Introduction

Malta is fast becoming a serious competitor of existing EU jurisdictions as a financial centre, holding location as well as for investment funds. The financial services sector has grown exponentially over the past few years and the upward trend is expected to continue.

According to the 2008 Forbes Tax Misery and Reform Index1, Malta has been classified as the fifth most tax-friendly country in the world and the first in the EU, in terms of taxes and social security contributions paid out by companies. The index measures the amount of increased 'misery' or 'reform' toward company tax-friendliness since it began tracking progress in 2000.

Malta offers a number of advantages and features as a tax jurisdiction: it does not levy any withholding tax on outbound dividends, interest and royalties, it has no thin capitalisation rules or debt-to-equity ratios, it has no capital duty and wealth taxes and no stamp duties on share transfers in companies owned by non-residents. Furthermore, the jurisdiction has a strong ruling practice and taxpayers may, provided certain conditions are met, choose between the application of participation exemption or a refund system. In addition, the EU directives are applicable (Malta is an EU member since 2004) and the jurisdiction has an increasing treaty network (currently 48 treaties are in force).

After a short general introduction on the Maltese tax system, I will describe the recently introduced Maltese Participation Exemption regime as well as the Maltese refund system.

The Maltese Tax System In Brief

Companies are liable to tax in Malta at a flat rate of 35%. Economic double taxation is relieved through the full imputation system. Furthermore, on certain conditions being met, the shareholder of a Maltese company (MaltaCo) could be entitled to claim a refund of all or part of the tax paid by the company on its profits. In 2007, Malta also introduced participation exemption in respect of dividend income or capital gains received from a qualifying subsidiary.

Maltese Participation Exemption

Maltese participation exemption applies in respect of dividend income or capital gains when two tests are met:

First Test – the holding in the foreign subsidiary must be a 'participating holding'. The simplest way of meeting this requirement is if MaltaCo holds at least 10% of the equity shares in a non-resident company or a qualifying body of persons (ForeignCo). A 'body of persons' means any body corporate and includes a company, society or other association of persons whether corporate or unincorporate, and whether vested with legal personality or not.

Should the 10% holding not be met, the requirement for 'participating holding' may also be reached by alternate tests, in brief described as follows: when MaltaCo is an equity shareholder in ForeignCo and (i) MaltaCo has a call-option or a put-option on the entire balance of the equity shares not held by it; or (ii) MaltaCo is entitled to either sit on the Board or appoint a person to sit on the Board of ForeignCo as a director; or (iii) MaltaCo invests a minimum of Euro 1.16 million in ForeignCo and that investment is held for an uninterrupted period of not less than 184 days; or (iv) MaltaCo holds shares in ForeignCo for the furtherance of its own business and the holding is not held as trading stock for the purposes of a trade.

Second test – the anti-abuse test. ForeignCo must furthermore satisfy any one of the following conditions:

  1. it is resident or incorporated in the EU, or
  2. it is subject to foreign tax of at least 15%, or
  3. it does not derive more than 50% of its income from passive interest and royalties; or
  4. the shares of ForeignCo are not held as a portfolio investment and ForeignCo is subject to tax of at least 5%.

The rate mentioned in points b. and d. above (15% and 5% respectively) refers to the rate of tax which ForeignCo is subject to and unlike the Dutch system, does not require the evaluation of tax to be 're-worked' according to Maltese accounting principles. It is interesting to note that whilst the term 'subject to tax' (as differentiated from 'liable to tax') has been interpreted by English courts to mean that "the person must actually pay tax on the income in their country of residence", both terms 'subject to tax' and 'liable to tax' have been translated into "soġġetta għat-taxxa" in the Maltese text thus giving rise to the argument that the differentiation in the English terms does not apply in Maltese law.

Any outgoings and expenses wholly and exclusively incurred in the production of the income (such as interest paid on capital employed in acquiring the income) may be deducted.

When participation exemption applies, no taxation is levied in Malta on dividends and capital gains received from a qualifying subsidiary. The use of participation exemption together with the 0% withholding tax on dividends, interest and royalty, the lack of restrictions in debt to equity ratios as well as the fact that Malta levies no stamp duty, puts Malta in an unrivalled position in terms of flexibility and makes it very attractive as a holding jurisdiction.

Maltese Refund System

Malta also has a refund system which has been in place for over a decade. The types of refunds have been extended in 2007. On distribution of dividends by MaltaCo, the shareholders may be entitled to a tax refund for all or part of the tax paid in Malta by MaltaCo. Any shareholder (whether a legal or natural person), regardless of place of residence (i.e. both EU and non-EU residents) and regardless of the percentage of shareholding in MaltaCo, is eligible for the applicable refund as long as that shareholder is registered for such purposes with the Commissioner of Inland Revenue. The amount of refund depends on the type of income MaltaCo receives. The refund itself does not constitute Maltese taxable income in the hands of the shareholder.

When the refund system applies, MaltaCo pays 35% taxation on its profits and the refund is statutorily given in the same currency2 as the tax paid within 14 days of the end of the month in which the refund becomes due.

There are four types of tax refunds available to the shareholder:

  • 100% refund -if the conditions of a participating holding as described above are met, the taxpayer may choose either participation exemption or 100% refund.
  • 6/7 refund - the 6/7 refund is available in all other cases except where MaltaCo receives 'passive interest or royalties' or claims double tax relief in respect of its income from investments outside Malta. The tax incidence in Malta from a shareholder perspective when the 6/7 refund is applied for is 5%.
  • 5/7 refund - the 5/7 refund is available when MaltaCo receives 'passive interest or royalties' which are not derived from trade or business and have suffered tax at a rate less then 5%. The tax incidence in Malta from a shareholder perspective when the 5/7 refund applies is 10%.
  • 2/3 refund - the 2/3 refund applies only in scenarios where MaltaCo claims double tax relief in respect of its income from investments outside Malta. Double tax relief is not limited to tax treaty relief but also refers to unilateral relief provided by Malta.

The applicability of one type of refund does not necessarily limit the application of another type of refund. For example, if MaltaCo receives both passive interests and trading income, on distribution of a dividend, the passive interest would trigger a 5/7 refund to the shareholder whilst the active (trading) income would trigger a 6/7 refund to the shareholder.

Whilst MaltaCo would be subject to 35% taxation in Malta, the refund system results in an overall tax burden of between 0-10% in Malta resulting in Malta being a very competitive jurisdiction for trading companies and companies in receipt of passive interest and royalties.

Conclusion

The flexibility of the tax system coupled with the certainty given by this EU jurisdiction makes Malta very attractive in tax structures. Flexibility in tax planning arises from the fact that Malta does not levy any withholding taxes on payments to non-resident shareholders; it has no limitations in debt-to-equity ratios, no capital duty, no wealth taxes and no stamp duties on share transfers in companies owned by non-residents. As seen above, participation exemption has been recently introduced and the 'old' refund system extended. Additionally, the Maltese ruling practice, the fact that documents may be filed in English, the application of the EU directives as well as the OECD-based tax treaties give an added certainty to this jurisdiction's tax system.

Footnotes

1. http://www.forbes.com/global/2008/0407/060_2.html accessed 12 June 2008

2. Whilst Malta's currency is the Euro, the share-capital of MaltaCo may be denominated in any convertible currency. Tax is paid (and refunds given) in the same currency.

Information valid as at 16 June 2008
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.