Company tax update on corporate taxes considerations
Unlike indirect taxes, corporation tax is not predominantly dealt with by EU treaties/law as direct taxes are national law. Therefore there is likely to be less of an impact in respect of direct taxes when compared to indirect taxes.
There are some areas within UK corporation tax law which use the EU recommendations in relation to the definition of micro, small and medium companies, for example the UK Research and Development (R&D) and Transfer Pricing rules.
There are some EU Treaties that authorise the European Council to issue directives to approximate laws and regulations which directly affect the establishment and functioning of the European market. Member states, including the UK, have chosen to implement a number of directives to aid intra-EU trade and investment.
These directives include:
The Parent Subsidiary Directive and the Interest and Royalties Directive
Withholding taxes are a common feature of many tax regimes when considering cross-border transactions.
For example a UK company that invests overseas may suffer withholding taxes on dividends it receives from its subsidiaries or on royalties or interest received paid to it from overseas subsidiaries.
If the withholding tax is not eliminated by a tax treaty between the UK and relevant country, then for payments within the EU, the group can currently normally rely on the EU Parent-Subsidiary directive or the EU Interest and Royalties directive to prevent the withholding tax being a real cost in respect of dividends, interest and royalties respectively.
If the UK is outside the EU then this additional layer of protection, i.e. the Directives, would probably no longer be available, depending on the final agreement reached by the UK.
The UK itself does not levy dividend withholding tax on payments of crossborder dividends, however other European countries do. The UK does however levy a 20% withholding tax on cross-border interest and royalties, which could be reduced under treaty but this would need to be reviewed.
The Merger Directive
The Merger Directive provides for certain tax deferrals in respect of capital gains at the company or shareholder level as a result of certain cross-border mergers, divisions, exchanges of shares and transfers of assets. This could be, for example, where a UK business is transferred to an EU entity in exchange for shares.
When the UK leaves the EU it is possible that UK groups may no longer be able to rely on these provisions.
Transfer Pricing Arbitration Convention
This provides for a procedure relating to transfer pricing disputes. Following leaving the EU the Transfer Pricing Arbitration Convention may no longer apply to the UK.
This means any transfer pricing disputes arising afterwards should be settled in accordance with the mutual consultation provision as laid down in the relevant tax treaties concluded by the UK, which could be a lengthier process.
EU law includes provisions prohibiting state aid if certain conditions are met. As this provision will likely no longer apply after the UK leaves the EU the UK may have more flexibility to implement state aid incentives to encourage investment in the UK.
Some of the areas which could become more attractive include:
- EIS and the VCT schemes: EU restrictions have limited the amount of investment that can be raised and reduced the age of a company that can qualify for EIS and VCT relief. Some of the restrictions have been an issue for growing companies but if the UK is able to implement new state aid measures after leaving the EU it may make it possible to increase the size and age limits
- At present, certain tax-advantaged employee share schemes are limited by EU state aid legislation. If the UK leaves the EU some arrangements, such as EMI schemes, could be
expanded and extended
- Most government grants are classified as state aid under EU law. R&D tax credits under the more beneficial SME scheme in the UK are classed as notified state aid
As a general rule, a company can have access to only one form of notified state aid so receipt of a notified state aid grant will preclude a claim to the SME R&D relief, and vice versa.
After leaving the EU, the UK Government could enhance the R&D reliefs and give both grants and SME R&D tax credits to the same company to encourage growth and innovation.
The flexibility to offer such incentives without state aid restrictions would, however, come at a cost which may limit the level of enhancements/changes that are made.
In addition various action plans the OECD has developed as part of the Base Erosion of Profit Shifting (BEPS) project could introduce some limitations in this respect.
Court of Justice case law
Any national regulations that are possibly contrary to EU law in terms of taxation,
particularly regards the application of the free movement provisions and the state aid
rules, may be brought before the European Court of Justice. Both national courts and
the European Commission can do so. After leaving the EU the UK’s laws can no longer be tested against EU law and these proceedings may no longer arise.
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This corporate taxes article was originally published in our Brexit insights newsletter. You can download a copy of the full Brexit Insights newsletter on our latest publications page.