A license agreement was concluded between a company resident in the Netherlands (the "Company") and its branch in Kazakhstan (the "Branch"). The agreement included a "gross-up" clause, stipulating that the Branch pays the tax on royalties from its own funds, after which the Company reimburses the Branch for the tax paid. Accordingly, royalties paid to the Company were subject to withholding tax at the source by the Branch at a rate of 15%. Subsequently, the tax amount paid was reimbursed to the Branch by the Company from the income received.
Thus, the tax was effectively paid from the non-resident's income, as confirmed by the Branch's payment order and accounting statements.
Under the provisions of the Tax Convention between Kazakhstan and the Netherlands (the "Tax Convention"), royalties may be taxed in both Kazakhstan and the Netherlands. However, if the beneficial owner of the income is a resident of a country party to the convention, the withholding tax should not exceed 10%.
Moreover, pursuant to Article 2 of the Tax Convention, it applies to income and capital taxes imposed by a Contracting State or its political subdivisions or local authorities, irrespective of the method of collection.
The Company applied for a refund of overpaid tax of 5 %. However, the tax authorities refused the refund, arguing that the tax was paid by the Branch from its own funds rather than from the nonresident's income, which prevents the application of the reduced rate and contradicts Article 2 of the Tax Convention, on the application of tax exemptions regardless of the method of collection.
Disagreeing with the refusal, the Company appealed the decision first to the Ministry of Finance of Kazakhstan and then in courts.
The Administrative Division of the Supreme Court of the Republic of Kazakhstan concluded the following:
- The tax was paid by the Branch, initially not withheld from the non-resident's income, and later reimbursed by the Company from the income received, as evidenced by documentation.
- The non-resident effectively paid withholding tax at the source at a rate of 15% on its income and is entitled to claim the reduced 5% tax refund based on the Tax Convention.
For the application of the Tax Convention, the critical factor is who bore the actual financial burden. The Supreme Court reaffirmed the established approach of applying the Tax Convention only when the financial burden is borne by the non-resident.
The Supreme Court upheld the lower court rulings granting the refund of the overpaid tax, fully supporting the Company's position.
- Administrative Division Ruling of the Supreme Court of the Republic of Kazakhstan No. 6001-23-00-6ap/2759(2) dated April 30, 2024.
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