Taxation of foreign entities receiving interest income deriving from Iceland

As a general rule, non-resident companies and other legal entities are subject to tax on their income from Icelandic sources at the regular corporate rate. They are taxed in conformity with the rules applicable to companies domiciled in Iceland on their net income derived from business activities in Iceland or participation in business activities with a permanent establishment in Iceland.

Until recently interest income received by foreign entities was not subject to taxation in Iceland. However, according to recent amendments to the Income Tax Act (29 June 2009) all foreign entities, receiving interest income from Iceland are currently subject to limited tax liability according to Article 3(8) of Act No. 90/2003 on Income Tax.
 
The definition of interest income according to the Act includes income deriving from bank deposits, mutual- and investment funds, bonds or other financial deeds.
 
Interest received by foreign entities is subject to withholding tax at the rate of 15% for limited liability companies and 23,5% for partnerships, limited partnerships and legal entities other than limited liability companies (funds, bankruptcy estates etc.).
 
The amendment applies to all interest due as of 1 September 2009. Interest income earned before the introduction of the amendment is not subject to taxation or withholding duty.
 
There is no general exemption for EEA countries regarding interest income. The only possible exemption depends on the relevant tax treaty entered by Iceland in order to provide relief from double taxation in the form of a tax credit or an exemption. In order to apply for an exemption on grounds of a tax treaty, foreign entities must send an application form (RSK 5.42) to the tax authorities. The exemption should be granted on permanent bases, i.e. remain valid, unless significant changes occur regarding the residency of the applicant. An application for a refund of taxes paid can also be sent to the tax authorities (RSK 5.43) in cases where taxes have already been withheld.
 
Interest income received by foreign entities from Iceland are subject to withholding tax according to Act 45/1987 on Withholding Taxes. Taxes are withheld by the Icelandic source and the withholding duty arises when the interest is paid. The taxes are due on the 1st of each month with a deadline 14 days later.