Important amendments to the Cyprus tax laws

Cyprus | March 2016

On December 10th, 2015, the Cyprus House of Representatives voted into law numerous anticipated tax law amendments, which were published in the Government Gazette on December 17th, 2015.

Amendments were made to:

• The income tax law.
• The capital gains tax law.
• The assessment and collection of taxes law.

The major rationale of these tax laws’ changes relates to the improvement of Cyprus’ competitiveness in the investment destinations era, further harmonisation and convergence of the Cyprus tax law with the EU legislation, as well as introduction of additional anti-avoidance clauses and relevant safeguarding measures. Moreover, the tax treatment of oil and gas activity taking event offshore Cyprus is addressed. Various practical details and inconsistencies of the law were also dealt with.

As guidance to the amendments, we hereby present the following:

Amendments made to the Income Tax Law

A. Tax neutrality of foreign exchange gains and losses

As per the amended Income Tax Law (ITL), realised as well as unrealised foreign exchange (FX) differences whether resulting to gains or losses, and irrespective of whether their nature might be revenue or capital, will be neither taxable nor deductible for Cyprus tax purposes.

This tax neutrality, however, does not apply to gains and losses arising from FX trading, trading in foreign currencies, as well as trading in foreign currency derivatives, and therefore these FOREX gains / losses will be taxable / deductible respectively for Cyprus tax purposes. In such cases of entities trading in foreign currencies, the amended tax law introduces an option for an irrevocable election to be made, according to which such entities will be taxed only on realised FX differences. If such an election is made, the relevant entity will have to submit a form (approved by the Registrar) indicating this election together with the immediate next annual tax return to be submitted. Further, if this option is elected, any unrealised FX differences being a result of trading in currencies or currency derivatives will be treated as taxable or tax deductible within the year that they are realised.

Overall, this recent development makes the tax treatment of FX differences a simpler task, and an entity, which is not dealing in FX trading, will be able to make profit and other economic performance projections more precisely, as the currency rates fluctuations factor is now eliminated as a tax-element. Moreover, it provides taxpayers with clearance and certainty that any FX differences resulting either from trading or capital nature, can be ignored for tax purposes.

Date applicable: This law is amended with a retroactive effect as of January 1st, 2015.

B. Restriction of losses that can be carried forward when these are resulting from licensing and / or sale of Intellectual Property (IP) rights

The Cyprus Intellectual Property (IP) regime as enacted in year 2012 is a very beneficial tax scheme, which has since established Cyprus as a renowned IP destination. By reference to this scheme, the provisions allow for an 80% deemed deduction on the net profit arising from the general business use, exploitation, or disposals of qualifying IP assets.

On this subject, the relevant law has now been amended in order to provide clarification to companies and permanent establishments qualifying under the Cyprus IP regime on the tax treatment in the scenario where IP activities are loss making. In this case, the amendment clarifies that it is only 20% of the resulting net loss that is eligible to be set-off, surrendered via group relief, and / or be carried forward to subsequent years.

Further, as the net profit under this regime is computed after deducting from the license income and / or gains from disposals, all the direct expenses related with the production of these income elements, it is furthermore clarified that:

• Any corresponding downward transfer pricing adjustment that may be given rise from applying the newly revised arm’s length provisions of the Cyprus Income Tax Law (see number 7 below), and/or
• Any notional interest Deduction (NID) on equity that relates to the acquisition and / or financing of qualifying IP, can both be deemed as direct expenses for the purpose of calculating and arriving to the taxable profit / loss.
Date applicable: This law is amended with a retroactive effect as of January 1st, 2012.

C. Amendment of the definition of ‘Republic’ and extension of the definition of the ‘Permanent Establishment’

The amendment to the definition of the term ‘Republic’ has been affected so as the term is now clearer. It is thus clarified that ‘Republic’ includes: ‘Cyprus’ national territory, its terrain, its territorial waters as well as any areas outside its territorial waters including the contiguous zone, the exclusive economic zone and the continental shelf as well as any installation, construction and artificial island located in these zones’.

Also, in accordance to the amended definition of the term ‘Republic’, the ‘Permanent Establishment’ (P.E.) definition has also been updated to also include ‘offshore activities relating to extraction, exploration or exploitation of the continental shelf, subsoil or natural resources as well as the installation and exploitation of pipelines and other installations on the seabed’.

Date applicable: The above amendments are effective as from 1 January 2015.

The amendments of both definitions are in line with the discovery of hydrocarbons offshore Cyprus. The extension of the PE definition, clarifies Cyprus’ right to tax certain offshore activities relating to the oil and gas industry that are carried within the Republic (as per the revised definition of the term).

D. Taxing of hydrocarbon and other relevant activities: 5% Withholding Tax on income arising from natural gas services

As the introduced amendments to the definitions of ‘Republic’ and ‘P.E.’ are in line with the discovery of hydrocarbons offshore Cyprus, these substantiate Cyprus’ right to tax various offshore activities of the Oil and Gas industry that are performed by non-residents within the Republic of Cyprus as per the revised definition of the term.

In detail, the amended law introduces the obligation to a 5% withholding tax on the gross income derived by a non-resident person, having no permanent establishment in Cyprus, as follows: ‘ the gross amount or other income derived from sources within the Republic by any person who is not resident in the Republic, which does not arise from a permanent establishment in the Republic, as consideration for services carried out in the Republic with respect to the extraction, exploration or exploitation of the continental shelf, subsoil or natural resources, as well as the installation and exploitation of pipelines and other installations on the ground, the seabed or above the surface of the sea, is subject to tax at the rate of 5%.’

Additionally, the amendment extends to include the method of the withholding tax settlement of the above, with this being that when a payment relevant to the above services has to be made by a non-resident entity and the expense is borne by a related Cyprus tax resident entity, the tax needs to be withheld at source, and the latter has the responsibility for settling this with the Cyprus Tax Authorities, and the tax is payable by the end of the month following the month during which the payment was made.

It is clear therefore that this change in the law offers an effective way towards the taxing of Oil and Gas related activities carried out by non-CY tax -residents, within the Republic of Cyprus, who may not be captured through a P.E. Nevertheless, if a DTT is in effect between Cyprus and the state of residence of the party providing these services, the corresponding double tax treaty provisions apply.

Date applicable: This amended law is effective as of January 1st, 2016.

E. Application of the updated EU Parent – Subsidiary Directive & Taxation of dividend income

This amendment is here to alter the pre-existing situation where as per Cyprus tax law, dividend income was altogether and unconditionally exempt from corporate income tax (CIT). This is in order for the Cyprus Income Tax Law (ITL) to be harmonised with the EU Parent – Subsidiary Directive 2011/96/EU including two amending directives subsequently issued. This Directive is referencing to the common tax regime applicable to parent and subsidiary companies of different EU member states, and the amendment is obligatory for all EU member states as it involves the introduction of anti-hybrid and general anti-avoidance measures in regards to the distribution of profits from a subsidiary to a parent company within the EU.

As per the introduced amendment, in the situation where a Cyprus tax-resident entity or a Cyprus located P.E. of a foreign tax-resident entity, receives dividend income from another company, the corporate income tax exemption will not apply to the extent that the relevant dividend is allowed as a tax deduction in the jurisdiction of the foreign paying company.
Subsequently, when the dividend CIT exemption is no longer available due to the above, it should be subject to CIT at the rate of 12.5%. In this situation though, the dividend will not be liable to the Special Defense Contribution (SDC) taxation scheme, and will not be considered dividend for SDC purposes.

Date applicable: This amended law is effective as of January 1st, 2016.

F. When will claims of unilateral tax relief for underlying tax on dividend income paid by another EU member state – resident Company to a Cyprus company will not be acceptable?

It is possible as per the introduced amendments, that dividend income received by a Cyprus tax-resident company from another EU member state – resident Company, and which is subject to CIT in Cyprus, that it may not get to enjoy a unilateral tax relief for the foreign underlying tax paid and thus may not be credited against the Cyprus tax liability. This will be in the case that the Cyprus tax authorities consider that this dividend relates to a corporate structure arrangement that was put in place aiming to obtain tax benefits and without substantiating valid commercial reasoning.

The Cyprus tax office obtained this go-ahead to proceed to such considerations again as per the amended law that now grants the right to the tax authorities to deny the availability of underlying tax relief on dividends subject to Cyprus CIT, in such cases where: an arrangement or a series of arrangements have been enacted for the main purpose, or one of the main purposes, of obtaining tax benefits without valid commercial reasons which can genuinely reflect economic reality.

Date applicable: This amended law is effective as of January 1st, 2016.

G. Group loss relief: enrichment and extension of the scope of application

Before this amendment came to place, the group loss relief was applicable only between Cyprus tax resident companies, which were ultimately owned by non-CY tax residents. For the purpose of group loss relief, companies are considered to be part of the same group if participation of 75% and above exists. As per the preexisting law, up to now Cyprus tax-resident entity could surrender its losses only to a fellow Cyprus tax-resident entity.

However, this condition could be regarded as irreconcilable to the EU freedom of establishment and consequently the Cyprus ITL law has been amended in order to be aligned with the jurisprudence of recent decisions of the European Court of Justice (ECJ).
The amended law now provides that the group loss relief provisions are extended to scenarios where the surrendering entity is registered in and is a tax resident of another EU Member State. Yet, this will be on the condition that this surrendering entity has exhausted all other possibilities available to it towards carrying forward or surrendering its losses in its resident state or in another EU Member State where its intermediary holding company is based and has legal seat. Additionally it is important to note that in such circumstances, the tax losses need be calculated based on the Cyprus tax law provisions.

Another parameter of this amending law, provides that in deciding if two Cyprus tax resident entities are eligible to group relief, in a situation that also involves interposition of a non-Cyprus tax resident entity as well, the interposed entity will not affect the Cyprus tax resident companies’ group relief eligibility as long as the interposed is:

• A tax resident in an EU member state, or
• A tax resident in any other country with which Cyprus has a signed DTT (either bilateral or a multilateral), or an exchange of information (EoI) agreement.

Date applicable: This law is amended with a retroactive effect as of January 1st, 2015.

H. Re-organisations: Introduction of new anti-abuse and anti-avoidance provisions and Tax neutrality for bona fide transactions

As per the new amendments, if the tax authorities evaluate that a re-organisation has been put in place for no valid commercial reason and reflects no economic reality, they are statutorily granted the right to refuse any tax exemptions, which would have otherwise been allowed by the law in relation to re-organisations.

More specifically, the Commissioner can deny exemption from tax of any profits arising from a re-organisation, if he judges that the main purpose or one of the main purposes of the re-organisation was:

• The avoidance, decrease, or postponement of the payment of tax, or
• The direct or indirect allocation of an entity’s assets to a person without settling the corresponding tax, or as a means of decreasing / postponing that corresponding tax.

Such decision by the tax office of not allowing re-organisation exemptions must be adequately supported and fully substantiated, and thus the Commissioner will have to proceed to requesting evidential documentation if that is considered necessary, in order for the purpose of the re-organisation to be properly determined. Thereafter in every case the decisions by the tax office need to be completely justified, while at the same time the affected taxpayers maintain the right to proceed to objection and appeal against such a decision in line with the relevant provisions of the assessment and collection of taxes law.
In a different scenario, the Tax Authorities may approve the relevant tax exemptions available due to a re-organisation, yet at the same time they might need to request the enforcement of some conditions in order to safeguard the bona fide nature of the re-organisation.

The conditions relate to:

• The number of shares to be issued as a result of the re-organisation by the receiving company and,
• The period of time that the shares issued in the course of re-organisation are to be kept by the receiving company which may not exceed three years, unless these shares are quoted in an approved stock exchange or they are shares which were transferred due to hereditary succession and are thus exempt from the holding time period restriction.
In the case that the above two conditions as set by the Tax Authorities, are not met by the affected companies, then the re-organisation will be considered non-qualifying for the tax-free re-organisation provisions of the Cyprus ITL, and any tax that was initially deemed not to be due will become payable either by the transferring or the receiving or the acquiring company.

Date applicable: This amended law is effective as of January 1st, 2016.

I. Amendment to the provisions of the arm’s length principle monitoring related parties transactions by introducing of a matching downward transfer pricing adjustment

In an aim and effort to treat transactions between related parties in a fairer way, and in reference to the arm’s length principle as codified in the tax law, the introduced amendments now include a negative transfer pricing (TP) adjustment within the provisions, while prior to that, the law only provided for upward adjustments in cases when transactions between related parties were not performed at arm‘s length.

Thus, in practice:
If the tax authorities make a TP adjustment increasing the taxable profit of one Cyprus tax – resident company or P.E. of a non-Cyprus tax resident company, then the other party involved in the transaction is now eligible for the corresponding downward transfer pricing adjustment, which will be fully subject to the provisions of the Cyprus ITL in relation to its tax deductibility.

As an additional useful clarification, if the upward adjustment is computed upon:
• A loan
• Some financial assistance, or
• A debit balance,
then the corresponding downward adjustment will be deemed as interest expense, which in turn will be subject to the provisions of the Cyprus ITL in relation to the tax treatment of interest expense.
Date applicable: This law is amended with a retroactive effect as of January 1st, 2015.

J. Prolonging of benefit of ‘Accelerated capital allowances’

This amendment relates to assisting companies with their fixed assets investments, and concerns a two-year period extension to the law as amended in 2012 and providing for:

• Plant and machinery bought during the years 2012 – 2014 to enjoy a 20% – instead of the pre-existing 10% – annual capital allowance rate, (unless the applicable capital allowance rate for any of the particular assets purchased is higher) and,
• Industrial buildings and hotel premises purchased during the years 2012 – 2014 to enjoy a 7% – instead of the pre-existing 4% – annual capital allowance rate.

As per the amended tax law, the above will continue to apply for such fixed assets purchases concluded within years 2015 – 2016 as well.

Date applicable: This law is amended with a retroactive effect as of January 1st, 2015 and is applicable to December 31st, 2016.

K. Fees for Cyprus tax residency certificates issuance and tax rulings

As per the amendment, the Council of Ministers have the statutory right to set an administrative fee on tax residency certificates issuances and advance tax rulings.
Date applicable: This law is amended with a retroactive effect as of January 1st, 2015.

Changes to the Taxation Scheme of Individuals: Employment income tax exemptions of 20% and 50%, being extended.

As an incentive to multinational organisations to keep developing presence and economic substance in Cyprus, various extensions have been granted to some already existing employment income tax benefits, for the encouragement of relocation of senior management personnel to Cyprus.

In particular, as per the Cyprus ITL, any individuals taking up employment in Cyprus, and who have not been tax-residents of Cyprus before commencement of their employment, were in a position to claim one of the two following two:

• Exemption from income Tax of 20% of their employment income earned in Cyprus, with ceiling of € 8.550 annually, for a period of 3 years.
• Exemption from Income Tax of 50% of their employment income earned in Cyprus, for personnel with annual salary over € 100.000, for a period of 5 years.

As per the amendments, the 20% income tax exemption is now extended from 3 to 5 years, provided the employment started during or after year 2012. Further, this exemption will continue to remain applicable for the tax years up to year 2020, and from there on it will be abolished.

Also, the 50% exemption is also now extended from 5 to 10 years.

Additionally, for personnel starting their employment as from January 1st, 2015 and onwards, some additional parameters are in place in order to be eligible to the 50% exemption, and these are:

• They must have not been Cyprus tax-residents for a period of at least 3 out of the last 5 years, immediately prior to the year of commencement of employment, and
• They must have not been Cyprus tax-residents in the tax year immediately prior to the year of commencement of employment.

As an additional clarification, the 50% tax exemption can be applied in the course of any tax year during which the annual employment income of a qualifying employee is above €100.000, irrespective if throughout the overall 10 year-period the annual employment income might decrease at times below the €100.000 threshold. This provision applies when the annual employment income is above € 100.000 during the first year of employment, and the commissioner is convinced and satisfied that any such salary fluctuation thereafter, of a decrease and subsequent increase, was not intended so as to take advantage of the 50% exemption.

The two above mentioned exemptions are mutually exclusive and only one of the can be claimed by a particular taxpayer.

Date applicable: This law is amended with a retroactive effect as of January 1st, 2015.

Amendments made to the Capital Gains Law

1. Disposal of shares in multi-tiered structures & Capital Gains Tax thereon

This Capital Gains Tax (CGT) law amendment aims to bring CGT presence into the indirect sale of property. Before the amendment CGT was imposed only in regards to capital gains derived from the disposal of immovable property located in Cyprus and from the disposal of shares of companies which own immovable property in Cyprus, with the exception of any such shares that were are listed on a recognised stock exchange or when the sale was made in the event of a qualifying company re-organisation.
The amended law, in an attempt to eliminate a loophole, extends the definition of ‘property’ so that CGT can now be also levied on sale of shares which directly or indirectly participate in other companies which in turn hold immovable property in Cyprus, on the provision that at least 50% of the Market Value (MV) of the shares that are sold is derived from that Cyprus immovable property. Further, in the process of computations towards determining whether this 50% threshold is applicable, any liabilities must not be taken into account.

2. Imposition of Capital Gains Tax on Property – related gains that are exempt from the Income Tax Law

As per the amendment, any gains from the disposal of what is defined as ‘property’ according to this revised CGT law, and which are exempt from Income Tax Law, will now be levied with CGT, as a way of capturing any trading nature profits from the sale of shares of companies which directly or indirectly own immovable property located in Cyprus, and which would be otherwise exempt from the Income Tax Law.

3. Separation of plots

Before the amendment, in a situation when immovable property in Cyprus was acquired prior January 1st, 1980, and it was then separated into plots without having new titles being issued, and then one of the plots was sold, the value of the disposed plot as of January 1st, 1980 would have been deemed to be the MV allocated to that plot prior to the separation. Now, as per the amended law, the phrase ‘without new titles being issued’ is removed from the legislation script, and consequently the issuance of new titles becomes irrelevant for the above provision to be applicable.

4. Adjusting base cost for CGT purposes because of a previous sale

This amendment is introduced in order to ensure no double taxation on profits arrived to from any direct or indirect sale of immovable property in Cyprus. Thus, in the case of a disposal of:

• Immovable property which was directly or indirectly an asset of a company during a previous share disposal, or
• Shares in a company that directly or indirectly own shares in another company,
and when in such disposals, immovable property in Cyprus is involved for which tax was levied on and settled on a previous disposal, then the value of the immovable property is deductible for CGT purposes to the extent of the disposal value used in calculating the capital gain of the previous disposal in question.

5. Disposal proceeds restricted or extended to the Market Value of the immovable property

Determining the disposal proceeds: as per amendment, upon a sale of shares of a company which directly or indirectly holds immovable property located in Cyprus, the disposal proceeds for CGT purposes are calculated on the basis of the MV of the immovable property held directly or indirectly by the company which shares are sold.

Likewise, in the case of immovable property disposal between related parties where the declared disposal proceeds are lower than the MV of the property, the disposal proceeds to be subject to CGT will be calculated by reference to the MV of the property as at the disposal date and as determined by the Commissioner.

Date applicable: All amendments to the Capital Gains Tax Law are effective as of December 17th, 2015, being the date they were published in the Official Gazette of the Republic.

Amendments made to the Assessment and Collection of Taxes Law:

Refunding of provisional tax paid in excess

As per the amendment, in the situation that taxpayers prove that during any year the provisional tax amount paid was above the correct amount, the difference is refundable as per the provisions of article 35 of the law.

Date applicable: This law is amended with a retroactive effect as of January 1st, 2015.

Eurofast’s take

As all above amendments to the Cyprus tax laws are very significant and could have an impact on your existing or planned structures, here at Eurofast our tax advisors are ready to assist you towards undertaking a review of your existing arrangements in order to assess and evaluate the impact of the tax law changes.

Our advisors are supporting all affected taxpayers in maintaining their conformity in line with the new amendments, assessing windows of opportunities within the new tax legislation frame, and pin-pointing any need for necessary actions. Please contact us for further queries.

Christiana Nicolaou
Tax Consultant