Withholding taxes: Why many insurance companies are being taxed twice (and how to claim it back)

in Tax, 20.04.2020

Reclaims of foreign withholding taxes have become an absolute must for investment funds, but the practice has proven less common among insurance companies.

For years, investment funds have been successfully obtaining refunded foreign taxes on dividends and interest. While this might be due to the more visible net performance of investment funds compared to insurance companies, it’s also a sign of increased pressure from investors and other stakeholders. The hesitancy of insurance companies is even more surprising when we consider that investment funds only benefit from a limited number of double tax treaties while insurance companies have no access restrictions.

Aside from continuously low interest margins, more experienced custodians and clients requesting an extended scope of services, the facts make their reluctance even more confounding.

A must-do: reclaims and relief based on double tax treaties

Double tax treaties have existed for years, and their reach is steadily extending. Most experts foresee a maximum withholding tax of 15 percent on dividends and 10 percent on interest. The domestic tax rate is higher in most of the cases, especially for dividends, leading to reimbursement possibilities for insurance companies.

Withholding tax reclaims based on double tax treaties function just like standardized reimbursements and happen within six to 12 months. Reclaiming 20 percent of Swiss or 13 percent of French withholding taxes will considerably increase performance. It goes without saying that reclaiming theses taxes is an absolute must.

Except for Switzerland and Germany, most countries allow the possibility of reducing the withholding tax at source (relief). Leaving the company and, ultimately, the insuree without a cash disadvantage. This option is even more preferable than the tax reclaim itself. In markets like Italy, where reclaim reimbursements may take up to 10 years, companies should not pass up relief at source.

Project your (European) rights: reclaims based on EU law

While EU law reclaims have become quite common in the fund industry, the subject is far less familiar to the insurance sector.

Many judgements of the European Court of Justice (ECJ) have recognized the discrimination facing insurance companies and pension funds in various member states.

In the Commission vs. Finland case (C-342/10) of November 2012, the ECJ concluded that Finnish law contravenes the free movement of capital. As a matter of fact, Finnish resident pension funds can deduct amounts from their taxable income if they are transferred to special reserves or provisions. Facing a zero or very low taxable basis, the Finnish pension fund cannot credit any domestic withholding taxes that will be reimbursed by the Finnish State. The Finnish tax system does not, however, provide for similar reimbursement mechanisms for comparable foreign taxpayers subject to Finnish withholding taxes, treatment the ECJ found discriminatory and infringing on fundamental freedoms.

It’s important to note that life insurance companies in most EU member states are required to establish provisions or reserves to which investment income is allocated for regulatory purposes (policy holder protection). As in the aforementioned ECJ case, this leaves them with low taxation and a refund of national withholding taxes in the country of residence.

This possibility is not generally granted to foreign insurance companies, which are taxed on a gross basis, making the treatment discriminatory and opening reclaim possibilities in various member states based on the net-taxation argument.

Why it’s important to act today

While insurance companies have been reluctant to claim foreign withholding taxes in the past, they should consider its rising importance based on the following factors:

  • Interest margins remain low while successful reclaims increase performance by 10-20 percent.
  • Insurees and investors are more qualified and knowledgeable, requesting for expanded service offers without fiscal leakage.
  • Double tax treaty networks are expanding, and investment schemes are diversifying (e.g. in Asia, or the Middle East).
  • Relief is preferential to a reclaim and should be implemented whenever possible.
  • Recent ECJ decisions have raised new arguments in favor of net-taxation reclaims and authorities will deal with these cases in the future.
  • Failing to file or analyze withholding tax will cost real money as amounts are prescribed each year or even daily in some countries
  • Insurance companies should cover themselves by offering stakeholders an annual analysis.
  • Today, custodians are more accustomed to providing underlying documentation than they were yesterday.

What now?

A life insurance company should at least have an annual, detailed analysis of its share and bond investments that identifies reclaim and relief possibilities. In addition, a one-time analysis of the past five years will help alleviate the reclaim backlog.

A proper study of these elements is crucial for all stakeholders and can bring a real cash advantage to insurance companies and their insurees.

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