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Amendments to the Double Tax Treaty between Cyprus and Russia signify a change ahead
The initialisation of the Protocol to the Double Tax Treaty between Cyprus and Russia on 16th April 2009 brought about significant changes to the Limitation of Benefits, Exchange of Information and Capital Gains articles.
Limitation of Benefits (LoB)
One of the major changes is the inclusion of the LoB article into the Treaty which extensively provides for tax benefits refusal. In those instances a resident of a Contracting State, whose creation or existence aims at obtaining tax treaty benefits, may not be granted.
The newly introduced Article 29 provides for grounds of tax treaty benefit refusal i.e. tax exemption or reduction. The ultimate purpose of this Article inclusion is to prevent any potential treaty abuses from existing or newly incorporated companies whose purpose is to obtain the tax benefits granted by the Treaty.
An additional clause stipulates that such a provision does not apply to companies "registered" in a Contracting State. It appears that the intention of the signatories was to exclude from the scope of the LoB clause companies incorporated in Russia or in Cyprus. However, it is not clear whether the present wording of the Protocol would prevent the competent authorities of Russia from denying tax treaty benefits in respect of a Cypriot incorporated company, provided that other conditions for application of LoB clause met, i.e. absence of other purpose of creation or maintenance of the company than obtaining tax treaty benefits.
It is important to note that the article does not explicitly state that the mutual consent of both countries' competent authorities concerning the non-application of tax treaty benefits is required. It is not clear at this stage whether the Russian competent authorities will consider themselves bound by the opinion of the Cypriot competent authorities or whether they would regard themselves authorised to decide on non-applications of tax treaty benefits independently. Putting the concept of unjustified tax benefits and business purpose into practice effectively will be of significant importance for the Russian competent authorities when making the decision on possible non-application of the Treaty provisions to companies.
There are no specific restrictions in respect of the application of this LoB article to existing structures, therefore they could be tested under the LoB clause as soon as it is enforced.
Exchange of information
The new article 26 based on exchange of information between the competent authorities of the Contracting States contains the following new provisions:
Information exchange can be extended not only to taxes covered by the tax Treaty, but also with regard to any other indirect taxes (e.g. VAT)
Banking secrecy can not form grounds for refusal to exchange information with a competent authority of the other state
The fact that the required information is not necessary or valuable for the purposes of collecting taxes for a competent authority (e.g. due to tax exemption to corresponding income in the given country) can not serve as grounds for refusal to exchange the information with a competent authority of the other state.
Taxation of capital gains from the sale of shares in a real estate company
One of the major developments of this Protocol initialisation from both Russian and Cyprus point of views is the amendments of taxation of capital gains. The article on taxation of capital gains is amended to include the provision that gains deriving from the alienation of shares of those companies deriving more than 50% of their value from immovable property located in Russia, can be taxed in Russia accordingly.
This provision shall not take immediate effect as from the actual application date but in the calendar year following a four year period from the enforcement date of the Protocol. This provision is not applicable to gains from the alienation of shares undertaken due to a corporate reorganisation or where shares have been listed on a recognised stock exchange.
That said, the new Limitation of Benefits (LoB) article would become applicable before the four year term, so solutions involving the alienation of shares in companies holding Russian real estate could be tested earlier under the LoB provisions.
Removal of Cyprus from Russian blacklist
Russia agreed upon the removal of Cyprus from the Russian blacklist once the Protocol comes into force. As a result dividends distributed by Cypriot subsidiaries shall be eligible to qualify for the dividend participation exemption in Russia, provided that other conditions are met.
The Protocol is a comprehensive 9 page document amending a number of key articles of the Double Tax Treaty. This draft is expected to be finalised and signed by the end of this year. At this time it is anticipated that Cyprus will be excluded from the Russian black list of non-cooperative tax jurisdictions.
Clearly a large number of currently incorporated Russian-Cypriot cross-border tax structures may need to revise their current structures due to the upcoming Treaty changes. Real estate companies should be seeking advice now to plan their future restructuring carefully. To find out more your global Taxand real estate tax team is here to help. Either contact your nearest Taxand real estate tax advisor or our Russian or Cypriot experts for in-depth local insight:
T. + 7 495 967 0007
T. + 7 495 967 0007
T. + 357 22 699 222
T. + 357 22 699 222