Due diligence in the context of withholding tax obligations

From 1 January 2019 the provisions on the collection of flat-rate tax, so-called withholding tax, have changed[1] and the collection of flat-rate tax on corporate income (including dividends)[2].

As the main reason for the changes, the legislator states the mobility of so-called passive incomes (dividends, interest and royalties) linked to the difficulties in establishing the correct tax rate in practice, e.g. due to the beneficiary criterion.

At present, the provisions clearly state that due diligence by the payer is required to apply the preferential tax collection rules resulting from double taxation agreements. To this end, upon payment of the claim, he should each time take certain steps to verify the entitlement to benefit from those preferences.

This Article is an attempt to define the conditions for compliance with the due diligence condition.

Maintaining due diligence as a general condition

In accordance with the new rules, in the case of payment of entitlements from the titles listed Under Articles 21(1) and 22(1u).p.d.o.p., up to the amount not exceeding in the tax year in force for the paying agent of those claims in total amounts[2] million PLN for the same taxpayer, the payer as obliged to collect flat-rate tax as obliged to collect flat-rate income tax may collect the tax at the tax rate resulting from the applicable double taxation agreement or not collect the tax in accordance with such agreement.

The basic statutory condition in this case is to document the place of residence of the taxable person for tax purposes obtained from the taxable person by a residence certificate. The new requirement is to exercise due diligence in tax collection.

Subject to the content of the legislation[3] when verifying the conditions for applying a non-statutory tax rate (defined under Article 21(1) or Article 22(1) the Corporate Income Tax Act), the exemption or non-collection conditions resulting from special provisions or double taxation agreements, the payer shall be obliged to exercise due diligence.

First of all, it should be noted that this condition applies regardless of exceeding the threshold 2,000,000 PLN. This condition therefore applies not only to the largest contributors. It is now quite common to purchase services, which in principle give rise to the obligation to collect the so-called withholding tax. The simplest example is the purchase of advertising services related to Adwords provided by Google.

In principle, payment of such a service to a non-resident (the advertising service has been mentioned under Article 21(1)(2a) the Corporate Income Tax Act and under Article 29ust. 1 point 5 u.p.d.o.f) requires flat-rate collection 20% tax.

Of course, for this type of universal service, there is in practice no possibility of levying such a tax. It is the payer from his own pocket who must finance the amount of this tax. The solution here is to make use of the relevant provisions of double taxation agreements (in this case Article 7) and application of the tax exemption[4].

However, it is of particular importance for those payers who choose to use certain simplifications introduced as an alternative to changing the tax collection system, to confirm compliance with the requirement of care, i.e. from the possibility for the payer to make a declaration and to apply preferences when payment of claims to the same taxpayer exceeds 2,000,000 PLN, and the provisions of the Act[5] they are obliged to collect the tax at the level specified in the Act without the possibility of not collecting the tax under the relevant double taxation agreement and without taking into account exemptions or rates resulting from specific provisions or double taxation agreements.

By making a statement, the payer shall confirm that:

1. has the documents required by tax law to apply the rate of tax or exemption or non-collection resulting from specific provisions or double taxation agreements;
2. After the verification referred to under Article 26(1) the Corporate Income Tax Act.and Article 41(4aa) u.p.d.o.f (the payer, under these provisions, is obliged to exercise due diligence) does not have the knowledge to justify the presumption that there are circumstances that exclude the application of the tax rate or exemption or non-collection of the tax resulting from specific provisions or double taxation agreements, in particular he does not have the knowledge of the existence of circumstances preventing the fulfilment of the conditions referred to respectively under Article 28b(4pkt), points four through six, of the Corporate Income Tax Act and Article 44f(4)(4)(5) u.p.d.o.f[6]. The verification then carried out by the payer, with due care, is to be the basis for an effective declaration by the payer.

Nature and scale of activity

The point is that the provisions do not specify exactly what, in the context of the obligations of the payer who is obliged to collect flat-rate tax, is to be understood as ‘due diligence’.

The legislator merely limited itself to indicating that payers are required to exercise due diligence without specifying at the same time what activities should be carried out so that obligations in this respect can be considered fulfilled.

The provisions do not specify the steps to be taken under certain circumstances to comply with this requirement. They merely state that due diligence shall take into account the nature and scale of the payer's activities.

In the explanatory memorandum to the draft amendment[7] The legislator explained that the provision obliges the payer to pay due diligence to verify that the conditions for non-tax collection, application of exemptions or rates resulting from tax law are met.

The scope and level of verification should take into account the characteristics and scale of the activity carried out by the payer. It follows that the nature and scale of the activities carried out by the payer imply the scope and degree of verification to be carried out.

The legislator indicated that one of the main determinants of the activities to be undertaken in the verification activities is the industry in which the payer operates.

Without clearly defining which entities or industries it means, it explains that "in sectors particularly at risk of tax irregularities, the use of an analysis similar to that undertaken by so-called institutions required to apply financial security measures within the meaning of the anti-money laundering and terrorist financing rules may be required.

In other cases, an analysis of the capital structure of the recipient of payments in commercial or public databases may be required.’ As regards the sample range of verification activities, the project promoter mentions the analysis of the content of the contract with the counterparty, the verification (although remote) of the address of its premises, additional information from the counterparty, etc.

Actual Owner

The majority of double taxation agreements, which allow for the application of a preferential withholding tax rate or exemption from taxation, contain in its content the so-called "beneficiary owner". In this case, the benefit of these preferences depends on whether the recipient of the payment in question is at the same time their actual (actual) owner. In accordance with the modified and in the case of u.p.d.o.f. new definition[8], „the actual owner’ means an entity that meets the following conditions in total:

• (a) it receives a claim for its own benefit, including its own use and bears the economic risk of loss of that claim or part thereof,
• (b) is not an intermediary, representative, trustee or other entity legally or effectively obliged to transfer all or part of the claim to another entity,

(c) conducts an actual economic activity in the country of establishment where the claims are received in connection with the economic activity carried out[9].

In practice, a payer making payments to a non-resident is obliged to verify whether the recipient of the payment is a ‘authorised consignee’ or merely a ‘mediator’ who transfers the payments to the final recipient.

Apart from the concept of ‘actual owner’, the legislator points out that in the law used[10] the wording relating to payments made to ‘the same taxpayer’ or made available to ‘the same taxpayer’ of money or cash value requires verification of the status of the recipient of the payment concerned.

The purpose is to verify whether the recipient of the payment has the status of taxable person (and therefore whether there is a durable asset) rather than the status of the intermediary of the payment[11].

In addition, it should also be noted that the provisions of the Act[12], imposing an presumption that the threshold is exceeded 2,000,000 PLN where it is not possible to determine the amount of the duty paid to the taxable person, they shall also require that the amounts paid to the ‘specific’ taxable person be identified.

The starting point for taxing revenues obtained in the territory of the Republic of Poland by non-residents is, therefore, the determination of a taxable person, and thus the determination of whom the tax obligation arose. Where the direct recipient of the receivable paid by the payer acts as an intermediary, the proper application of the provisions governing taxation at source requires the taxpayer to be established[13].

Verification activities

A general picture of what should be understood as due diligence is presented by the Supreme Court, which In one of the judgments, he stated that ‘(...) whether, in the light of specific circumstances, it is possible to charge the person who is obliged with lack of due diligence in the performance of his duties, to decide only that he does not comply with the model, but also that, subject to experience in life, the possibility and obligation to anticipate the consequences of the conduct.

The measure of the proceedings of the debtor, the substance of which is the failure to pay due diligence, cannot be formulated at the level of non-executive obligations, detached from experience, professional rules, specific circumstances or type of relations’[14].

In another document[15] reads: “The entity should each time refer to the so-called due diligence pattern, understood as the model of a careful entrepreneur.

Such a model shall take into account the particular ability to anticipate, prevent and be reliable (sustainability) in the professional's way of action and the high requirements for his knowledge and practical skills (professionality).’ It follows that due diligence means, in particular, verification of payer counterparties.

Given the above provisions of national law (including implementing EU law)[16]) and the requirements of international tax law, due diligence should primarily include:

• • analysis of the terms of the transaction in the context of identification of the obligation to collect withholding tax,
• • identification of the recipient of the claim and the taxable person and identification of their tax residence,
• • formal verification of documents received from a non-resident (residence certificate, statements, e.g. confirming that he is a real owner or that he has an actual business activity),
• • determining whether it is possible to apply the preferences of the double taxation agreement or the Act (exemptions)[17]),
• • determining (if required) whether the beneficial owner is the actual owner of the claim.

It should be borne in mind that the differences and diversity of economic relations may imply certain activities that go beyond the standards adopted.

Where the nature and scale of the business activity carried out by the payer, or the nature and scale of the transaction itself, including uncertainty as to the interpretation of the provisions, the payer shall document the verification carried out by means of, for example, a protocol.

Certainly, the procedure used for carrying out and documenting verifications can be implemented by the payer, setting out the principles of this verification (e.g. with a list of alerts – requirements to be paid particular attention to on a case-by-case basis).

Introduction to the law of expressis verbis of due diligence will certainly make the payers aware of the need to carefully analyse the conditions of application of preferences provided by international law. In practice, the analysis of conditions was often limited to obtaining a foreign counterparty residence certificate.

The awareness of the existence of concepts such as “actual owner” among entrepreneurs is small – the practice shows that it is even lower in foreign counterparties. The lack of the very definition of due diligence in the bill is a big minus.

The lack of indication of verification activities will certainly lead to numerous disputes with tax authorities. The analogy to the regulation of the Goods and Services Tax Act is also visible here.

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