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A popular form of using foreign companies in international tax planning is that of a professional service company. Under this scenario, professional services such as those of architects, engineers etc. are supplied through and in the name of foreign companies owned by such professionals.
1. Reasons for setting up foreign professional services companies
There are various reasons for setting up foreign professional services companies.
A non-fiscal motive may be the limitation of personal liability risks for specific projects.
Fiscal reasons for setting up foreign professional services companies are usually the possibility to qualify for a low corporate income tax rate (or corporate income tax exemption) over profits derived from the services in question. Within the EU, the possibility to obtain an EU VAT number may also be an important fiscal motive for businesses to set up low tax professional services companies in that area.
Reasons such as confidentiality, reduction of withholding taxes in a treaty country and tax sparing credits may under circumstances also, to a more or lesser extent, play a role.
2. Important characteristics for a country to be regarded as tax advantageous jurisdiction for professional services companies
A country should meet the following criteria in order to be regarded as tax efficient jurisdiction for professional services:
it should have a low general corporate income tax rate, or, such as Malta, in spite of the low general corporate income tax rate, there should be ways (in the case of Malta; through distribution of the profits) to mitigate the effective tax burden over such profits
in certain circumstances the availability of a double tax treaty network may be helpful for reduction of withholding tax over payments made to professional services companies by customers of such companies (e.g. because of re-qualification of payments by foreign tax authorities, therewith subjecting them to withholding tax)
under circumstances, a low general VAT rate in the country in question may be of importance
ideally, the country of establishment of the professional services company would not have withholding taxation over dividend payments (or it should be relatively easy to circumvent such taxation)
3. Issues to consider
Before deciding to incorporate a foreign professional services company, other issues need to be considered as well. Below you will find a couple of these issues.
First of all, the investor’s home country may have so-called ‘CFC (controlled foreign corporation) legislation’, leading to immediate taxation over profits realized by lowly taxed foreign services companies (even without distribution of such profits) established in certain countries (so-called ‘blacklisted countries’) owned by the investor. Therefore, it is always advisable for investors to liaise with local tax specialists before setting up foreign professional services structures.
Furthermore, the issue of transfer pricing legislation requires careful consideration. Generally speaking this means that the legislation of the investor’s home country will probably require that the remuneration allocated to the foreign company should be in line with the so-called ‘arm’s length principle’, meaning that it should be equal to what independent parties agree or would have agreed under comparable circumstances, based upon the functions performed and the risks incurred by the involved parties.
Investors should be prepared for a possible challenge of the structure by the tax authorities in their home countries. The risk of such challenge depends on various factors, such as the attitude of these authorities in general towards foreign structures, their available audit tools and policy etc. Tax authorities could argue that the management and control of a foreign professional services company is de facto exercised in the country where the ultimate owner of the company is based (or that the company has a so-called ‘permanent establishment’ in such country). A way to reduce the risk of success of such challenge may be the appointment of a majority of directors resident in the professional services company’s preferred country of establishment on the board of directors of the company. These, and other issues, are also aspects, which an investor should discuss with a tax specialist in his home country.
As a (albeit general) rule of thumb, one can argue that investors usually have more flexibility in the structuring of professional services income through foreign companies if the supply of their services requires frequent foreign travelling.
Finally, the risk of taxable presence in the country in which the services are physically delivered, either in the form of a so-called ‘permanent establishment’ or in the form of residence of the foreign company in the country where the services are supplied, must never be underestimated. It is advisable to seek local tax advice in the country where the services are supplied as well.
4. What we can do for you
Consulco has set up a significant number of professional services companies for its clients. We are able to assist clients using this kind of companies in all the relevant areas, such as incorporation, domiciliation, tax advisory services, legal services and accounting services.
Consulco has offices in two of the most prominent and favorable jurisdictions for the establishment of professional services companies in the entire EU, Cyprus and Malta. Both countries have extensive double tax treaty networks.
In addition to that, Consulco has an office in the United Arab Emirates (UAE) where we are licensed to set up and manage companies in the so-called Ras Al Khaimah (RAK) zone. These companies are comparable with offshore companies in the sense that they are in principle not subject to any tax over any of their income, but (unlike typical offshore companies) they have the advantage of eligibility for the benefits of tax treaties concluded by the UAE.
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