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European Union

EU directive on taxation of savings interest

The proposed EU directive on the taxation of savings interest is now stalled by disagreements between the different EU member states over the desirability of imposing withholding tax on non-resident investors in the absence of information exchanges between their tax authorities. The proposal has attracted much criticism from financial institutions and the UK government, which has threatened to veto its adoption in its current form. EU government heads and finance ministers are, however, optimistic that a planned meeting in Brussels in June will result in a consensus being reached.

The directive intends to tackle "harmful tax competition" within the EU. Put simply, its principal aims are to reduce distortions in the single European market caused by differing tax regimes and prevent tax evasion by retail investors. The directive applies to cross-border payments of interest, where payment is made within the EU and imposes a so-called 'co-existence model', whereby member states may opt either for the:

  • transmission of certain information to the tax authorities of the member state where the beneficial owner of the payment is resident for tax purposes; or
  • introduction of a minimum level of 20% withholding tax on payments of interest made from its jurisdiction.

Although the proposal primarily concerns individual as opposed to institutional investors, there is considerable uncertainty surrounding its potential impact on the international bond market, which was specifically set up with the intention of paying interest without the deduction of tax. Its introduction could diminish competitiveness and innovation in the European financial markets generally, by encouraging the industry to move to countries where there is no such taxation. The recent global trend has, in fact, been to remove withholding tax on non-resident bonds, for example, in Japan, Australia and Greece. Moreover, the imposition of a withholding tax could also have a dramatic impact on location decisions by increasing the operating costs of paying agents.

There has been growing support from France, Germany, Italy and Spain to amend the current draft in line with a UK government proposal replacing the co-existence model with a mandatory requirement to exchange information among national tax authorities concurrently with the abolition of banking secrecy laws within the EU. Luxembourg and Belgium are both resisting the UK's proposal in preference for the system put forward in the current EU directive. The need for unanimity in taxation matters dictates that until these differences are ironed out, the directive cannot progress any further.

Nadia de Souza and Stephen Mavroghenis

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