Participation exemption
Participation exemption is a general term relating to an exemption from taxation for a shareholder in a company on dividends received, and potential capital gains arising on the sale of shares.
Background
The justification for a participation exemption is to eliminate double taxation of shareholders.
In any accounting period, a company may pay a form of corporate income tax on its taxable profit which reduces the amount of post-tax profit available for distribution by dividend to shareholders.
In the absence of a participation exemption, or other form of tax relief, shareholders may pay tax on the amount of dividend income received. This results in double taxation as the dividend is paid out of taxed profits of the company.
A participation exemption will typically provide that certain types of dividends are not taxed in the hands of shareholders. In addition, many participation exemption regimes provide that capital gains on shares are not taxed as long as a specified proportion of the company's share capital is held for a specified period.
A participation exemption may apply to qualifying shareholdings in overseas companies, domestic companies, or both.
History
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Participation exemption regimes
The existence of a participation exemption under a local tax regime enhances a jurisdiction's attractiveness as a holding company location, although other factors such as the presence of a network of double taxation treaties are relevant.
Countries with a participation exemption include:
Impact
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Alternatives to participation exemption
Some jurisdictions offer alternative forms of tax relief which are designed to achieve similar results to a participation exemption.
The United Kingdom has a substantial shareholding exemption in relation to capital gains on qualifying shares. However, dividends received from overseas companies are taxed, although credit may be available for any withholding tax or underlying tax suffered on a dividend.