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Changes in taxation of interests

02.01.2004

On 17 December 2003, the Estonian Parliament (Riigikogu) passed the act amending the Income Tax Act and other tax regulations. Pursuant to the Act, the following changes took effect on 1 January 2004 in relation to taxation of interest paid to non-residents.

Loan interests

According to the present version of § 31(2) of the Income Tax Act, income tax is not charged on interest paid to a non-resident credit or financial institution by the Estonian state, a local government, a resident, or another non-resident through or on account of its permanent establishment, if:

1. the recipient of the interest, according to the legislation of its home country, qualified as an institution corresponding to an Estonian credit or financial institution; and
2. the income tax rate applicable to interest in the country of residence of the recipient of the interest was not lower than two-thirds of the Estonian income tax rate applicable to interest.

From that provision a reference to financial institutions will be omitted. Thus, all resident borrowers will have to start withhold income tax on interest payable from 1 January 2004 to any financial institution other than a credit institution. The change does not affect interest on loans assumed or bonds issued before 1 January 2004.

Bond interests

§ 31(3) of the Income Tax Act will be supplemented with a new sub-section applicable to bonds. Namely, from 1 January 2004 no income tax will be charged on interest paid by the Estonian state, a local government, a resident, or another non-resident through or on account of its permanent establishment, if:

1. the bonds have been issued by the Republic of Estonia in accordance with the State Budget Act, or
2. interest is paid on bonds, convertible bonds or other tradable debt obligations issued, including money market instruments (debt obligations issued for a term of up to one year, which are usually traded on the money market) and such securities or their depositary receipts have been listed on a Stock Exchange of Estonia or any member state of the European Economic Area.

Therefore, if earlier it remained unclear how income tax should be charged on the interest payable by resident private persons on bonds, then from 1 January 2004 it is clear that no income tax is to be charged if relevant securities have been listed on a Stock Exchange of Estonia or any member state of the European Economic Area. In addition, the provisions described in the previous section apply to bond interests. 

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