The Cyprus government has recently passed a number of amendments to its tax laws, which considerably enhance the competitiveness of the Cyprus tax system. The changes are some of the most significant since the introduction of the Cyprus tax regime in 2003.
The amendments promote direct foreign investment by increasing the attractiveness of equity as an alternative to debt financing for companies.
In addition, the changes aim to encourage high-earners and high-net-worth individuals to relocate to Cyprus by introducing the non-domiciled resident status into the Cyprus tax legislation.
Below is an overview of the most relevant amendments.
Corporate income tax law- allowable tax deduction on corporate equity
This amendment aims to encourage the introduction of new equity (shares and share premium) into a Cyprus company by attaching an annual allowable tax deduction to the new equity. This change removes any distortions, from a tax perspective, between equity and debt finance, as both are now entitled to a tax deduction. The tax deduction, called a Notional Interest Deduction ('NID'), will be calculated by applying a 'reference interest rate' to the value of the 'new equity', both defined below:
- 'Reference interest rate' is the yield on 10-year government bonds (as at 31 December of the prior tax year) in the country where the new equity is invested, plus a premium of 3%. The minimum interest rate is the effective interest earned on 10-year bonds of the government of Cyprus plus 3%.
- 'New equity' is any equity introduced into the business on or after 1 January 2015, in the form of fully paid-up share capital or share premium. Such equity may be contributed in the form of cash or assets in kind. In the case of assets in kind, the value of eligible equity may not exceed the market value of the assets.
The NID is tax deductible in a similar manner to actual interest expense, and is therefore subject to the same limitation rules. In addition, NID cannot exceed 80% of the taxable profits of the company, cannot form part of a company's carry forward tax losses, and will only be available to one Cyprus company in cases where a Cyprus holding company holds a Cyprus subsidiary.
The legislation includes some anti-abuse provisions which, among others, focus on non-classification as new equity if it 1) derives from equity and/or reserves held prior to 31 December 2014, 2) is a result of a corporate reorganisation, or 3) originates from the revaluation of assets.
The law came into effect on 1 January 2015.
Personal income tax law- non-domicile rules – exemption from taxation for personal investment income (dividends and interest)
Prior to this amendment, Cyprus tax-resident individuals (those who spent at least 184 days in Cyprus every tax year), earning Cyprus or foreign-sourced income in the form of dividends, rents or passive interest were subject to Cyprus Special Defence Contribution ('SDC').
With the introduction of the non-domicile rules, a Cyprus tax-resident individual who is not domiciled in Cyprus is no longer subject to SDC on these categories of income.
Combined with the income tax exemptions that exist for passive interest and dividend income, this means that eligible non-domiciled residents would receive these categories of income without any taxes being applied in Cyprus. Rental income would continue to be taxed under personal income tax.
The term 'domiciled in Cyprus' is defined in the law as either:
1. An individual who has a Cypriot domicile of origin in accordance with the Wills and Succession Law, with the exemption of:
(i) An individual who has acquired and maintains a domicile of choice outside of Cyprus, pursuant to the provision of the Wills and Succession Law, and such individual was not a Cyprus tax resident for a period of at least 20 consecutive years prior to the tax year of assessment
The non-domiciled resident rules came into effect on 17 July 2015.
Future developments
A number of additional bills amending the tax legislation in Cyprus have been submitted to Parliament for review and approval, and are expected to be adopted later this year. These include, among others, the following:
1. Foreign exchanges differences, whether realised or unrealised, will be treated as neither taxable or tax deductible, with the exemption of those generated from trading in foreign currencies or currency derivatives.
2. Group loss relief provisions will be harmonised with a recent decision of the European Court of Justice, creating the possibility of group relief between a Cyprus company and an EU group company.
3. An extension of the 50% exemption from 5 to 10 years for employment income in excess of EUR100,000 per annum.
4. An extension of the arm's length principle to include arm's length downwards adjustments.
5. Accelerated tax depreciation to be made available on industrial buildings, hotels, and plant and machinery acquired until end of 2016.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
