THE ADVANCED DIPLOMA IN INTERNATIONAL TAXATION
June 2018
MODULE 2.03 – CYPRUS OPTION
SUGGESTED SOLUTIONS
Module 2.03 – Cyprus option (June 2018)
PART A
Question 1
Part 1
Dr Giovanni did not spent more than 183 days in Cyprus during 2017 and so prima facie he is not a Cyprus tax resident for 2017.
However he did not spend more than 183 days in any single country and assuming the 183 day rule application in Italy, he was also not tax-resident of Italy or any other country.
As Dr Giovanni spent more than 60 days in Cyprus and as cumulatively he maintains a permanent home in Cyprus and also employed in Cyprus, then he could be treated as a tax resident of Cyprus for year 2017 and taxed on his worldwide income.
Part 2
Pension income from Italy
Per Art.18 OECD MC the residence State (Cyprus) has exclusive taxing rights. Dr Kit’s income taxed only in Cyprus with Dr Kit entitled to a tax refund from the Italian tax authorities.
Foreign pension income taxed under special mode in Cyprus if taxpayer so elects. Such income is not aggregated with other income and taxed at rates of 0% and 5%.
As Dr Kit’s income is substantial during 2017, he is advised to make the election.
Rental income from Italy
Subject to income tax. Not subject to SDC as Dr Giovanni is not Cyprus domiciled.
Tax paid in Italy will be relieved against Cyprus tax liabilities on the ordinary credit method (Art.23(b) OECD MC).
Salaried income from Cyprus
Subject to income tax in Cyprus. Employer has to deduct PAYE.
Gain on sale of medical practice in Italy (Goodwill). Gain treated as trading goodwill.
Forms part of Dr Giovanni’s taxable income in Cyprus as it arose during 2017. However it arose from a PE overseas. Taxed in Italy and exempt from Cyprus tax per s.36.
Bank deposit interest (Italy)
Specifically exempt from income tax in Cyprus. Not Subject to SDC @ 30% in Cyprus as Dr Giovanni is a non-dom.
Tax withheld in Italy may be possible to be refunded per Italian tax law.
Bank deposit interest (Cyprus)
Specifically exempt from income tax in Cyprus. Not Subject to SDC @ 30% in Cyprus as Dr Giovanni is a non-dom.
Dividends from Italian companies
Specifically exempt from income tax in Cyprus. Not subject to SDC @ 17% in Cyprus as Dr Giovanni is a non-dom.
Page 2 of 11 Module 2.03 – Cyprus option (June 2018)
Tax withheld in Italy may be possible to be refunded per Italian tax law.
Income from Sicilian tourist apartments
Characterised as business income. As business income arising from an overseas PE, it will be exempt from Cyprus income tax per s.36 Law 118/2002. As business income, outside SDC scope.
Gain from trade in European listed shares and bonds
Exempt from both income and capital gains tax as they are in the list of the ‘title’ definition
Part 3
Dr Giovanni – Income Tax Computation
€ Taxed under special mode:
Italian Pension 80,000
Income Tax (80.000-3400) at 5% Payable 3,830
Taxed under normal rates:
Rental income 20,000 Less: 20% statutory deduction -4,000 16,000
Trading goodwill 150,000 BDI - Italy 15,000 Salary 6,000 BDI - Cyprus 2,000 Dividends 200,000 Gains on fin. Instruments trading 350,000 Income from Sicilian apartments 30,000
Total income 769,000
Less: Exemptions and Deductions
Trading goodwill (s. 36) 150,000 BDI - Italy (s.8) 15,000 BDI - Cyprus (s.8) 2,000 Dividends (s.8) 200,000 Gains on fin. Instruments trading 350,000 Income from Sicilian apartments (s.36) 30,000 747,000
€ Taxable income 22,000
Taxation liability 1-19,500 at 0% 0 19,501-22,000 at 20% 500 500
Total tax payable for year 2017 4,330
Page 3 of 11 Module 2.03 – Cyprus option (June 2018)
Question 2
Part 1
Although BamaCo is incorporated in another jurisdiction, this tax-haven jurisdiction is unlikely to claim tax residency of the company due to its nature i.e. BamaCo seems to be managed and controlled in Cyprus and will be treated as a tax resident of Cyprus re: management and control test.
Management and control is not defined in Cyprus tax law but it is taken as meaning, the satisfaction of all of the following criteria:
Majority of directors resident in Cyprus Board meetings take place in Cyprus Strategic decisions are taken in Cyprus
The third above criterion may not be satisfied if Chris’s country of residence claims tax residency (discussed in part (b) below).
In the event that the country of incorporation claims the company’s residency, the tie-breaker rule in Art 4(3) OECD MC will be applied, according to which the ‘place of effective management’ of a company is the determining factor.
As the country of incorporation cannot prove the above factor, the company will be treated as a tax resident of Cyprus.
Failing the above tax residency analysis, ie the company is not determined as a tax resident of Cyprus, the fact that the company maintains a fully-fledged office in Cyprus, the latter will form a permanent establishment (PE), as it falls within the definition of both s.2 Law 118/2002 and Art 5(2) OECD MC. As such, profits attributable to this PE, will be taxed in Cyprus.
Analysis of operations
Terraland
BamaCo Inc. has a factory in this country. This falls within the definition of Art 5(2)(d) OECD MC, BUT need to examine if this will be excepted from the PE definition by virtue of Art 5(4).
Art 5(4) OECD MC, stipulates that if the use of facilities in Turkey are solely used:
(a) For storage, display or delivery of goods (not the case here) (b) To maintain stock solely for the purpose of storage, display or delivery (not the case here) (c) To maintain stock solely for processing by another enterprise (not the case here) (d) To purchase goods or collect information for the enterprise (not the case here) (e) Any other activity of preparatory or auxilary character (f) Any combination of the above activities of a preparatory or auxillary character
The issue to determine here therefore is as to whether the operation of the factory in Turkey is of a purely preparatory or auxillary purpose.
From the facts of the case, it cannot be inferred that BamaCo’s use of a factory in Turkey is not of a preparatory or auxillary purpose and as such the company will be treated as having a physical PE in Turkey, irrespective of the fact that sales and receipts are managed and administered from the Cyprus office. As such profits attributed to the operation in Turkey will be taxed there.
Qatar
Need to examine if distributors deemed as dependent agents in which case, BamaCo will be treated as having an agency PE in this country per Art 5(5) OECD MC.
Page 4 of 11 Module 2.03 – Cyprus option (June 2018)
The decisive factor in this case, is as to whether these distributors have any authority to negotiate and conclude contracts on behalf of BamaCo Ltd. If such authority exists, then they will be treated as dependent agents and accordingly profits attributable to their activities will be taxed in Qatar.
Malta
The warehouse in this country falls within the definition of a physical PE per Art 5(2) OECD MC. However its activities seem to also fall within the exceptions stipulated by Art 5(4) OECD MC as discussed above.
The warehouse cannot therefore form a PE in Malta and therefore Malta will have no taxing rights in respect of this activity. In relation to the JV agreement, this will have to be divided in its constituent parts.
The part of the contract (65%) that will be physically carried out in Malta will be deemed as attaching to a physical PE there re: use of premises in Malta and these part of the profits will be taxed in Malta.
The remaining part of the contract (35%) will be directly attributable to the Cyprus head office and its attributable profits therefore taxed in Cyprus.
Ukraine
Software programmers resident in this Country will not form a PE for the company in this Country, as their services are employed on a freelance basis. Accordingly, Ukraine has no taxing rights on the company.
Any Profits attributable to foreign PEs in other Countries will be exempt from taxation in Cyprus (s.36 Law 118/2002)
Part 2
Tax risks faced by Chris and BamaCo Ltd, depend on the tax residency provisions in the domestic legislation of Chris’s residence State.
Chris could be treated as a shadow director of SeyCo ltd as the Company’s board is acting/accustomed to act per Chris’s instructions (Wood V Holden).
Brief analysis of Wood V Holden.
As such, Chris’ residence State may claim BamaCo’s tax residence, as the company is not incorporated in Cyprus and may deem its profits as distributed to Chris (if such CFC provisions apply).
Page 5 of 11 Module 2.03 – Cyprus option (June 2018)
PART B
Question 3
Part 1
Dividend income from all companies (Cyprus and overseas) although taxable, is specifically exempt from taxation in Cyprus. Dividend income also exempt from SDC as Cyprus company holding of shares in overseas companies exceeds 1%.
Cyprus does not impose WHT on outbound dividends paid overseas, nor SDC on dividends paid to non-residents i.e. dividend to Liechtenstein Foundation not subject to any WHT or SDC. Royalty income from ITA Ltd is subject to corporate income tax after a deemed deduction of 80% of gross profit.
Interest received from all intercompany loans will be treated as active business income and subject to corporate income tax by reference to Cyp Holdings Ltd activities. In that case, such interest will be exempt from SDC.
The interest free loan to BVI Corp. will attract a deemed interest charge per s.33 Law 118/2002 re: arm’s length principle between related parties.
Such deemed interest income will have the same tax treatment by reference to CIT and SDC, as all other intercompany loan interest.
As the group has no unified policy on interest rates charged on intercompany loans, one has to examine each loan relationship separately to determine the arm’s length rate.
If the arm’s length principle is not applied, the Cyprus tax authorities may deem interest income per art.33 Law 118/2002. As the arm’s length principle does not seem to have been applied (i.e. Loan from shareholder at 5% p.a. and Loans to connected Parties at 5% pa, art.33 adjustments will probably be made.
If the above happens, then in accordance with the relevant EU regulations affecting loans with ITA Ltd and BEL Ltd and the OECD Transfer Pricing Guidelines (affecting loans with the Liechtenstein Foundation), then corresponding adjustments will have to be made by the overseas competent authorities in determining the tax base of those overseas entities.
The gain on disposal of shares in Cyp Operations Ltd, will not be subject to capital gains tax in Cyprus per the provisions of law 52/1980, as there is nowhere indicated that this company owned immovable property situated in Cyprus.
Although BEL Ltd is a Cyprus incorporated company it will not be a tax resident of Cyprus, as it is managed and controlled in another EU State.
Tax losses of Cyp Operations Ltd cannot be relieved under the group loss relief provisions, as this company did not form a group for the whole tax year.
Part 2
In accordance with the CGT law (52/80), capital gains are subject to tax at 20% if they emanate from the disposal of either immovable property situated in Cyprus, or from the disposal of a private company’s shares, whose assets include immovable property situated in Cyprus.
Liechtenstein Foundation’s disposal does not seem to fall within the definition and therefore its capital gains will be prima facie exempt from CGT in Cyprus.
The Liechtenstein Foundation’s income from Cyprus relates to dividends received from Cyp Holdings Ltd only, which are not subject to income tax or WHT.
Page 6 of 11 Module 2.03 – Cyprus option (June 2018)
Part C
Question 4
As from 1.1.2003, "Resident of the Republic", when applied to an individual (at least 60 days as from 1.1.2017 under certain conditions (see below)), means a person who stays in Cyprus for a period or periods exceeding in aggregate 183 days in any tax year.
For purposes of calculating the days of stay in Cyprus:
(a) the day of departure from Cyprus counts as a day outside Cyprus; (b) the day of arrival in Cyprus counts as a day in Cyprus; (c) the arrival to Cyprus and the departure from Cyprus during in the same day counts as one day in Cyprus; and (d) the departure from Cyprus and return to Cyprus the same day counts as a day outside Cyprus.
In the case of an individual, the tax residence is in Cyprus if during the tax year (1 January to 31 December) such individual resides in Cyprus in one or more cases that exceed 183 days and an individual who resides in Cyprus for less than 184 days in a calendar year is not considered to be a tax resident in Cyprus during that year.
As from 1.1.2017 however, i.e. for the year of assessment 2017 and later years, an individual may also be a tax resident of the Republic if he satisfies the following condition:
An individual who does not remain in any other state for one or more periods for more than 183 days in the same year of assessment and who is not a tax resident in any other state for the same year, shall be deemed to be a resident of the Republic in that year of assessment, provided that such individual meets cumulatively the following:
remains in the Republic for at least 60 days in the year of assessment, carries out any business in the Republic and/or is employed in the Republic and/or holds an office in a company resident in the Republic at any time during the year of assessment, maintains a permanent residence in the Republic which is owned or rented by such individual.
For the purposes of the above proviso, an individual who cumulatively satisfies the above shall not be considered a resident in the Republic in the year of assessment, if, in that year, such individual terminates the exercise of any business in the Republic and/or his employment in the Republic and/or the holding of an office in a company which is a tax resident in the Republic.
It should be noted that an individual, who is a tax resident in Cyprus according to the rule of the 60-day residence in Cyprus, is obliged to pay the special defense contribution (SDC) under the SDC Law if at the same time he has a residence (domicile) in Cyprus.
For the purpose of the issue of a tax residency certificate for an individual who meets the rule of the 60-day residence in Cyprus, a prescribed declaration form shall be submitted [Form Τ.D.126(2017)].
It may be noted that the certificate may be issued before the end of the 60-day stay, provided that:
all the other conditions of the rule of the 60-day stay in Cyprus are met; the application for the issue of the certificate relates to dividends or interest from sources abroad and the relevant documentary evidence for the expected collection of the income shall be submitted; and on such certificate it is indicated as to which tax authority or organization issue it.
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Question 5
Cyprus taxes employment income, irrespective of the residence of the employee, if employment duties are exercised in Cyprus.
Residents exercising employment duties outside Cyprus, are taxed in Cyprus, but:
90 day rule exemption; analysis of the 90 day rule exemption; and any tax paid overseas for such duties, credited against Cyprus income tax liability.
Non-residents exercising employment duties in Cyprus are taxed in Cyprus, but for duties exercised outside Cyprus, they are not taxed in Cyprus.
Art.15 OECD MC provides that employment income is taxed in the State where employment is physically exercised.
Art.15 (2) however allocates taxing rights to the residence State if the following three requisites are all satisfied:
the employer is not resident; the employer does not have a PE in the state where employment is exercised; and the employee does not spend more than 183 days in the state of his/her employment.
The 90 day rule exemption requires a PE in the overseas State, so not in line with Art 15(2), but assuming the overseas State applies Art 15., that income which is exempt in Cyprus, is taxed in that other State i.e. Cyprus ‘waives’ its taxing rights through this exemption.
Cyprus offers incentives to persons returning or taking up residence for the first time in Cyprus as follows:
20% of gross income exemption for 3 years following tax year of return (capped at 8.550 Euros per annum)section 8(21) Income Tax Law 118(I)/2002; and For high-earners i.e. earning an annual salary and benefits of over 100.000 Euros, 50% of the income is exempt from income tax for five years (section 8(23)).
Above incentives not stipulated anywhere in the OECD MC, but each State is free to give incentives to encourage people to take up residence in their State. Some other EU States also offer similar incentive.
Page 8 of 11 Module 2.03 – Cyprus option (June 2018)
Question 6
Income Tax
The taxation provision on trusts is section 31 of the Income Tax Law 118/2002.
The income of a trust is assessed in the name of the trustee, in like manner and to the like amount as such person would be chargeable if he had received such income personally.
For income tax purposes, the beneficiaries are the persons liable for the income tax but the assessment is raised in the name of the trustee in a representative capacity, like any other representative or agent.
The beneficiary is entitled to any exemptions or deductions provided for the specific income, which is the subject matter of the assessment, even though the assessment is raised in the name of the trustee.
The income of an international trust, which is derived from sources within or outside the Republic is subject to any tax imposed in the Republic where the beneficiary is Cyprus tax resident.
The income of any other offshore trust, (having non-resident beneficiaries and income arising overseas) is exempt from income tax.
If any income arises in Cyprus to a trust whose beneficial owner is non-resident, such income is exempt from tax if the exemption applies to non-resident persons.
Tax residency of the Trustee is irrelevant. For example, rents arising from property situated in Cyprus or business profits from a permanent establishment in Cyprus are subject to income tax in Cyprus, even if the beneficial owner is not resident in Cyprus. When the monies are then distributed to the beneficial owner, they are exempt from Cyprus income tax.
The income of trustee companies is taxable at the normal corporate income tax rate of 12.5%.
Special Contribution for the Defense
Beneficiaries of a trust who are residents in Cyprus, are subject to special defense contribution in respect of dividends at 17% and interest at 30% (lower rates of 3% on interest applies in certain cases) in the name of the trustees, in respect of income arising in Cyprus or abroad.
If beneficiaries are resident or domiciled outside Cyprus, they are not taxable in Cyprus with respect to dividends, interest or rents.
Capital Gains Tax
In case of disposal of immovable property situated in Cyprus, gains will be subject capital gains tax per the provisions of Law 52/1980. Any gains from the sale of shares in companies represented by immovable property situated in Cyprus is also subject to capital gains tax.
However, certain gains are exempted, including gains from the sale of shares of companies quoted in a recognized stock exchange e.g. the Cyprus Stock Exchange.
Stamp Duty
The provisions of the Stamp Duty Law of 1963, Law 19/63 as amended apply to International Trusts.
All instruments executed in Cyprus are subject to Stamp Duty. All instruments relating to immovable property situated in Cyprus are subject to Stamp Duty irrespective of whether executed in Cyprus or overseas.
Page 9 of 11 Module 2.03 – Cyprus option (June 2018)
Question 7
Part 1
Computation of profits of a non-life insurance company
In the case of a non-life insurance company a deduction in respect of head office expenses not exceeding 3% of premiums in the Republic less premiums paid on re-insurances is allowed, where the head office is outside the Republic.
Set-off of losses against all other profits including profits from life insurance business is allowed as in the other types of business.
Unrelieved losses can be carried forward indefinitely under section 13 of Law 118(I)/2002
Lay-out of computation
€ Income
Gross insurance premiums X Interest X Commissions X Other income X
(a) Total X
Less (b)
Return of insurance premiums (X) Premiums for re-insurances (X) (X)
Balance [(a) - (b)] X
Less:
Reserves for unexpired risks: At the end of the year (X) Less at the beginning of the year (X)
(c) X
Less: Net claims (X) Expenses (X) Other allowances under the law (Χ) Net profit/(loss) X/(X)
Interest income is deemed to be derived from the ordinary course of business.
Computation of profits of a life insurance company
In the case of a life insurance company a deduction in respect of head office expenses not exceeding 2% of premiums in the Republic less premiums paid on reinsurances is allowed, where the head office is outside the Republic.
Set-off of losses against all other profits including profits from life insurance business is allowed as in the other types of business. Unrelieved losses can be carried forward indefinitely under section 13 of Law 118(I)/2002.
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Lay-out of computation
€ Income
Gross insurance premiums X Net income from investments (including profits from sale thereof) X
(a) X
Less:
Premiums for re-insurances (X) Net claims (X) Surrenders (X) Expenses (X) Other allowances under the law (Χ)
(b) (X)
Balance [(a) - (b)] X
Less:
Reserves for unexpired risks: At the end of the year (X) Less at the beginning of the year (X)
Net profit/(loss) X
But, life insurance companies are subject to a minimum tax of 1,5% of the gross premiums Interest income is deemed to be derived from the ordinary course of business
Part 2
€ Gross Premiums for the year 1,200,000 Chargeable income 136,000 Corporation tax at 12.5% 17,000
But tax payable minimum of 1.5% of gross premiums = €1,200,000 x 1.5% = €18,000
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