The new Double Tax (DT) Treaty Passport scheme was introduced on 1 September 2010. It is intended to streamline and simplify the making of directions by HM Revenue & Customs (HMRC) to borrowers to allow payment of interest without deduction of tax at source (or at the lower rate dictated by the relevant double tax treaty).
Typically, where a loan is made by a non-UK lender to a UK resident corporate borrower, the borrower is required to deduct tax at source and to account to HMRC for the tax so deducted. This sum is on account of the lender's obligation to pay tax in the United Kingdom on the interest received.
The same deduction obligation applies where the borrower is non-UK resident but the debt in respect of which interest is paid has a UK source (for example, where it is secured on UK real estate under a loan agreement subject to English law).
The obligation to deduct and account is modified by any applicable double tax treaty. A double tax treaty may remove entirely the obligation to deduct or allow deduction at a reduced rate.
The application of the provisions of a double tax treaty requires a direction from HMRC. This is given under a procedure known as the "certified claim" method. This is a cumbersome and often lengthy process: the borrower has to rely on the lender producing the necessary paperwork and HMRC then obtaining verification of the lender's tax status from the lender's own fiscal authority. Applications must be made on a loan-by-loan basis, even if between the same borrower and lender.
A borrower will be anxious to obtain a double tax treaty direction. This is because, without it, the borrower will typically be required (under the terms of its loan agreement) to "gross up" the payment to the lender in order to "compensate" the lender for the amount deducted.
With effect from 1 September 2010, HMRC introduced the DT Treaty Passport scheme for corporate lenders, in order to streamline and simplify the process of obtaining a double tax treaty direction. The usual "certified claim" method of obtaining a double tax treaty direction will continue to apply where the lender is not a corporate (or does not wish to use the new scheme).
The Loan Market Association has published an updated version of its recommended senior multicurrency term and revolving facilities agreement to reflect the new DT Treaty Passport scheme. The revised document enables a lender, at its choice, to use the DT Treaty Passport scheme.
How does the "passport scheme" work?
- The lender applies to HMRC for a DT Treaty Passport. If successful, the lender is issued with a unique DT Treaty Passport reference number.
- The lender notifies the borrower of its passport holder status and its reference number, which the borrower must verify with HMRC.
- The borrower notifies HMRC of the "passported" loan via a new form (DTTP2).
- HMRC issues a direction to the borrower to pay interest without deduction or with deduction at the reduced rate (as dictated by the relevant double tax treaty).