The Notional Interest Deduction Rules in terms of Maltese Law

Kristine Attard and John Caruana  -  1/April/2019

The Notional Interest Deduction Rules (NID) have been introduced through specific regulations, effective as from the Year of Assessment 2018. Essentially, it seeks to encourage more investment in Malta by wiping out the differing treatment that used to exist between debt financing and equity financing, by granting an additional deduction for the return on equity financing. Previously, debt financing used to be favoured over equity financing, as unlike the latter, the former allowed the interest on debt to be deductible for tax purposes.   Thus, the NID allows for a more equal and fairer treatment between debt and equity financing. 

Main Features of the NID

  • The undertakings which can make use of this rule are: companies and partnerships residing in Malta; and companies and partnerships which even though are not resident in Malta, obtain income that is connected with a permanent establishment situated in Malta.

 

  • The NID is computed by multiplying the deemed notional interest rate by the balance of risk capital that the undertaking has at the end of the year. The notional interest rate is the risk-free rate set on Malta Government Stocks with a remaining term of approximately 20 years plus a premium of 5%. On the other hand, the risk capital refers to various kinds of capital including: share or partnership capital; share premium; positive retained earnings; loans or other debts borrowed which do not bear interest; any other reserves resulting from a contribution to the undertaking; and any other positive balances which is shown in equity in the financial statements.

 

  • NID is not obligatory; it is claimed only at the option of the undertaking and thus, it must be demonstrated that all shareholders or partners of the undertaking approve the claiming of such deduction in respect of the particular year of assessment.  The maximum deduction in any given year cannot exceed 90% of the company’s chargeable income before deducting the NID. However, the company has the option of carrying forward the excess to the following year. Any remaining chargeable income, is subject to tax at the standard rates.

 

  • Where the undertaking has more than one shareholder or partner at end of the year preceding the year of assessment, each shareholder or partner, as the case may be, is deemed to have received an amount of deemed income as corresponds to the proportion of the nominal value of the risk capital pertaining to each shareholder or partner, as the case may be, holds in the undertaking at the end of year preceding the year of assessment.  Distribution of profits to a shareholder or partner, which profits are relieved from tax by the NID, will not be charged to tax.

 

  • In cases where the shareholder or partner would be a non-Maltese resident, then no Maltese tax should apply on such deemed interest on the basis of a Maltese domestic law exemption in this respect (Article 12 (1)(c )(i) of the Income tax Act).
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