Getting money out of a UK subsidiary

There are four routes for money to move from a UK subsidiary to its parent, and they are taxed completely differently. Defaulting to whichever route the home country uses is what puts an avoidable 20% deduction on an ordinary payment.

Dividends

The UK charges no withholding tax on dividends, to a parent in any country, treaty or no treaty. This is unusual and simple. What the parent pays at home is a matter for its own advisers.

Two UK conditions apply, and both are about company law rather than tax. First, a dividend can only be paid out of distributable profits, broadly the accumulated realised profits shown in the company's accounts. A subsidiary that has been trading for eight months and has cash from the parent's funding does not necessarily have distributable profits, and paying a dividend without them makes it unlawful and recoverable from the parent. Second, it needs the paperwork: a board minute, and a dividend voucher. We check the reserves before any dividend goes up, which sounds pedantic until a group has had to unwind one.

Interest on a parent loan

Interest is deductible for the UK company, which makes funding by loan attractive, which is the route with the most conditions.

• 20% UK tax is deducted at source from interest paid to an overseas company, unless a double taxation treaty reduces or removes it. The reduction is claimed from HMRC before the payment, either for the specific loan or, for lenders making many UK loans, through the treaty passport scheme. Paying gross before the treaty rate is cleared costs more to correct than to claim in advance.
• The rate must be arm's length. A rate a bank would not have charged is not deductible in full.
• Thin capitalisation. A company funded with excessive related-party debt can have part of that debt treated as equity, denying the interest deduction. Where the position is uncertain an agreement can be reached with HMRC in advance.
• The corporate interest restriction caps deductions at 30% of UK tax earnings before interest, tax, depreciation and amortisation, where the group's net UK interest exceeds £2 million a year. Below that it does not apply.

Royalties and licence fees

Where the UK company uses the group's brand, software or technology, a royalty is a legitimate and deductible charge. The same 20% deduction at source applies unless the treaty rate is claimed in advance, and the UK's withholding on royalties covers trade marks and brand names as well as patents and copyright, which is wider than several other countries. The rate must be a market rate; an inflated one is not deductible.

The treaties differ materially here. Several UK treaties reduce the royalty rate to nil, and several reduce it without removing it, so there is a real deduction to account for and a credit for the parent at home. Confirm the rate for the specific payment rather than assuming, and make the claim before the first invoice is paid.

Management and service charges

This is the most flexible route and the one that needs the most paperwork. Where the parent provides finance, HR, IT or management support to the UK company, it can charge for it, and the charge is deductible. Typically it is priced at the cost of providing the service plus a modest margin, commonly around 5% for routine support, under a written services agreement that sets out the scope, the cost base and how costs are allocated.

There is no withholding tax on service charges. What there is instead is scrutiny: an undocumented management charge is the first thing HMRC disallows, and the deduction is lost entirely rather than reduced. The agreement and the cost workings need to exist before the charge, not be reconstructed at the audit.

The same principle runs the other way. If the UK company performs services for the group, for example sales or development work, it is entitled to an arm's-length return for that work. A UK subsidiary that runs at a permanent loss while the group prospers is a question HMRC will eventually ask.

Which route to use

Most groups use a combination: a services charge covering genuine head office support, a royalty if there is real intellectual property being used, interest if the funding is debt, and dividends for the actual profit. The mix should follow the commercial reality rather than the tax answer, because that is the only version that survives being looked at. What matters far more than the choice is that each arrangement is written down, priced defensibly, and, where withholding applies, cleared with HMRC before the money moves.