On 15 February 2016, the Russian President signed Federal Law No. 32-FZ (the “Law”) introducing a series of amendments aimed at removing some ambiguities and uncertainties in the Russian legislation on controlled foreign companies (the “CFCs”), as well as minimising the negative tax consequences of some of these rules for good faith taxpayers. Most of the amendments provided by the Law amount to technical improvements. Nevertheless, there are some substantive changes that are expected to have a “de-offshorising” effect by enhancing the repatriation of funds and prompting more Russian taxpayers to declare their participation in CFCs.
Russian CFC legislation entered into force on 1 January 2015 (as previously reported here and here) and quickly gave rise to intense debate in the business community. It was in fact clear at the time of its adoption that the CFC legislation contained a number of ambiguities and uncertainties leading to conflicting interpretations of certain statutory provisions. As such, the authorities were quick to announce that further amendments of the CFC legislation would be drafted in order to simplify its practical application and resolve a number of teething problems.
It has taken more than a year for these changes to be implemented. Most provisions of the Law came into effect upon its official publication on 17 February 2016.
Outline of the forthcoming key changes to the Russian CFC rules
Liberalisation of the rules on the calculation of a CFC’s profits
Under the current version of the Russian Tax Code (the “Tax Code”), profits earned by a CFC may be calculated based on the CFC’s financial statements prepared in accordance with domestic legislation when:
- the CFC is incorporated in a state which (i) has a double taxation treaty with Russia and (ii) is not included in the “black list” of states that do not exchange information with the Russian tax authorities (the “Black List”); or
- the relevant statements were subject to mandatory audit in the domestic jurisdiction.
The Law introduces an additional situation in which the CFC rules will apply for the calculation of profits, based on the CFC’s financial statements that have been subject to a voluntary audit. In all other cases, the profits of a CFC are to be calculated in accordance with Chapter 25 of the Tax Code.
The Black List may be adopted in the near future as, on 1 February 2016, the Russian Federal Tax Service published its latest draft of the list. Such “respectable” countries as Austria, Switzerland and the United Kingdom – which had initially been included in the draft – have been removed. Their initial inclusion had caused uproar in the business community. Exclusion of double taxation of dividends
The Tax Code currently allows taxing dividends distributed by a CFC even though the corresponding profits of the respective entity have already been taxed under Russian CFC legislation. The Law eliminates double taxation by excluding dividends from the tax base of controlling persons provided that supporting documentation confirming that the CFC’s undistributed profits have been taxed is submitted to the tax authorities.
Extension of the CFC liquidation deadline
As Russian CFC rules are aimed at encouraging the repatriation of profits to Russia, the Tax Code provides the owners of repatriated assets who liquidate their CFCs by 31 December 2016 with certain benefits. The Law extends by one year (to 31 December 2017) the deadline for the liquidation of CFCs for the purposes of claiming tax incentives, provided however that winding-up documents are submitted by the end of this year.
Other noteworthy amendments introduced by the Law include the following:
- the concept of “beneficial owner” has been extended to comprise unincorporated structures;
- the rules to determine the participation of controlling persons in cases of indirect participation through unincorporated structures have been clarified; and
- participations in foreign companies through Russian public companies have been excluded from the range of controlling persons.
Impact on business
The amendments brought by the Law are generally expected to make it easier for Russian taxpayers to comply with CFC rules. Also, in our view, parties who hold a relevant participation interest in a foreign company should actively review their existing tax structure in order to determine whether their participation interest may ultimately qualify as a CFC. If this is found to be the case, the parties should undertake appropriate risk-mitigation measures (such as a corporate reorganisation if possible and relevant), as well as ensure strict compliance with CFC notification and reporting requirements.
Russian CFC rules might be subject to further amendments over the course of this year as they may be affected by amendments expected in other related tax spheres, such as amnesty of capitals, the requirement for individuals to notify of bank accounts abroad and international cooperation in the field of tax information exchange.
The Tax Department of CMS, Russia would be pleased to share its practical experience in dealing with CFC matters. Please do not hesitate to contact CMS, Russia experts Dominique Tissot and Anastasia Prozor or your regular contact at CMS, Russia.