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No WHT on Royalties to EU-Affiliated Entities to Benefit MNCs With a Subsidiary in Spain
The interest and royalties Directive provides, in the interest of addressing international double taxation, for the elimination of source state taxation on payments of royalties made between associated companies of different Member States. The exemption also applies to payments to and from Swiss companies under the Agreement concluded by the European Community and Switzerland on 26 October 2004. Taxand Spain investigates the impacts and benefits of the interest and royalties directive on multinational corporations with a subsidiary in Spain.
The Directive applies when the payer and the beneficial owner of the royalty income are associated companies or permanent establishments. To qualify as associated companies, a direct minimum shareholding of 25% is required, or a third company may have a direct minimum shareholding of 25% in both companies.
According to Spanish law, royalties derived by non-residents from entities established in Spain are, as a general rule, subject to a 24% withholding tax, unless this rate is reduced by a tax treaty.
Spain was authorised to apply during a transitional period an exception to the withholding tax exemption established by the Directive, allowing the imposition of a maximum 10% withholding tax on payments of royalties made to an associated company of another Member State. The transitional period had a duration of six years, starting on the date of application of the Directive: 1 July 2005. Therefore, the transitional period will end on 1 July 2011 and the royalties paid by a Spanish entity to an associated entity resident in another EU Member State or in Switzerland will not be subject to withholding tax in Spain.
The requirements to benefit from the exemption will be the same ones that currently exist for the application of the reduced 10% rate:
- Both companies (payer and recipient) must be subject to and not exempt from an income tax (taxes listed in article 3 a) iii) of the Directive).
- Both companies must have one of the legal forms foreseen in the Annex to the Directive. In the case of Spanish companies, only the following types of entities are foreseen in the Annex: public limited liability companies, private limited liability companies, partnership limited by shares and public law bodies which operate under private law.
- Both companies must be tax resident in the EU (or Switzerland), and not considered resident in a third non-EU state under a tax treaty with that state.
- Both companies must be associated in the terms of the Directive. The minimum 25% holding must be kept for one year before the payment of the royalty or afterwards for the period necessary to complete the year. In the case of Swiss companies this period is two years.
- In the case of royalties paid by permanent establishments, they must qualify as tax deductible expenses for the permanent establishment.
- The company receiving the royalty payments must be their beneficial owner. This excludes, among others, the cases in which it acts as an intermediary, such an agent, trustee or authorised signatory. In the case of permanent establishments, this requirement implies that those royalties must be related to its business and included in its taxable income.
Finally, it is required that the majority of the voting rights of the company receiving the royalties is owned directly or indirectly by individuals or legal entities resident in the EU: in other case, the taxpayer must prove that the intermediate EU company receiving the royalty payments was set up for bona fide business reasons and not in order to unduly take advantage of the exemption.
Royalties paid by Spanish companies to their EU associates are currently subject to a 10% withholding tax (unless a lower rate is provided for in the relevant tax treaty), even when all the requirements in the interest and royalties Directive are fulfilled. This withholding will disappear starting next July.
According to Spanish law, the withholding tax shall accrue when the royalty is paid or when it is due to be paid under the relevant agreements between the parties, whichever happens first. This date will also determine the applicable legislation and, therefore, the tax rate. For this reason, Spanish companies and permanent establishments paying royalties to their EU affiliates should review the conditions of their agreements, and especially the date on which royalty payments will be due in order to determine whether they will benefit from the 0% withholding tax rate.
Your Taxand contacts for further queries are:
T. +34 944 700 699
T. +34 94 470 06 99
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