Ten areas in need of good planning when using a Cyprus company

Contributed by Fiducenter[www.fiducenter.com.cy]

A lot has been discussed and presented, and it still is, about Cyprus and the advantages it has to offer in international business and tax planning. Although we are talking about a fairly simple and straightforward tax system with no frequent changes there could be some nasty surprises if careful planning is not performed in some areas of the tax and legal regime of Cyprus. The purpose of this article is to highlight the most important of these areas and outline the consequences to be faced if they are not handled with care and diligence.

1. Debit Balances with Shareholders

The first area is the one of debit balances of Cyprus companies with their shareholders. Such balances can pop up in many different ways, sometimes so plain and part of everyday business life that is hard to realise their accounting and tax effect up until the accounts are prepared. The consequences can be significant since a notional interest is calculated for tax purposes on such debit balances. Such interest is based on market terms for corporate shareholders, whereas for individual shareholders it can be even worse since the interest calculated is based on a rate of 9%. This notional interest is then taxed at 10%, either under Corporation Tax or Special Contribution for Defense.

2. Back to Back Loans

The interest margin for back to back loans applies both to non-interest bearing and interest bearing loans (for the latter the Tax Authorities are requesting the rate to be at market terms on both sides of the loan). Another tricky area on this kind of loan arrangements is the six-month period within which funds obtained by a Cyprus Company as a loan must be provided as a loan to another party in order for the Back to Back relationship to be satisfied. The Tax Authorities are requesting specific documentation to verify this.

3. Write-off of loans to related parties

The write off of loans to related parties is ignored for tax purposes unless the borrower is going for liquidation/strike-off/bankruptcy, in general when it is officially closing down or is unable to repay the debt. Thus, interest (either real or for tax purposes – notional) will continue being imposed on that loan and taxed accordingly.

4. Taxation of dividends received from abroad

There is a widespread perception that dividends received by Cyprus companies from foreign investments are always free of any tax in the island. Although this is true in the majority of cases, there is a chance, and sometimes it can be a hard one, that such dividends will be caught by the net of Special Contribution for Defense. This could happen when both the majority of the income from which the dividend is generated is of an investment nature AND the dividend-paying company is subject to tax in its home country at a rate lower than 5%. In such a case, the tax imposed is 15%, although credit relief is available for any tax suffered abroad up to the amount of tax suffered in Cyprus.

5. Transparent participations

Some foreign entities, such as Dutch Close CVs or American LLCs, are considered for tax purposes as not having separate legal identity. They are known as transparent entities. Distributions by such vehicles to Cyprus companies having an investment in them are not considered as dividends for tax purposes and any income to which the shareholder is entitled is taxed on a different basis.

6. Taxation of gains on disposal of securities

Gains on disposal of securities are free from any tax in Cyprus. Despite the fact that the definition of the term securities has been significantly widened with the issue of two Tax Circulars in 2008 and 2009, there are still cases where particular instruments, such as Treasure Bills, will not meet this definition.

7. Tax deducted at source on rental payments

As from 1 July 2011 Special Contribution for Defense on rental charges for immovable property should be deducted at source by tenants when these are companies situated in Cyprus and when the landlord is a resident of Cyprus. If the tax withheld is not paid to the Tax Authorities on time, the tenant will be liable and not the landlord (since it is the party which is in possession of the tax withheld).

8. Capital Duty on share capital increases

Very often a need arises for the initial investment in to a Cyprus company to be increased. Formalising the whole increase in investment as share capital can find the Cyprus company facing a Capital Duty of 0.6%, imposed on increase of authorised share capital.

9. Keeping proper books and records

With the implementation of some new tax laws as from 2011 time limits are imposed for issuing of invoices upon provision of goods or services, and for updating books and records after each transaction. These changes reemphasize the need for top quality services in relation to the daily management, record keeping and tax administration and compliance of companies in order to ensure that the new requirements are met and penalties and other unfortunate consequences are avoided.

10. VAT implications

As from 1 January 2010, following the implementation of the new EU VAT Directive, even holding companies can be liable to VAT for services received from abroad if their activities are not restricted to pure holding ones. Not realising this at an early stage can entail significant penalties and interest both for late registration and late filing of the returns but most importantly for not paying any VAT liability.

The purpose of this article is not to create a gloomy picture about Cyprus, but to highlight some issues, which if not considered in advance, can create problems and costs which could be saved later on. What is important to stress is that solutions exist for all those issues and indeed in some cases in multitude. But as it is easy to realise, it is not possible to advice how to best deal with or even to avoid falling in to the trap of any of the above mentioned areas in this article. Such an advice can only be provided after thorough examination of the specific facts of each case using the knowledge and experience of the professional advisor and sometimes even requesting an advance opinion (ruling) from the relevant authorities. We are at your entire disposal to discuss any case you have in mind.

George Savvides
Partner
george.savvides@fiducenter.com.cy
www.fiducenter.com.cy
Phone: + 357 25 50 40 00
Fax: + 357 25 50 41 00

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