While interest rates continue to be low and policyholders become more sensitive to tax leakage, it is crucial for insurance companies to explore withholding tax reclaim opportunities for their clients.
Even though some custodians might propose a tax reclaim service, it is important to ensure that all possible reclaim files are duly submitted and that the rights of policyholders are safeguarded.
In countries with double tax treaties, claiming back withholding taxes on foreign dividend payments is a must. Reimbursements can vary between 10% and 20% of the dividend and hit policyholders’ accounts within 6 to 12 months.
A lesser-known possibility for reclaiming additional withholding taxes is based on EU law and the principle of free movement of capital. Tax reclaims based on the so-called “net-taxation” argument have only been filed on very few occasions, but the EU Commission has increased the chances of reimbursement significantly with two of its recent infringement packages.
Tax reclaim opportunities are not new!
The European Court of Justice (ECJ) has observed that insurance companies encounter discriminatory treatment across the EU, and has already addressed this issue in several of its rulings.
For instance, the ECJ deemed that Finnish law contravened the free movement of capital in the case C-342/10 of November 2012 (Commission vs. Finland). The judgment dealt with the issue of reimbursement of foreign withholding tax. As it turns out, the Finnish tax system distinguishes between foreign taxpayers and Finnish resident pension funds, to the disadvantage of the former.
Under Finnish law, if a Finnish resident pension fund transfers the necessary amounts to special reserves or provisions, it is allowed to deduct these from its taxable income. Such a fund cannot credit any domestic withholding taxes that will afterwards be reimbursed by the state. Comparable foreign taxpayers, however, do not have access to a similar reimbursement mechanism in Finland. According to the ECJ, this distinction is discriminatory and must be seen as an infringement on fundamental freedoms.
Moreover, the mechanism of policyholder protection should also be taken into account by the stakeholders in the insurance sector. For regulatory purposes, the majority of EU member states oblige life insurance companies to set up provisions or reserves for the allocation of investment income. Under this mechanism, the companies in question benefit from lower taxation and are eligible for a refund of national withholding taxes in the country of residence (as is the case for the Finnish funds).
By contrast, foreign insurance companies do not enjoy these advantages given that they are taxed on a gross basis. As a result, the “net-taxation” argument can be applied in the context of tax reclaims pursued against such a discriminatory treatment.
Fresh momentum for EU law claims
As too few cases are currently pending before national courts, the Commission took up its role as guardian of the European treaties and recently sent formal notice letters to Belgium and France.
The Commission requested both countries stop taxing dividends on shares held by foreign life insurance companies more heavily than dividends received by Belgian or French insurance companies. The latter are effectively exempt (or almost fully exempt) from tax on income from dividends, whereas outbound dividends paid to life insurance companies established in other EU/EEA countries are subject to withholding taxes generally ranging from 15% to 30%.
The Commission finds this treatment incompatible with the free movement of capital anchored in EU law and, with these letters, took the first step towards an infringement procedure against Belgium and France. The two countries will now be able to respond to the requests.
What you need to know
Identifying reclaim and relief possibilities is a must for a life insurance company. That’s why a detailed analysis of investments in shares and bonds should be carried out on a yearly basis.
It is crucial to file withholding tax reclaims based on double tax treaties considering the real cash advantage within a short timeframe.
It is, however, as important to evaluate if a tax reclaim based on EU law is possible and could be filed to safeguard the policyholders’ rights. On 31 December each year, withholding taxes from one full payment year will become time-barred in most countries and the taxes will be lost forever.
So, what does this mean? It means it’s time to take action and get back what rightly belongs to the policyholders!
More questions about navigating tax reclaim opportunities for insurance companies? We have the answers! Get in touch with KPMG’s Financial Services Tax team!