Charities are generally exempt from corporation tax (CT) in the UK on their main activities and are also exempt from UK tax on investment income, provided that the income is applied to charitable purposes.
Trading, investment and other income received by a charitable subsidiary will be subject to CT. However, due to the ability to make corporate Gift Aid payments, UK CT is unlikely to be payable.
Charities may be subject to overseas withholding tax (WHT) on dividends, interest, royalties, and capital gains in the country where the income is generated. Some jurisdictions can impose WHT on professional and technical services payments, but this is less common.
What type of relief can be obtained from WHT?
- Treaty relief – the charity agrees to pay a lower WHT in accordance with the treaty between the UK and the overseas jurisdiction, by agreement with the overseas authority. Alternatively, the WHT imposed may be reclaimed by the company, by a claim to the overseas tax authority, where the double tax treaty provides relief or a reduced rate of WHT.
- Unilateral relief – this relief allows charities to deduct the WHT incurred from its UK corporation tax liability. A deduction is only available for the WHT after it has been reduced to the minimum rate specified under the double tax treaty with the relevant jurisdiction.
- Deduction relief – this allows a charity to be taxed on the overseas income net of the overseas WHT, eg. £100 income suffers 30% WHT. The charity treats the net of £70 as taxable income, instead of £100. This should always be available but is effectively only 19% relief for the tax deducted and therefore not the most efficient.
Charity A has a royalty agreement with a company in Japan. WHT has been withheld at 20% in Japan on royalty payments made by the Japanese company.
The UK-Japan double tax treaty provides for tax on royalty income imposed in Japan to be reduced to 0% by a UK resident.
Therefore, the charity is entitled to full treaty relief. By making an application to the authority in Japan, normally accompanied by a certificate of residency from HMRC, the charity should be entitled to a repayment of the Japanese WHT deducted and to receive future royalties gross without WHT being deducted.
Because the treaty rate is 0%, the company cannot obtain unilateral relief for this amount in its UK tax return, even if there were a UK tax liability to offset.
Sometimes a claim for treaty relief is not cost-effective or is impractical due to the complexity of overseas administration in certain jurisdictions and the need to overcome language barriers.
Charity B has a royalty agreement with a company in China. WHT has been withheld at 10% in China on royalty payments by the payer in the Chinese company.
The UK-China double tax treaty provides for WHT on royalty income imposed in China on a UK resident to be reduced to a minimum rate of 10%. Therefore, treaty relief cannot reduce the WHT.
If the charity pays UK corporation tax on the royalty because the income does not qualify for a charitable exemption, or because it is received by a subsidiary company, then unilateral relief is available and the WHT can be deducted from the UK corporation tax liability of the company. Full relief should be available for the WHT suffered because the UK corporation tax rate of 19% exceeds the Chinese WHT rate of 10%.
Most UK charities would not pay tax on the royalty income in the UK, however. In this case, the charity cannot offset the WHT by claiming unilateral relief.
Please note that if WHT in China was applied at 15% instead, treaty relief or deduction relief would be available on the additional 5% withheld.
Key points for UK charities
- Treaty relief provides relief for overseas WHT suffered in excess of the treaty rate between the UK and the overseas jurisdiction and should be considered first. Treaty relief for the overseas WHT must be obtained, where possible, from the overseas tax authority.
- Charities cannot generally benefit from unilateral relief or deduction relief, as most investment income received is exempt from UK corporation tax, and therefore treaty relief must be sought.
- Where the treaty does not reduce the tax rate to zero, the charity is unlikely to avoid suffering an overseas tax charge even when the organisation is tax exempt in the UK.
Jamie Whale is senior manager at haysmacintyre