Taxation of dividends received by foreign entities offering statutory pension insurance

This is an unofficial translation. The official instruction (record no A218/200/2015) is drafted in Finnish and Swedish languages.

This guidance discusses the recent amendments of §3 and §7 of the Act on the Taxation of Nonresidents' Income under which foreign pension insurers that are comparable with Finnish ones may receive an exemption. Subject to certain restrictions, the exemption defined in § 8, subsection 1.10 of Business Tax Act is available. This guidance describes the accounts and documentation to be prepared by a foreign pension insurance company for this purpose.

This is an unofficial translation. The official instruction is drafted in Finnish and Swedish languages.

1 Introduction

The legal entity forms of domestic pension insurance institutions may be one of the following three: Pension insurance company (eläkevakuutusyhtiö in Finnish; pensionsförsäkringsbolag in Swedish), Pension Fund (eläkesäätiö; pensionsstiftelse) or  Employees' Pension Association (eläkekassa; pensionskassa).  Domestic pension institutions are not exempted from income taxation under the law. This means that their taxable income from business profits is computed as provided in Business Tax Act (act no 360/1968). The expenses that are deductible are subtracted from the total income from business profits, not as specific expenses that would be deductible from certain categories of income.

Under § 8, subsection 1.10, Business Tax Act, it is permissible for insurance companies to deduct the amounts they transfer to the insurance-liability reserves of their balance sheet. Similarly, Finnish pension institutions may deduct the expenses, calculated by actuarial principles, necessary for the coverage of their liability to pay out pension benefits as agreed.  Under  the provisions of legal acts, the rights to this deduction are applicable to all kinds of insurance business. The purpose of the deductibility of the expenses is to help safeguard the payments of pension benefits in the future. Further provisions on this deduction regarding the spread of the deduction over several accounting periods are found in § 48, Business Tax Act.

On 1 January 2015, amendments came into force to the Act on the Taxation of Nonresidents' Income (Lähdeverolaki; Lagen om källskatt 627/1978) making domestic rules compliant with EU law (in reference to ruling C-342/10) by extending the deduction rights of § 8, subsection 1.10, Business Tax Act, to foreign pension insurance institutions. Subject to certain restrictions, the deductibility is related to situations where a pension insurer is a beneficiary of dividends from a Finnish source.

2 Amount of the tax at source; expenses deductible under Business Tax Act

The payer must withhold tax at the time when they pay dividends to a beneficiary or make an entry to the beneficiary's account proving a payment of dividends. Under § 7, subparagraph 3, Act on the Taxation of Nonresidents' Income, the rate is 15% of the dividend when the shares held by the beneficiary are their investment assets, if the beneficiary is a foreign entity comparable to a domestic pension insurance company. The foreign entity's registered domicile must be in the European Economic Area and the entity cannot be a corporation referred to in the Parent-Subsidiary Directive which would own at least 10% of the share capital of the dividend-distributing company.

The 15-percent rate of taxation at source is also applicable to foreign pension insurers comparable with domestic ones that are domiciled outside the European Economic Area on the condition that they do not own more than 10% of the share capital of the dividend-distributing company.  A further precondition is that Finland and the beneficiary's country of tax residence must have a mutual convention on assistance and exchange of information on tax matters, whereby sufficient details for the assessment of taxes can be received.

A tax agreement signed between the country of residence and Finland may, however, have an impact on the amount of tax at source to be withheld.

Under § 3, subsection 7, Act on the Taxation of Nonresidents' Income (975/2014), if dividends are paid on shares treated as investment assets by the beneficiary, a deduction is permitted, in reference to § 8, subsection 1.10, Business Tax Act, corresponding to the share of dividends received from Finland of their turnover. The right to this deduction is only granted to entities that are comparable to Finnish pension insurers.

The deduction may be granted if the foreign entity's registered domicile is in the European Economic Area. It can also be granted to pension insurers whose domicile is outside the European Economic Area on the condition that they do not own more than 10% of the share capital of the dividend-distributing company.  Finland and the beneficiary's country of tax residence must have a convention on assistance and exchange of information on tax matters whereby sufficient details for the assessment of taxes are received.  The Act requires that a beneficiary must provide the Finnish Tax Administration a calculation outlining the amount to be deducted in reference to § 8, subsection 1.10, Business Tax Act.  

When the amendment was in preparation (government proposal no 157/2014 to the Finnish Parliament), additional preconditions were listed: the foreign entity must be a non-profit entity and it cannot offer other than statutory pension insurance products, i.e. only pension insurance and additional employment-related pension coverage. Moreover, the foreign entity must be tax-exempt under the legislation of its country of residence and it must function under similar official supervision as a Finnish comparable institution or entity.

3 Granting the deduction

3.1 An account of the general circumstances

Foreign entities are required to provide the following information proving that the necessary preconditions are fulfilled:

a) The entity's country of tax residence is in the European Economic Area

1. The shares on which you receive the dividends are booked as 'investment assets' on your balance sheet.
2. Your only activity as an insurer is to offer mandatory pension contracts and employment-related additional pension contracts.  Consequently, your operations cannot include other types of pension contracts such as individual retirement accounts etc.  
3. The activities of your entity are not aimed at turning a profit.
4. The laws of your entity's country of residence provide exemption from taxation; alternatively, you enjoy a similar privilege as a domestic pension insurer to deduct the yearly changes of your actuarial liability i.e. a de-facto exemption.
5. The entity must be under public supervision by authorities in the same way as a Finnish entity is. The system of control and supervision that monitors domestic pension insurers is made up by its own administrative body, its internal control function, its auditors and an outside body.  The Financial Supervisory Authority of Finland is in charge of the monitoring.

b) If your tax residence is located outside the European Economic Area, enclose an account proving that the entity directly owns less than 10 percent of the dividend-distributing company's capital.

3.2 A calculation outlining the amount to be deducted

Foreign entities are required to provide a calculation of the amount to be deducted, and information on the proportional share of the Finnish-sourced dividends of their annual turnover. Domestic pension insurance companies are required to provide a similar calculation.

The government proposal refers to Guideline no FIVA 7/01.00./2012 of the Financial Supervision Authority, under which 'annual turnover' means the sum of: revenue in the form of received insurance premiums, not deducting any related bad debts, not deducting reinsurance expenses + net revenue from investments + other revenues.

Link to a financial statements formula (available in Finnish)

http://www.finlex.fi/data/sdliite/liite/5572.pdf (finlex.fi) 

There is a Decree of the Finnish Ministry of social and health laying down the formula for the P&L (decree no 1336/2002, appendix 13.4.2010/260). The formula is included in the guidelines issued by the Financial Supervision Authority, no 15/2012 (from p. 50 onwards).

The deductible transfer of expenses is determined under actuarial principles governing coverage of the liability to pay pension benefits to the insured, and of the liability to maintain a reserve.  The basis of the deductions in the case of mandatory pensions including employment pensions is laid out in the provisions of Finnish legislation on employment pension.  The additions made during the accounting period to the liability and to the reserve are deductible from business income.  In the inverse situation, if the liability and the reserve decrease during an accounting period, it is treated as taxable income.  The annual changes in the liability and in the reserve must be entered in the entity's accounting system. The link below is to the website of the Insurance companies's association (TELA ry) where a general description of the liabilities accounting is posted.

http://www.tela.fi/en/economy/liabilities_and_solvency/calculation_of_technical_provisions

If your country of tax residence has a similar system and your financial statements show the amount of the deduction granted by your country, it will be enough if you just forward us the financial statements.  However, you must additionally give us an account of your receipts of dividends from Finland, and report the corresponding deduction assigned to them as well.

If you are not liable to keep accounting records in your country under a similar system as in Finland, you must prepare a profit-and-loss account and balance sheet according to the provisions laid down by the Ministry of Social Affairs and Health (decree governing pension institutions, STMtpA 614/2008).  Then you must give us details on the deduction assigned to your dividends under § 8, subsection 1.10 of Business Tax Act (EVL).

Please find two simplified illustrations below on how upward and downward changes in the liability will affect the deductions.

4 Entities receiving special tax treatment

Under Income Tax Act, some entities are exempted from taxation either partly or fully. An example of these is Keva, the municipal pension insurance institution.  Keva is an independent entity under the laws governing public corporations and authorities, safeguarding the financing of municipal pensions and the related investments. The operations of Keva are based on the Act governing retirement pensions of municipal employees and it is under the supervision of the Ministry of Finance and FIVA, the Financial Supervision Authority.

Keva and similar entities are not concerned by the provisions of § 3, subparagraph 7, Act on the Taxation of Nonresidents' Income. However, taking Art. 63 of the Treaty on the Functioning of the EU (TFEU) with case-law into consideration, dividends paid out to a foreign entity comparable with Keva may be fully exempted from taxation.

5 Refunds of tax withheld at source  

If too much tax at source was withheld, the two alternatives of seeking relief are either asking the payer to correct the withholding or asking the Tax Administration to pay out a refund. In practice, the latter method is more common. This is due to the fact that a foreign payer normally cannot collect all the details required by Finnish law by the date when dividends are paid, or not even by the end of that year. The Tax Administration pays interest on the tax being refunded as provided in § 11.4, Act on the Taxation of Nonresidents' Income. 

The form to complete when requesting a refund is Form 6163e; enclosures are required as specified in its Instructions for completion.

Form 6163e (Application for refund of Finnish withholding tax on dividends)

Other required accounts are free-text (i.e. those listed in 2 - 5 above and the calculation outlining the amount to be deducted).  If your tax residence is located outside the European Economic Area, enclose an account proving that the entity directly owns less than 10 percent of the dividend-distributing company's capital. Evaluations are made on a case-by-case basis as to whether the foreign entity can be treated as being comparable to a Finnish pension insurance institution.

The Act on the Taxation of Nonresidents' Income was amended due to ruling C-342/10 of the European Court of Justice.  Because the taxation for earlier years may in light of this judgment be regarded as contradictory to EU law, we may additionally pay out certain refunds concerning periods in the past.  However, refunds are subject to adherence to the conditions listed in this guidance including the furnishing of accounts for all the years concerned. The rates of tax vary from year to year where dividends booked as investment assets are concerned.