UK government consults on simplifying administration of relief on withholding tax on interest

A consultation on the proposals, published yesterday, closes on 7 September. The government has not yet decided how best to reform the current regime and is considering a range of potential approaches, including aligning treatment of withholding tax on interest with that of royalties, where tax relief is self-assessed by the payer and applied without an advance clearance from HMRC.

The government said that the current system can be “costly and challenging to navigate” and that the “complexity of the tax relief rules can lead to uncertainty and error, with relief not always operating effectively in practice.”

Eloise Walker, a tax expert at Pinsent Masons, cautiously welcomed the consultation, but warned that a self-assessment mechanism could create additional complexities.

“Whilst an intention to simplify the UK’s overly complex tax system is to be welcomed, it is questionable whether the proposals being mooted will actually lead to simplification or in reality shift the burden of compliance from the lender, receiving the interest payments to the borrowers,” she said. “Simplification involving self-assessment comprising forms and reporting, plus layers of additional safeguards, doesn’t really sound like simplification.”

Currently, relief from withholding tax on interest paid overseas may be available under a tax treaty agreement between the UK and the relevant overseas jurisdiction. Relief is not automatic and is only available where a claims process is completed, involving participation by both parties to the payment and advance clearance being obtained from HMRC. Overseas lenders can apply for a ‘treaty passport’, which may expedite the availability of treaty relief on a loan-by-loan basis.

Walker said: “Ultimately, moving to a system whereby UK borrowers self-assess withholding tax on interest before payment would shift the risks of treaty relief entitlement from the lender to the UK borrower, who would need to get comfortable that the lender is entitled to treaty relief, without the benefit of an advance clearance from HMRC.

“The only parties likely to be better off out of this consultation are HMRC, which would get out of the admin of having to issue directions to pay gross, and lenders, who may get out of compliance requirements such as residency certificates – whilst putting not just some but all the compliance onus, as well as the existing risk of withholding tax itself if things go wrong, onto borrowers.

“If or when a new process is introduced, changes will be required to loan facility agreements to cater for any change of approach and risk allocation, albeit that Loan Market Association standard form documents are already lender-friendly in relation to payment of UK withholding tax on interest.”

HMRC previously operated a concessionary treatment, which applied where tax which would need to be paid following a compliance failure to operate the withholding process correctly was not collected if it was clear that any tax would eventually be repaid under the terms of a tax treaty agreement. This concession is currently paused whilst HMRC reviews the underlying policy and conditions. The operation and pause of the concession are not within the scope of the consultation.

“The fact that the concessionary treatment around compliance is carved out of this consultation may indicate that HMRC is considering killing the concession altogether,” said Walker.

“This is disappointing. It should be a key limb of any simplification, since the whole point of it is to not penalise taxpayers for failing to do something – in this case, submit returns and pay withholding tax – that is ultimately irrelevant, because a refund is due to the lender anyway,” she said.