Tax on Interest Paid to Non-Resident Lenders

When a UK-based company borrows money from a non-resident lender, one of the key tax considerations is whether the interest paid on loan is subject to UK tax. The UK tax rules on withholding tax and double tax treaties are crucial in determining the tax treatment of interest payments made to non-resident lenders.

According to UK tax legislation and HMRC guidance, interest from a UK source is subject to withholding tax unless a double tax treaty can remove or reduce the withholding obligation. The terms “UK source” and “arises in the UK” are considered synonymous for these purposes. The tax legislation does not explicitly define these terms, so there is significant reliance on HMRC’s published guidance. HMRC states that determining whether interest has a UK source depends on various factors, including:

1. The residence of the debtor and the location of their assets
2. The place of performance of the contract and the method of payment
3. The competent jurisdiction for legal action and the proper law of the contract
4. The residence of any guarantor and the location of any security for the debt

These factors are derived from the 1970 leading case on the source of interest, Westminster Bank Executor and Trustee Company (Channel Islands) Ltd v National Bank of Greece SA. HMRC considers factor 1, the debtor’s residence and the location of the debtor’s assets, to be the most important because it influences where the creditor will sue for the interest and repayment of the loan. ‘Residence’ in these circumstances is not the same as tax residence. Instead, the residence of the debtor refers to residence for the purposes of jurisdiction.

When a non-resident lender charges interest on a loan to a UK Ltd company, UK tax would likely be due, considering that the debtor’s residence and location of assets are in the UK. Depending on the specific double tax treaty, the interest payments made by the UK Ltd company to the non-resident lender may be subject to a reduced withholding tax rate or even exempt from UK tax. Nevertheless, the lender may still be required to report the interest income in their country of residence and pay tax there, if applicable.

It is crucial to verify the specific tax treaty provisions between the UK and the lender’s country of residence and ensure that the loan agreement and other documentation meet the requirements to qualify for treaty benefits. For more information on the treatment of interest payments, refer to HMRC’s guidance (https://www.gov.uk/hmrc-internal-manuals/international-manual/intm400010).

The tax treatment of interest payments made to non-resident lenders depends on various factors, including the specific provisions of applicable double tax treaties. Therefore, you should contact our specialist tax advisors to review your case-specific facts and circumstances to ensure proper tax treatment and compliance with UK tax laws.