will need only one digital tax residence certificate to reclaim several refunds during the same calendar year. The digital tax residence certificate should be issued within one working day after the submission of a request. The Commission points out that right now most Member States still rely on paper-based procedures.

Further, a “relief at source” procedure and a “quick refund” system, should make the relief process faster and more harmonised across the EU. Member States will be able to choose which one to use which can include a combination of both. The Commission explains that under the “relief at source” procedure, the tax rate applied at the time of payment of dividends or interest is directly based on the applicable rules of the double taxation treaty provisions. Under the “quick refund” procedure, the initial payment is made taking into account the withholding tax rate of the Member State where the dividends or interest is paid, but the refund for any overpaid taxes is granted within 50 days from the date of payment.

So what? The Commission says that these “standardised procedures are estimated to save investors around €5.17 billion per year”. So, what’s the quid pro quo? A standardised reporting obligation will provide national tax administrations with the necessary tools to check eligibility for the reduced rate and to detect potential abuse. Certified financial intermediaries will have to report the payment of dividends or interest to the relevant tax administration so that the latter can trace the transaction.

The Commission continues that large EU financial intermediaries will be required to join a national register of certified financial intermediaries. That will also be open to non-EU and smaller EU financial intermediaries on a voluntary basis. In addition, the new residence certificate will allow investors to submit their withholding tax refund request digitally, making the reclaim process faster and smoother. Only one digital tax residence certificate will be needed to reclaim several refunds during a calendar year, avoiding the issuance of multiple certificates of residence in case of an investor with a diversified portfolio in the EU. Of course, Member States will require the Certified Financial Intermediaries to have the adequate procedures in place to ensure taxpayers are eligible for the refunds.

Once adopted by Member States, the proposal should come into force on 1 January 2027. Anything that speeds up this process is a good thing but as always, the test will be reality becoming one with the theory.

Please note this article first featured in the Business Post on Sunday, 20 August 2023 and was re-published kindly with their permission on our website.