Professional Level Options Module, Paper P6 (CYP) 1 Bekov group of companies MEMORANDUM

Answers

Professional Level Options Module, Paper P6 (CYP) Advanced Taxation (Cyprus) June 2014 Answers 1 Bekov group of companies MEMORANDUM To: Matt, Finance Director From: Arabella, Financial Controller Date: 26 March 2013 Re: Bekov group activities Following our meeting this morning, I enclose below the results of my investigations into the matters discussed. Please note that, when referring to the various companies, I have used the abbreviations as per the group structure which you provided during our meeting. Please let me know if you would like any further explanations. (i) (ii) (iii) (iv) Withholding tax on dividends from BML to AHL Given that Alfie requires AHL to remain tax resident in Armenia, Alfie could place an intermediary Cyprus holding company between BML and AHL. AHL would hold 100% of the shares in the new Cyprus tax resident company which, in turn, would hold the 24% investment in BML. Under this structure, the dividends between BML and the new Cyprus company would not be subject to withholding tax due to the Parent Subsidiary directive, given that the new company would hold more than 10% of the shares of BML. The dividend income of the new Cyprus company will be specifically exempt from corporation tax. It will also be exempt from special defence contribution (SDC) as BML is not involved primarily in investment activity. Further, as AHL is a non-cyprus tax resident company and thus not subject to SDC, there will be no withholding tax on the dividend from the new Cyprus company to AHL. The question which needs to be addressed is how to effect the intermediary holding of the shares through a Cyprus tax resident company. Advice would need to be sought from experts in Armenian tax as to any potential tax consequences for AHL in Armenia. Reorganisation scheme for BML and RP Manufacturing Ltd (RPM) Given that Germany implements the EU Merger Directive in the same way as Cyprus, the assets of RPM and BML can be combined through the use of a reorganisation scheme and, specifically, a scheme of merging. Under such a scheme, RPM and BML, on being dissolved without going into liquidation, would transfer all of their assets and liabilities to the new German company, in exchange for the issue to BOH, AHL and Rookie Pasta Inc ( RPI ) of shares representing the capital of the new company. The new company can also make a cash payment to the new shareholders, provided this does not exceed 10% of the nominal value of their shares. Given that RPM is worth twice the value of BML, RPI should hold twice the percentage of shares of BOH and AHL together, i.e. RPI will hold 66,67% of the new company shares. The remaining 33,33% should be held by BOH and AHL in the same proportion as they currently hold BML, i.e. 76% and 24%, respectively. As such BOH would hold 25,33% (76% x 33,33%) of the new company. AHL would hold 8,00% (24% x 33,33%). Tax advantages of a reorganisation scheme The reorganisation scheme will result in the following tax advantages under Cyprus tax law: No corporation tax, including no preparation of balancing statements. No special defence contribution. No capital gains tax on the transfer of chargeable assets. No stamp duty. No land transfer fees on the transfer of immovable property. No mortgage fees in the case of a transfer of mortgage between companies. Value added tax (VAT) treatment of BOT s sales (1) EU customers The pasta sold to European customers falls under the triangulation simplification VAT procedure. This is because there are three VAT registered parties involved in three different EU member states (being BML in Germany, BOT in Cyprus, and the wholesaler (end customer)); two invoices (from BML to BOT, and from BOT to the end customer); and one movement of goods (from BML to the end customer). Therefore, the invoice from BML to BOT will not have German VAT, and BOT will not be required to apply the reverse charge on receipt of the invoice. The invoice from BOT to the EU end customer will not have Cyprus VAT. VAT will be accounted for by the EU end customer. 17

(2) Customers outside the EU The pasta sold to non-eu customers does not qualify as triangulation. However, as the goods do not come to Cyprus, they are outside the scope of Cyprus VAT. The pasta leaves the EU from Germany, where it is considered an export and thus zero rated. No VAT is applicable on any of the invoices, but BOT will have the right of a full deduction of any input VAT suffered. (v) (vi) Tax group and tax relief for BOR s losses Tax loss relief is allowed between companies which are part of a tax group. Two companies are considered to be part of a tax group for tax loss relief purposes where the following apply: one is a 75% subsidiary of the other, either directly or indirectly, or both are directly or indirectly 75% held by a third company; they are both Cyprus tax resident companies; and they have been part of the tax group for the entire tax year. The final condition does not apply to a company which was incorporated by its parent during the tax year, in this case BOF. Therefore, only BOH, BOT and BOF form part of a tax group for 2013. BML cannot be part of the tax group as it is not Cyprus tax resident. BOR cannot be part of a tax group with BOH as the effective shareholding is less than 75% (90% of 80% = 72%). Further, BOR cannot form a tax group with BOT in 2013, as it was not part of the tax group for the entire year, having been acquired on 15 January 2013. These two companies will be able to form a separate tax group from 2014 onwards. With regards to the losses of 350.000 brought forward in BOR, these will not be available for relief in 2013 or future years they are lost. This is because, within a three-year period, BOR s ownership has changed (BOT has purchased 80% of its shares) and at the same time made a significant change in the nature of its activities (from acquiring and selling tyres to selling pasta). The losses of 100.000 expected during 2013 will have to be carried forward and used against the first available profits of BOR, which are expected to arise in 2015. The losses of 100.000 expected during 2014 may be transferred to BOT through tax group relief, with any unrelieved losses being carried forward and used against the first available profits of BOR, expected to arise in 2015. Treatment of payment made to BOR for its tax losses Any payment made by BOT to BOR in exchange for the tax losses which BOR will provide to BOT will be ignored for tax purposes, provided the payment does not exceed in value the amount of losses transferred. (vii) Tax implications of BOT invoicing the Romanian farm sales The Romanian farm constitutes a permanent establishment (PE) of BOF in Romania. The fact that the crops are grown and harvested there means that the Romanian tax authorities are likely to attribute any profit arising from the sale of the cereals to the PE, and subject it to tax at the 16% rate regardless of where invoicing takes place. A practical solution to this situation would be for the farm to invoice BOT at a discount to the market price, and then for BOT to sell the cereals on to the Asian market at the normal price. The issue which may arise is that BOT and BOF (and consequently the Romanian farm) are related parties, and so any price charged by BOF to BOT should be at arm s length. As such, the rate of discount should be similar to that which would normally be provided to a large third party customer of a similar business, and should be agreed with the Romanian tax authorities. The end result would be that part of the profits would be taxed in Romania at 16% and the remainder in Cyprus at 12,5%. The profits attributed to the Romanian farm, which constitutes an overseas PE of BOF, will be exempt from Cyprus corporation tax given that the farm is not an investment business and pays tax on its profits at a rate higher than 6,25% (being 50% of the Cyprus corporation tax rate). The profits of the farm will, however, be included in the accounting profits of BOF for the purposes of the deemed distribution rules, and BOF will need to issue a dividend of at least 70% of its after-tax accounting profits (including those of the farm) within two years of the end of the tax year in which the profits were made. (viii) Guy s proposed move to Monaco If Guy moves permanently to Monaco, he is unlikely to be in Cyprus for more than 183 days in a tax year, and thus will not qualify as a Cyprus tax resident. This will mean that any dividends paid to him by BOH will be paid gross as SDC does not apply to non-cyprus tax residents. In addition, all the Cyprus companies within his group of companies will not be subject to the deemed distribution rules, given that Guy, as the ultimate beneficial owner, will be a non-cyprus tax resident. 18

2 Nicole and Andreas (a) Loan from private individual having children at the school With regards to the proposed loan from either the husband or wife, the interest on the loan would be a tax-deductible expense provided the loan is used solely as working capital for the school business or for the purchase of business assets. The rate is low but this does not create any problems for the school, as it allows for more taxable profits than a loan at a higher, market rate. For Cyprus tax purposes, the market rate of interest only comes into play when examining transactions between related parties, something that does not apply in the case of Nicole s relationship with the parents of her students. There may, however, be an arm s length issue for the lender in his or her country of residence, which would need to be examined. For the parents, if the mother is the lender, and assuming she is also a Cyprus tax resident, then any interest would be taxed under the special defence contribution (SDC) at a rate of 30%. The interest will also form part of the taxable income under income tax, but is wholly exempt. Nicole mentioned the mother lives in Cyprus but it is not clear if she is in Cyprus for more than 183 days in a tax year we would need to know whether she is Cyprus tax resident or not. If the husband is the lender, and assuming that he is not a Cyprus tax resident person because he does not live in Cyprus, there will be no Cyprus tax on this interest as SDC does not apply to non-resident tax persons. The husband would thus receive the interest gross. However, there could be tax consequences in his country of residence. We would need to examine this before concluding our advice. If the rate of tax on interest income in his country of residence is lower than 30%, then it would clearly be better for him to provide the loan rather than his wife. (b) Software program retained in Nicole s sole-trader business (option 1) Value added tax (VAT) The income from the use of the software of 75.000 per annum arises from the provision of a royalty service by the school business to Tyhon Ltd (Tyhon), a Luxembourg company. This is a business-to-business (B2B) service and follows the basic rule of the place of supply being where the recipient of the service is based, i.e. Luxembourg. The school business will need to validate Tyhon s VAT registration number in Luxembourg but, having done so, will not need to apply Cyprus VAT. If this is the case, then Tyhon should apply the reverse charge on the invoices received from the school business. However, if Nicole is unable to validate Tyhon s Luxembourg VAT registration, she would have to apply Cyprus VAT at the standard rate of 18% on the invoices to Tyhon. When Tyhon exercises its option to purchase the software program, this will be considered as a provision of a service. As a business-to-business (B2B) transaction, this will also follow the general rule (as above). Subject to the verification of Tyhon s Luxembourg VAT registration, Tyhon will apply the reverse charge in Luxembourg and Nicole will invoice the transaction without Cyprus VAT. Direct taxes The school business would receive 75.000 from the royalties for the use of the software program. There do not appear to be any direct expenses which can be deducted from this amount, such as amortisation, given the software was internally generated at minimal cost. However, the school business can deduct 80% of the income as a deemed expense (statutory deduction). The remaining amount will form part of the taxable profits of the school business which, in turn, will form part Nicole s taxable income as a sole trader. Given that Nicole is a higher rate taxpayer, this would be taxed at the rate of 35% income tax. As such, the taxable amount would be 15.000 ( 75.000 x 20%) and the resulting tax 5.250 ( 15.000 x 35%) per year. When Tyhon exercises its option to purchase the software, any direct expenses relating to the sale would be allowable, such as legal expenses but, in the absence of these, an 80% statutory deduction would be allowable against the gain. The remaining amount would form part of the taxable profits of the school, taxed in Nicole s name as a sole trader. The taxable amount would thus be 50.000 ( 250.000 x 20%). The tax on this would be 17.500 ( 50.000 x 35%). Thus, if Tyhon exercises its option, the total tax payable under option 1 will be 33.250 (( 5.250 x 3) + 17.500). (c) Software program rights transferred to NewCo (options 2 and 3) If the software program is owned by NewCo, a company owned by Nicole, the royalty income will be taxed at the corporation tax rate of 12,5% (as opposed to the personal income tax rate of 35%). This will result in an annual tax of 1.875 ( 15.000 (as in (b) above) x 12,5%). This constitutes an annual saving of 3.375. Option 2 The transfer of the software program rights as a gift to the new company would not give rise to any tax consequences for Nicole. Nicole would also retain the right to transfer them back out of the company in the future, again, without any tax consequences for the company. There would be SDC payable on the dividends paid to Nicole, which was not the case under option 1 (see (b) above). The annual distributable profits will be 73.125 ( 75.000 less 1.875 corporation tax). Based on the SDC from 1 January 2014 of 17%, the annual SDC cost will be 12.431 ( 73.125 x 17%). 19

Were Tyhon to exercise the option to purchase the intellectual property rights to the software program outright, using the company structure, Nicole could sell her shares in the company to Tyhon rather than the company selling the rights to Tyhon. This would result in no tax for Nicole given that the gain on the sale of shares is specifically exempt from income tax. The company holds no immovable property in Cyprus and thus there would be no capital gains tax issue either. Selling the shares of the company would result in a tax saving of 17.500 (see (b) above). Under option 2, the total tax payable would amount to 42.918 (( 1.875 + 12.431) x 3). Option 3 Under option 3, Nicole would effectively sell the rights to the company for 200.000. This would be a transaction between related parties, however, it is not unreasonable to assume that this price will be considered as arm s length, especially given the offer by Tyhon of 250.000. This would result in tax payable by Nicole as a higher rate taxpayer of 14.000 ( 200.000 x (100 80% (statutory deduction)) x 35%). Following the sale, NewCo would owe Nicole 200.000, and thus need to repay her this amount as and when income arises. NewCo would be allowed to deduct an annual amortisation allowance, equal to 20% of the cost of the rights, being 40.000 (20% x 200.000). The company s taxable profits would thus be 7.000 per annum (( 75.000 40.000) x (100 80% (statutory deduction)). Corporation tax on this is 875 ( 7.000 x 12,5%). This would mean that each year, the cash available after payment of the corporation tax would be 74.125. This amount could be extracted from the company as repayment of the amount owed to Nicole, with no further tax consequences, until the full 200.000 debt is repaid. Following repayment of the amount owed to Nicole by NewCo, the remaining after-tax income would have to be distributed as a dividend. In the third year 22.375 (( 74.125 x 3) 200.000) would need to be paid as a dividend. The SDC on this at 17% would be 3.804. Nicole could thus consider increasing the price at which she would sell the rights to the new company by approximately 22.000 to avoid this additional SDC, as this would still be within the arm s length price proposed by Tyhon. The exact price can be determined bearing in mind that it will be subject to the 80% deduction and income tax. When Tyhon exercises the option to purchase the rights, Nicole could sell the shares in NewCo to Tyhon without any further tax consequences. It should be noted that no deemed distribution issues would arise given that, on 31 December 2016, being two years after the end of the first year in which NewCo had accounting profits, the shareholder would be Tyhon, a non-cyprus tax resident company, and thus no SDC would apply. Under option 3, the total tax payable would amount to 20.429 ( 14.000 + ( 875 x 3) + 3.804). Conclusion Overall, by using a company, Nicole will not benefit if the intellectual property rights are transferred as a gift (option 2), as the resulting SDC on the dividends increases the overall tax payable compared to not using a company (option 1) by 9.668 ( 42.918 33.250). There is, however, a tax saving if the rights are sold to the new company at market price (option 3). This option results in an overall tax saving of 12.821 ( 33.250 20.429) when compared to option 1. (d) If Nicole incorporates the school business, the assets and liabilities of the school would be passed to the new company, Nicole Ltd, as a going concern. The transfer of a going concern is outside the scope of VAT, so there would be no VAT charged on such a transfer. 3 Fesa Ltd and Dona (a) (b) Fesa Ltd (Fesa) has tax losses brought forward from previous years. However, such losses cannot be carried forward for more than five years. The 2007 losses of 190.000 would have been used against the 2008, 2011 and 2012 profits; this would leave 109.200 of unrelieved losses, which would be lost due to the five-year rule. These remaining losses, along with the 2009 and 2010 losses totalling 60.000, can be used against the expected 2013 profits, leaving 70.000 of expected taxable profits for that year. As a result, Fesa should declare 70.000 of taxable profits in its temporary tax assessment for 2013, and pay temporary tax of 8.750 ( 70.000 x 12,5%). This amount should be paid in two equal instalments of 4.375. The temporary tax should be declared and the first instalment paid by 31 July 2013, and the second instalment paid by 31 December 2013. Tutorial note: Given that no additional tax surcharges arise if the taxable profits declared for temporary tax are at least 75% of the chargeable income as finally determined, candidates were rewarded if they advised the declaration of temporary taxable profits of at least 75% of 70.000, provided the reasons were clearly explained in sufficient detail. Dona will be absent from Cyprus on business for four months during 2013. However, she will remain a Cyprus tax resident in 2013 as she will be in Cyprus for the remaining eight months of the year, i.e. for a period greater than 183 days. 20

Her absence will therefore have no impact on her tax liability as her income for the time abroad will form part of her total emoluments and be taxed in Cyprus at the normal tax rates. The 90-day rule will not apply to Dona since she will not receive income from a foreign employer, nor will she work for an overseas permanent establishment of a Cyprus employer. (c) (d) (e) The sale of the office building to Mia Ltd (Mia) will be subject to Cyprus value added tax (VAT) only if it is a new building, where the relevant application for town planning permission was duly completed and filed on or after 1 May 2004, and is sold to Mia before its first use. The sale of a used (previously occupied) building is not subject to VAT. Mia will pay land transfer fees of 29.166 (working) on the purchase of the Limassol office building. Working: Land transfer fees First 85.430 at 3% 2.563 Next 85.430 at 5% 4.272 Final 279.140 at 8% 22.331 450.000 29.166 Tutorial note: Legislation which exempts the land transfer fee, in whole or in part, is an excluded topic for the P6 CYP syllabus. However, candidates were rewarded if they correctly described this legislation in their answers. Permanent and fixed establishment The office in Cyprus which Mia purchases will constitute a fixed place of business, through which Mia will conduct technical advisory and support services for the oxygen enrichment system sold to Fesa. The office will thus constitute a permanent establishment (PE) of Mia in Cyprus, for corporation tax purposes, and a fixed establishment (FE) for value added tax (VAT) purposes. Corporation tax The income invoiced by Mia to Fesa relating to the technical advisory and support services will be deemed to be arising from the PE and so be considered as Cyprus source income, taxable in Cyprus. As such, the Cyprus tax authorities will attribute this income to the Cyprus PE and subject it to Cyprus corporation tax at 12,5%. Any relevant deductions will be available, such as the salary costs, capital allowances on the office building and fixtures and fittings, and any other expenses made wholly and exclusively for the purpose of generating the income. The PE will be required to be registered with the Cyprus Inland Revenue. Value added tax (VAT) Similarly, the services provided by Mia to Fesa would be attributed to the FE for VAT purposes. The services provided are business-to-business (B2B) services, taking place wholly within Cyprus. They will thus be subject to Cyprus VAT at the standard rate of 18%. The FE will be required to be registered for VAT purposes in Cyprus as soon as the value of the services provided exceeds the registration threshold of 15.600. Social insurance contributions The two employees living and working full-time in Mia s Cyprus office will be paid directly from Dubai. However, their emoluments will still be subject to Cyprus social insurance given that they are exercising their employment duties wholly within Cyprus. Mia will be required to register as an employer through its PE, and pay social insurance contributions due on the salaries paid to its two Cyprus based employees, comprising both its own contributions as employer and the employees contributions as deducted from their salaries. 4 Elnar (a) (b) Elnar will be eligible for the 20% non-resident exemption as this exemption is available to persons who were non-cyprus tax residents before the commencement of their employment in Cyprus. As Elnar only arrived in Cyprus in August 2013, he would not exceed 183 days in the Republic in the tax year 2013, and thus would not be a Cyprus tax resident before the commencement of his employment with AFS Cyprus Ltd on 1 October. The exemption is available for three years, starting in the year following the first year of employment, i.e. in Elnar s case, in the years 2014, 2015 and 2016. In 2014, Elnar would pay total tax of 72.000 (w1), with an effective tax rate of 42,35% (w3), if he stays in Ildoria. If he moves to Cyprus, he would pay total tax of 24.845 (w4), with an effective tax rate of 13,22% (w4). 21

Workings 1. Tax payable for 2014 if stays in Ildoria: Type of income Tax calculation Tax payable Employment income 120.000 x 40% 48.000 Trust dividend income 50.000 x 40% x 45% 9.000 Trust interest income 50.000 x 60% x 50% 15.000 Total tax 72.000 2. Tax payable for 2014 if moves to Cyprus: Type of income: Taxable income Employment income 120.000 Dividend income exempt Interest income exempt Rental income 18.000 138.000 Less: 20% statutory deduction on rental income (3.600) Capital allowances: (145.000 60.000) x 3% (2.550) Exemption: lower of 20% or 8.550 (8.550) Exemption: First employment at 50% (60.000) (74.700) Taxable income 63.300 Tax payable: First 19.500 at 0% nil Next 8.500 at 20% 1.700 Next 8.300 at 25% 2.075 Next 23.700 at 30% 7.110 Next 3.300 at 35% 1.155 Total Cyprus income tax 12.040 Less double tax relief on Cyprus tax from rental income: Cyprus tax: total Cyprus tax x (net rental income/taxable income) = 12.040 x ((18.000 3.600 2.550)/63.300) 2.254 Foreign tax 2.500 Restricted to Cyprus tax (2.254) Total income tax payable (12.040 2.254) 9.786 SDC payable: Dividend income: 50.000 x 40% x 17% 3.400 Interest income: 50.000 x 60% x 30% 9.000 Rental income: 18.000 x 75% x 3% 405 Less unrelieved double tax relief (2.500 2.254) (246) 159 Total SDC payable 12.559 Total tax payable in Cyprus (9.786 + 12.559) 22.345 3. Effective tax rate in Ildoria Type of income Income Total income Employment income 120.000 Trust dividend income 50.000 x 40% 20.000 Trust interest income 50.000 x 60% 30.000 Total income 170.000 Total tax payable (w1) 72.000 Effective tax rate 72.000/170.000 42,35% 22

4. Effective tax rate in Cyprus Type of income Income Total income Employment income 120.000 120.000 Trust dividend income 50.000 x 40% 20.000 Trust interest income 50.000 x 60% 30.000 Rental income 18.000 Total income 188.000 Total tax payable Cyprus tax + Ildoria tax = 22.345 (w2) + 2.500 24.845 Effective tax rate 24.845/188.000 13,22% (c) (d) (e) (f) A trust is considered a transparent entity for tax purposes, with the income being attributed directly to the individual beneficiaries. Each beneficiary is allowed all deductions and exemptions afforded to her/him by the relevant Cyprus tax legislation. However, the tax assessment is raised in the name of the trustees as representatives of the beneficiaries. It is possible for Barry to be the settlor of a Cyprus international trust provided he was not a Cyprus tax resident person in the year before the creation of the trust. The settlor subsequently becoming a Cyprus tax resident has no effect on the status of the international trust. Elnar s move to Cyprus would not affect the status of the AFS Cyprus International Trust. It is possible for a Cyprus international trust to have beneficiaries who are Cyprus tax resident, so long as they were not Cyprus tax resident persons in the year before the creation of the trust. Given that the company originally received the apartment by way of a gift from its shareholder, Barry, then it could gift the apartment to Elnar without any tax consequences given that Elnar is a member of the family of the shareholder. The company could also gift the apartment back to Barry, and Barry could then gift it to Elnar. The first transfer is exempt as the company received the asset by way of gift from Barry. The second is exempt as it is a transfer between father and son. 5 Thelma (a) (b) (c) (d) (e) Value added tax (VAT) re singer at Elena s wedding The supply of service between Greg Productions A.E. (GPAE) and Achilleas Ltd is a business-to-business (B2B) service which follows the basic rule of supply. The place of supply is thus where the recipient of the service is based, which is Cyprus. GPAE should thus raise an invoice without Greek VAT and Achilleas Ltd will apply the reverse charge, having the full right of deduction of the input VAT. VAT on the entrance fees for the charity football event The place of supply of the right to enter the charity football match is where the event takes place, being in Cyprus. This is regardless of whether the supply is business-to-business (B2B) or business-to-consumer (B2C). The VAT rate applicable will be the reduced rate of 5%. Therefore, the VAT element of each entrance fee is 0,43 ( 9,00 x 5/105). Tax on overseas player fees for the charity football event The football players are non-resident professional persons coming to Cyprus to play in the charity event, as such they will pay tax at a flat rate of 10% on their gross emoluments of 500, i.e. tax of 50 each. The tax should be deducted at source by Achilleas Ltd, and paid over to the Department of Inland Revenue by the end of the month following the month of deduction, with a statement explaining the nature of the charity event and detailing how the tax was calculated. Gross amount of the film rights The film rights payable to the independent overseas agency will attract withholding tax at source of 5%. The gross amount payable is thus 2.632 ( 2.500 x 100/95). Extraction of 12.500 from Achilleas Ltd (Achilleas) Option 1 Dividend Dividends are subject to special defence contribution (SDC) of 20%. Therefore, the gross dividend amount which would be payable to leave Thelma with cash of 12.500 is 15.625 ( 12.500/80%) and the SDC payable would be 3.125. 23

Option 2 Salary bonus The bonus amount would be included as part of Thelma s taxable income and, given that she is a higher rate taxpayer, taxed under PAYE at 35%. This will require a gross taxable bonus of 19.231 ( 12.500/65%) and income tax of 6.731. Option 3 Drawings The funds drawn out of the company for Thelma s personal use will create a debit balance with Achilleas. Thelma will be taxed on a monthly deemed benefit, equal to 9% per annum of the debit balance. This amount will be added to her taxable emoluments and, given that she is a higher rate taxpayer, taxed at 35%. The total tax if she pays off the debit balance after 18 months will be 591 ( 12.500 x 9% x (18/12) x 35%). Option 4 Interest bearing loan A loan from the company to Thelma is unlikely to be considered as being provided in the normal course of business. As such, a deemed benefit will arise of the difference between 9% and the actual annual interest charged by Achilleas to Thelma. Achilleas would be liable to pay SDC on any interest income received at 30%, which is 5% less than the 35% tax rate which will be paid by Thelma under the deemed benefit rules. Therefore, the tax due will be minimised if Achilleas were to charge Thelma interest at 9% so that no further deemed benefit arises. In this case, the resulting total SDC over a period of 18 months will be 506 ( 12.500 x 9% x (18/12) x 30%). (f) Deductibility of travel allowance Achilleas Ltd can provide a travel allowance to Thelma for the use of her private saloon car and claim a tax deduction only if the following conditions are met: (1) Achilleas Ltd maintains a record of travel, including the purpose of the journey, which would require a specific form to be completed by Thelma. (2) Thelma only claims for business travel from the offices of the company to other towns (i.e. not for travel within the same town). (3) The allowance per kilometre paid by Achilleas Ltd does not exceed the rate paid to civil servants for their travel allowance. (4) The total allowance payable to Thelma does not exceed 3% of her annual salary as declared for the purpose of social insurance and PAYE. 24

Professional Level Options Module, Paper P6 (CYP) Advanced Taxation (Cyprus) June 2014 Marking Scheme 1 Bekov group of companies Available Maximum (i) Recommendation to use intermediary Cyprus holding 0,5 Explanation of dividend between BML and new CyCo 1 Explanation of tax on dividends in hands of new CyCo 1 Explanation of tax on dividends between CyCo and AHL 0,5 Explanation of need to verify tax position in Armenia 1 4 4 (ii) Explanation of merger scheme using new company 2 Facility for 10% cash payment 1 Statement of new shareholders with percentages 2 5 4 (iii) Advantages of reorganisation scheme (0,5 each) 3 3 (iv) (1) Explanation of why triangulation applies for EU customers 2 Explanation of VAT effect of triangulation 1 (2) Explanation of VAT on sales to non-eu customers 1,5 4,5 4 (v) Explanation of tax group criteria 1,5 Why final criteria does not apply to BOF 0,5 BOH, BOT and BOF tax group in 2013 0,5 BML not part of tax group with reason 0,5 BOR and BOH cannot form tax group with reason 0,5 Explanation of why BOR and BOT are not a tax group for 2013 but are for 2014 1 Explanation of tax treatment of brought forward losses 2 Explanation of tax treatment of 2013 losses 0,5 Explanation of tax treatment of 2014 losses 0,5 7,5 7 (vi) Explanation that payment is ignored for tax purposes 1 Explanation that payment cannot exceed amount of losses 1 2 2 (vii) Explanation of existence of PE with Romanian source income 1 Recommendation for farm to raise invoice to BOT, including arm s length discussion 2,5 Explanation that Romanian PE exempt from Cyprus corporation tax 1 Explanation that Romanian PE profits included in accounting profits for deemed distribution 1 5,5 5 (viii) Explanation of tax residency 0,5 Explanation of no SDC on dividends to Guy 0,5 Explanation of non-application of deemed distribution rules 1 2 2 Format and presentation of the memorandum 2 Effectiveness of communication 2 4 4 35 25

2 Nicole and Andreas Available Maximum (a) Correct explanation of interest deduction for school 1 Discussion of arm s length interest rate 1,5 Correct explanation of interest in hands of wife 1 Explanation of need to verify the wife s tax residency 0,5 Correct explanation of interest in the hands of husband 2 Explanation of need to verify tax in country of residence of husband 0,5 Identification of 30% as the decision criteria rate 0,5 7 6 (b) Explanation of VAT treatment including place of supply of annual royalty income 1 Requirement to verify Tyhon s VAT registration number 0,5 Explanation of VAT treatment of invoice with and without verification 1 Explanation of VAT treatment by Tyhon 0,5 Treatment of sale of rights identical to annual payment 0,5 Explanation of income tax implications of intellectual property (IP) income with calculation 2,5 Explanation of income tax consequences of sale of IP with calculation 1 7 6 (c) Royalty income taxed under corporation tax with calculation 1 Explanation that gift to company results in no tax consequences 0,5 Explanation that company can also gift back rights in future with no tax consequences 0,5 Calculation of SDC on dividends under option 2 1 Explanation of tax implications on sale of shares 1,5 Calculation of total tax payable under option 2 0,5 Arm s length discussion under option 3 1 Calculation of tax on sale of rights to company 0,5 Explanation of repayment of amount owed to Nicole 2 Calculation of SDC arising in year 3 0,5 Discussion of deemed dividend provision not being applicable with reason 1 Recommendation for Nicole to increase the sales price of rights to NewCo 1 Calculation of total tax payable under option 3 0,5 Conclusion regarding the three options 1 12,5 11 (d) Explanation of VAT treatment of going concern 2 2 25 26

3 Dona Available Maximum (a) Explanation losses cannot be carried forward more than five years 1 Determination of losses 2 Calculation of temporary tax which should be paid 0,5 Explanation of how temporary tax should be declared and paid 1,5 5 5 (b) Explanation Dona remains Cyprus tax resident 1 Explanation of how income during overseas travelling is taxed 0,5 Explanation of why 90-day rule does not apply 2 3,5 3 (c) VAT treatment with reasons for sale of office building 2 2 (d) Calculation of land transfer fees 2 2 (e) Explanation of existence of permanent establishment (PE) and fixed establishment (FE) 2 Explanation of income of PE under corporation tax 1 Explanation of deductions available 1 PE will require income tax registration 0,5 Explanation of treatment of services provided by FE under VAT 1,5 FE will require VAT registration subject to threshold 0,5 Employee emoluments subject to SIC in Cyprus, with reason 1 PE required to register for SIC as employer 0,5 Pay over both own employer s and employees contributions deducted at source 0,5 8,5 8 20 4 Elnar (a) Explanation that Elnar is eligible with reasons 2 Three years, commencing in 2014 1 3 3 (b) Calculation of Ildorian tax payable 1,5 Calculation of taxable income in Cyprus 5 Calculation of Cyprus income tax payable following DTR 2 Calculation of Cyprus SDC payable following DTR 2 Calculation of Ildorian effective tax rate 0,5 Calculation of Cyprus effective tax rate 1 12 11 (c) Explanation of how a trust is taxed 2 2 (d) Explanation non-cyprus tax resident year before creating trust 1 1 (e) Explanation why move to Cyprus has no effect on trust status 1 1 (f) Explanation of tax implications if AFS Cyprus Ltd transfers apartment to Elnar 1,5 Explanation of gift back to Barry and then Barry to gift apartment to Elnar 1,5 3 2 20 27

5 Thelma Available Maximum (a) Correct explanation of place of supply and VAT treatment 2 2 (b) Correct explanation of place of supply and VAT treatment 1,5 Correct VAT rate of 5% 0,5 Calculation of VAT 0,5 2,5 2 (c) Correct explanation of withholding tax 1 Correct explanation of how Achilleas will pay the tax 1 2 2 (d) Correct rate of 5% 0,5 Correct calculation 0,5 1 1 (e) Explanation and calculation of dividend option 1,5 Explanation and calculation of salary option 1,5 Explanation and calculation of benefit from drawings option 2,5 Explanation and calculation of minimum tax for loan option 4 9,5 9 (f) Explanation of conditions (1 mark each) 4 4 20 28