Foreword OVERVIEW OF CORPORATION TAX ADMINISTRATION IN IRELAND Explanation of corporate tax residence... 6

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2 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Table of contents Foreword OVERVIEW OF CORPORATION TAX ADMINISTRATION IN IRELAND Explanation of corporate tax residence Residency tests in countries that have similar tax systems to Ireland Headline corporation tax rates Trading income versus passive income Effective corporation tax rates Close company rules... 9 Context... 9 Benefits and expense payments to shareholders & family Interest paid to directors and directors associates Loans to shareholders Transfer of assets at undervalue to shareholders Settlements of money or money s worth Close company surcharge Real Estate Investment Trusts Taxation of REIT shareholders Tax treatment of charities Section 110 companies S 110 structure Interest withholding tax Changes to Ireland's Section 110 securitisation regime Transfer pricing Ireland and transfer pricing Country by Country Reporting

3 2.TAX TREATMENT OF DIVIDENDS, PATENTS, R&D AND KNOWLEDGE DEVELOPMENT BOX Tax treatment of dividends Individual shareholders receiving dividends Company shareholders receiving dividends Company paying dividends The tax treatment of intellectual property Capital allowances for intellectual property Tax relief for expenditure on research and development ( R&D ) The Knowledge Development Box Income from patents Companies paying patent royalties Summary of the main Irish withholding taxes Dividend withholding tax Withholding tax on patent royalties and other forms of annual payment Withholding tax on annual interest Withholding tax on rent paid Deposit interest retention tax (DIRT) Exit tax on life policies Capital gains tax withholding Withholding tax on payments by REITS Withholding tax on payments by Section 110 Companies The INTERNATIONAL INFLUENCE The European influence Tax Directives The Four Freedoms State aid The Apple case How was Apple structured in Ireland?

4 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 The Revenue Commissioner s rulings What did the European Commission investigate? Recovery of illegal State Aid The Common Consolidated Corporate Tax Base ( CCCTB ) Why did the Commission relaunch the CCCTB? Ireland s position on CCCTB The current status of the proposals The Equalisation Levy Why has the debate arisen? US tax reforms and profit repatriation A synopsis of the Coffey Review Transfer pricing Intangible assets such as intellectual property Base erosion and profit shifting DOUBLE TAXATION TREATIES Broad principles of double taxation treaties Effect of a double taxation treaty Branches and Permanent Establishments What happens if no double taxation treaty exists? Countries with which Ireland has a Double Taxation Treaty Member States of the OECD How is a double taxation treaty arrived at? Tax residence under tax treaty rules Double tax relief for dividends Double tax relief on interest Double tax relief for royalties Double tax relief for branch Public Domain Issues concerning royalties

5 The Double Irish arrangement The Dutch Sandwich Limitations of double taxation treaties Other types of tax agreement THE DISCRETION AVAILABLE TO THE REVENUE Level of discretion in the application of the tax code Legislation and regulations The general anti-avoidance rule The Cooperative Compliance Framework Bona fide tests Freedom of Information Act Issuing opinions Cases of genuine uncertainty Opinion required by tax law Managing the transfer pricing process

6 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Foreword This Briefing document on Corporation Tax in Ireland has been prepared for the Public Accounts Committee, in accordance with the requirements identified in the Committee s Request for Tender of 21 December 2017, and with the benefit of subsequent clarifications at meetings with the Committee, its Chair and its secretariat. It is not, nor is it intended to be, a detailed textbook on all aspects of the Corporation Tax system in Ireland. Rather its purpose is to explain the salient points of the tax topics of interest identified by the Committee in a manner directed at the general reader. The authors are: Dr Brian Keegan Norah Collender M.A. (Econ) Cróna Brady ACA 5

7 1. OVERVIEW OF CORPORATION TAX ADMINISTRATION IN IRELAND 1.1 Explanation of corporate tax residence Any company incorporated in Ireland on or after 1 January 2015 is deemed to be tax resident in Ireland 1. This rule applies unless the company is treated as tax resident in another country under the provisions of a Double Taxation Treaty 2. Irish tax resident companies pay Irish corporation tax on their worldwide profits. Companies that are not tax resident in Ireland but trade through a branch or agency in Ireland pay Irish corporation tax on their Irish branch or agency income. Companies that do not have a branch in Ireland but receive Irish source income, for example rent from Irish property, pay income tax on that Irish income and the rate is currently 20%. 1.2 Residency tests in countries that have similar tax systems to Ireland UK incorporated companies are generally treated as UK resident unless a Double Taxation Treaty says otherwise. Additionally, companies incorporated outside of the UK can also be treated as UK resident if their central management and control is situated in the UK. In the United States ( US ), a company incorporated in the US is tax resident there even if it does no business or owns no property in the US. In Germany, a company is tax resident there if it is either incorporated there or its main place of management is in Germany. If neither condition is met, the company only has tax obligations in Germany relating to its income from German sources. 1 Taxes Consolidation Act 1997 s23a 2 Discussed later in Section 4 which deals with Double Taxation Treaties. Special transitional rules are currently in operation and will apply until the end of 2020; the purpose of these rules is to phase out opportunities for the tax planning arrangement known as the Double Irish arrangement described in Section

8 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 In Luxembourg, a company is tax resident there if its registered office or place of management and control is in Luxembourg. In France, the general rule is that a company is tax resident in France if it is incorporated there. 1.3 Headline corporation tax rates Three different rates of corporation tax can apply. The most prominent rate of corporation tax is 12.5 %, which has been in force since 2003 and it applies to trading income. A higher rate of 25% applies to investment, rental and other non-trading profits (sometimes referred to as passive income) as well as certain petroleum, mining and landdealing activities 3. Chargeable capital gains are taxable at the capital gains tax rate, currently 33%. 1.4 Trading income versus passive income Passive income is the general term for income derived from investments, e.g. rental income from property investments, which is subject to corporation tax at 25%. For a company to access the 12.5% rate of corporation tax on it trading profits, the company must demonstrate a degree of regular commercial (i.e. trading) activity associated with generating the income. In general, where a company owns an asset and the mere ownership of that asset produces an income, the company s income from this asset will not be trading income and the income will be taxed at the 25% rate of corporation tax accordingly. As the difference between the corporation tax rates on trading income and passive income is substantial, the distinction between whether a company s activities are trading or passive is very important. 3 Taxes Consolidation Act 1997 s21a 7

9 Revenue has procedures in place to ensure that the correct corporation tax rate is applied based on the circumstances of a company s activities. In particular, the establishment of a new company in Ireland with non-irish directors or shareholders will generally attract attention at the tax-registration stage and Revenue will review if the company is actually trading in substance in Ireland for the purposes of accessing the 12.5% rate. There is no clear definition of trading in Irish tax legislation. A significant body of case law on this subject along with a list of established and long standing tests known as the Badges of Trade 4 and Revenue guidance, are used in assessing if an activity is trading. Revenue has published guidance on the trading versus passive income question 5. Revenue also issues prior approval where there are areas of doubt as to the application of the 12.5% tax rate, particularly in the case of foreign companies contemplating relocating to Ireland (see Section 5.7). The following factors are considered by Revenue when deciding if an operation amounts to a trade taxable at 12.5%: Is there a commercial rationale for the type of operation proposed? Is there any real value added in Ireland? Are there employees in Ireland with sufficient levels of skills to indicate that the trade is actively being carried on by the company? 1.5 Effective corporation tax rates An effective tax rate is the tax burden as a proportion of the tax base. For companies this is corporation tax as a proportion of corporate taxable profits. 4 These are derived from a set of rules drawn up in 1955 by the UK Royal Commission on the Taxation of Profits and Income. 5 Revenue Tax and Duty Manual Part

10 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 In April 2014, the Department of Finance published Effective Rates of Corporation Tax in Ireland: Technical Paper. This study established that Ireland s effective rate of corporation tax on the total profits subject to Irish tax have averaged 10.7% to 10.9% since It is difficult to arrive at a universally acceptable calculation of the effective rate of corporation tax because different methodologies and approaches are relevant depending on the individual company. For some measures, looking at the result for a single year can be misleading due to the impact of the business cycle on income, capital gains/losses, the use of trading losses carried forward (which can serve to reduce the amount of profits taxable in any given year), and the timing of tax payments. 1.6 Close company rules Context A close company is an Irish resident company which is under the control of five or fewer participators (more generally these are shareholders) or under the control of any number of shareholders who are directors 6. Examples Four unrelated individuals hold a 25% shareholding each in an Irish company. The company is subject to the close company rules because the company is controlled by five or fewer participators. An Irish resident company is owned equally by a family of shareholders consisting of four brothers and their eight children (each brother has two children). As all the shareholders are connected by reason of being family, the company is deemed to be controlled by five of fewer shareholders and is a close company. 6 The rules for Close Companies are dealt with in Part 13 of the Taxes Consolidation Act Close in this context means closely held by one or a small number of individuals. 9

11 The close company rules are designed to prevent situations where the profits of close companies are accumulated in a company rather than distributed to shareholders in whose hands the distributions would attract income tax. The anti-avoidance close company rules are also designed to prevent shareholders or their relatives from extracting funds or value from a close company in a manner that avoids or reduces potential tax liabilities. The anti-avoidance nature of the close company rules are framed by the following: benefits and expense payments to shareholders or the family of shareholders are treated as distributions from the company; interest in excess of a specified rate paid to directors or their associates is treated as a distribution; loans to shareholders or the family of shareholders will be penalised and, if the loan is forgiven, it will be treated as income in the hands of the recipient; transfer of assets at undervalue from the close company will also be penalised; undistributed investment, rental and service company income will be liable to a 20% surcharge; and some legal settlements involving the transfer of value will be treated the same way as dividend payments for tax purposes. Benefits and expense payments to shareholders & family Expenses incurred by close companies in providing certain benefits for participators or their associates (typically an associate is a family member) are regarded as distributions where those benefits are not chargeable under the income tax provisions relating to the taxation of benefits-in-kind. 10

12 Example Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Ken and Sue are married and are equal shareholders and directors of Turner Music Ltd. The company pays for a flight costing 800 for their son, Timmy, to the USA. Timmy doesn t work for Turner Music Ltd and is a marginal rate taxpayer. No payment is made to the company by Ken, Sue or Timmy. The tax impact of this transaction is as follows. The expense of 800 is a non-deductible expense for Turner Music Ltd. Turner Music Ltd is treated as having made a distribution to Timmy and must operate dividend withholding tax ( DWT ) and pay 20% of the value of the flight to San Francisco to the Revenue. Timmy must then pay income tax at his marginal rate on the deemed distribution i.e. the value of the flight, and he can claim a credit for the DWT paid at source by Turner Music Ltd. Interest paid to directors and directors associates This provision is designed to counter the withdrawal of profits from a close company under the pretence of interest repayments on loans by a director to the company. Interest paid to a director which is in excess of a prescribed limit is treated as a distribution. The excess interest is not an allowable deduction for the company in its taxable profit calculation. DWT must be accounted for by the company on the excess interest. The recipient is subject to income tax on the deemed distribution. Loans to shareholders An income tax liability arises on a close company which makes loans (when not in the ordinary course of the company s business) to a shareholder or to a person associated with the shareholder. The income tax payable is based on the value of the loan advanced regrossed at the standard rate of income tax of 20%. The income tax liability is payable by the company as part of its obligation to self-assess corporation tax. If the loan is written off by the company, then the shareholder is liable to income tax on the loan with a credit for tax paid by the company at the time the loan was advanced. 11

13 Transfer of assets at undervalue to shareholders Multiple tax charges are triggered if a close company transfers an asset to a shareholder or a person connected with the shareholder for less than open market value, resulting in a penal amount of tax becoming payable across a number of taxheads. Settlements of money or money s worth Trusts (or settlements) designed to extract funds from close companies, for the benefit of its members and relatives, are also subject to anti-avoidance provisions which trigger a tax charge on the company and on the shareholder involved in such arrangements. Close company surcharge The close company surcharge provisions are designed to discourage the retention of passive income (i.e. investment and rental income) and professional income in close companies. The surcharge takes the form of an additional corporation tax liability of 20% (or 15% in the case of a service company) if the close company has not distributed the relevant income during the accounting period or within 18 months of the end of the accounting period. 12

14 Example Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Magic Ltd, a close company, has the following results for the year ended 31 December 2018: Trading income 750,000 Rental income 100,000 The company does not pay out any dividends in the accounting year ended 31 December 2018 or within 18 months of 31 December It therefore will have the following corporation tax liability: Normal corporation tax liability Trading income 750,000 x 12.5% = 93,750 Rental income 100,000 x 25% = 25, ,750 Close company surcharge Rental income 100,000 Less Corporation tax paid (25,000) Distributable rental income 75, % deduction for trading companies (5,625) Net distributable rental income 69,375 Surcharge 20% 13,875 Total tax payable 132,625 The effective rate of tax on the rental income increases from 25% to almost 39% due to the close company surcharge. To avoid the surcharge, the shareholder can take a dividend but this in itself will trigger an additional tax charge in their hands. 1.7 Real Estate Investment Trusts Special rules for Real Estate Investment Trusts ( REITs ) provide a corporation tax exemption for income and chargeable gains of a property rental business 7. The income and chargeable gains may be derived from both residential and commercial properties. The 7 Part 25A of the Taxes Consolidation Act

15 rental properties held by the REIT can be located anywhere and are not restricted to Ireland. A company or principal company of a group of companies qualifies as a REIT if it can satisfy a number of conditions, mainly: resident in the State, and not resident in another territory; incorporated under the Companies Act; has its shares listed on the main market of a recognised stock exchange in a Member State; and is not a close company. Taxation of REIT shareholders Shareholders are taxed where a REIT pays a distribution in the form of a property income dividend. A property income dividend paid to a corporate shareholder is subject to the 25% rate of corporation tax. A property income dividend paid by a member of a group REIT to another member of the same group REIT is exempt from corporation tax. A property income dividend is taxed at 12.5% in the hands of institutional investors, such as banks. A REIT is obliged to apply dividend withholding tax (DWT) at the rate of 20% on property income dividends to individuals including non-resident individual shareholders. This is a departure from the usual DWT rules, which provide for an exemption on the application of DWT on dividends to many types of non-resident shareholders. Profits from a REIT s non-property rental business, if any, are subject to normal tax rules. 14

16 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Example: Taxation of income within a REIT Rental income Rental income 1,000,000 Rental expenses (200,000) Net rental profit 800,000 Tax payable Nil Management fee income Management fee income 100,000 Management expenses (50,000) Net management fee profit 50, % payable within the REIT 6,250 Distribution by REIT of 800,000 profits Mandatory minimum distribution (85%) 680,000 Dividend Withholding Tax (136,000) New cash distribution to shareholder 544,000 The taxation of non-resident shareholders of the REIT will be determined by the country in which they are tax resident. Shareholders who are resident in a country with which Ireland has a double taxation treaty and who hold less than 10% of the shares in the REIT may be entitled to a refund of some or all of the DWT under a double taxation treaty. 15

17 1.8 Tax treatment of charities A charity which has been granted charitable status by the Charities Regulatory Authority ( CRA ), can apply for a charitable tax exemption from the Revenue. This means that the charity may be exempt from paying the following: Income tax Corporation tax Capital gains tax Deposit interest retention tax Capital acquisitions tax Dividend withholding tax Stamp duty. The charity is obliged to operate and pay income tax, PRSI and the USC under the PAYE system for its employees. Charitable tax exemption status does not apply to value added tax ( VAT ). A VAT refund scheme to partly compensate charities for VAT incurred on their inputs will commence in Based on information released with Budget 2018, charities will be entitled to a refund of a proportion of VAT incurred on costs based on the level of public funding they receive. For example, where a charity s total income for a year comprises 30% funding from State/EU/international organisations and 70% privately sourced income including fundraising, subscriptions and donations, they may apply for a claim of 70% of their VAT input costs for the year. A refund will not be available on private, non-charitable related expenses or on VAT incurred which is otherwise reclaimable from the Revenue. A fund of 5 million will be available towards providing refunds in

18 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February Section 110 companies Section 110 refers to special taxation rules for securitisation and other structured finance transactions 8. Under first principles, the profits of a section 110 company are chargeable to tax at the 25% corporation tax rate which applies to investment companies. However special rules provided for in section 110 of the Taxes Consolidated Tax 1997 allow for the profits to be taxed at the 12.5% rate. The company can also claim deductions which would not normally be allowed to an investment company such as interest on loans. This generally results in a section 110 company being tax neutral i.e. it has negligible taxable profits after deductions are factored into the corporation tax computation. A section 110 company is an Irish resident special purpose vehicle ( SPV ) which holds and/or manages qualifying assets. Such companies have historically been established to facilitate investment in a wide variety of financial transactions involving debt. In all cases, a de minimis asset value limit of 10m is imposed for the first transaction carried out by a company for the purpose of qualifying for the special tax treatment. S 110 structure The Section 110 company acquires and holds debt from a lender. The income of a section 110 company generally arises from repayments received on the debt acquired while the expenses of the Section 110 company are the return to the investor. A Section 110 company is regarded as trading and subject to corporation tax at 12.5% on its tax adjusted accounting profits. Taxable profits are computed in accordance with the tax rules that apply to normal trading companies. Example: Taxation of Section 110 company Income from debt 15 million Less interest paid to investors 15 million Taxable profits nil Tax paid nil 8 The rules are to be found in Taxes Consolidation Act 1997 s

19 Interest withholding tax Interest withholding tax does not arise on interest payments made by Section 110 companies to their investors provided (among other conditions) that the investor is tax resident in an EU member state or a country with which Ireland has a double taxation treaty. Interest withholding tax is not levied either where interest is paid in respect of quoted Eurobonds. Changes to Ireland's Section 110 securitisation regime Tax laws for Section 110 companies were tightened in Finance Act 2016 to exclude the activity of companies managing loans, swaps or derivatives deriving their value from Irish land and Irish buildings from the special tax treatment set out earlier. As a result of these changes, a Section 110 company with loans secured on Irish property at a discount could be subject to Irish corporation tax at the rate of 25% on the element of the return earned on those investments. Subject to certain exceptions, withholding tax obligations also apply to interest payments to investors Transfer pricing Transfer pricing is a term used to describe two different concepts: the opportunity to move profits from one country to another by varying the price charged between related parties for goods or services; the requirement imposed by tax legislation that income be computed on the basis of arm s length prices between related parties. The second concept above is the response of international tax authorities to the opportunity described in the first concept. The objective of such laws is to make the practice of varying the price of a product on an arbitrary basis between connected companies, or a head office and a branch, in different countries, ineffective for the purposes of manipulating the overall corporation tax liability. Article 9 of the OECD Model Tax Convention on Income and Capital provides guidance for the computation of arm s length prices in its publication Transfer Pricing Guidelines 18

20 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 for Multinational Enterprises and Tax Administrations. This document is updated periodically to reflect international developments and international best practice. It provides a methodology that is designed to assist multinational enterprises to set intercompany pricing levels in a manner that ensures that the reported financial results in each jurisdiction in which the group operates reflect arm s length amounts. The goal of transfer pricing analysis is to set, or defend, prices for products transferred between related parties which meet the arm s length standard 9. This analysis can be done by the taxpayer, in order to report an appropriate amount of business income in each operating country, or by the tax authorities, where they consider that a taxpayer has inappropriately shifted profits or tax base from one location to another. If the transfer pricing analysis is undertaken by the tax authorities in one operating country, their conclusion establishes the arm s length profit to be reported in that country. Taxable income can be adjusted upwards in accordance with the transfer pricing analysis of the tax authority. If the taxpayer does not agree with the conclusions reached by the tax authorities and the transactions are with a treaty state, the matter may be referred for a mutual agreement procedure as provided for under OECD guidance. If the transactions are not with a treaty state then only the normal domestic appeal process is available to the taxpayer. Many jurisdictions, such as the UK, US and Ireland, impose on taxpayers an obligation to document the arm s length nature of significant inter-company transactions at the time these transactions are undertaken. This is known as a requirement for contemporaneous documentation, which is prepared at the same time as the transaction to which it relates. Whether a transaction between related parties is at arm s length or not is determined by comparing the financial result of the transaction with the financial results achieved when unrelated parties enter into comparable transactions. The use of comparable transactions is 9 Ireland's transfer pricing legislation is set out in Part 35A of the Taxes Consolidation Act 1997 and requires the application of the OECD arms length standards. 19

21 central to transfer pricing analysis as it provides the evidence required to establish the arm s length outcome. It is only reasonable to draw a comparison in the financial outcomes of related party and third party transactions if the same product is sold, the same functions are performed and the same risks are borne by the unrelated party. In practice, it can be extremely difficult to find precisely comparable third party transactions. It may therefore be necessary to adjust the financial results of third party transactions to make them comparable to the related party transactions being examined. Ireland and transfer pricing Transfer pricing legislation was introduced in Ireland in Finance Act 2010 based on the OECD Transfer Pricing Guidelines applicable in The Irish transfer pricing legislation introduced a requirement to have documentation in place supporting the arm's length nature of inter-company transactions for transactions carried out in accounting periods starting on or after 1 January Transfer pricing obligations do not currently apply to a small or medium-sized entity. An entity qualifies as either small or medium-sized if it meets the staff headcount ceiling of less than 250 and one (or both) of the following financial limits: turnover of less than 50 million, asset total of less than 43 million. Revenue monitors the degree of compliance with Ireland s transfer pricing rules. A company can be selected by Revenue for a self-review which means that it must provide a report within three months to Revenue setting out detailed information to support the transfer pricing approach of the particular company or group of companies. The OECD produced amended Transfer Pricing guidelines in 2017 in part arising from the OECD Base Erosion and Profit Shifting project described in Section The Department of Finance has conducted a consultation, which closed in January 2018, on 20

22 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 how Ireland should proceed in reflecting the revised OECD guidelines into Irish legislation. Any changes to Irish domestic laws are expected to take effect from Country by Country Reporting The Base Erosion and Profit Shifting ( BEPS ) Action Plan is a G20 initiative developed by the OECD since 2013 to curtail aggressive corporate tax planning across borders by multinational groups of companies 10. The BEPS Action Plan recognised that enhancing transparency for tax administrations by providing them with adequate information to assess high-level profit shifting and other BEPS-related risks is a crucial aspect for tackling the BEPS problem. The BEPS Action 13 report (Transfer Pricing Documentation and Country-by-Country Reporting) provides a template for multinational enterprises ( MNEs ) to report annually and for each tax jurisdiction in which they do business. This report is called the Countryby-Country ( CbC ) report. Ireland was one of the first countries in the OECD to introduce CbC reporting in line with OECD recommendations. The requirement to submit a CbC report applies to Irish headquartered multinational companies with annual consolidated group revenue of 750 million or more. Irish subsidiaries of multinational enterprises may also be obliged to file reports with Revenue. The reporting requirement applies for accounting periods beginning on or after 1 January In order to exchange the CbC reports with other jurisdictions, Ireland enters competent authority treaties with the tax authorities of other jurisdictions providing for the automatic exchange of CbC reports under the OECD s Multilateral Convention for Mutual Administrative Assistance in Tax Matters ( MCAA ). As at December 2017, 68 jurisdictions (including Ireland) have already signed the MCAA and more may sign up at a later date. 10 See Addressing Base Erosion and Profit Shifting, published by the OECD on February 12, A series of 15 BEPS actions emerged, of which Country by Country reporting is one. 21

23 2. TAX TREATMENT OF DIVIDENDS, PATENTS, R&D AND KNOWLEDGE DEVELOPMENT BOX 2.1 Tax treatment of dividends Irish tax law deals extensively with the taxation of company distributions. The most common form of distribution is a dividend. The tax consequences of receiving a dividend depend on whether the shareholder is an individual or a company, Irish tax resident or not. Individual shareholders receiving dividends Irish tax resident individuals receiving dividends from Irish companies pay tax at their marginal rate of income tax plus PRSI plus the USC on the gross dividend received. Individuals receive a tax credit for tax withheld at source by the company (known as dividend withholding tax ( DWT ) 11. Shareholders may elect to take additional shares in a company rather than cash dividends. This is referred to as receiving a scrip dividend. The taxable amount is calculated as being the cash that the individual would have received if they had not elected to take their dividend in the form of shares. Company shareholders receiving dividends Dividends paid by an Irish resident company to another Irish resident company are normally exempt from corporation tax. The exemption for dividends does not, however, apply to property income dividends received by a company from an Irish real estate investment trust ( REIT ) see Section 1.7. Dividends received by an Irish company from a company not tax resident in Ireland are normally subject to corporation tax of 25% in the hands of the Irish shareholder company. Irish tax legislation on dividends provides that the 12.5% rate of corporation tax can, as an option, apply to foreign dividends paid out of trading profits of: 11 The rules for DWT are set out in Part 6 of the Taxes Consolidation Act

24 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 an EU tax resident company or a company tax resident in a treaty country, or in a territory that has ratified the OECD Convention on Mutual Administrative Assistance in Tax Matters; or a publicly quoted company trading on a stock exchange in Ireland, an EU or treaty country or any other country approved by the Minister for Finance. Company paying dividends Dividends and other distributions are specifically non-deductible in computing income for corporation tax purposes in the tax computation of the company paying the dividend. Irish companies paying dividends are obliged to withhold DWT at 20% on payments made to shareholders and they pay over this withholding tax directly to Revenue. The obligation to withhold tax will not apply where the company is paying dividends to certain exempted bodies or individuals, for example: Irish companies or pension funds; individuals who are not resident in Ireland, but who are resident in other EU states or other countries with which Ireland has a double tax treaty; or a recognised employee share ownership trust 2.2 The tax treatment of intellectual property Intellectual Property (IP) can be extremely valuable, but in a fast-moving technological era often has quite a short lifespan. That complicates its tax treatment, because often discoveries and processes are not patented as it would take too long, and companies seek to exploit the know-how they have developed as quickly as possible. IP is an increasingly important element of cross-border taxation, as the ownership of IP is a key requirement to the success of any multinational company developing and marketing high-tech products. Typically what happens is that the company within a multinational group which develops the IP puts a value on what they have developed. The company then charges a percentage for its use in the manufacture of a product which relies on the use of that IP. 23

25 Alternatively, a manufacturing company within a group can buy outright the patents or copyright or whatever form the IP takes from the company which developed it. It can then use the IP directly in its own manufacturing process without having to pay further royalties. The purchaser of the IP may claim an allowance for the amount expended on the outright purchase in its own tax calculations. Generally speaking, when a company acquires any asset, be it a computer, a motor vehicle or a full production line, or a piece of intellectual property ( IP ) like a patent or a copyright, the tax system grants an allowance for the cost of that item over a number of years instead of writing off the cost as an expense in the year of purchase. In the straightforward case of buying a computer that is in use for the purpose of the trade, the cost of the computer is spread out over eight years. For each of the eight years following the purchase, the company gets a tax deduction of 1/8 of the value of the computer against its taxable profits. This system is known as the capital allowances regime. Capital allowances for intellectual property A similar regime operates to provide tax relief for buying IP assets 12. The company spreads the cost of the IP asset out over a number of years. However, because the lifespan of IP can be very short, Irish tax legislation allows the company to determine the appropriate spread based on the following options: 24 7% of the expenditure on the IP asset for each year over 14 years followed by 2% deduction in the 15th year or an amount equivalent to the value used annually to recognise depreciation of the IP asset in the company s accounts. Unlike the situation for other assets, the capital allowances regime for IP has a special restriction. The value of the allowance can only be used to reduce profits arising from the use of the particular piece of IP. Profits arising on other products in the company s range will not be reduced by the investment in the IP. 12 Most of the rules governing the tax treatment of Intellectual Property, including relief for investment in Research and Development and the Knowledge Development Box described below are to be found in Part 29 of the Taxes Consolidation Act 1997.

26 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 A further restriction applies in that the allowance can only be used against 80% of the income stream with any balance of the capital allowance is available to carry forward to subsequent years, thereby ensuring that some profit at least from the sale of product always remains within the charge to Irish tax. Example Company X, an Irish resident company, acquires patent rights in 2018 at a cost of 10 million. Ownership of the patent allows it to manufacture square widgets on which it makes a profit of 200,000. Company X also makes round widgets for which the patent is not required. Profits from round widgets come to 100,000. Company X opts to claim capital allowances based on 7% of the 10 million expenditure on the patent, which amounts to 700,000 in Company X calculates its tax for 2018 as follows: Total profits 300,000 Allocated between products Square widgets Round widgets 200, ,000 Restricted income (80%) 160,000 *Capital allowances ( 160,000) Nil Taxable profits 40, ,000 Tax at 12.5% 5,000 12,500 *Company X can only use capital allowances up to 160,000. The excess capital allowances of 540,000 for 2018 ( 700,000 less 160,000) are carried forward for offset against Company X square widget profits for Tax relief for expenditure on research and development ( R&D ) An R&D credit is available to companies which are subject to Irish corporation tax. 25

27 In simple terms, R&D includes: basic research; applied research; and experimental development. The activities must be carried out in the following fields: natural sciences; engineering and technology; and medical sciences or agricultural sciences. The overriding requirement is that the activities must aim to advance scientific or technological knowledge and to resolve scientific or technological uncertainty. Activities relating to routine testing, management studies, market research, and commercialisation of technology or investigations on the commercial viability of an idea do not qualify as R&D. Broadly speaking, once the scientific or technological uncertainty has been resolved, expenditure incurred beyond that point does not qualify for the R&D credit. Tax relief takes the form of a tax credit which reduces the company s tax liability. This can arise based on either revenue expenditure or capital investment. The credit equates to 25% of a company s qualifying R&D expenditure for the accounting period in question. The company can also take a deduction worth 12.5% for revenue type R&D expenditure for example in arriving at taxable profits. Effectively a company reduces its tax liability by up to 37.5% of qualifying R&D expenditure in an accounting period. 26

28 Example of R&D relief for costs Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Investigate Ltd has sales of 100,000 and incurs 20,000 in R&D expenditure in 2018 which takes the form of revenue type expenditure such as salaries paid to employees working on R&D activities. Investigate Ltd s tax computation is as follows: Sales 100,000 Tax value Tax deduction for R&D expenses (20,000) 20k x 12.5% = 2,500 Taxable profits 80,000 Corporation 12.5% 10,000 Credit for R&D expenditure ( 20,000 x 25%) (5,000) 5,000 Corporation tax liability 5,000 Tax saving 7,500 Or R&D expenditure 20,000 x 37.5% = 7,500 If a company does not have sufficient taxable income in an accounting period to absorb the tax credit available for its R&D expenditure, then it has a number of options open to it to use the credit. 1. The company could use the tax credit to reduce its tax liability in the prior accounting period. Using the R&D tax credit in this manner usually results in a refund of all or some of the tax paid on profits in the previous accounting period. 2. Where a company has offset the credit against the corporation tax of the preceding accounting period or where no corporation tax arises for that period, and an excess of R&D credits still remains, the company may make a claim to have the excess paid to them by the Revenue in three instalments over a period of 33 months from the end of the accounting period in which the expenditure was incurred. 3. The company could allow another company in its group to use the tax credit to reduce its tax liability. 4. The company could transfer its R&D tax credit to certain key employees involved in R&D activity to generate a tax saving for the employee directly by reducing his or her payroll tax bill subject to limits on the amount of relief the employee can claim. 27

29 Where a company makes a claim for the R&D credit and it transpires that the claim does not satisfy the conditions of the tax relief, then relief granted must be repaid to Revenue. Where the R&D claim was deliberately false or overstated, then company must repay back to Revenue double the amount of tax relief claimed. As R&D activities are highly technical and likely to be outside the expertise of Revenue staff, tax laws are in place giving Revenue the power to consult with outside experts to evaluate whether the expenditure qualifies as R&D activities. 2.4 The Knowledge Development Box The Knowledge Development Box ( KDB ) is a special instance of the use of IP to reduce a company's tax bill. The term box in tax jargon means a separate set of rules. When a company develops its own IP, and uses that in the manufacture of a product incorporating that IP, the profits on that product are taxed at a special reduced rate. In Ireland that reduced rate is 6.25%, that is to say, half of the 12.5% standard corporation tax rate. The Irish law governing the KDB follows an OECD standard for the development of patent box regimes. The key element of the OECD standard is that the IP is developed in the same country in which the special tax rate is granted. This means that a company cannot buy in IP from outside, and then use that IP to avail of a reduced corporation tax rate on its profits. The KDB regime is closely linked with the R&D regime and specifies that a claimant company must incur expenditure on R&D and such expenditure is subject to the same technical qualification criteria as R&D tax credit claims. An increase of up to 30% of the actual amount spent by the company on R&D is permitted when working out the proportion of costs in developing IP relative to the total costs of running the company. 28

30 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Example Y Ltd has undertaken successful R&D activities which resulted in scientific innovation and advancement culminating in the development of a computer program it has launched on the market. The computer program qualifies for the KDB relief. Details of expenditure incurred on the computer program along with details of the profits derived from the sale of the program and other income of Y Ltd for 2018 are as follows: Qualifying expenditure on developing the computer program 1,200,000 Overall expenditure in the company 2,000,000 Uplift expenditure allowed in the calculation 30% of 1,200, ,000 Profit from the sale of the software 3,800,000 Qualifying profit: Qualifying Expenditure + Uplift Expenditure x Profits of Specified Trade Overall Expenditure 1,200, ,000 x 3,800,000 = 2,964,000 2,000,000 Therefore, 2,964,000 of the company s total profit will be taxed at 6.25%, and the balance at 12.5%. 2.5 Income from patents Income from patents is subject to corporation tax where the patent is paid to a company. A well-known tax exemption for patent income has been abolished for several years. 29

31 The rate of corporation tax paid by a company on income derived from patents is usually 25%. Companies paying patent royalties A company paying a patent royalty is entitled to a deduction for the payment in arriving at its taxable profits for an accounting period. A company making a patent royalty is obliged to withhold 20% of the royalty and pay it directly to Revenue. The withholding tax must be paid over with the company s corporation tax liability for the period in which the amount was deducted. A company may be exempt from withholding tax where the recipient of the payment is located in a country with which Ireland has a double taxation treaty or in an EU Member State that imposes tax on royalties. 2.6 Summary of the main Irish withholding taxes Dividend withholding tax Scope: Distributions, usually in the form of dividends, made by companies Who collects the withholding tax: The paying company Rate: 20% Exemptions for Irish residents: Generally companies, pension schemes, investments vehicles and charities. Exemptions for non-residents: Generally companies resident or controlled by residents of tax treaty states, non-resident companies controlled by a company quoted on the stock exchange and non-resident persons resident in treaty countries. 30

32 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Withholding tax on patent royalties and other forms of annual payment Scope: Patent royalties and annual payments Who collects the withholding tax: The paying company Rate: 20% Exemptions for Irish residents: None Exemptions for non-residents: Generally payments to companies resident in the EU or in a treaty country Withholding tax on annual interest Scope: Annual Interest Who collects the withholding tax: The paying company Rate: 20% Exemptions for Irish residents: Banks, group companies, investment undertakings, section 110 companies, credit unions, financial traders, designated government securities. Exemptions for non-residents: Generally payments of interest to residents in tax treaty states, interest on wholesale debt instruments (subject to controls and minimum values) and quoted Eurobonds. Withholding tax on rent paid Scope: Rent paid to non-residents Who collects the withholding tax: Tenant Rate: 20% Exemptions: Only on appointment of an Irish resident agent 31

33 Deposit interest retention tax (DIRT) Scope Interest on deposit accounts Who collects the tax: The deposit taker, typically a bank Rate 37% Exemptions for Irish residents: Charities, individuals 65 or over (subject to an income limit), trustees of permanently incapacitated persons, companies, pension schemes Exemptions for non-residents: All non-residents Exit tax on life policies Scope: The growth in value of a life assurance product Who collects the tax: Life company Rate: 41% Exemptions for Irish residents: Life companies, investment undertakings, charities, PRSA providers and credit unions. Exemptions for non-residents: All non-residents Capital gains tax withholding Scope: Who collects the withholding tax: Rate: Exemptions for Irish residents: Exemptions for non-residents: Proceeds of 500,000 or more from the sale of land, minerals, exploration rights, goodwill of a trade and shares deriving their value from land, minerals and exploration rights. Proceeds of 1,000,000 or more for residential property. Vendor or agent of the vendor 15% of proceeds Holders of pre-clearance certification from Revenue called CG50A Holders of pre-clearance certification from Revenue called CG50A 32

34 Corporation Tax Briefing for the Committee of Public Accounts Chartered Accountants Ireland, February 2018 Withholding tax on payments by REITS Scope: Who collects the withholding tax: Rate: 20% Distributions by REITS Paying REIT Exemptions for Irish residents: Generally payments to pension schemes, charities, and other investment funds Exemptions for non-residents: None (non-resident investors who hold less than 10% of the shares in the REIT may be entitled to a refund of some or all of their DWT under a double tax treaty) Withholding tax on payments by Section 110 Companies Scope: Who collects the withholding tax: Rate: 20% Exemptions for Irish residents: Interest payments Paying Section 110 company Generally payments to pension schemes, charities, other investment funds. Exemptions for non-residents: Generally payments of interest to residents in tax treaty states, interest on wholesale debt instruments (subject to controls and minimum values) and quoted Eurobonds. 33