Malta has been an EU Member State since 1 May 2004 and the adoption of EU Directives coupled with a unique full imputation system of taxation as well as tax refunds has developed the country into an international financial centre. Malta is the country of choice for foreign investments into the EU. However, several companies in a multitude of sectors have set up in Malta for several reasons. Although the country and the local market are small, companies have no restrictions in accessing the EU market and beyond. Malta has developed an advanced IT infrastructure, very good telecommunications and connections, an extensive treaty network, a professional and business friendly atmosphere amongst professionals and regulators, and a can-do attitude all of which have contributed to Malta’s success beyond its relative size.
Corporate taxation and the full imputation system
Maltese registered companies are subject to income tax on chargeable income at a standard rate of 35%. Companies incorporated in Malta are subject to tax on their worldwide income but companies incorporated outside Malta but are tax resident in Malta by virtue of their effective management and control are subject to tax on income arising in Malta and income remitted to Malta. One may also claim that companies are not effectively subject to tax because of the full imputation system of taxation whereby the tax paid by the company is credited in full to the shareholder/s following a distribution of profits. This ensures that there is no double taxation as often happens under the classical system. Moreover, a system of tax refunds which shareholders may claim depending on the source of income leads to an effective tax rate which may be well below the 35% tax rate applicable to companies.
Every Maltese company is required to allocate its profits to five tax accounts. The allocation of profits to the tax accounts is a very important aspect of the Maltese tax system as it determines the tax treatment applicable to shareholders and the tax refunds which may be claimed upon a distribution of profits. The following is an overview of the five tax accounts, the type of income or gains allocated to each tax account and the tax refunds which may be claimed by shareholders:
|1||Foreign Income Account (FIA)||Foreign source passive income such as dividends, interest, royalties, rent etc. and all capital gains from foreign sources (unless exempt).||5/7ths in the case of passive interest and royalties. 2/3rds where company claims double taxation relief including FRFTC. 100% in the case of income from a Participating Holding.|
|2||Maltese Taxed Account (MTA)||Profits from trading activities and profits which are not allocated to the FIA, IPA or FTA.||6/7ths in the case of trading income. 5/7ths in the case of passive interest and royalties.|
|3||Immovable Property Account (IPA)||Profits resulting from the use of immovable property situated in Malta and which have not suffered the final withholding tax, as well as profits from rent, accommodation and activities related to immovable property situated in Malta.||None. No tax refunds|
|4||Final Tax Account (FTA)||Profits subject to a final withholding tax and income exempt from tax (e.g. participation exemption).||None. No tax refunds.|
|5||Untaxed Account (UA)||The difference between the company’s accounting profits or losses and the total of the amounts allocated to the other four tax accounts.||None or a FWT.|
Participating holding and the participation exemption
A comparative study shows that Malta has one of the best participation exemption regimes. A Maltese company in receipt of dividend income or capital gains from a participating holding may claim the participation exemption. Alternatively, the company may elect to be subject and pay tax and this would enable the shareholder to claim a full refund.
A participating holding must be an equity holding which is defined as a holding of the share capital in a company which is not a property company and entitles the shareholder to at least any two of the following rights:
- A right to vote;
- A right to profits available for distribution, and
- A right to assets available for distribution on a winding up of that company.
A participating holding arises when any one of the following criteria is met:
- A company holds directly at least 5% of the equity shares of a company whose capital is wholly or partly divided into shares, which holding confers an entitlement to at least 5% of any two of the above-mentioned rights; or
- A company is an equity shareholder in a company and is entitled at its option to call for and acquire the entire balance of the equity shares not held by that equity shareholder company; or
- A company is an equity shareholder in a company and the equity shareholder company is entitled to a first refusal in the event of the proposed disposal, redemption or cancellation of all of the equity shares of that company not held by that equity shareholder company; or
- A company is an equity shareholder which holds an investment representing a total value of at least €1,164,000 (or the equivalent in a foreign currency) in a company and such investment is held for an uninterrupted period of not less than 183 days; or
- A company is an equity shareholder in a company and where the holding of such shares is for the furtherance of its own business and the holding is not held as trading stock for the purpose of trade.
A capital gain derived from a participating holding automatically qualifies for the participation exemption, however, in the case of dividends derived from a participating holding they will be exempt from tax provided that the body of persons in which the participating holding is held satisfies any one of the following three conditions:
- it is resident or incorporated in the EU; or
- it is subject to foreign tax of at least 15%; or
- it does not have more than 50% of its income derived from passive interest or royalties.
Where none of the above three conditions are satisfied, then both of the following conditions must be satisfied:
- the equity holding in the non-resident company is not a portfolio investment, and
- the non-resident company or its passive interest or royalties are subject to tax of not less than 5%.
A portfolio investment is an investment in securities such as shares, bonds and such like instruments, held as part of a portfolio of similar investments for the purpose of risk spreading and where such an investment is not a strategic investment and is done with no intention of influencing the management of the underlying company. Also, the holding of shares by a Maltese company in a foreign body of persons which derives more than 50% of its income from portfolio investments is deemed a portfolio investment.
The participation exemption may also apply to a participating holding in certain partnerships, collective investment vehicles and European Economic Interest Groupings.
Summary and illustrations
The mechanics of the full imputation system, the allocation of profits to the various tax accounts and the tax refunds and the overall effect of their interaction may be illustrated in the following examples:
wdt_ID At Company Level Participating Holding (PH) PH + FRFTC No PH and claims FRFTC Passive Interest and Royalties Trading Income 2
Tax @ 35%
Credit for FRFTC claimed
|wdt_ID||At Shareholder Level||Participating Holding (PH)||PH + FRFTC||No PH and claims FRFTC||Passive Interest and Royalties||Trading Income|
|2||Tax @ 35%||350.00||437.50||437.50||350.00||350.00|
|3||Credit for TAS||-350.00||-437.50||-437.50||-350.00||-350.00|
|COMET %||wdt_ID||refund||Participating Holding (PH)||PH + FRFTC||No PH and claims FRFTC||Passive Interest and Royalties||Trading Income|
|COMET %||2||COMET %||0%||0%||6.25%||10%||5%|
PH: Participating Holding
TAS: Tax at Source. The credit of the tax paid by the company given to the shareholder is the effect of the full imputation system.
COMET: Combined Overall Malta Effective Tax. This is the net effect of the tax paid by the company and the tax refund received by the shareholder in Malta.
It is pertinent to point out that a tax refund becomes due to the shareholder by the Inland Revenue Department within 14 days from when the company’s audited financial statements (accounting for the dividend distribution) and a complete and correct income tax return are submitted to the tax authorities, the tax liability is paid in full and an application for refund on the prescribed form, together with the dividend certificate and other documents as requested by the International Tax Unit are submitted by the shareholder or his tax representative.
Income tax is paid in the same currency as the company’s share capital, which is also the currency in which the company prepares and submits its audited financial statements. The tax refund is also paid in the same currency, thus eliminating any forex risks.
Branches and oversea companies
A branch or a permanent establishment (PE) of a foreign company is subject to tax at the standard rate of 35% on the profits attributable thereto. It is interesting to note that the shareholders of the foreign company may still claim tax refunds provided the foreign company distributes profits which have been subject to tax in Malta (at the level of the branch or PE). This may also apply to a foreign company which is tax resident in Malta by virtue of its effective management and control. Such foreign companies registered in Malta are referred to as an ‘oversea company’ because of the same terminology used in The Companies Act.
Advance revenue rulings
Maltese legislation provides for Advance Revenue Rulings (ARR) which may be obtained by application from the International Tax Unit of the Inland Revenue Department. ARRs are valid for a period of five years and are renewable. The ARR is still valid even if there is a change in legislation although in this case the ARR expires once two years are over from the legislative change.
The attractiveness of ARRs has somewhat decreased following the EU Directive whereby the Maltese tax authorities provide information related to ARRs to the EU Commission and other EU Member States.
Notional interest deduction
In 2018 Malta introduced the concept of a notional interest deduction (NID). Before the introduction of these rules, debt financed entities could claim a tax deduction equivalent to the interest however no similar deduction was available for equity financed companies. The NID is optional and entitles companies to claim a tax deduction equivalent to the notional interest calculated on its equity thus making equity financing on the same level playing field as debt financing for taxation purposes.
NID is determined by multiplying the reference rate to the invested risk capital. The reference rate is the risk-free rate set by reference to the current yield to maturity on the Malta Government Stocks with a term of approximately 20 years plus a premium of 5%, and the invested risk capital of the undertaking is the share capital, share premium, positive retained earnings, non-interest-bearing loans and any other positive equity components. Any capital directly employed in the production of income which is exempt from tax does not fall part of the invested risk capital.
One of the main advantages of the NID is that the combined overall Malta effective tax (COMET) may be reduced and reduces the need for the shareholder/s to claim tax refunds.
The patent box regime
As from year of assessment 2020 (basis year 2019), any person incurring qualifying IP expenditure and from which qualifying IP income is derived, may claim a deduction which may reduce the chargeable income from qualifying IP by 95% thereby drastically reducing the taxable income of the person and may also be applied upon the disposal of the IP. The assets that are considered as qualifying IP are defined in the Rules and include registered patents and assets covered by protection rights, however, exclude brands, trademarks and trade names. The deduction is aimed for assets which are developed by the person rather than for acquired assets. The deduction is however not limited to assets developed in Malta but require that the beneficiary maintains sufficient substance as is commensurate with the type and extent of activity being carried out.
For further details, you may refer to the The Patent Box Regime news item.
Tax consolidation in Malta
Following the publication of the Consolidated Group (Income Tax) Rules by means of Legal Notice 110 of 2019, Malta introduced fiscal unity rules providing for a consolidated tax group. As a result, certain groups of companies may, from the year of assessment 2020 (basis year 2019), opt to be treated as one single taxpayer.
The definition of a group in these rules is different and much wider than the definition contained in the Income Tax Act allowing both Maltese companies as well as foreign entities that fall within the definition of a company to form part of the consolidated group. The foreign entities need not be tax resident in Malta to form part of the fiscal unit, but it is necessary that they are tax registered in Malta.
The Rules lay down the requirements relating to the formation of the Fiscal Unit and also discusses what shall constitute ignored transactions in determining the Group’s chargeable income and tax payable.
The main benefit of the tax consolidation or fiscal unity is the cash flow advantage especially when compared to the current operation of the partial shareholder tax refunds upon a distribution of taxed profits. The new tax consolidation rules reduce the tax due to the combined overall effective tax rate without the need to wait for the income tax refund on distributed taxed profits. However, the tax consolidation may also be useful within a local context since it is wider in scope than the surrendering of tax trading losses. Clearly, in view of the embedded anti-abuse provision, the purpose of these rules is not to provide a tax advantage.
For further details, you may refer to the Tax Consolidation in Malta news item.
The salient features highlighted above are coupled with other benefits including:
- No withholding taxes;
- No thin cap rules or debt-to-equity ratios;
- No capital duty and wealth taxes;
- No stamp duty on share transfers in companies whose activities are outside Malta;
- Non-resident persons are exempt from capital gains arising on certain share transfers;
- Participation exemption regime applicable to branches, certain partnerships and other entities;
- An extensive treaty network with over seventy treaties currently in force;
- Step-up upon an inward redomiciliation.