FINANCE ACT, 2010

Introduction

The Minister for Finance made reference in his Budget in December, 2009 to the importance of the financial services industry and his intention to introduce changes to enhance the competitive position of the Irish Financial Services industry. As a result a number of specific and general measures have been introduced in the Finance Act 2010 (the "Act") to support the theme of encouraging the continued and further use of Ireland for a broad range of financial services.

Key Highlights

Specific Financial Services Industry Incentives

  • A series of changes to encourage the continued use of Ireland as a domicile for collective investment funds and a location for the provision of management services to UCITS funds domiciled in any EU jurisdiction (see "Investment Management Package" of measures below).
  • The extension of Ireland's favourable financial services tax regime to cover Islamic financing.
  • Favourable changes to the taxation treatment of operating leases.

General Incentives also benefiting the Financial Services Industry

  • Traders/dealers in shares, banks, and insurance/reinsurance companies etc (who normally are taxable at the 12.5% tax rate) will be exempt from tax on certain foreign dividends.
  • For corporates, the extension of the circumstances of when the 12.5% tax rate applies to foreign dividends (as opposed to the 25% tax rate).
  • The introduction of a self-assessment system to make it simplier for non-Irish tax residents to receive Irish dividends free of Irish withholding tax.
  • Improvements in the double tax credit relief available to companies with foreign branches.
  • Extension of the tax measures introduced in 2008 to assist companies in Ireland to attract non-Irish domiciled individuals to work in Ireland.

Investment Management Package of Measures

UCITS IV

The UCITS IV Directive is designed to facilitate the further development of the cross border funds market in the EU; however tax has been identified as one of the main barriers to the successful implementation of the UCITS IV Directive. In this regard the Act introduces a series of measures to help funds that are seeking to benefit from the implementation of UCITS IV Directive.

Amongst other things the UCITS IV Directive provides that UCITS management companies located in one EU jurisdiction may manage UCITS funds domiciled in another EU jurisdiction. There are concerns in various EU member states that the appointment of a management company could bring a foreign UCITS within the charge to tax in the management company's home jurisdiction. The Act provides that in the case of an Irish management company managing a non-Irish UCITS, which is not otherwise Irish tax resident, the non-Irish UCITS will not be taxable in Ireland as a result of appointing an Irish UCITS management company (i.e. the management company will not bring the profits of the foreign UCITS within the charge to Irish tax) and such funds will be treated as foreign funds for the purposes of Irish unit-holders with comparable tax rates to investments in Irish regulated funds.

Stamp Duty

The Act provides for relief from stamp duty arising on the transfer of funds assets under fund mergers and reorganisations thereby providing for the effective reorganisation of funds into a Master/Feeder structure (which are now permitted under UCITS IV). However it should be noted these provisions are not restricted to UCITS and therefore this should increase Ireland's attractiveness as a jurisdiction of choice for the amalgamation of non-UCITS.

The Act also removes a potential technical exposure to Irish stamp duty arising on the transfer of assets between different sub-funds within the same unit trust. These provisions are effective from the passing of the Act.

Non-Irish Resident Declarations

Prior to the passing of the Act Irish regulated funds were required to deduct exit tax when making a payment to an investor unless the funds were in possession of a declaration by the investor to the effect that the investor was either not resident or ordinarily resident in Ireland for tax purposes or is an exempt Irish investor. These rules were considered to be a disproportionate burden on the funds industry because the vast majority of Irish domiciled funds in the international funds sector are distributed solely to non-Irish residents and existing procedures under the European Anti-Money Laundering legislation already highlight any investor holding an Irish passport or address. Consequently the Act contains provisions that permit non-resident investors to invest in an Irish fund without the need to make a declaration of non-residence. In order to do so the funds must obtain approval from the Irish Tax Authorities. Typically, the approval will apply to funds that are marketed exclusively outside of Ireland. This provision is effective from the passing of the Act.

Irish Management Company – Extension of Category of Exempt Irish Investors

The Act amends the definition of an Irish fund management company to exclude references to IFSC and Shannon financial services operations (i.e. a technical amendment to update the definition of a "qualifying management company"). The purpose of this is to remove the uncertainty that existed with regard to the status of such entities as exempt Irish investor's as a result of defunct terminology in the current definition. Exempt Irish investors may receive a return of their investment in Irish funds free of Irish withholding tax, so the extension of the withholding tax exemption for certain categories of Irish investors is welcomed. This provision is effective from the passing of the Act.

Removal of technical exposure to capital acquisitions tax for non-Irish investors in foreign funds administered in Ireland

The Act removes a technical exposure to Irish gift and inheritance tax (capital acquisitions tax) in respect of non-Irish domiciled funds that are administered in Ireland (where the share register is maintained here). This provision is effective from the passing of the Act.

Islamic Finance

The Act extends the tax treatment (both direct and indirect taxes) applicable to conventional finance transactions to Shari compliant financial products which are the same in substance as conventional finance products. The amendments took effect from 1 January 2010. The ability to structured Shari compliant financial compliant products in a tax efficient manner is welcomed, although as Shari law is complex it is not quite clear yet whether the new provisions cover all potential scenarios. That is expected to become clearer over the coming weeks and months.

Operating Leases

Prior to the Act only lessors under finance leases could elect to be taxed in accordance with their accounting results, rather than to calculate their profits in accordance with the capital allowances/tax depreciation regime. This was necessary as otherwise lessors would be confined to claiming capital allowances/tax depreciation over 8 years on assets which had a shorter economic life ("short life assets"). The Act extends this beneficial taxation treatment to operating leases if certain conditions are met. Essentially the extension of the favourable tax treatment of operating leases is extended to new lessors of operating leases and/or existing lessors in respect of the increased value of all short life assets let on an operating lease above a base threshold amount calculated on the 2009 results of the lessor (and/or lessor's group). This provision applies to accounting periods ended on or after 1 January, 2010.

An anti-avoidance measure has been introduced to prevent both lessors and lessees claiming capital allowances/tax depreciation on the same leased asset. This provision applies from the date of the passing of the Act.

Foreign Dividends

Foreign dividends are currently taxed (unless the recipient is a charity, pension fund etc) at either 12.5% or 25%. For traders/dealers in shares, foreign dividends are currently taxed at 12.5%. In addition, foreign dividends are typically taxed at 12.5% for banks and insurance/reinsurance companies (unless the foreign shareholding is held "outside" of the bank or insurance/reinsurance's companies normal trading activities, when it is then taxed at 25% unless in the case of a life insurance company such foreign dividends are part of policyholder profits when they are then exempt from tax). The Act provides for an exemption from tax for such traders/dealers, banks, insurance and reinsurance companies in respect of foreign dividends (forming part of their trading activities) where they hold less than 5% of the shares of the foreign company paying the dividend. So in certain cases the rate of tax will be reduced from 12.5% to 0%.

In addition, currently foreign dividends which are taxable normally at 25% (so corporates and traders/dealers, banks, insurance and reinsurance companies acting in a non-trading capacity) are in certain circumstances taxed at 12.5%. The 12.5% rate in such cases is currently confined to foreign dividends paid out of trading profits of companies located in a country with which Ireland has a double tax treaty and/or is located in an EU member state.

The 12.5% rate in such circumstances will be extended to dividends of companies located in non-treaty/non-EU location where the company paying the dividend is quoted on a recognised stock exchange in another EU member state or a tax treaty country (or is owned directly or indirectly by such a company). On the same theme the rules for identifying the underlying profits (whether trading or non-trading profits) have been simplified which should make it easier to identify those foreign dividends qualifying for the 12.5% tax rate.

The above provisions apply to foreign dividends received on or after 1 January, 2010.

Irish Dividend Withholding Tax

Ireland currently operates an extensive exemption from Irish dividend withholding tax ("DWT"). However, the administrative procedures to claim this exemption can be onerous. Therefore, the introduction of a self assessment system whereby the recipients of the dividends self-certify whether they satisfy one of the many exemptions from Irish DWT is most welcome. This change applies to dividends paid after the passing of the Act.

Double Tax Relief for Companies with Foreign Branches

Irish tax resident companies are taxed on their foreign branch profits. Foreign taxes paid by the company on those branch profits can be credited against Irish tax payable on those profits. In addition, Ireland operates a pooling mechanism whereby excess foreign taxes relating to one branch can be used to offset Irish tax payable on profits from other branches. However, the current rules do not currently permit excess foreign taxes arising on foreign branch profits not utilized in a current accounting period to be carried forward indefinitely and offset against tax on future branch profits. That will now be permissible and the new provisions apply in respect of accounting periods ended on or after 1 January, 2010.

Incentives to attract non-Irish domiciled individuals to work in Ireland

In 2009 a special assignment relief was introduced aimed at encouraging key overseas talent to come to Ireland. Its application was very limited as it only applied to employees coming to Ireland from countries outside the EEA (i.e. the EU member states and Iceland, Norway, Liechtenstein) and which had a double tax treaty with Ireland. With effect from 1 January 2010 the relief has also been extended to foreign employees from the European Economic Area. In addition the minimum time which the employee must remain working in Ireland has been reduced from 3 years to 1 year.

The relief basically provides that the maximum earnings on which Irish tax will be paid by such an employee will be (i) the higher of actual earnings and benefits received in or remitted to Ireland or (ii) the first €100,000 plus 50% of earnings and benefits in excess of €100,000.

Transfer Pricing Rules

Introduction

The Act also introduces a new Part 35A into the Taxes Consolidation Act 1997 ("TCA 97") which provides for the introduction of limited transfer pricing ("TP") measures.

The principle of arm's length pricing, which is central to the concept of TP, has been part of Irish tax law for many years despite the absence of specific TP measures (with the exception of manufacturing relief). For example the "wholly and exclusively" test contained in Section 81 TCA 97 would operate to deny a tax deduction for an amount of a payment between connected parties in excess of the arm's length amount. In addition tax law as interpreted by the courts has permitted an upward adjustment to profits to reflect the arm's length price in certain cases.

The official line is that the new TP measures are designed to align Ireland with best international practice by formally adopting the OECD Transfer Pricing Guidelines, while at the same time removing the uncertainty regarding the application of internationally accepted transfer pricing standards in Ireland. The new measures are also in accordance with the Irish Tax Authorities long standing and stated approach of addressing TP issues in accordance with OECD guidelines.

When applicable, the effect of the new measures will (in certain cases) increase understated receipts and reduce overstated expenses of companies and branches in Ireland. The sole aim of the measures is to increase profits which have been understated in Ireland (although most international groups have not to date used Ireland in a manner to minimize profits arising in Ireland – indeed quite the opposite!). Reading between the lines, the introduction of these TP measures is not to raise revenues for the Irish Tax Authorities but for Ireland to be able to run with the herd at an OECD level and not to be in the vulnerable position of standing by itself with no TP rules.

In addition, there are some important exclusions from the new TP measures and a generous grandfathering rule which are explained below.

The New Measures

The new TP rules apply to any arrangement involving the supply and acquisition of goods, services, money or intangible assets, where at the time of the supply and acquisition, the person making the supply and the person making the acquisition are associated and the profits or gains or losses arising are within the charge to tax as trading or professional activities in the case of either or both the supplier and acquirer.

For the purpose of the above, persons are associated if (i) one person is directly or indirectly participating in the management, control or capital of the other or (ii) a person is directly or indirectly participating in the management, control or capital of each of the two persons. The term arrangement is defined widely to mean any agreement or arrangement of any kind (whether or not it is or is intended to be, legally enforceable).

When applicable, the effect of the new measures will be to increase understated receipts and reduce overstated expenses. This will be achieved by the imposition of the "arms length amount" which is defined to be the amount of the consideration that independent parties would have agreed in relation to the arrangement had those independent parties entered into that arrangement. The TP measures, which fall within the scope of the normal self assessment regime applicable in Ireland, cover both domestic and cross border transactions.

It is specifically provided for that the TP measures are to be interpreted, for the purpose of computing profits or gains or losses, in accordance with Article 9(1) of the OECD Model Tax Convention, regardless of whether such double taxation relief arrangements actually apply. This is designed to ensure, as far as practicable, consistency between the Irish TP measures and the OECD measures. However it should be noted that this is subject to the provisions of any relevant double taxation treaty taking precedence.

Scope of the Provisions (and more importantly what is excluded!)

An important point to note is that non-trading activities do not fall within the scope of the TP measures. Accordingly, interest free loan structures (in a non-trading context) will continue to be possible. Likewise, the new TP measures will not apply to lease and royalty agreements which are not taxed under Case I or II as trading profits. In addition, special purpose companies which qualify for the favourable tax treatment set out in Section 110 TCA 97 (commonly referred to as "Section 110" companies) will not be subject to the TP legislation (as notwithstanding the fact that the profits and gains of such qualifying companies are computed in accordance with trading principles, they remain chargeable to corporation tax at the passive 25% rate under Case III of Schedule D). Income from real estate will also be excluded from the new TP measures

Small or medium - sized enterprises will be exempt from the TP measures. For the purpose of this exemption a person will be regarded as a "small or medium-sized enterprise" if they fall within the definition of "micro, small and medium-sized enterprises" as outlined in the Annex to Commission Recommendations of 6 May 2003 concerning the definition of micro, small and medium-sized enterprises1. This will essentially exclude an enterprise which employs fewer than 250 persons and which has an annual turnover not exceeding Euro 50 million and/or an annual balance sheet total not exceeding Euro 43 million. These figures will be assessed, where appropriate, on a worldwide group wide basis.

Relevant Dates (including generous grandfathering provisions)

The TP measures are due to come into effect on 1 January, 2011 in relation to any arrangements (as defined above), the terms of which are agreed on or after 1 July, 2010. At this stage it is unclear whether amending an existing agreed arrangement in the future (i.e. on or after 1 July, 2010) where the material terms remain unchanged would impact upon the above grandfathering provision and make the agreement potentially subject to the new TP measures.

The grandfathering provisions present considerable tax planning opportunities for persons who will be subject to the new TP measures, where the terms of future arrangements and existing arrangements may be agreed in advance of 1 July, 2010. The grandfathering provisions are obviously generous in that they are applicable for an indefinite period of time.

Record Keeping

Under the TP measures a taxpayer is required to retain such records "as may reasonably be required" for the purpose of establishing that the pricing arrangements are in accordance with the arm's length principle. The documentation need not be prepared or kept in Ireland, where it exists elsewhere. This may be particularly relevant for multinational groups already operating in compliance with other TP regimes, where the Irish record keeping obligations will require existing information systems to incorporate the Irish TP measures. Any documentation is however required to be prepared on a timely basis and must be made available to the Irish Tax Authority on request. Therefore, the approach adopted in relation to the documentation requirements is a practical one and should hopefully limit the compliance burden of those companies falling within the new TP measures.

Some Immediate Considerations

  • Companies currently doing business in Ireland should undertake a careful review of all existing arrangements in place in order to determine whether the TP measures will apply to them.
  • Of particular relevance would be future arrangements the terms of which may be agreed in advance of 1 July, 2010 and which accordingly may benefit from the grandfathering provisions. As noted above, such arrangements should not come within the scope of the TP measures to the extent that the agreed terms are not amended on or after 1 July, 2010.
  • In addition to the above, existing arrangements should be carefully reviewed and appropriately documented in advance of 1 July, 2010. The wide definition of arrangement to include any agreement or arrangement not (or not intended to be) legally enforceable needs to be borne in mind.
  • Companies that will be subject to the new TP measures need to consider how existing information systems are to be adopted to cater for the TP measures.

In addition to the above other tax considerations such as Value Added Tax may be relevant and need to be considered.

Others

In 2009 Ireland introduced a 1% levy on various insurance products sold to Irish persons. The levy has been amended to exclude pension and reinsurance business. This levy does not apply to insurance companies selling products to non-Irish investors.

Footnote

1. OJ No. L124, 20.05.2003, p.36

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.