Tax Newsletter Cyprus July 2015 Issue 1 For additional information, please contact: Philippos Raptopoulos Phone: + 357 2520 9999 Philippos.Raptopoulos@cy.ey.com Petros Liassides Phone: +357 2220 9999 Petros.Liassides@cy.ey.com Petros Krasaris Phone: +357 2220 9999 petros.p.krasaris@cy.ey.com Soteroula Rossidou Cyprus will introduce significant changes to its tax regime Executive summary On 1 July 2015, the Council of Ministers approved a series of bills which were submitted to the House of Representatives on 2 July 2015. The bills provide for significant amendments to the tax laws without altering the long established comprehensive and transparent character of the Cypriot tax system. Assuming the bills are enacted into law, the amendments will be effective once the relevant laws are published in the Official Gazette of the Republic. The changes serve multiple purposes including alignment of the Cypriot tax legislation with the recent amendments made in the European Union (EU) Parent-Subsidiary Directive. At the same time, the changes encourage the creation of business substance by offering compelling advantages to individuals from a personal tax perspective. Moreover, the changes are aimed at promoting economic development by encouraging the introduction of new equity capital as an alternative to excessive debt financing. In addition, the Government has ensured that the changes are aligned with global and EU developments in the field of corporate taxation. Finally, the Government s aim was to ensure that the new tax measures will be fiscally viable without resulting to a reduction of tax revenues. The changes made will further improve Cyprus international competitiveness as a location of choice for multinational companies doing business in Central South Europe, the Commonwealth of Independent States (CIS), the Middle East and North Africa. The changes made in the tax laws are the most significant since the introduction of the current tax regime in 2003. It should be mentioned that the changes represent a coordinated initiative between the Government and various stakeholders.
Detailed discussion Main corporation tax changes 1. Implementation of the amendments made to the EU Parent Subsidiary Directive Until 31 December 2015, any dividends received by a Cypriot tax resident company will be unconditionally exempt from Cyprus Income Tax. In order for the Cypriot Income Tax Law to be harmonized with the amended EU Parent- Subsidiary Directive, the previously unconditional exemption from Corporate Income Tax (CIT) on dividends received by a Cyprus company will not be available as of 1 January 2016 in the following cases: a) To the extent that the relevant dividend received by a Cypriot tax resident company is allowed as a tax deduction in the jurisdiction of the foreign paying company; or b) To the extent that there is an arrangement or a series of arrangements in place between the dividend paying company and the receiving Cypriot company which are not genuine taking into account all relevant facts and circumstances but instead such arrangements have been put into place for the main purpose or one of the main purposes of obtaining the relevant exemption. An arrangement or a series of arrangements is to be regarded as not genuine to the extent that they are not put into place for valid commercial reasons which reflect economic reality. If the dividend exemption is not available due to the above conditions, it should be subject to CIT at the rate of 12.50%. In such instance, the dividend will not be subject to the Special Defence Contribution. 2. Notional interest deduction on equity Over the last years, the supply of credit by financial institutions has been considerably reduced due to the banking crisis. In an effort to help the economy return to a growth path, the Government has introduced a Notional Interest Deduction (NID) regime on corporate equity. The NID regime is expected to encourage the introduction of equity capital into corporate structures which will effectively result in de-leveraging the economy and foster economic growth. The NID will remove any distortions between equity and debt finance by bringing equity and debt into a level playing field since both will be entitled to a tax deduction. As per the amended law, corporate entities (including permanent establishment of foreign companies) will be entitled to a NID on equity. The NID will equal the multiple of reference interest rate and the new equity held and used by a company in the carrying on of its business activities. Both terms are defined in the law: Reference interest rate means the interest rate of the 10 year government bond yield of the country in which the new equity is invested increased by 3% having as a lower limit the 10 year government bond yield of the Republic of Cyprus increased by 3%. The bond yield is the one applicable as of 31 December of the tax year preceding the relevant tax year. New equity means any equity introduced in the business on or after 1 January 2015 in the form of issued share capital and share premium (provided it is fully paid) and old equity means equity that existed on 31 December 2014. New equity does not include amounts that have been capitalised and which are the result of a revaluation of movable or immovable property. It needs to be mentioned that the NID granted on new equity cannot exceed 80% of the taxable profit before allowing the NID. In the event of losses, the NID will not be available. Effectively, this means that the NID cannot create or increase a tax loss. The law includes both specific and general anti-abuse provisions aiming to: Limit the classification of capital as new equity in case this relates directly or indirectly to reserves that existed on 31 December 2014. Tackle arrangements which aim to re-characterize old equity into new equity or arrangements which have been put into place with the aim of claiming NID without any valid economic or commercial reasons. Restrict the NID in case another entity has claimed a NID or an interest expense deduction on the same equity capital. Restrict the NID in case new equity is the result of qualifying company reorganization. The NID regime is considered as interest expense and is subject to the same limitation rules as interest. Taxpayers can elect not to claim the NID or claim part of it for each tax year. The NID regime will be effective as of 1 January 2015. 3. Tax neutrality of profits and losses resulting from currency exchange rate fluctuations As of 1 January 2015, any foreign exchange (FOREX) gains or losses should be neither taxable nor deductible for tax purposes regardless of whether they are realized or unrealized in nature. The tax neutrality of FOREX differences is a fundamental change as it provides certainty to taxpayers that foreign currency results should be disregarded for tax purposes regardless of whether they are of trading or capital nature. Notwithstanding the above, any FOREX gains/losses resulting from trading in foreign currencies (including trading in foreign
currency derivatives) should be taxable/deductible respectively. Further, it is provided that a person carrying out the business of trading in foreign currencies will be able to irrevocably elect to be taxed on a realized basis and that any unrealized FOREX differences will be treated as taxable in the year they are realized. 4. Limitation of loss carried forward on IP activities The Cyprus Intellectual Property (IP) Regime was introduced in 2012 and was a positive step in establishing Cyprus as renowned IP location. As per the existing provisions of the Cyprus IP Box Regime, an 80% deemed deduction is available on the net profit generated from the business use or disposal of a qualifying IP asset. However, the law did not explicitly include a corresponding limitation in case the IP activities were loss making for tax purposes. From now on, this provision is fine-tuned to state that only 20% of the resulting loss will be allowed. This provision will be effective as of 1 January 2015. 5. Extending the scope of application of the group loss relief provisions To date, the group loss relief provisions are applicable only between Cypriot tax resident companies. The law will be amended in order to be harmonised with the jurisprudence of the European Court of Justice. From now on, the group loss relief provisions are extended to cases where the surrendering company is registered in and is a tax resident of another EU Member State on the proviso that that it had exhausted all possibilities available for using the losses in its respective country of tax residency or in the country where its intermediary holding company has its legal seat. The above provisions will be effective as of 1 January 2015. 6. Reserving tax neutrality of reorganizations for bona fide transactions General anti-abuse provisions are now introduced in relation to company reorganizations. In case the tax authorities consider that a reorganization is not carried out for valid commercial reasons which reflect the economic reality but instead, they are of the opinion that the main purpose or one of the main purposes of the reorganization is to avoid, reduce or defer the incurrence of tax, then they have the statutory right to refuse granting the exemptions laid down by the law in relation to reorganizations. The decision of the tax authorities not to grant the reorganization exemption should be adequately substantiated. Furthermore, in order for the tax authorities to safeguard the bona fide nature of the reorganization, they may impose conditions in relation to the number of shares to be issued by the receiving company as well as may request that the shares issued in the course of reorganization be kept by the receiving company for a maximum period of three years. The above provisions, which will be effective as of 1 January 2015, are expected to be quite controversial in practice and could result in disputes with the tax authorities. 7. Amendments to the arm s length principle provisions regulating the transactions between related parties To date, Cyprus has not adopted any specific rules regarding transfer pricing or specific transfer pricing documentation requirements but the arm s length principle is codified in the tax law. The current wording of the law provides that only profits (or benefits) arising from related party transactions would be adjusted (upward TP adjustment). The law is now amended to provide that not only profits but also expenses and losses, incurred by reason of the commercial and financial relationship of two related parties, will be adjusted and will be treated as deductible for the party which incurs the expense or loss. This effectively means that it may be possible for taxpayers to make a downwards TP adjustment unilaterally in their tax return; for example, if a company receives an interest free loan from a related party. Furthermore, the law is amended to include provisions for negative TP adjustments in relation to transactions concluded between two entities which are subject to tax in Cyprus. If the tax authorities make a TP adjustment increasing the taxable profit of one entity, a corresponding (negative) TP adjustment should be made to the taxable profit of the other entity. The above provisions, which will be effective as of 1 January 2015, are expected to be a break-through change to the current tax practice 8. Other changes A number of other changes were made to the tax laws such as: (a) Broadening the definition of the terms Cyprus Republic and permanent establishment to ensure that taxation of hydrocarbon activities in Cyprus exclusive economic zone fall within the scope of taxation. (b) Extending the accelerated depreciation provisions to tax years 2015 and 2016 in respect of plant and machinery (20% as opposed to 10%) and industrial and hotel buildings (7% as opposed to 4%). (c) Giving the statutory right to the Council of Ministers to impose an administrative fee for the issuance of tax rulings. Capital Gains Tax Law changes The Capital Gains Tax (CGT) Law has been amended to bring within its ambit the indirect sale of property. Currently, CGT is levied only with respect to capital nature gains derived from the disposal of immovable property situated in Cyprus as well as from the disposal of shares of companies which own immovable property in Cyprus
(unless the shares are listed on a recognized stock exchange or the sale is made in the course of a qualifying company reorganization). The main changes in the law are as follows: No CGT is imposed on property which is acquired between the date the amendment law comes into force and 31 December 2016. CGT is now imposed on the sale of shares which directly or indirectly participate in other companies which hold immovable property in Cyprus provided that at least 50% of the market value of the shares sold is derived from property situated in Cyprus. Any trading nature profits derived from the sale of shares of companies which directly or indirectly own immovable property in Cyprus will be subject to CGT in case such profit is exempt under Income Tax Law. In the case of disposal of shares which directly or indirectly hold property in Cyprus, the disposal proceeds subject to CGT are restricted to the market value of the immovable property held directly or indirectly by the company which its shares are sold. Changes to the taxation of individuals 1. Extending available exemptions to individuals taking up tax residency in Cyprus As of 1 January 2012, 50% of the gross emoluments are exempted from personal income tax for individuals that were not tax residents of Cyprus prior to the commencement of their employment in Cyprus. This deduction applies when income exceeds 100,000 per year. The law is amended to extend the aforesaid exemption to a period of 10 years (previously 5 years) commencing from the year of employment. It should be mentioned that the 50% exemption will not be available to individuals that were Cyprus tax residents for a period of 3 out of 5 years preceding the year of employment. Further, the 50% exemption will not be available to individuals that were Cyprus tax residents in the year preceding the year of commencing their employment. This amendment, which is effective as of 2015 tax year, is expected to encourage the relocation of executives and top management into Cyprus, which may reinforce the business substance of the operational structures of Cypriot companies. 2. Introduction of non-dom rules for individuals The Special Contribution for the Defence of the Republic Law (SDC) imposes tax on certain categories of income (interest, rents, dividends) received by persons who are considered to be residents for tax purposes of Cyprus, subject to any available exemptions. The SDC Law also includes provisions for the deemed distribution of profits of Cypriot tax resident companies to the extent that the shareholders of such companies are Cypriot tax residents. The SDC law is amended so that an individual will be subject to SDC if he/she is a resident for tax purposes of Cyprus (physically present in Cyprus for a period or periods exceeding in aggregate 183 days during the calendar year) and provided such individual is considered to be domiciled in Cyprus. With the introduction of non-domicile or non-dom rules, a Cyprus tax resident individual who is not domiciled of Cyprus will effectively not be subject to SDC in Cyprus on any interest, rents or dividends (whether actual or deemed) regardless of whether such income is derived from sources within Cyprus and regardless of whether such income is remitted to a bank account or economically used in Cyprus. It is noted that no tax is imposed on individuals under Income Tax Law in respect of interest and dividend income. The term domiciled in Cyprus is defined in the law as an individual who has a domicile of origin in accordance with the Wills and Succession Law but it does not include: (i) An individual who has obtained and maintained a domicile of choice outside Cyprus in accordance with the Wills and Succession Law, provided that such an individual has not been a tax resident of Cyprus for a period of 20 consecutive years preceding the tax year; or (ii) An individual who has not been a tax resident of Cyprus for a period of 20 consecutive years prior to the introduction of the law. Notwithstanding the above, an individual who has been a tax resident of Cyprus for at least 17 years out of the last 20 years prior to the tax year will be considered to be domiciled in Cyprus and as such be subject to SDC regardless of his/her domicile of origin. The non-dom rules are expected to further encourage the relocation of corporate executives and encourage high-net-worth individuals to take up residency in Cyprus. The non-dom rules are effective as of the date the law will be published in the Official Gazette of the Republic. 3. Introduction of anti-abuse rules The tax authorities will have discretionary powers to disregard the payment of a dividend which is made to another resident company if such company was interposed without any valid commercial or economic reasons. If the main purpose of interposing a company was to avoid, reduce or defer the incurrence of SDC, the tax authorities could consider that the dividend is deemed to be received by the individual(s) (assuming such individuals are Cypriot tax residents) who directly or indirectly control the company which received the dividend and levy SDC accordingly. Furthermore, the tax authorities have the right to disregard the
transfer of property made by a person who is domiciled of Cyprus to a relative up to a third degree of kindred in case such transfer was made with the aim to avoid the imposition of SDC as a result of the introduction of non-dom rules. Implications The amendments to the Cypriot tax laws create opportunities both for individual and corporate investors which will now have a broader scope of options in structuring their investments into Cyprus. Nevertheless, investors should undertake a review of their existing arrangements and structures in order to assess the impact of the changes and assure their conformity with relevant amendments. Businesses should therefore reconsider and reinvigorate their structures in an attempt to diagnose both opportunities and weaknesses and take the necessary actions. EY Assurance Tax Transactions Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com 2015 Ernst & Young Cyprus Ltd All rights reserved. This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax, or other professional advice. Please refer to your advisors for specific advice.