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Cyprus: Special defence contribution on dividends reverts to lower levels

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Antonis Michaelides


Katerina Charalambous

The special defence contribution (SDC) was introduced in 1984 as part of Cyprus's efforts to receive additional funds for its military service spending. Over the years and after careful planning, SDC is generally not applicable to non-Cyprus residents; however, a careful review of a recent specific case needs to be conducted. As per Article 3 of the Special Contribution for the Defence of the Republic Law No. 117(I)/2002, Cyprus tax resident individuals are liable to SDC on income derived from dividends distributed by Companies which are tax resident in the Republic or elsewhere.

Under the SDC legislation, tax resident companies are not subject to SDC on dividends distributed by other resident companies. However, SDC may be imposed in the case where dividends were indirectly distributed between Cypriot companies after the lapse of four years from the end of the year in which the relevant profits had arisen. It should be noted that in the case where the ultimate shareholder in the structure is a non-Cypriot tax resident person, no SDC will apply on the dividends declared in the structure.

Additionally, under the deemed distribution provisions, a Cyprus company should distribute as dividends at least 70% of its accounting profits (after tax) within two years from the end of the year in which the relevant profits were generated. If the above dividend distribution provisions are not satisfied, then the Cyprus company will be considered to have declared such dividends, and SDC at the rate of 17% will be imposed to such dividends, reduced by any payments of actual dividends. It shall further be noted that the deemed dividend distribution provisions are not applicable when the direct shareholder of the Cypriot company is a non-Cyprus tax resident physical or legal person or when the ultimate shareholder, who indirectly owns the shares through other Cyprus tax resident companies, is not a Cypriot tax resident.

It is important to comment on Cyprus's advantageous participation exemption provisions in respect to foreign dividends. According to the SDC legislation, dividends received by a resident company or a non-resident company that has a permanent establishment in the Republic from a non-resident company are exempt from SDC payment. The SDC legislation further provides that this exemption does not apply only in the case where the paying company's majority of activities (over 50%) are related to producing investment income and in the occasion where the foreign tax burden of the paying company is significantly lower than that in Cyprus (less than 50% of the corporate tax rate in Cyprus which is 12.5%) -an unlikely situation which verifies that the participation exemption conditions are very easy to meet.

The good news is that from January 1 2014, the rate of SDC on the distribution of dividends stipulated above is reverted to its regular 17% after it had been temporarily increased to 20% in the year 2012-2013 as a result of the measures taken to address the international crisis. This reduction constitutes a major step forward for Cypriot investors since it may significantly boost their interest in reinvesting in companies, abetting in this way the better circulation of funds.

The aforementioned changes in the SDC legislation in relation to investment income do not affect foreign investors, which essentially and most importantly means that foreign investors may enjoy the proceeds of their shareholding in Cyprus companies relatively intact and free of any distribution taxation. It is evident that Cyprus aims to preserve its well established and reputable name as an ideal destination for foreign investment by preserving the tax benefits for foreign investors. As such, the various tax benefits offered in Cyprus coupled with the country's extensive network of double tax treaties ensure that the Cypriot tax system maintains its position as one of the most beneficial in Europe and renders Cyprus a primary location for holding companies.

Antonis Michaelides (antonis.michaelides@eurofast.eu) and Katerina Charalambous (katerina.a.charalambous@eurofast.eu)

Eurofast Taxand, Cyprus

Tel: +357 22 699 222

Website: www.eurofast.eu

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