Setting up EU subsidiaries – not all plain sailing?

06 Oct 2022

By Paul Brown, Tax Partner

Immediately after the Brexit referendum there was a surge in UK companies setting up subsidiaries based in the EU.  The logic in many cases was that this would provide a foothold in the EU and potentially avoid any of the complications that may have arisen as a result of the vote to leave.  Of course, the fact many of these were set up in Ireland had nothing to do with the 12.5% corporate tax rate there.

Although I don’t have any empirical evidence my suspicion is that many of these companies remain unused to this day.  However, in the recent past we have had a number of enquiries from clients who want to explore this as an option.  Commercially this makes a lot of sense (Brexit or no Brexit).  

Take for example a client who imports from China and then on-sells to the EU.  Bringing the goods into the UK and then onward shipping it to the EU complicates the supply chain and makes it potentially more costly, even before you factor in the increased problems in exporting goods from the UK to the EU.  An EU distribution hub in Antwerp or Rotterdam could simplify matters considerably.

Of course, that hub does not need to be in a separate company and could be owned by the existing UK entity.  However, many EU customers seem to prefer dealing with another business in the EU so often having an EU entity will remove some of those more ephemeral barriers to trade.  

It all sounds easy enough then doesn’t it?  You just set up a subsidiary in Ireland or the Netherlands and transfer all of your EU customers there.  But by transferring all of those customers from a UK company to an EU company are you not then making a disposal of that intellectual property (goodwill, customer lists etc)?  “Aha” I hear you say – we are making a disposal, but it is still within the group!  

That may be but, in order for an intra-group transfer of IP to be tax neutral under the intangible fixed asset regime, the asset must be within the charge to UK tax immediately after the transfer (a broadly similar rule exists within the CGT regime).  So, unless your EU subsidiary is within the charge to UK tax in respect of the asset (typically it has a UK permanent establishment in which the asset us used) then the tax neutral transfer rules do not apply.  Instead, you will have a disposal and because it is between connected parties it will be a market value transaction.  Depending on the value of your IP this dry tax charge could more than outweigh the benefits of the EU sub.

 That is not to say there are not ways to manage this risk.  Strategies could include:

  1. Licensing the IP of the UK company to the EU subsidiary 

  2. The EU subsidiary acting as an agent for UK principal company

  3. Having the EU subsidiary centrally managed and controlled in the UK and therefore (potentially) UK resident for tax purposes.

All of these have their issues and complications but could be made to work in order to achieve the commercial objectives of the structure.  However, if the main reason for the EU subsidiary is less commercial and more about perceived tax savings, then these are going to undermine those savings and make the whole concept less attractive – but then I would never recommend an approach like this just to save tax.

There are many other potential complications to be addressed in implementing this sort of structure and other tax hurdles along the way – transfer pricing being one and potential withholding taxes on repatriation of profits another (now we are outside the scope of the various EU directives that used to cover such matters).  That is not at all to say that this sort of structure is a non-starter, but it is certainly not a step to be taken lightly and without very detailed consideration!

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