THE UK AS AN INTERNATIONAL HOLDING COMPANY LOCATION

The UK has generally been overlooked as an international holding company location. For many years this state of affairs was exacerbated by the UK tax regime’s requirement that an advanced payment of corporation tax, known as ACT, become due whenever a dividend was paid. In many cases zero or very low rates of UK corporation tax would be payable on the foreign income of such companies [ due to double taxation relief ], and thus ACT became irrecoverable as there was no UK corporation tax payable against which to set off the ACT.

Fortunately, ACT is no longer with us, and this has put the UK in a very competitive position with the famous international holding company regimes of the European continent: Austria, Belgium, Denmark, Luxemburg, The Netherlands, Spain and Switzerland.

In fact, the UK has many competitive advantages over these "designer" holding company regimes. The country has a wider network of double tax treaties than its main competitors. There is no capital duly, no minimum paid-up share capital requirements and no dividend withholding tax regime. In addition, the administrative costs of UK companies are comparatively low.

Limitation Of Benefits: One needs to be aware of any limitations of benefits rules in the target company's country, or in the treaty between the UK and the target company's country, disapplying treaty relief in this sort of case. No such rules apply in the current UK/US treaty. However, a new treaty between the UK and the US has now been signed. It is yet to be ratified, although this was scheduled for January 2002. Upon ratification, a pre-existing structure of kind under consideration can continue to benefit from provisions of the old UK/US treaty for another 12 month. Thereafter, the new treaty will apply and such structures will then need to be carefully reviewed.

Qualifying For Treaty Relief On Withholding Tax: The reduced or zero rate of withholding tax must be dependent on the UK company being the beneficial owner of the dividend income. It cannot be dependent on the UK company being the beneficial owner of the shares themselves.

Foreign Tax Credit Relief: The UK company must hold at least 10% of the voting power target company too claim the tax relief in the UK for underlying foreign tax payable on the target company's income.

Foreign Capital Gains Tax Regimes: These should be no domestic capital gains tax [ CGT ] levied in the target company’s country on the gains of the UK company arising from the disposal of the shares of the target company.

The double tax treaty between the UK and the target company’s country will often oust the target company's domestic taxing rights in favour of UK taxing rights, but the US$64,000 question is: can a UK company, which is receiving capital gains as a bare trustee of an offshore principal, obtain treaty protection from any domestic CGT levied by the target company's country?

This is not a problem with the US case study shown, as its domestic law does not tax capital gains of non-resident disposing US shares, provided that the greater part of the US company's value is not derived form real state. But this is an interesting area where these is such a foreign domestic tax. Take Italy as an example, whose law does impose a domestic capital gains tax on the gains non-resident derive from selling Italian company shares. If the UK company in this case study also wholly owned an Italian subsidiary, and assuming that it held the shares of Italian company under the terms of an agreement with its offshore parent of the kind just outlined, then on the face of it treaty between Italy and the UK giving taxing rights to the UK.

When one look at the articles of the some treaty governing distribution of dividends, interests and royalties, there are express provision in those various articles stipulating that the recipient of those distribution must be the beneficial owner of such income in order to benefit from the treaty provisions. It would therefore appear that advisors have a basis for relying on the wording of art 13 [4] of the UK/Italian treaty to claim treaty exemption from capital gains tax in Italy for a UK company holding shares in an Italian company under a division of share rights agreement of the kind considered in this article.

Tax Fraud: This does lead on the question of the money laundering. If a UK professional service provider assists a foreign client to commit tax fraud on a foreign revenue authority, then if a UK service provider offers his assistance knowing or suspecting foreign tax fraud, a money laundering offence may be committed in the UK. So in a scenario such as this where reliance is being placed on the capital gains article of the UK/Italian treaty by the UK company under a "division of share rights agreement", the tax planning must be meticulously implemented. The division of share rights must be valid and effective and the parties must ensure that they are in a position to substantiate their respective entitlement to the appropriate Revenue authorities.

Conclusion: The division of shares rights agreement is a simpler solution to the CGT problem of UK holding companies than other planning techniques involving split share capital arrangements in the target company or the UK company.

A division of share rights agreements becomes contentious where the target company's country has a domestic CGT regime. This can be overridden by an appropriately worded UK double tax treaty, but much will be depend upon the precise wording of this treaty.

Meanwhile, the Treasure have proposed an exemption for UK companies which meet certain criteria from corporation tax or capital gains realized from disposing of "substantial" shareholdings, and the Chancellor of the Exchequer, in his pre-budget report on November 27, 2001 has confirmed that the government are now proceeding the draft legislation to progress this welcome initiative. The precise details of the exemption should be published following the Chancellor's Budget Speech in the House of Commons on 17 April 2002. UK holding companies which do not come within the terms of the new participation exemption should consider relying on the CGT planning points referred to in this article.

UK INTERNATIONAL HOLDING COMPANY

The UK holding company of overseas subsidiary companies already performs creditably as an international holding company.

CONSIDER THE FOLLOWING:

[ 1 ] The UK has the widest network of double tax treaties in the world, and is also a signatory to the EU Parent/Subsidiary Directive. Given the quality and extent of the UK's tax treaty network, it is arguably the best performer in the important discipline of extracting overseas dividends at the minimum tax cost.

[ 2 ] Whilst the UK offers no exemption from UK corporation tax on foreign income dividends, it grants double tax relief by way of a credit for foreign corporation tax underlying the dividends provided that the UK company holds, directly or indirectly, at least 10% of the share capital of the company from whom the tax credit is claimed.

[ 3 ] Where the underlying foreign corporate tax rate is 30% or more, then the credit will normally be a complete relief from UK corporation tax – and therefore as good as an exemption. It is significant that the UK has lower rates of corporation tax than most other industrial nations.

[ 4 ] The UK is remarkable in not imposing any withholding tax on dividends distributed by UK companies to UK non-resident shareholders. It therefore outperforms the other leading holding company locations in this regard.

The UK has always had substantial non-tax attractions as a location for the holding company of an international group. The Headline corporate tax rate is the lowest of the major economies and generous interest relief provisions reduce taxable profits and make the effective tax rate even lower. The UK has an extremely extensive network of double tax agreements. Unlike many of its European counterparts, the UK does not have capital duty on share subscriptions and there is no withholding tax on dividends paid by UK companies, irrespective of the residence of the shareholder.

Legislation exempting capital gains on the disposal of substantial shareholdings took effect 1 April 2002 in advance of the publication of the 2002 Finance Bill which will enact the legislation retrospectively. This participation exemption is a major development and one which makes the UK even more attractive.

For many years the business community has argued for the introduction of a 'participation exemption' on capital gains and dividends to bring it in line with a number of other European jurisdictions in particular the Netherlands. The new legislation meets these demands whilst setting out certain conditions and anti-abuse provisions and effectively sets the UK ahead of its competitors in respect of its holding company facility.

For capital gains exemption the investing company must have held a substantial shareholding in the company invested in for a period of twelve months within the two years prior to the disposal. It is not therefore necessary for the investing company to have a substantial shareholding at the time of the disposal to qualify. A substantial shareholding is at least 10% of the ordinary share capital of the company invested in and 10% of the rights to profits available for distribution and assets on a winding up.

The investing company must be either a sole trading company or a member of a trading group throughout the period beginning with the start of the last twelve month period in which the substantial shareholding requirements was met, and ending at the time of disposal and also immediately after the disposal.

'Trading' in this sense extends to preparing to carry out a trade or to acquiring a significant interest in the share capital of another trading company or holding company of a trading group [ subject to the proviso that the interest acquired is not already a member of the acquiring company's group ].

The investing company must be a 'qualifying trading company' or a 'qualifying holding company' throughout the period beginning with the start of the last twelve month period in which the substantial shareholding condition is met and ending at the time of the disposal and also immediately after the disposal. The definition of a 'qualifying trading company' is one which does not carry on to any substantial extent non-trading activities such as holding intellectual property and ownership of land or assets as investments. A 'qualifying holding company' is one which together with its 51% subsidiaries does not carry on to any substantial extent non-trading activities.

Whilst the legislation marks the UK out further as an attractive jurisdiction for holding company purposes it is important to remember that exemption applies only where the conditions set out in the legislation are met. The investing company must be a trading company immediately after the disposal. If as a consequence of a disposal, a company ceases to be a trading company or the holding company of a trading group because its non-trading activities comprise more than 20% of its activities, the gains will not be exempt.

UK owned groups have frequently used intermediate holding companies to hold shares in overseas trading companies. This has been done for a variety of reasons including getting the best mix of tax rates. With the advent of the new legislation the need for such intermediate holding companies is now questionable and the cost of establishing and maintaining such companies may no longer be justified in many situations. The withholding tax suffered on distributions via an intermediate holding company is more likely to be more than would be the case if the UK parent owned the company directly.

There may be tax planning opportunities in eliminating the overseas holding companies. In particular, if such companies have retained profits, it may be possible to bring those profits onshore tax-free.

In June 2002 the UK government introduced a capital gains tax exemption for UK companies with substantial shareholdings in another company. The new rules have now been clarified and apply to UK registered companies, foreign registered companies resident in the UK for tax purposes, as well as UK branches of companies registered outside the UK.

THE FOLLOWING REQUIREMENTS MUST BE OBSERVED:

[ 1 ] The Investing company [ or Holding company ] must hold at least 10% of the ordinary share capital of the Subsidiary company for at least 12 continuous months [ theh 12 months must not begin more than 2 years prior to the disposal of the shares ].

[ 2 ] The Investing company [ or Holding company ] must be a trading company by itself or a holding company of a trading group during the 12 months period mentioned above.

[ 3 ] The Subsidiary company must be eithera trading company by itself or the Holding company of a trading group for the whole of the 12 month period.

[ 4 ] Trading activities mean activities in a trade, profession, or vocation carried on, on a commercial basis with a view of generating profits.

[ 5 ] Similar provisions apply for group companies.