Withholding tax

When a company pays a dividend to a foreign shareholder, its home country often keeps a slice as tax and pays out the rest. The same can happen with interest and some other income. Each country sets a default rate for non-residents; the United States, for example, applies a statutory 30% rate before any treaty. Double tax treaties between countries usually reduce the rate, provided the investor or their broker has completed the paperwork, such as the US form W-8BEN for individuals. Some countries let you reclaim part of what was withheld, but the process can be slow and costly.

Withholding tax is easy to overlook because it happens before you see the money. You may be able to offset it against tax in your own country through a foreign tax credit, but in tax-free accounts, such as a UK ISA, there is usually nothing to offset it against, so it is simply lost. With funds there can be two layers: tax withheld on dividends paid to the fund, and tax withheld on distributions the fund pays to you. This is one reason a fund’s domicile can make a measurable difference to returns.