EU’s FASTER Directive set to transform withholding tax procedures

Background

Currently, many EU Member States impose withholding taxes on dividends and interest paid to foreign investors at maximum rates. Investors can often recover part or all of these taxes by filing tax reclaims with relevant authorities. However, the existing procedures for claiming withholding tax relief are notoriously difficult. They vary significantly between Member States, often being lengthy, costly, and prone to errors or even large-scale tax fraud. These procedures involve a myriad of tax forms, often in different languages, adding to the complexity and burden on investors.

In June 2023, approximately 20 years after the issue was first identified, the European Commission proposed the FASTER directive to address these inefficiencies and vulnerabilities. The directive aims to create a common, transparent and efficient framework for the relief of excess withholding taxes on cross-border investments by leveraging digital solutions and harmonising procedures across Member States, while ensuring transparency and certainty on investors’ identity for securities’ issuers, withholding tax agents, financial intermediaries and Member States, as the case may be.

Key features

To achieve its objectives, the directive will introduce a series of measures. Specifically, it will implement a standardized, EU-wide digital tax residence certificate (eTRC), enabling investors to confirm their tax residence quickly and efficiently. According to the agreed text, the eTRC should be issued by the relevant tax authority within 14 days.

This efficiency is complemented by two fast-track procedures:

1. the relief at source system, which applies the correct tax rate immediately at payment (eliminating the need for a reclaim),
2. and the quick refund system, ensuring timely refunds of excess tax.

These fast-track procedures will need to be supported by financial institutions that are part of the securities’ custody chain. Large financial institutions* will be required to register and obtain the status of “certified financial intermediary” (CFI). For other financial institutions, the CFI status will be optional. CFIs will have to comply with new obligations, such as collecting the eTRCs, assessing investors’ eligibility for reduced rates, and reporting transactional information to the competent tax authorities.

*Note: As defined in the Capital Requirements Regulation, i.e.,: global systemically Important Institutions (G-SIIs); other systemically important institution (O-SIIs); an institution that, in the Member State in which it is established, is one of the three largest institutions in terms of total value of assets; an institution whose total value of assets on an individual basis or, where applicable, on the basis of its consolidated situation is equal to or greater than EUR 30 billion.

Fast-Track procedures

The directive outlines two fast-track procedures to complement existing standard refund methods for withholding taxes:

• A “relief-at-source” procedure applying the reduced tax rate (or exemption) at the time of payment and eliminating the need for a reclaim.
• A “quick refund” system ensuring reimbursement of overpaid withholding tax within 60 calendar days.

Member States must implement these fast-track procedures for dividends paid on publicly traded shares, with an option to extend the scope to interest on publicly traded bonds. Member States also have the option to maintain current procedures under specific conditions.

Additionally, the Council included provisions for excluding requests from fast-track procedures to prevent fraud, ensuring legitimate investors, like collective investment undertakings, can access these procedures.

Standardised Reporting for Financial Intermediaries

The directive will introduce new electronic reporting obligations for CFIs, the objective of which is to help national tax authorities in detecting tax fraud or abuse. Information to be reported will broadly include information regarding the CFI itself, information regarding the investor having received dividend or interest payments (name, tax residence, tax identification number, etc.), information about other financial intermediaries part of the payment chain, information regarding the payment, etc. Such electronic reports will need to be filed within the second month following the month of the payment date.

Registered intermediaries will need to report necessary information to tax authorities, with penalties for non-compliance. Both direct and indirect reporting methods will be used to trace transactions.

Challenges for financial institutions

The implementation of the FASTER directive will bring several compliance challenges for financial institutions, including:

• Registration: Financial institutions will have to register as CFIs through a centralised portal, the European Certified Financial Intermediary Portal. This registration involves providing detailed information and undergoing a verification process to ensure compliance with the directive’s standards.
• Document collection and review: CFIs will be responsible for collecting and reviewing tax documentation from investors. This includes gathering tax residency certificates (eTRCs) and ensuring the authenticity and accuracy of other tax-related documents.
• Eligibility assessment: CFIs must assess the eligibility of investors for reduced withholding tax rates. This involves a review of the investors’ tax documentation and their eligibility to reduced withholding tax rates under the relevant tax treaties or national legislation.
• Reporting obligations: CFIs are required to report dividend and interest payments that have benefited from reduced withholding tax rates within two months of the payment date. This necessitates timely and accurate data collection and reporting to comply with the directive’s requirements.

Another significant challenge for CFIs is the liability they face in the event of noncompliance with FASTER. CFIs can be held accountable for all or part of the loss of withholding tax resulting from such noncompliance, in addition to other (financial) penalties. This liability not only poses a financial risk but also underscores the crucial need for rigorous (and potentially costly) compliance and risk management practices to mitigate potential losses and safeguard their operations.

To meet these challenges, CFIs will need to establish robust systems, processes, and teams. This will likely require investments in advanced technology solutions to handle the verification and reporting processes efficiently. Additionally, CFIs will need to train and deploy specialised teams to manage the increased workload associated with document collection, review, and eligibility assessment. Effective communication channels and collaboration tools will also be essential to ensure seamless coordination among different departments and with external stakeholders.

Next steps

This proposal requires unanimous Council approval and consultation with the European Parliament. Following necessary legal and linguistic checks, the directive will be formally adopted by the Council and published in the EU’s Official Journal, entering into force subsequently. Member States must transpose the directive into national law by 31 December 2028, with implementation starting from 1 January 2030.

In the meantime, the ABBL is looking forward to discussing potential challenges and outstanding issues with members and the relevant authorities ahead of implementation.

Authors: Nenad Ilic – Vice-Chair of the Working Group Tax Reporting – and Marilène Marques – Chair of the Working Group Investment Income.