On 1 December 2017 the UK published a consultation paper on extending royalty withholding tax in relation to connected persons not resident in the UK. Comments are invited from interested parties with a submission deadline of 23 February 2018.

It was announced in the autumn budget 2017 that payments to connected parties in low tax jurisdictions for exploiting certain property or rights in the UK will be subject to appropriate UK taxation. This is expected to mainly affect digital businesses. The proposal targets intragroup arrangements that achieve an artificially low effective tax rate distorting competition in markets where the group operates including the UK. Legislation will be introduced in Finance Bill 2018/19 and will take effect if passed from April 2019.

The UK government is consulting on the design of the rules. The measure is to affect arrangements achieving low effective tax rates through holding IP in low or no tax jurisdictions. So if a non-UK company makes a payment to a related non-UK company in a low tax jurisdiction for the use of IP, and that IP is exploited to make sales in the UK, the royalty payment (or the relevant part of it) would be subject to UK taxation. The measure would apply regardless of which group company makes the sales in the UK provided that the royalty was paid in connection with the exploitation of IP in the UK.

Existing legislation would not subject the payment to UK tax because the payment has not been made by a UK resident entity or in relation to a permanent establishment (PE) in the UK.

Legislation introduced in Finance Act 2016 provided that a royalty payment by a non-resident would always have a UK source when the payer was a non-UK resident carrying on a business in the UK through a PE in the UK; and the payments or part thereof were made in connection with the trade of the non-resident carried on through its UK PE. This applies to payments for the use of patents, trademarks, registered designs, copyright and design rights.

The latest proposal extends the situations where UK tax would apply to a royalty payment by ensuring that payments for exploitation of IP or some other rights in the UK always have a UK source for tax purposes if the payment is made between connected parties. The liability will arise even where the payer of the royalty does not have a taxable presence in the UK.

The payer would be required to deduct UK income tax at source and pay the liability to HMRC. As the payer may be a non-UK resident without a UK presence the consultation document also considers the reporting obligations and settlement of the tax liability and looks at joint and several liability.

As another jurisdiction may be looking to tax the same payment there is also discussion of how double taxation relief could be given by the UK.