Global relief at source: The tax gold standard?

By Len Lipton | 24 July 2017

Right time, right place?

The EU Tax Barriers Business Advisory Group (TBBAG) calculated in 2013 that annually, roughly €5.47bn in recoverable tax is retained by EU tax authorities. That figure has continued to climb as investors increasingly diversify their portfolios across a wider selection of asset classes and markets. In recent years, however, fraudulent post paydate claims (reclaims), and many countries’ focus on tax evasion, have led tax authorities to tighten claim processing and require more evidence of ownership before they refund over-withheld taxes.  

While withholding tax recovery has never been easy, the level of complexity investors now face has led many to simply give up on the reclaims to which they are entitled under various double taxation treaties. Even when they are successful, tax reclaims often require an understanding of not just the treaties, but the actual practice in each market. If investors manage to complete all of this correctly, they can expect their refund in three months to two years, depending on the jurisdiction. Italy, a known outlier, commonly returns money to investors in seven to ten years. As mentioned in the TBBAG Report of 2013 – adopted by all 28 EU Member States – the ideal solution is for all EU Members to adopt a harmonized relief at source process that allows for the electronic transfer of information and documentation, while continuing to allow the individual markets to maintain their own tax sovereignty. Such a process would be the global tax gold standard.

Relief at source is the most efficient tax recovery option available for global income payments.  While there are strict data requirements and short filing deadlines to qualify, it is certainly the fastest way for an investor to receive the most favourable withholding rate to which they are entitled and is, therefore, a valuable service for a financial institution to provide.

Is there a catch?

The global investment community continues to face calls for greater disclosure, due in part to international frameworks to fight abusive tax planning practices (e.g. the Base Erosion and Profit Shifting (BEPS) Project). This is prompting tax authorities to require more beneficial owner information disclosure from financial intermediaries and investors, in order to confirm residency and benefit eligibility, which is in turn making tax operations for custodians and sub-custodians more challenging.

Global investors hold assets through a complex chain of counter-parties, with many financial intermediaries between the end beneficial owner and the local paying agent. To qualify for recovery, investor information must make its way up the chain to the paying agent. Relief at source’s exacting deadlines to provide this information (less than 12 hours in many markets) can make it challenging for the first level intermediary with an account at the local paying agent, and nearly impossible for the second level intermediary holding through another intermediary. If you consider a majority of these intermediaries have omnibus accounts, and many of the beneficial owners are collective investment vehicles that may need to disclose underlying investors, you can see how the network of intermediaries can make it extremely complicated. Obtaining tax relief without standardized digital methods for passing documents and data – while applying market rules and regulations – now becomes incredibly challenging.

Thus, TBBAG recommendations for a standard relief at source model operated by financial intermediaries, rather than tax authorities, seems to be the emerging de facto global tax gold standard.

So, why should we adopt this global tax gold standard?

Tax recovery remains a prudent practice that maximizes portfolio returns, and relief at source is the most efficient method because it returns funds to investors more quickly. The benefit of systemically automating and standardizing tax relief is first observed by the end investor who sees an immediate benefit of re-investable funds. The financial institution that provides access to the tax relief process also gains a competitive advantage.

Relief at source claims are generally filed through the local custodians giving tax authorities the transparency that they seek. The problem of the framework versus the systemic solution lies in sub-custodians not operating to a single standard and in many cases, being unwilling to offer relief at source service at all. For a global portfolio, investors and asset managers want tax efficiency for the lowest costs, in the fastest possible manner, so they can enhance their performance.

Until such standardisation is available, partnering with a cutting-edge tax service provider that has developed technology to overcome these barriers is the most cost-effective solution for many of the complexities that continue to prevent the universal application of relief at source at a global level – the tax gold standard.