|
|
Saturday, 27th April 2024 |
| Minimising foreign taxes |
Back |
| Ireland is a low tax economy that earns its living largely by trading with other countries. Such foreign trade activities can expose an Irish business to high foreign tax. Failure to adopt structures to deal with this can result in damage to reputation in foreign markets and costly foreign tax bills. |
Do foreign taxes matter?
A decade ago even a business wishing to be compliant with foreign tax regulations might have comforted itself with the thought that if it unwittingly incurred a foreign tax liability, it would be difficult to enforce that liability against it in Ireland. The Irish courts, like courts in most countries, refused to enforce foreign tax liabilities. That has substantially changed in recent years with most tax liabilities arising in EU Member States now being enforceable in each Member State of the community. A business also has to remember it can suffer damage to its reputation and to its brands in foreign markets if it emerges that it has failed to meet its tax liabilities there.
Ireland has the most globalised economy in the world. That is reflected in the extent to which Irish businesses buy from abroad, and sell to abroad, and own assets abroad. Doing business with or in a foreign country can leave an exposure to tax in that country under its domestic law. The rules relating to exposure to tax unfortunately vary from country to country. Activities that in one country would not be considered to lead to any local exposure to tax can give rise to an exposure to another country, eg a flying sales trip by an Irish based sales representative could give rise to a tax exposure in some countries, but not in others.
One recently newsworthy example of unwitting potential exposure to foreign taxes occurred in India. India is the “hot spot” currently for locating call centres. The Indian tax authorities several months ago issued a statement indicating that they considered that foreign companies using such call centres in India had a potential exposure to tax in India on profits from services provided through the Indian call centres. This announcement caused dismay among many multinationals. After the potential impact on the call centre sector in India was considered by the Federal Government, the statement was largely withdrawn.
The sales rep. trap
Exposure to foreign tax on trading profits may arise firstly under the domestic law of the foreign country. If a double tax treaty between Ireland and the foreign country exists, it may provide relief from the liability under domestic law. The threshold for incurring a liability under domestic law could be quite low. For example, under UK law, as in the case of Irish law in a corresponding case, a business can be exposed to UK taxation on part of its profits if it enters into a sales contract in the UK. A sales contract can be entered into in the UK in a very informal manner eg by a person in Ireland accepting on the telephone or email an order from a person in the UK. The reason that most Irish businesses do not as a result end up with UK tax liabilities, is that the UK/Ireland double tax agreement permits the UK to impose its domestic tax liability on an Irish business only where the Irish business has a permanent establishment in the UK. Nonetheless, the ease with which UK domestic law can impose a tax liability should serve as a warning to businesses who may have customers in countries with whom we don’t have a double tax agreement.
The protection which a double tax agreement can provide is valuable but a permanent establishment can exist in a foreign country without the business in question being conscious of the fact. For example, if a business sends a sales representative, based say in its Dundalk office, to Northern Ireland on a regular basis to procure and accept orders from customers there, it can be treated as having a permanent establishment within the UK notwithstanding that it has no premises there and notwithstanding that the salesman never spends a night in the UK. Obviously the same principle can be applied to a sales representative who is based anywhere in the UK, or who regularly goes to the UK to obtain and accept sales contracts even if they have no base in the UK.
The key issue which must be focused on in the case of a sales representative who travels abroad on a regular basis is whether or not they have power to enter into contracts (eg to accept orders for goods or services) or whether their authority is limited to simply passing such orders back to head office so that the contract can be entered into at head office. It can be a delicate matter to structure the activities of a sales representative in such a manner that he neither has authority to conclude sales contracts while abroad, nor does he, in practice as opposed to in principle, do so. This involves balancing the practical needs of the business in obtaining sales (which must be the overriding requirement) with the wish to minimise foreign taxes by ensuring that the sales representative does not constitute a permanent establishment.
A permanent establishment can arise not only from the presence abroad of an employee, but also where a business has appointed a foreign agent with authority to enter into sales contracts on its behalf. Generally an agent who is “independent” ie broadly, acts as agent for a multiplicity of different businesses, does not give rise to this exposure provided a double tax agreement is in place.
In the FS sector foreign taxes arise in a straightforward way where interest or insurance premiums are obtained from a foreign country. Withholding tax is a risk in the case of interest. Insurance premium tax is a likely cost in the case of insurance in the EU. The risks are less obvious but real in the case of dealing – whether in shares, currencies, commodities or debts. The same principles as those outlined above can lead to a dealing transaction being regarded as the conduct of the FS trade in another country. The use of a broker is no different to the use of a distribution agent by a manufacturer in this context. The issues attract most attention in cases such as the trading of portfolios in a multinational FS group, where a portfolio may be passed between offices of the group, as the working day moves with the sun. But the issue is present potentially in any overseas dealing. Irish tax legislation has a carve out to protect foreign businesses which use the Irish broker from being treated as carrying on their trade in Ireland for that reason.
Sensible structures
There are several structures which can be used to minimise exposure to foreign tax while having a presence abroad and obtaining sales. Some of these seek to entirely eliminate the liability and others minimise it to acceptable levels.
The “commissionaire structure” is one of those most commonly used by businesses with a need to have a sales presence in several EU States. It involves appointing a foreign agent who enters into the sales contracts as undisclosed agent of the Irish business. In many EU States (but not in the UK) such an undisclosed agent will not be regarded as a permanent establishment of the Irish business and accordingly would not expose the foreign business to foreign tax on its trading income. The commissionaire structure is not particularly suited to the financial services sector.
Some businesses set up a subsidiary, resident in the overseas country and conducting all sales operations in that country. Such a subsidiary would buy from the Irish business and sell on to its local customers. Such an arrangement will usually be effective in protecting the Irish business from overseas tax on its profits only if the trading arrangements between the Irish business and the foreign subsidiary are on an arm’s length basis as regards pricing and other terms of business. The determination of an arm’s length pricing can be complex and can involve difficult negotiations with overseas Revenue Authorities. Some Revenue Authorities, including those in the USA and the UK, enter into advance pricing agreements (APAs). These are agreements that specified trading arrangements between the Irish business and its overseas subsidiary will be regarded as on an arm’s length basis, with the agreement being valid for several years.
Other taxes
Doing business with other countries or in other countries can also give rise to tax liabilities apart from tax on trading profits. Where a sales representative is based abroad, or even in some cases where they regularly visit a foreign country in the course of their work, there is a risk of exposure to payroll withholding taxes and to social insurance contributions. EU law regulates “double charging” of social insurance contributions in most such cases in the EU. Double tax agreements will usually modify foreign domestic law where it would impose payroll withholding taxes.
Withholding taxes may be encountered on leasing payments, software royalties, film royalties, and interest payments in foreign countries. It is prudent, particularly in the case of such types of income, to take advice on exposure to those taxes before entering into agreements with customers abroad. Even if a double tax agreement ultimately enabled the Irish business to recover the withheld taxes, the cost and delay can change the economics of a transaction.
Notwithstanding the fact that VAT is harmonised throughout the EU (in principle) national rules as to “place of supply” differ in many cases. This can have the result of no VAT arising on some transactions – eg where Ireland considers the place of supply to be abroad, and the foreign country regards the place of supply to be in Ireland. However the opposite with both countries claiming to be the place of supply, can also arise. The actual structure of the business in terms of its foreign presence and the nature of the services or goods it is supplying, can help determine whether an Irish VAT liability, or a foreign VAT liability would arise on a sale.
When exporting outside the EU Irish business may encounter foreign customs barriers. Depending on the terms on which the goods are being sold to the foreign customer, the customs duty cost may fall on the Irish business, or on the foreign customer. But in either case, they will represent a transaction cost which, if it can be avoided or mitigated, will put the Irish business in a better position to carry on its trade in the foreign country. Apart from duties which represent a cash cost, Customs law may also have quantitative or other restrictions, or can lead to goods being tied up where prompt delivery is what is required.
What to do
Most medium or large Irish businesses sell abroad. The sensible thing to do is to take advice on permanent establishment issues, VAT place of supply issues, Customs duty costs and delays, and payroll and social insurance exposures when entering into new geographic territories, or appointing overseas representatives, or sending employees abroad. If the situation is reviewed regularly, the Irish business will maximise its chances in minimising foreign taxes and foreign administrative headaches. |
|
| Article appeared in the October 2005 issue.
|
|
|
