Scope of Corporation Tax

Cyprus imposes corporation tax on 'companies': this term includes all companies incorporated or registered under any Cyprus law, and any foreign company which carries on business or has an office or place of business (permanent establishment) in Cyprus.

In July, 2002, as part of the Income Tax Act No. 118(I) of 2002, Parliament approved a uniform 10% corporate tax rate, to apply to both onshore and offshore companies, plus a 2% levy on wage bills (meant to subsidise pensioners), and a 'Special Contribution' related to defence which in effect applies the 10% corporate tax rate to inter-company dividend and interest payments. However, the rules are complex.

An additional tax of 5% was imposed on company profits exceeding CYP1,000,000 for the years 2003 and 2004.

As from 2003, Cyprus applies a residence-based taxation regime: "Resident in the Republic", when applied to a company, means a company whose management and control is exercised in the Republic; and "non-resident or resident outside the Republic" will be construed accordingly.

However, profits from activities of a permanent establishment situated outside Cyprus are completely exempt. This exemption will not apply to a Cyprus company if: (i) its foreign permanent establishment directly or indirectly engages in more than fifty per cent (50%) of its activities in producing investment income, and (ii) the foreign tax burden is substantially lower than that in Cyprus.

Dividends will be exempted from tax; however, new provisions have been introduced under the Special Contribution for the Defence of the Republic Law, 2002 ("Special Contribution").

"Permanent establishment" has the same meaning as defined in the OECD Model Tax Convention on Income and on Capital with the exemption of "a building site or construction or installation project", which constitutes a permanent establishment only if it lasts more than three (3) months.

The 10% corporate tax gives Cyprus the lowest rate in the EU, after Ireland (12.5%), with the exception of the Isle of Man, Jersery and Guernsey, which have all announced a nil rate - but these islands are not in the EU anyway for most purposes.

After the EU finally agreed its Tax Directive in June, 2003, the Commission said it intended to give the ten acceding states, of which Cyprus is one, until 2007 to implement the Directive, which includes a 'Code of Conduct' on 'harmful tax practices' and rules to avoid the double taxation of royalty and interest payments. However, a statement released by the Cypriot Ministry of Finance said that Cyprus would adopt the new code in full from 2005. The royalties and company interest directive was in place from January 2004, according to the ministry, which pointed out that it was already compliant with the Code of Conduct rules as a result of its recent tax reforms.

Along with other member states of the EU, Cyprus introduced an exchange of information regime applying to the returns on savings under the Savings Tax Directive as from 1st July 2005.

Branch or Subsidiary?

Corporation tax rates are the same, but the calculation of the taxable base is different:

• Head-office expenses are allowable in both cases
• Transfer-pricing rules may be applied differently in the two cases
• Branch profits may be remitted to head office free of withholding tax; corporate dividends are also now exempt from withholding tax
• Interest on intercompany loans is generally deductible for a company, but not for a branch.

Calculation of Taxable Base

Allowable expenditure needs to be incurred 'wholly and exclusively' for the business; however, mixed private/company expenses can often be apportioned. Among others, the following expenses are allowable:

• Repairs, but not improvements, alterations or additions
• Contributions to an approved fund
• Bad debts and provisions for them
• Non-capital scientific research expenditure
• Expenditure on patents or patent rights
• Various types of charitable expenditure
• Interest on loans, other than for those used to acquire shares
• Rental payments
• Salaries and other compensation costs for employees and directors
• Inventories are valued using FIFO
• Wear and tear allowances on prescribed scales which replace depreciation in the tax calculation
• Investment allowances which are available for certain activities

There are some restrictions on the use of losses from one trade to offset profits from another. Unrelieved losses can normally be carried forward to offset future profits, but from 1996 they have only a 5-year life. Group relief is available but with limitations.

50% of income from interest derived by a company is exempt from corporate tax but the whole interest received or credited will be subject to the new provisions of the Special Contribution. Interest derived from ordinary trading activities will only be subject to the Income Tax Law provisions without any exceptions.

The Group Relief rules, now enacted, provide for group relief of tax losses among companies of the same group. A company will be considered as member of a group if:

• A company is at least 75% subsidiary of the other, or
• Both companies are at least 75% subsidiaries of a third company.

A company will be considered to be 75% subsidiary of another company if and so long as not less than 75% of its ordinary share capital with voting rights are owned directly or indirectly by that other company and that other company is entitled to not less than 75 per cent of:

• Any profits available for distribution to the equity shareholders, and
• Any assets of the subsidiary company which would be available for distribution to its equity holders on a winding up.

Group tax losses may be set off as long as both companies are Cypriot tax residents and are members of the same group during the whole year of assessment.

Only the loss of any year of assessment of a company can be set off against the other company's profits of the corresponding year of assessment. Losses brought forward will not be available for Group Relief.

Any payment for acquiring the tax losses will not be taken into account in the tax computation nor it will be considered to be a dividend or an allowable expense.

Profits from the sale of shares, bonds, debentures and other titles of companies established anywhere in the world are exempt from tax.

Filing Requirements and Payment of Tax

Company tax returns must be filed in respect of each fiscal (calendar) year by 31st December in the year following the fiscal year, together with balance sheet and profit and loss account, auditor's report, income tax and Defence Tax computation and additional information report.

Self-assessment operates, and corporation tax payments have to be made on 1st August, 30th September and 31st December of the year of assessment. Fines apply to late or materially faulty self-assessments.

Withholding Tax

Dividends, royalties arising from the use of an asset outside Cyprus and interest payments to non-residents are now exempt from withholding tax. Other types of payment to non-residents are subject to withholding tax at 10%, although if the payment is in respect of a right outside Cyprus, there is no withholding. The rate of withholding for film rentals earned by a non-resident is 5%.