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Expenses: Interest and Deductibility
In computing the taxable income of a company it is essential to understand the scope of allowable deductions. In Cyprus, expenses incurred wholly and exclusively for the production of income are treated as deductible expenditures according to the Cyprus Income Tax Law. Cypriot legislation is known to be favourable. Therefore it is fairly common for companies, both local and international, to include interest payments as part of their expenditure. Taxand Cyprus questions whether or not such interest payments qualify as deductible expenses that may minimise the taxable base of a company.
On 6 July 2010 the Cypriot Inland Revenue Department provided further clarification on the application of the legislation to situations in which interest is not deductible for tax purposes due to the restrictive provisions imposed under section 11 of the Income Tax Law.
The Law clearly stipulates that deductible expenses include any amount of interest relating to the acquisition of assets used for business purposes. However, the Law also provides express limitations on the deductibility of expenses. In particular, it states that non-deductible expenses include expenses that were not solely and exclusively incurred for the production of income, as well as any interest allocated or deemed to be allocated to either the purchase of private motor vehicles, regardless of whether such vehicles were used for business purposes, or any other assets not used for business purposes. The latter limitation does not apply after the lapse of a seven-year period commencing from the date of acquisition of the asset in question.
In line with the Law, Circular 2010/08 provides the necessary clarifications for a uniform application of the Law, especially in cases where the apportionment of deductible and non-deductible interest expenses is essential. Interest attributed to private motor vehicles (i.e., vehicles whose ownership titles prescribe that they are intended for private use) and other assets not used for business purposes including investments in shares of public or private companies, land and buildings, leisure boats and works of art, are subject to the provisions of section 11(15) and hence not deductible for tax purposes.
Interest deriving from titles or other securities in the form of bonds and debentures do not fall within the scope of section 11(15) of the Law. However, interest deriving from related party dealings within the arm's length principle shall have application in line with Section 33 of the Law. Interest attributed to tax free income is equally non-deductible, as is interest payable by inactive corporations.
Exemptions to the limitation clause in relation to Section 11(15) of the Law are also expressly provided for in the Circular, and include interest connected to the acquisition of shares or other company assets by the company, with the exception of private motor vehicles, under specific conditions. Interest payments in relation to established back-to-back loans, whether between related or unrelated companies are also exempt from the limitation clause of Section 11(15), conditional upon the timing between receipt and assignment of the loans not exceeding six months, or as the Commissioner of Inland Revenue may otherwise determine and consent upon in specific cases justifying a different treatment.
The Circular incorporates guidelines on the computation of non-deductible interest and the cost of borrowing.
The clarifications provided by the Inland Revenue Department provide guidelines which will finally minimise conflicts between Companies and the authorities that arose due to gaps in the interpretation of the legislation. Ultimately, this will lead to a smoother application of the Law in practice and to a better level of cooperation between the authorities and the business community.
Your Taxand contact for further queries is:
T. +357 22 699 222