The two major factors that investors consider when incorporating a holding company are: (i) the tax efficiency in accumulating the profits of the subsidiaries into the holding company; and (ii) minimization of capital gains taxes arising from the liquidation of participations in subsidiaries and/or the liquidation of the holding company and then repatriation of the investment.
The Cyprus Income Tax Law that entered into force on 1 January 2003 [Law 118(I)2002] harmonized income taxation in Cyprus with the EU acquis and OECD’s guidelines for eliminating unfair tax practices. In conjunction with the accession of Cyprus to the EU in May 2004, Cyprus became a premier holding company jurisdiction.
In general, the law provides that corporate trading profits are taxed at 10%, which is the lowest among the EU Member States. Profits from the sale of shares and securities are totally exempted provided they are listed in a stock exchange. Dividend income is taxed at 15% but the law provides an exemption for foreign source income rendering it exempted in most cases. There is no withholding tax on the distribution of dividends of the Cyprus Holding Company (‘CHC’).
In particular, a CHC may be used very effectively for international tax planning purposes. In this respect, the following merit consideration:
A. TREATMENT OF DIVIDENDS
1. Extraction of Dividends from Subsidiaries
A CHC can use the EU Parent/Subsidiary Directive (2003/123/EEC) and Double Tax Avoidance Treaties (‘DTT’) that Cyprus has signed with other countries to extract dividends from EU and other subsidiaries at lower dividend withholding tax rates than normal at the country of operation of the subsidiary. This is sometimes 0%, if the dividends arise within the EU or in an Eastern European country that Cyprus has a favourable DTT network.
2. Taxation of Incoming Dividends to the CHC
The domestic law provides that foreign source dividends are totally exempted from the Special Contribution Tax of 15%. This above exemption does not apply when:
a. the overseas tax burden on the income of the paying company is significantly lower than the Cyprus tax of the company receiving dividend (the Cyprus Income Tax Office has ruled this to be less than 5%); and at the same time
b. the overseas company paying dividends engages directly or indirectly in activities which give rise to more than 50% of its income from investments.
In case the dividends received by the CHC will be taxed in Cyprus, the domestic law provides a unilateral tax credit for all taxation that the income has suffered in the other state as far as it is attributed to the dividends received.
3. Distribution of Dividends by the CHC
There is no withholding Tax on Dividends to non-residents irrespective of the country of residency or any DTT.
B. TREATMENT OF CAPITAL GAINS TAX (‘CGT’)
1. Capital gains tax from income on disposal of securities and liquidation of CHC
There are no CGT from gains accrued from the disposal of participations in subsidiaries as well as any immovable property held outside Cyprus. Further more there is no capital gains tax or any other tax which arise from the liquidation of a CHC owned by non-residents.
C. OTHER BENEFITS
1. Thin Capitalisation Rules
There are no debt-equity restrictions and therefore a CHC may be completely financed with loans, and any arm’s length interest paid to a parent will be fully tax deductible.
2. Substance Requirements
There are no substantive requirements for the CHC.
3. Minimum Holding Period
There is no minimum period of holding shares in order to be able to use the tax exemption on dividend or gains accruing on disposal of shares.
4. VAT
CHC’s are not obliged to register to the VAT. However, they may register voluntarily.
5. Group of Companies
Set-off of group losses is allowed where both the surrendering and claiming companies are members of the same group for the whole year of assessment and any payment by the claiming company to the surrendering company up to the amount of the loss is ignored for tax purposes. The loss to be surrendered will be the loss for that year and not of previous years. A company is a member of the same group if it is a 75% subsidiary of another or if it and others are fellow subsidiaries by 75% of a third company as to ordinary shares with voting rights and beneficial entitlement to profits or assets on distribution.
D. ACCOUNTING/AUDITING
The CHC must maintain proper books and prepare yearly audited financial statements in accordance to IFRSs. Disclosure is not required, but the consolidated profit and loss account must show how much of the consolidated profit or loss for the financial year is dealt with in the accounts of the company. Audited annual accounts must be submitted to the Income Tax Authority.
E. ILLUSTRATION
In the illustrative example below, a CHC has subsidiaries within the EU and outside the EU. For the EU subsidiaries, based on the EU Parent/Subsidiary Directive, the Austrian Company will be able to pay dividends to the Cyprus Company at 0% provided that the Cyprus Company fulfils the EU Parent/Subsidiary Directive requirements (i.e. minimum 15% participation as of 1.1.2007 for a minimum holding period of 2 years). If participation requirements are not fulfilled, then the dividends will be taxed under the DTT at 10% withholding tax prior to distribution to Cyprus compared to the normal rate of 25%. Dividend income of the CHC will not be taxed. Dividends from the Russian subsidiary will be extracted at 5% based on the existing DTT between Cyprus and Russia. The BVI subsidiary will pay dividends at 0% to the CHC and the CHC will then apply the existing CFC rules to determine whether these dividends should be taxed at 15% in Cyprus. If taxed, then Cyprus will unilaterally provide a tax credit for any tax paid by the subsidiary.
The CHC can then distribute dividends anywhere in the world with 0% withholding tax based on the domestic Income Tax Law.
Upon liquidation of any of the subsidiaries, the CHC will not attract CGT in Cyprus.
It should be noted that the Commissioner of Income Tax provides rulings in advance if requested.
Hence, the above scenario exemplifies why Cyprus is an ideal Holding Company jurisdiction.
E. REQUIREMENTS TO INCORPORATE A CHC
1. Company name: Company name has to be registered via the Registrar of Companies.
2. Objects of CHC: Every company must have an Article and Memorandum of Association stating clearly, albeit in general terms, the activities of the company.
3. Capital structure: €1000 is common practice.
4. Shareholders: Minimum 1; shares can be held in trust for the beneficial owners.
5. Directors: The majority of Directors must reside in Cyprus to show that management and control is exercised from Cyprus and thus enjoys the Tax planning advantages.
6. Company Secretary: It is required by law; most usually Cyprus law firms act as a Secretary.
7. Registered Office: Cyprus, by default.
