Tax Newsletter | Issue No. 1, March 2014 | 1 Tax Newsletter Issue No. 1, March 2014 TAX NEWS 1. DOUBLE TAXATION TREATIES Over the last number of months, five new Double Taxation Treaties (“DTT”) have come into effect. The agreements are with Estonia, Finland, Portugal, Spain and Ukraine. The first four are entirely new agreements, extending Cyprus' network of DTTs, and the agreement with Ukraine replaces the agreement between Cyprus and the USSR, which had been adopted by Cyprus and Ukraine following the dissolution of the USSR. All the new agreements follow the OECD Model Convention. A new Double Tax Treaty has been signed with Norway. In addition treaties with Kuwait and United Arab Emirates are awaiting ratification and the revised or new treaties with Luxembourg, Bahrain, Georgia, Monaco, Latvia, Lithuania and South Africa are pending signature. Furthermore negotiations are in progress for concluding new treaties with The Netherlands, Switzerland, Israel, Indonesia, Libya and Malaysia. Finally, in an effort to bring existing treaties in line with the latest OECD guidelines and other requirements, negotiations for revision of treaties are in progress with India, Serbia, Belgium, France, and Greece. All of these developments should be seen as welcome steps to reinforce Cyprus position as a reputable financial centre in Europe. We shall now examine some of the salient provisions of these new treaties. Cyprus-Ukraine The new DTT replaced the old Cyprus-USSR DTT which was applicable between the two countries and most of the CIS states for that matter that emerged after the dissolution of the USSR. The main provisions of the DTT are as follows: Dividends are taxed at source at the rate of 5% if the beneficial owner holds at least 20% of the capital of the company or has invested in the company an equivalent of at least EUR100,000. If the above are not met the dividend will be subject to a 15% withholding tax; Tax Newsletter | Issue No. 1, March 2014 | 2 The general principle regarding interest is that it is taxed in the contracting state where the beneficial owner of the interest is resident. It may also be taxed in the contracting state from where it is paid, however that will not exceed 2% where the beneficial owner is resident in the other contracting state. Royalties may be taxed at source at the rate of 5% if paid under a license agreement in respect of any copyright of scientific work, patent, trade mark, secret formula, process or information concerning industrial, commercial or scientific experience or at the rate of 10% in the case of literary work, films and all other cases. Capital gains from a sale of shares (including capital gains on disposal of shares in companies that own immovable property) are taxed in the country of residence of the seller. In light of the exemption in Cyprus from taxation of capital gains or profits resulting from a sale of shares, shares in Ukrainian companies (including shares representing immovable property in the Ukraine) may continue to be sold without any tax consequences. The exchange of information provisions replicate article art. 26 of the OECD Model Tax Treaty and are supplemented by a Protocol which lists the information any request should be accompanied by. It should be noted that any withholding tax paid in Ukraine will be credited against the corporate income tax liability in Cyprus. Additionally the new provisions require that the beneficial owner and not the recipient of the income be resident of the other contracting state in order to qualify for the reduced rates of withholding tax. The concept of beneficial ownership (which has appeared in the OECD Model Treaty since 1977) is important in the context of DTTs going forward and so needs to be clearly understood. It is clear that beneficial ownership here does not have the meaning as understood under trust law but rather refers to the full privilege to enjoy directly the benefit of the income. The de facto and de jure arrangements will have to be looked at, but if the recipient is under some obligation to pass on the income it will not be considered the beneficial owner. Cyprus –Estonia The Double Taxation Treaty with Estonia (the “Estonian DTT”) was signed on 15th October 2012. Following the demise of the Soviet Union the former Cyprus-USSR DTT was not applied by Estonia. In this respect, the Estonian DTT which was signed on 15 October, 2012, is the first DTT ever concluded between the two states. The Estonian DTT came into force on 1st January, 2014. Tax Newsletter | Issue No. 1, March 2014 | 3 In summary, dividends, interest or royalties paid by a company that is a resident of one country to a resident of the other will be taxable only in the latter country. Thus the withholding taxes under the Estonian DTT are as follows: (a) Dividends: Nil. (b) Interest: Nil. (c) Royalties: Nil. Capital gains derived by a resident of one country may be taxed in the country in which the property concerned is situated where it relates to: the disposal of immovable property situated in the other country; the disposal of shares or comparable interests deriving more than 50% of their value from immovable property situated in the other country; or movable property forming part of the business property of a permanent establishment which an enterprise of one country has in the other. All other gains may be taxed only in the country of residence of the person or company making the disposal. Elimination Method Double taxation will be eliminated in Cyprus by allowing credit against Cyprus tax payable for any Estonian tax paid. The credit cannot exceed the Cyprus tax payable in respect of the income concerned. In Estonia, double taxation will be eliminated by exemption from Estonian tax of any income which has been taxed in Cyprus. However, any such exempt income may be taken into account in calculating Estonian tax on the taxpayer's other income. Exchange of information The article of the Cyprus-Estonia agreement dealing with exchange of information reproduces the corresponding article of the OECD Model Treaty verbatim. It also permits the use of information received by a contracting state for purposes beyond the assessment of tax, subject to this being legal under the laws of both states and subject to the consent of the competent authority of the state providing the information. A protocol to the agreement requires the country making the request for information to provide further particulars in order to demonstrate the foreseeable relevance of the information requested, including: Tax Newsletter | Issue No. 1, March 2014 | 4 the identity of the person under examination; details of the information requested and the form and manner in which the requesting state wishes to receive it; the tax purpose for requesting the information; the reason for believing that the requested information is held by the tax authorities to whom the request is addressed, or is in the possession or under the control of a person within their jurisdiction; the name and address of any person who may hold the information requested, if known; a declaration that the provision of such information is in accordance with the legislation and the administrative practices of the requesting state (where the requested information is found within the jurisdiction of the state in question, the relevant authority may obtain the information according to its laws and according to the terms of its ordinary administrative practices); and proof that the requesting state has exhausted all practical means available in its own territory to obtain the information. These requirements effectively rule out fishing expeditions based merely on suspicion. Cyprus-Portugal The Double Taxation Treaty with Portugal (the “Portuguese DTT”) was signed on the 19th November, 2012, it entered into force on 1st January, 2014. The entry into force of this DTT formalizes the tax relations between Cyprus and Portugal, which currently has more than 80 countries on its "blacklist", denying its residents certain benefits of the Portuguese tax system. Cyprus was removed from Portugal's "black list" in 2011. The Portuguese DTT mirrors the latest OECD Model agreement providing for a maximum withholding tax rate of 10% on dividends, interest and royalties. The above mentioned rates can be eliminated as a result of Portuguese tax legislation transposing relevant EU directives. Cypriot tax laws do not withhold tax on dividends and interest paid to non-residents and no tax is withheld when the royalty will be used outside Cyprus. On the other hand, if the royalty will be used in Cyprus, the relevant withholding tax can be eliminated pursuant to the EU Interest and Royalties Directive. The Protocol to the agreement provides protection against any abuse of the exchange of information provisions. When requesting information from the tax authorities of the one country to the other, following documents should be accompanied: Tax Newsletter | Issue No. 1, March 2014 | 5 information proving the relevance of the requested information; a statement that the request is in accordance with the law of the contracting state requesting it; confirmation that if the requested information was within the jurisdiction of that contracting state then the competent authority would be able to obtain the information under the laws of the a statement that the contracting state making the request has exhausted all available means in its own state to obtain the information. Cyprus-Spain The Double Taxation Treaty with Spain (the “Spanish DTT”), was signed on 14th February 2013 and it takes effect from 1st January, 2014 and it is the first DTT ever concluded between the two states. In summary, the terms of the double tax treaty state that interest and royalty payments will not be subject to any withholding tax. Dividend payments will be subject to a 5% withholding tax except in cases where the beneficial owner is a company (not a partnership) which holds at least 10% of the capital of the company paying the dividend, then 0% withholding tax would apply. In all cases however, application of EU Directives (i.e. Parent-Subsidiary Directive) may be applicable and provide more advantageous results. Furthermore, capital gains from the direct sale of shares in companies which earn more than 50% of their income from immovable property will be subject to taxation in the country where the immovable property is located. In all other cases, capital gains earned from the disposal of shares will be subject to tax in the country of the seller. The Spanish DTT includes an OECD standard clause stipulating an exchange of information provision, which will result in more collaboration between the fiscal authorities of each jurisdiction. In addition, the definition of a permanent establishment has been included which is in line with the OECD model and states that any building site , construction project, installation project or supervisory activities in connection with such site or project, constitutes a permanent establishment only if it lasts more than 12 months. Cyprus- Finland The Double Taxation Treaty with Finland (the “Finnish DTT”), was signed on 15th November, 2012 and it is the first DTT ever concluded between the two states. The Finnish DTT came into force on 1st January, 2014. In summary, the withholding taxes under the Finnish DTT are as follows: Tax Newsletter | Issue No. 1, March 2014 | 6 Dividend payments will be subject to a withholding tax of 5% if recipient: (a) is the beneficial owner of the dividends, AND (b) is a company, AND (c) has a direct control of at least 10% of voting power of the company paying the dividends. Otherwise dividend payments are subject to a 15% withholding tax. No withholding tax is imposed on Interest and royalty payments, provided that recipient is the beneficial owner of the interest or royalties. Capital gains from the sale of shares in companies whose assets consist by more than one half of immovable property will be taxed in the country in which the property is situated. The Treaty contains no "Limitation of Benefits" clause. The new Cyprus-Latvia DTT Negotiations between the governments of Cyprus and Latvia on a new double taxation agreement, which began in 2006, appear to be reaching the final stages. The Latvian authorities have now published the text of the final draft agreement, which requires the approval of the Latvian Cabinet of Ministers before signature. After signature it will need to be ratified by both countries before taking effect. The agreement closely follows the form of the latest OECD Model Convention. Withholding taxes Dividends, interest and royalties paid by a company resident in one contracting state to a resident of the other are subject to zero withholding tax in the contracting state from which they originate as long as the beneficial owner of the dividend, interest or royalty (as the case may be) is a company (but not a partnership) resident in the second contracting state. If this is not the case, tax payable in the first contracting state is limited to 10 per cent of the gross amount in the case of dividends and interest and 5 per cent of the gross amount in the case of royalties. As both countries are EU members, the Interest and Royalties Directive and the Parent Subsidiary Directive will also be relevant. Capital gains Income or gains derived by a resident of one contracting state from the alienation of immovable property situated in the other contracting state may be taxed in the contracting state in which the property is situated. Gains on disposal of shares or similar interests in a company or other entity deriving more than 50 per cent of its value from immovable property may also be taxed in the contracting state in which the immovable property is situated. Tax Newsletter | Issue No. 1, March 2014 | 7 Gains from the disposal of immovable or movable property associated with a permanent establishment may be taxed in the contracting state in which the permanent establishment is located. Gains derived from the alienation of all other property (including ships or aircraft operated in international traffic) are taxable only in the contracting state in which the alienator is resident. Offshore activities The draft agreement with Latvia is the first of Cyprus’s agreements to include an article dealing specifically with offshore activities reflecting its newly-discovered energy resources. Article 21 provides that a resident of one contracting state undertaking activities offshore in the other contracting state for more than 30 days in any 12 month period in connection with the exploration or exploitation of the seabed or subsoil or their natural resources is deemed to be carrying on business in that other contracting state through a permanent establishment. Profits from offshore supply and transport operations in connection with the exploration or exploitation of the seabed or subsoil or their natural resources of a contracting state are taxable only in that contracting state. Salaries, wages and the like earned by a resident of one contracting state from employment in the offshore zone of the other contracting state are taxable in the contracting state in which the activities are carried out. However, if the employer is not resident in the contracting state in which the activities take place, and the employment is for less than 30 days in any 12 month period, the remuneration is taxable only in the contracting state in which the individual is resident. Salaries, wages and similar remuneration derived from employment aboard ships or aircraft engaged in offshore supply and similar activities are taxable in the contracting state in which the individual is resident. Gains derived by a resident of one contracting state from: the alienation of exploration or exploitation rights; or property situated in the other contracting state and used in connection with the exploration or exploitation of the seabed or subsoil or their natural resources situated in the second contracting state; or shares deriving their value or the greater part of their value directly or indirectly from such rights or such property, Tax Newsletter | Issue No. 1, March 2014 | 8 may be taxed in the second contracting state. Exchange of information The exchange of information article reproduces article 26 of the OECD Model Convention verbatim. Cyprus’s Assessment and Collection of Taxes Law provides robust safeguards against abuse of any exchange of information provisions. Requests for exchange of information are dealt with solely by the International Tax Relations Unit (“ITRU”) of the Department of Inland Revenue. Exchange of information may take place only via the ITRU: direct informal exchange of information between tax officers bypassing the competent authority is prohibited. A request must be much more than a brief email containing the name and identifying information of the individual concerned. Rather, a detailed case must be made, with the criteria set out in a lengthy legal document. In effect, this means that the authorities requesting the information must already have a strong case even before they request the information. Accordingly, it will not be possible to follow up a suspicion without first gathering significant evidence. As a final safeguard, Cyprus's Assessment and Collection of Taxes Law requires the written consent of the Attorney General to be obtained before any information is released to an overseas tax authority. In the meantime, although there is no agreement in existence, the Cyprus tax authorities will doubtless follow their normal practice of allowing unilateral relief for Latvian taxes paid. The new Cyprus-Norway DTT a new Double Taxation Treaty with Norway (the “Norwegian DTT”), was signed on 24th February, 2014. The Norwegian DTT, when it enters into force, will replace the 1951 double tax agreement between Norway and the United Kingdom, which was extended in 1955 to include several British colonies, including Cyprus. The new agreement is based on the OECD Model and provides for the exchange of information in accordance with the relevant articles of the Model. It will take effect once it has been ratified by both countries. Tax Newsletter | Issue No. 1, March 2014 | 9 2. TAX CHANGES EFFECTIVE FROM 1st JANUARY, 2014 Special Contribution for Defence on Dividends With effect from 1 January 2014 the Special Contribution for Defence on dividends paid to Cyprus tax resident individuals has been reduced from 20% to 17%. Increase in VAT Rates According to article 17 of VAT Law and subsequent amendment Article 2 of 167(I)/2012 of 6.12.2012, VAT rates have been increased as of 13.01.2014 as follows: • Increase of the standard VAT rate from 18% to 19% (article 17), • Increase of lower VAT rate from 8% to 9% (article 18A). In accordance with the Commissioner’s notification, persons affected should carry out a stockcount after the close of business on the date prior to the change of rates and maintain the stockcount for a period of 6 years. Tax Newsletter | Issue No. 1, March 2014 | 10 3. CySEC CIRCULAR ON TAX EVASION The Cyprus Securities and Exchange Commission (“CySEC”), in its capacity as the regulator of investment firms, management companies and administrative services providers, released a circular on February 3, 2014 addressed to the abovementioned entities (the “Regulated Entities”) drawing their attention to their obligations under the anti-money laundering legislation regarding tax offences committed by clients of the Regulated Entities. The recommendation under the circular are based on article 3(4) of the European Commission's Proposal on the prevention of use of the financial system for the purpose of money laundering and terrorist financing, which states that "criminal activity" means any kind of criminal involvement in the commission of the following serious crimes: … (f) all offences, including tax crimes, as defined in national law of the Member States, related to direct taxes and indirect taxes, which are punishable by deprivation of liberty or a detention order for a maximum of more than one year or, as regards those States which have a minimum threshold for offences in their legal system, all offences punishable by deprivation of liberty or a detention order for a minimum of more than six months; Section 51A of the Assessment and Collection of Taxes Law, as amended, provides that any person who is proven to have fraudulently omitted or delayed to pay the amount of tax which is required to pay under the law, is guilty of a criminal offence, punishable if convicted with imprisonment of at least one year. Additionally, according to Section 5 of the Prevention and Suppression of Money Laundering and Terrorist Financing Laws of 2007 – 2013 (‘the Law’), predicate offences are, amongst other, all criminal offences punishable with imprisonment exceeding one year, as a result of which proceeds have been derived which may constitute the subject of a money laundering offence. Accordingly fraudulent tax evasion constitutes a predicate offence under the Prevention and Suppression of Money Laundering and Terrorist Financing Laws of 2007-2013. Thus Regulated Entities have to implement adequate systems to identify, prevent and deter suspicious transaction activity. They are also expected to apply due diligence measures to ensure that their clients are screened against databases or some third party checks related to tax-related news. Regulated Entities are not expected to determine if their clients are fully compliant with all their tax obligations globally. They are, however, expected to determine whether there are reasonable grounds to suspect that client accounts contain proceeds derived from serious tax offences and when such is the case, they should proceed with the appropriate reporting obligations. Tax Newsletter | Issue No. 1, March 2014 | 11 The second part of the press release raises a lot of questions: according to CySEC regulated entities have to monitor their relationship with their clients to ensure that deposited amounts in the account are similar to the ones that the client has indicated during account opening and the economic profile of the customer. Considering the fact that usually clients themselves are filling the forms used to obtain such information by financial services companies, this procedure is not guaranteed to accomplish anything. We are not of the opinion that companies have to be completely ignorant about what the client declares, however it would take an excessive amount of effort to obtain relevant information about every customer especially for countries outside the EU. Tax Transparency Standard The efforts at the EU and global level to fight against tax evasion and improve tax transparency worldwide continue unabated at the meetings of G20 finance ministers and central bank governors on February 22-23 in Sydney, the commitment to a global response to Base Erosion and Profit Shifting (BEPS) based on sound tax policy principles was reaffirmed. They further reiterated that profits should be taxed where economic activities deriving the profits are performed and where value is created. The BEPS Action Plan of G20/OECD was fully supported. Decisions were also taken on the Common Reporting Standard for automatic exchange of tax information and implementation plans will be agreed by September 2014. In addition: G20 members will begin automatic exchange of information on tax matters by end of 2015; those jurisdictions that are in a position to do so should adopt the Common Reporting Standard; signature of the Multilateral Convention on Mutual Administrative Assistance in Tax Matters without further delay by those jurisdictions who have not signed, Cyprus has not yet signed or made any declarations regarding the convention. It is likely that as the EU is also championing the Common Reporting Standard that pressure will be bought to bear on Cyprus to sign and implement the convention. EU Saving Tax Directive Whilst this will be considered in other newsletters it is of interest to mention that although this was a priority item for the EU Commission in its steps in fighting tax fraud and evasion, the draft directive has not yet been adopted, although it was to be adopted by end of 2013. It is likely however that it will be adopted within the coming months.