Global Tax Alert | 24 April 2014
Spain-UK tax treaty will enter into force on 12 June 2014
The new tax treaty between Spain and the United Kingdom signed on 14 March 2013 (the Treaty) will enter into force on 12 June 2014, replacing the existing tax treaty which was signed on 21 October 1975.1
According to Article 28 of the new Treaty, its provisions will become effective:
- • In Spain (i) on 12 June 2014 in respect of taxes withheld at source; and (ii) in respect of income taxes and other taxes, for any tax year beginning on or after 1 January 2015;
- • In the UK (i) on 12 June 2014 in respect of taxes withheld at source; (ii) in respect of income tax and capital gains tax, for any year of assessment beginning on or after 6 April 2015; and (iii) in respect of Corporation Tax, for any financial year beginning on or after 1 April 2015.
As a general comment, it should be noted that, in certain instances, Spanish domestic rules may be more beneficial than, and are applicable over, those contained in the Treaty.
The new Treaty provides for a number of changes which are summarized below.
Absence of withholding tax on dividends, interest and royalty payments
The Treaty provides that no withholding tax applies to interest and royalty payments and to dividend distributions from qualifying participations (representing a minimum 10% participation in the equity of the distributing entity) made by Spanish or UK companies to residents in the other State, provided that the recipient of the income is the beneficial owner.
Dividends from non-qualifying participations may benefit from a reduced 10% withholding tax. A 15% withholding rate is imposed on the gross amount of dividends where those dividends are paid out of income (including gains) derived directly or indirectly from immovable property by an investment vehicle which distributes most of this income annually and whose income from such immovable property is exempt from tax.
Changes to the method for the avoidance of double taxation on dividends received by Spanish residents from UK entities
Under the tax treaty currently in force, a Spanish tax resident deriving dividend income from a UK entity is entitled to the same relief that would be granted if the company paying the dividends were a Spanish tax resident.
Spanish domestic rules provide that dividends received by a Spanish entity from a Spanish subsidiary enjoy a full tax credit when the recipient entity has held at least 5% of the subsidiary's share capital for a period of at least one year (with certain exceptions). The result of this mechanism is, in practice, generally equal to an exemption. Therefore, the existing treaty provides a relief mechanism which results in an exemption in Spain for dividends of UK source without the need to qualify for the more stringent requirements of the Spanish participation exemption regime, in particular the so-called “subject to tax test.”
The new Treaty, in line with the OECD Model Tax Convention, substitutes the above-described mechanism for the standard tax credit method. Consequently, dividends received by a Spanish entity from a UK subsidiary that does not meet the requirements for the Spanish participation exemption will no longer be exempt and will only entitle the recipient to a foreign tax credit equal to the lower of the tax effectively paid abroad or the Spanish tax on such income.
Capital gains tax on shares of real estate companies
Spain generally taxes gains derived by non-Spanish residents from the sale of Spanish land-rich entities. The Spain-UK treaty currently in force does not allow Spain to impose tax on capital gains derived by a UK resident from the transfer of the shares of a Spanish entity, whether land-rich or not.
Article 13 of the new Treaty enables Spain to impose tax on capital gains deriving from the transfer of shares (or comparable interest) of an entity when more than 50% of its value derives, directly or indirectly, from real estate properties located in Spain.
Such capital gains tax does not apply to the transfer of shares that are substantial and regularly traded on a stock exchange, even if other than a Spanish or UK stock exchange.
Furthermore, gains from the alienation of shares, or other rights, which directly or indirectly entitle the owner of such shares or rights to the enjoyment of immovable property situated in a Contracting State, may be also taxed in that State.
Article 4 of the new Treaty introduces a number of rules dealing with the application of the Treaty to trusts and partnerships. As a general rule, this clause aims at providing treaty eligibility to income and gains obtained by these entities unless it results in the income not being taxed in either of the Contracting States.
Article 23 of the Treaty includes a general anti-abuse clause according to which treaty benefits will not be applicable to transactions where the main intention of the parties is to benefit from the same.
Article 26 includes an exchange of information provision in line with the OECD Model.
The introduction of a standard tax credit method to avoid double taxation on dividends received by Spanish entities from their UK subsidiaries is of importance for Spanish companies or international groups that rely on the existing treaty's method to ensure the exemption of UK dividends in Spain. These groups should confirm whether their UK subsidiaries qualify for the application of the Spanish participation exemption regime before the new Treaty comes into force and, should this not be the case, analyze potential alternatives for an efficient repatriation of profits.
The change is also relevant to UK groups looking to dispose of their real estate companies in Spain since under the new wording of the Treaty their capital gain will be subject to Spanish capital gains tax at a 19% tax rate (21% in year 2014). The Treaty also seems to include certain specific rules aimed at recognizing the new SOCIMI (Spanish REIT) tax regime, potentially providing attractive planning opportunities in connection with current and future real estate investments in Spain.
1. Information made public in HMRC web page.
For additional information with respect to this Alert, please contact the following:
Ernst & Young Abogados, Madrid
- • Jose Luis Gonzalo
+34 915 727 334
- • Laura Ezquerra
+34 915 727 570
Ernst & Young LLP, Spanish Tax Desk, New York
- • Cristina de la Haba
+1 212 773 8692
EYG no. CM4368