The global trend of tax jurisdictions and the recent international court cases, demonstrate the necessity to ensure that there is no discrepancy between the form and substance and the effective management and control from the specific jurisdiction as claimed. Moreover, the latest developments for the international exchange of information between tax authorities of different jurisdictions make the issue of substance even more challenging.

The absence of economic substance can provide a challenge in respect of a company’s Cyprus tax residency and also an alarm for abusive tax avoidance.  Such, might result in tax exposure in other jurisdictions as well as denial of double tax treaty and EU Parent-Subsidiary benefits.

Upon the regulation of OECD model convention, a company may qualify for tax treaty benefits if the following criteria (normally contained in tax treaties) are met:

1. The company is a tax resident of the State it is registered in; and
2. The company is the “beneficial owner” of the income distribution (i.e. dividends, interest, royalties).

Cyprus Tax Residency and Benefits

 

Cyprus Tax Residency establishes that the entity will be subject to Cyprus tax law and to tax benefits arising from the Cyprus double tax treaty network.

Cyprus tax residents can take advantage of reliefs and other benefits emanating from tax treaties signed by Cyprus with other countries. The main benefit of a tax treaty is the avoidance of double taxation on income earned. Other significant objectives of the tax treaties include the reduction of source country withholding rates on passive income such as interest, dividends and royalties, prevention of tax evasion on income and capital gains, tax administration cooperation, encourage cross-border trade and providing a mechanism for resolving tax disputes between the treaty countries.

Substance is an important concept of international tax planning. Despite its importance, substance has not been addressed in double tax treaties but is used in combination with the concepts of residence and beneficial ownership. Therefore, the notion of substance in a foreign jurisdiction can be open for interpretation.

Criteria for determining Cyprus Tax Residency

Tax resident of Cyprus is classified the company that its “management and control” is exercised in the Republic.

Cyprus adopts the OECD Model Tax Convention and its Commentaries to interpret the ‘management and control’. The place of effective management According to OECD definition, the place of effective management is the place where key management decisions and commercial decisions that are necessary for the conduct of the entity’s business are in substance made.

 

The entity should be able to support that “Effective management” is carried out in Cyprus. The tax authorities will examine that the company is having its majority of board members, statutory seat and board meetings in Cyprus to be considered to be managed and controlled in Cyprus. Tax residency of a Cyprus incorporated company can be challenged that the entity is effectively managed and controlled from abroad (eg from the country of residence of the shareholders), if the above are not met. A loss of fiscal residency in the country of residence (i.e. Cyprus), will mean taxation of another jurisdiction and a loss of double tax treaty benefits.

 

Substance Requirements

It is of utmost importance that each company will review its structure and management and operations to be re assessed on the basis of the tax rules of Cyprus and other jurisdictions, if applicable.

There are minimum requirements for the company to be considered as a Cyprus Tax resident company. It may include, but is not necessarily limited to, any of the following:

Board of Directors. The majority of the members to be Cyprus tax residents. Top managers of the company should be in a position to exercise the management function in full.

Board meetings should be held in Cyprus for all major decisions concerning the management and control of the company and its investments. Documentation is important. At least one board meeting should be held every year at which all directors (resident and non-resident) should be physically present.

Memorandum and Articles of Association of the company should be drafted in a way to eliminate the risk of being viewed as having a taxable presence in another jurisdiction

Record Keeping: Archiving books and records like minutes, company seal and share register should be kept in the Cyprus office.

Accounting Function: Bookkeeping and all financial transactions of the company should be prepared and kept in Cyprus. This includes the issue of invoices and receipts, the execution of documentation, and the carrying out of reporting and statutory requirements. Bookkeeping, preparing of management accounts, financial reports and financial statements in line with the IFRS should be performed in Cyprus. The accounts should be audited in Cyprus and their discussion and approval should take place in Cyprus.

Staff and Office Space: the company should employ staff according to company’s activities with physical presence in Cyprus and social insurance contributions in Cyprus. A full-fleshed office with facilities of telephone – internet and the like should be maintained.

Banking: a corporate account to be kept in Cyprus (irrespective if there are other bank accounts abroad). Bank signatories being based in Cyprus and local expenses are paid from this account.

Corporate ID formation like domain, company website, company logo and company stationery

Conclusion

Overall, it is prudent to guard against challenges of the structure. In the event of a residency dispute under a double tax treaty, substance may be instrumental in allocating a taxpayer the desired treaty benefits; without adequate substance, a taxpayer may be deemed as tax resident in another jurisdiction from that originally planned and subject to tax in accordance thereto.

It is advisable for companies to undertake a diagnostic review of the tax risks of the current structure and implement any restructuring requirements.

Cyprus is offering many economic and benefits to companies deciding to locate regional offices in the island. This coupled with Cyprus’s strategic location, EU membership, low operational costs and high quality of life could turn to be an effective management decision.

 

What F.C.I can do for you?

Our firm can assist you in reassessing current structure and operations, pin point an deficiencies and provide recommendations.

F.C.I. Ltd can provide comprehensive assistance in establishing a fully fledge office in Cyprus from finding premises and hiring, obtaining work and residence permits, setting up the accounting and other functions.

Please do not hesitate to contact us: email: info@fci.com.cy   Tel: 22673800

 

The content of this article is for general guidance only.