The intensifying initiatives in global tax reforms like the Base Erosion and Profit Shifting (BEPS) initiative created by Organisation for Economic Cooperation and Development’s (OECD) along with many of localized tax reform efforts, create a negative impact for multinational businesses. In addition, it is more popular that the countries implement Controlled Foreign Company (CFC) rules as well as General Anti Avoidance Rules (GAARs) in the tax legislations.
The above concerns not only large corporations, but also medium and small sized companies which in effect are under scrutiny of the local and foreign tax authorities, making it harder than ever for them to manage their international tax operations.
Evidently the environment is becoming more challenging and the need to adopt a proper structure with adequate resources for companies in low/zero tax jurisdictions becomes more demanded than ever before. Thus the importance of “Substance”, has considerably increased in the recent times.
Consequences of having no Substance.
If by any of the above-mentioned regulations, a foreign structure is found to lack substance, it could face considerably higher tax burden as well as investigations by the tax authorities.
Contrariwise, the expression “Substance” does not normally appear in the actual text of Double Tax Treaties or any of the local legislations, thus the concept of Substance in a particular location can be open for interpretation – however at the same time the reason the foreign companies cannot afford to miscalculate.
Consequently, there are practical standards that can be followed to achieve the same.
Substance defined in Cyprus
The typical definition of an entity having economic Substance is that a transaction or entity located in low tax jurisdiction (like Cyprus) must have an economic purpose and relevant infrastructure besides being created ‘artificially’ and only for the purpose of reducing tax liability.
Various steps can be taken to achieve this. This could be accomplished for example through ensuring that all entities (including holding companies) have real physical presence in Cyprus, with independent local offices and staff administering the day-to-day management of the company.
Further to the definition of Substance (especially economic substance), the matter is open to interpretation and also largely lie to the interpretation of the authorities of the respective country.
We have prepared the description of the main factors that can be examined in search of Substance. The authorities normally will seek to find out whether the foreign entity located in low-tax jurisdiction has:
- Its own (rented or owned) office space / premises / physical address;
- Qualified and knowledgeable directors and managers who are located and employed in Cyprus;
- Other employee/s with relevant experience residing in Cyprus;
- Employer status of the company and registration with the Cyprus department of Social Insurance where directors and/or other staff are employed (not only nominated);
- Its accounting records maintained in Cyprus and the accounting work performed by local accountants;
- Operative local bank accounts, with local resident signatories/counter-signatories;
- Relevant assets located in Cyprus (i.e. staff, equipment and all other necessities which are normally required for doing business);
- The substantial involvement of local staff in the operations of the entity;
- An independent local email address and/or website;
- An independent telephone and fax line.
With the above noted, it is increasingly important to make sure that the substance of a Cyprus company is sufficient for foreign purposes. Another country is free to impose its own substance rules (e.g. as a result of local CFC rules). In such case, the obligation will lie on the Cyprus company (including its foreign beneficiaries) to demonstrate to the foreign authorities that the company is performing a real business from Cyprus.
Maintaining a Physical Office and Substance in Cyprus
A concern often raised for maintaining a physical office is usually that costs for setting up a Cyprus company will increase significantly. However, it is to be also noted that these costs can be minimized in various ways and that the substance will secure the clients from additional tax burden.
At IBCCS we are happy to assist our clients to achieve the appropriate “Substance” level required for their specific purposes and goals ensuring that the costs incurred for the same will be maintained at competitive rates at the highest level of quality.
We can assist with setting-up the relevant infrastructure, providing relevant elements for the purpose of the Substance as well as re-structuring the company from the legal & tax point of view in order to eliminate the potential tax liability of our clients.
For your tailored made “Substance” solutions please contact Mr. Cezary Zieniuk firstname.lastname@example.org or Ms. Jowita Jablonska email@example.com by email or call our office in Cyprus directly on +357 222 58 777.
5 April 2016