Since Cyprus-resident companies are used to hold shares in many Russia-resident companies, claims for the reduced rate of withholding tax on dividends have been the most common area for dispute under the Cyprus-Russia double tax agreement.
The agreement provides that a reduced rate of withholding tax applies to dividends paid by a company resident in one contracting state if the beneficial owner of the dividends is a resident of the other contracting state and has directly invested the equivalent of at least 100,000 euros in the capital of the company paying the dividend. Prior to 1 January 2014, when the 1998 Protocol to the double tax agreement took effect, the minimum investment amount was 100,000 United States dollars.
The most recent challenge regarding a claim for reduced withholding tax relates dividends paid by a Russian company called Open Joint Stock Company “Iliyushin Finance Co” to its Cyprus shareholder Starberry Limited. In this case, the shares were purchased through a broker in 2013 through the shareholder’s depository account. The Russian tax authorities disputed that the conditions for a reduced rate of withholding tax had been met on the grounds that there was insufficient evidence of the investment; there were no written instructions from Starberry Limited to the broker to purchase the shares of OJSC “Iliyushin Finance Co.”; there were no payment documents confirming that funds had been transferred to the broker to purchase the shares (the price was settled on depository account of Starberry Limited). Consequently, they contended, there was no actual direct investment meeting the conditions for the reduced rate of withholding tax set out in the double tax agreement.
The dispute ultimately fell to the Russian courts to adjudicate, and in December 2016 the Commercial Court of Voronezh Oblast found in favour of the taxpayer, on the grounds that there is no legal requirement to make a written order for each transaction in securities, and that genuine capital investment had taken place through repeated share purchase transactions. The double tax agreement does not require any minimum holding period and neither the DTA nor Russian law generally prohibits obligations being met by set-off, as was the case here.
This case is confirmation, if confirmation were needed, of the Russian tax authorities’ increased readiness to challenge claims for relief. It underlines the importance of careful structuring to ensure that all the conditions required to qualify for relief under the Cyprus-Russia double tax agreement are met.
