The Russian Federal Tax Service (FTS) issued on 1 June 2018, issued a Letter to the regional tax administrations with new guidance on the application of the concept of beneficial ownership (BO).
This ’Letter’ clarifies the criteria that the tax authorities should consider when determining BO status, for relief under a relevant tax treat, thus significantly increases requirements for foreign recipients of Russian source of income.
Although this new approach is not binding tax law, it may negatively affect foreign recipients of Russia-source income (e.g. foreign holding and treasury companies) in order to qualify for benefits under an applicable tax treaty and prove BO status.
The ’Letter’ clarifies the criteria that the tax authorities should consider when determining BO status and provides practical examples that the Russian tax authorities may seek to deny tax treaty benefits to foreign recipients that do not have actual, operating business or may be insufficient to support a company being recognised as a beneficial owner.
Moreover, the Russian tax authorities may demand additional information and sensitive documents to support active business operations, specific amounts of taxes paid abroad etc to firmly evidence beneficial owner status.
Russians that obtain tax residency in Cyprus and forgo Russian tax residency may not be affected. Russian individuals ready to move to Cyprus and obtain the personal taxation incentives, can qualify for tax residency in Cyprus and be taxed in Cyprus on their worldwide income. This can be achieved with the aid of obtaining visa (permanent residency) or citizenship (passport) in Cyprus.
It is important to emphasize that the double tax treaties with which Russia has concluded with foreign countries including Cyprus cannot be overwritten. Double taxation agreements demonstrate taxing rights between two contracting states which cannot be superseded by any domestic law of any state. In the case of the Cyprus/Russia double tax treaty the concept of BO is included only in the dividends article of the treaty, whereas there is no similar provision in the interest and royalties articles.
However, it should be noted that in many recent court cases in Russia (including cases against Cypriot tax resident companies) the Russian courts upheld the position taken by the Russian tax authorities to apply the BO concept even in cases where such provision is not included in the double tax treaty with the respective country.
Considering the new aggressive position of the Russian Federal Tax Service (FTS), taxpayers in Cyprus must now justify the particular form of their transactions and the involvement of foreign recipients of income:
• review the group structure and identify companies that perform solely or mostly holding, treasury or intragroup licensing functions and may fail the Russian BO rules as applied in light of the new, stricter approach. Confirm whether such companies may be considered as beneficial owners of Russian source income for tax treaty purposes;
• consider identifying and collecting additional documents and making changes to the holding, financing and cash-flow structure in the group of companies in order to justify the economic rights of foreign companies to Russian source income;
• consider applying a "look-through" approach and potentially disclosing a higher tier company or final shareholders where appropriate with more substance as the beneficial owner in the group, and considering all relevant complications and tax implications in other jurisdictions;
• monitor significant trends in court practice in view of the new, strict approach of the Russian tax authorities, and consider further restructuring opportunities to mitigate withholding tax risks in Russia.
Author: Mrs. Elena Chrysostomou, Manager, Tax Advisory Services
Baker Tilly Klitou & Partners Ltd