Lovin’ this article, but need more advice on your tax affairs?
Get in touch today.
Simon Denye explores the key tax aspects which should be considered when a business decides to expand its operations to overseas jurisdictions.
Despite the current economic and political challenges, expanding overseas remains high on the agenda of UK businesses. As a UK based business grows, the owners may consider expanding overseas into new markets to enhance its customer base and increase revenues. Some businesses look to establish an international business from the outset. Whilst international growth can open doors for further expansion, it carries significant tax implications, and the aim is to avoid profits from offshore trading being taxed in both territories.
This article looks at some of the main issues when a UK company expands overseas.
Is the Overseas Operation Taxable Overseas?
Simply doing business with the overseascountry, for example a UK resident company which is merely selling goods or services to overseas customers, is unlikely to lead to the UK company having a directly taxable presence in the overseas country. However, depending on the particular circumstances of the business, withholding tax may apply on income earned in the overseas country such as royalties or interest.
Generally, to be taxable, the company must have a permanent establishment (“PE”) in the overseas jurisdiction. A PE usually involves doing business in the overseas country, for example, through a fixed place of business such as an office with employees.
However, if the UK business has premises overseas which are used only to store or display goods, or to hold them pending delivery or processing, this does not normally constitute a PE.
The distinction between doing business with a country and doing business in a country will also depend on the local laws. Generally, selling goods into the country, or providing services from the UK, without local employees, is unlikely to be regarded as doing business in a country.
It should be noted that different rules may apply for VAT purposes.
Do the overseas activities constitute a PE?
A UK resident company which establishes either a branch or a subsidiary company in the foreign jurisdiction will normally have a PE in the country where it is established.
Usually, any tax treaty gives primary taxing rights to the country where the PE is based.
Some arrangements do not generally constitute a PE, for example, including storage and construction sites in place for less than a specified time (generally 12 months). In some countries, the importance of those functions to the business overall needs to be considered as these scenarios will only be disregarded if their activities are actually preparatory or ancillary to the business and not a significant part of the profit earning functions of the business as a whole.
It is important to ensure that a business does not inadvertently have a PE. Even where there is no fixed place of business, this can occur if, for example, a person in the jurisdiction has the authority and does actually conclude contracts on behalf of the UK company. It should be noted that an independent agent should not create a PE, provided that the UK business does not form the substantial part of that agent’s business overall. Contracts, in this context, are the contracts relating to the principal business activity of the UK company and not ancillary contracts such as leases for premises and employment contracts.
An overseas subsidiary of the UK company which can and does conclude contracts in the name of the UK company will also create a PE for the UK company. This means that both the subsidiary and the UK company will then need to account for tax in the overseas country.
In determining whether a PE exists, it is necessary to:
As a word of warning, it can sometimes seem convenient to go straight to the terms of the DTA when determining if a PE exists. If no PE exists under the relevant DTA, then no PE should exist, even if one is determined to exist under domestic law, as the DTA normally has precedence over domestic law. However, this can sometimes be a high-risk approach as it does not take account of any requirements of domestic law which must be met in order to take advantage of the DTA.
Operating overseas through a branch or local subsidiary
In most cases, an overseas business will be established by a UK company through a new legal entity incorporated in the chosen jurisdiction (a subsidiary) or through a local branch or other form of PE. Often, the final decision on what structure the overseas business will take will involve both tax and non-tax considerations. Some examples of commercial considerations include the need for limited liability (or lack of), ease of a later exit and any administration / compliance burden.
Why a branch?
Many overseas operations begin by setting up a branch. This is often quicker, and requires less formality, than establishing a subsidiary. It is also easier to unravel if the operation proves unsuccessful.
The profits or losses of a branch form part of the taxable profits of the UK company. Initial losses can thus be quickly relieved against the profits of the more established UK business.
Where a branch is profit-making, it is often beneficial for the company to enter into an election to exempt the profits and losses attributable to the PE from UK corporation tax. The election affects all PEs of the company so it is important to consider the position of all the PEs collectively.
Using a local subsidiary
If profits would be subject to a lower level of tax in an overseas jurisdiction than in the UK, using a subsidiary may be preferable to operating through a branch.
In contrast to a PE, an overseas subsidiary will usually be a distinct legal entity. Typically, local tax and legal advice should be taken as to the form the subsidiary could take, as most jurisdictions have multiple options. It is also important to understand any local legal or regulatory requirements which might include, for example, a minimum level of equity, share capital or a minimum number of shareholders.
Provided that the company is tax resident solely in the overseas jurisdiction, its worldwide profits should only be subject to the local overseas tax. The profits of the subsidiary will not generally be taxed in the UK (though there are a number of exceptions including for example where the subsidiary is subject to the controlled foreign companies legislation).
Expanding overseas is complex and there are many commercial and tax issues to consider. At ETC Tax, we can guide you through the maze and ensure that the many anti-avoidance tax rules do not cause any unnecessary impact on your business. We strive to take the headache away allowing you to make an informed choice, leaving you to concentrate on what you do best.
If you are considering expanding your business overseas ETC Tax can advise on your tax position and planning, speak to one of our tax consultants today. Or visit our Expanding Overseas service page for more information on our services.
Call or email us any time or, simply fill out the contact form below and a member of our team will be in touch.