New UK-Portugal Double Tax Treaty after nearly 60 years

Why should I read this?

A new double tax treaty (DTT) between the UK and Portugal is set to come into effect once both countries have formally confirmed that their respective domestic legal processes have been completed. This marks the first DTT signed between the two nations in nearly six decades and, notably, the first since the UK's departure from the European Union.

The new DTT introduces a series of updates aimed at modernising the framework for tax cooperation between the two jurisdictions, enhancing clarity and reducing uncertainty for cross-border transactions. In addition to these general improvements, the new DTT also includes substantive changes that businesses operating in both jurisdictions should consider.

What should I know about the new DTT?

• Withholding tax (WHT) on dividends:
  • A new zero-rate WHT applies to dividends paid to qualifying parent companies holding at least 10% of the capital of the distributing company for an uninterrupted period of at least one year prior to payment provided both companies are liable to corporate income tax without general exemption, promoting greater investment between the UK and Portugal. Under the current DTT, a 10% rate of WHT generally applies to dividends paid to shareholders holding at least a 25% interest in the distributing company.
  • The new DTT also introduces a 10% standard rate of WHT on dividends, replacing a standard WHT rate of 15% under the current DTT.
• Real estate-related taxation provisions:
  • Gains from the sale of shares deriving more than 50% of their value from real estate may be taxed in the jurisdiction where the property is located.
  • A 15% WHT rate will apply to dividends paid by certain tax-exempt investment vehicles when such dividends are funded by income derived from real estate.
• WHT on interest: Interest payments made to regulated banks will benefit from a reduced 5% WHT rate (rather than the standard 10% rate). Additionally, interest paid to government entities, central banks, and their agencies is completely exempt from WHT (0% rate).
• Anti-abuse measure: The new DTT incorporates the OECD’s Principal Purpose Test allowing tax authorities to deny treaty benefits where one of the principal purposes of a transaction or arrangement was to obtain those benefits.
• Royalties: The 5% WHT rate on royalties remains unchanged, but the definition has been significantly narrowed. Gains from the sale or exchange of intellectual property rights are no longer treated as royalties and may qualify for exclusive residence state taxation as capital gains. Payments for use of industrial/commercial/scientific equipment are also no longer treated as royalties.
• Permanent Establishment (PE) provisions: The new DTT introduces anti-fragmentation rules that prevent PE avoidance through artificial splitting of activities between related enterprises (those with more than 50% common ownership or control).
• Employment income: The 183-day rule, whereby a recipient of employment income, resident in one state who is present for up to 183 days in the other will only be taxable in their home state, has been modernised to use a rolling 12-month period rather than a fixed fiscal year, providing greater flexibility for short-term assignments spanning year-end.
• Entity tie-breaker rules: A significant change affects dual-resident entities and requires competent authorities to determine residence by mutual agreement considering multiple factors including effective management, place of incorporation, and the location of the head office.
• Directors' Fees: The new DTT introduces a specific provision for directors' fees, which may be taxed in the state where the company is resident, regardless of where the director performs their duties.
• Other income provisions: A new provision addresses UK trust and estate distributions to Portuguese beneficiaries, allowing them to claim foreign tax credits for UK tax paid at the trust/estate level while preserving the source character of the underlying income.

What else do I need to know about the new DTT?

DTTs continue to play a critical role in resolving cross-border tax disputes. According to recent OECD data, 2,336 cases were initiated under the Mutual Agreement Procedure (MAP) in 2023, highlighting the widespread reliance on treaty mechanisms such as the MAP included in Article 23 of the new UK–Portugal DTT.

The new UK–Portugal DTT introduces a mandatory binding arbitration process for MAP cases which remain unresolved after three years, but this is limited to issues under Articles 5 (PE), 7 (business profits), and 9 (associated enterprises). The arbitration process excludes cases involving tax fraud, anti-avoidance rules, or matters eligible for EU arbitration procedures.

The new DTT also introduces comprehensive exchange of information provisions meeting current OECD standards, including mandatory information gathering regardless of domestic interest and elimination of bank secrecy defences. Additionally, mutual assistance in tax collection is now available for enforceable revenue claims.

For more information on the new DTT

Eversheds Sutherland offer cross-border tax expertise through our specialist tax teams in the UK and Portugal (as well as numerous other jurisdictions). We advise on a broad range of contentious and non-contentious international tax matters, supporting clients with international transactions, structuring and cross-border disputes.

If you would like to discuss the new UK-Portugal DTT and how it may impact your business, please do get in touch with one of the contacts listed below: