The full imputation system is extended to companies who are operative in oil and gas, affording them the same advantage available to other industries. As Labour’s new deputy leader for party affairs, Chris Cardona has been quick to voice his vision for a new horizon for the island. He said that the government is close to reaching economic growth levels never seen before in Malta’s history. One of the areas which are currently topical in the news is how we can improve our financial services sector, given that pressures are on the horizon by the Commission to gradually introduce tax harmonization, and subsidiary recommendations of BEPS.
In a recent report approved by a majority of MEPs in Brussels, including Maltese MEP Roberta Metsola (486 in favour, 88 against and 103 abstentions – but opposed by the five other Maltese MEPs) the European Commission wants to expose particular jurisdictions to sanctions where it meets aggressive tax planning (ATP). Dr Metsola as an MEP elected by local voters, being a shadow minister and representing the opposition party, has decided unilaterally to approve the comments by authors of the report.
This mentions in the case of Malta that our incentive legislation does not tax deemed income on interest loans. The report also wants Malta to reform its incentive legislation to restrict the current advantages it gives to investors. In a nutshell, one reads that our tax deduction of interest does not link to the tax treatment in the creditor Member state. Metsola agreed with the content of the report that Malta needs to reform its present tax code which for the past years has attracted bona fide investors by offering the following:
- No thin-capitalization rules or similar.
- No Controlled foreign company rules.
- No rule to counter a mismatch in tax qualification of domestic partnership.
- No rule to counter a mismatch in tax qualification of a domestic company.
- Too generous tax-exemption of dividends received.
- No withholding tax on dividends.
- Tax deduction for intra-group interest costs.
- No or low taxation of capital gains upon transfer of IP.
- A tax deduction for intra-group royalty costs.
- Group taxation with acquisition holding company allowed.
- Tax qualification of foreign partnership does not follow that of the other state.
Naturally most local practitioners (yet no official press release issued so far) will oppose the drive by the Commission to steam roll our approved legislation, which has worked seamlessly over the decades and attracted no major tax scandal associated with multimillion tax abuses. Malta has on the contrary built itself as a reputable centre of financial services over the years through a combination of robust legislative frameworks, one of which includes tax incentives.
Regardless of the drive by the Commission to install a one-size-fits-all and a tax harmonization plan, we need to venture forth and expand our fiscal regime to offer transparent and well-structured tax regulation to other sectors which so far have not been attracted to our regime. Currently there is no tax legislation specific to the oil and gas industry. Consequently, this industry is presently regulated by the general provisions of the Income Tax Act.
The Income Tax Act defines “petroleum” as crude oil of whatever density, natural gas and other hydrocarbons and substances that may be extracted therefrom . The taxation of profits from exploration and production of petroleum through a Product Sharing Contract granted by the Government of Malta by way of licence in accordance with the provisions of the Petroleum Production Act, the Continental Shelf Act and the Petroleum (Production) Regulations is regulated under section 23 of the Income Tax Act, Chapter 123 Laws of Malta.
Presently the liability to tax for the aforementioned activities is regulated under section 23(2) ITA: 23 (2) (a) The gains or profits derived by the Contractor from the production of petroleum for any basis year, being the year immediately preceding a year of assessment, shall be arrived at by deducting the recoverable costs as defined in the Contract and not yet fully recovered by the Contractor, from the total of the value of the cost recovery petroleum and of the share of profit petroleum, as defined in the Contract, allotted to the Contractor for that year, to which shall be added any ancillary or incidental income for the same year. The law dictates that the chargeable income is arrived at by deducting recoverable costs as well as the ‘share of profit’, understood as the profit remaining after the royalty payable to the government has been reduced. The amount of such royalty is unknown for the same reasons stated above.
(b) Where after such deduction as is referred to in paragraph (a) there remains any balance of unabsorbed recoverable costs, the amount of such unabsorbed costs shall be carried forward to the following year and shall be added to and become part of the recoverable costs for that year.
(c) The procedure referred to in paragraph (b) shall be followed in subsequent years until all recoverable costs shall have been absorbed.
The above presents the available advantage of carrying forward recoverable costs indefinitely, thereby being able to off-set the same against future chargeable income. The resulting chargeable income is taxable at the Maltese corporate tax rate, that is, a flat rate of 35%, as per section 56(6) ITA. Malta is one of the few EU MS with a full imputation system (‘FIS’).
Under the FIS, the tax incurred by the company is fully imputed to the shareholder as a tax credit when profits are distributed . The distributed dividend is grossed up with the tax incurred by the company and is taxable at the level of the shareholder . However, a credit equivalent to the tax paid by the company on taxed profits distributed by way of dividends is allowed against the shareholder’s tax liability on the said dividend .
In addition, in terms of Article 68 of the ITA no further tax is imposed on such distributions. The full imputation system is extended to companies who are operative in oil and gas, affording them the same advantage available to other industries. A shareholder in a company involved in exploration of drilling in extractive industries cannot claim any refunds from profits distributed from the Final Tax Account and Immovable Property Account. Notably, the gains or profits chargeable to tax generated by companies operating in the exploration and production of petroleum under a PSC with the Maltese Government are deemed to be allocated in the Final Tax Account, as per subsidiary legislation 123.101 Tax Accounts (Income Tax) Rules section 3(e).
Therefore, companies operating in the exploration and production of petroleum under a PSC with the Maltese Government cannot benefit from a refund. This comes in stark contrast to other key industries operative in Malta’s financial services centre which largely have the advantage of having their net effective tax reduced, through an eligibility to access the refund mechanism.
Here one can mention sectors such as aviation, remote gaming, insurance and the captive industry as well as investment services including Collective Investment Schemes. The above singles out activities within the exploration and production of petroleum generating a disincentive for drilling contractors to opt for Malta as a jurisdiction of choice. A look at the tax regime of nearby jurisdictions like Cyprus and Ireland (Gibraltar offers a lower rate) shows that they offer a much more competitive corporate tax rate of 12.5% (compared to our rate of 35%).
This, coupled with the above leads to the suggestion of lifting the current limitation applicable to profits generated from exploration and production of petroleum activities and extending the accessibility to the refund mechanism to them also. This could be achieved by allocating the gains or profits chargeable to tax in accordance with the provisions of article 23 ITA to the Malta Tax Account rather than to the Final Tax Account as the law presently stipulates. It is noteworthy to mention that Malta has for the past three years no activity licensed to carry out exploration in the continental shelf.