Amendments to Cyprus/Ukraine Tax Treaty affect Ukrainian businesses from January 1, 2020
1. Increased tax rates:
Dividends are subject to a 5% tax rate if the beneficial owner of the dividends is a company (other than a partnership) which:
- Holds directly at least 20% of the capital of the company paying the dividends; and
- Invested in the acquisition of the shares or other rights of the company the equivalent of at least €100,000. Otherwise, a 10% tax rate is applied.
The current preferential 2% tax rate applicable to interest payments is increased to 5%.
2. Capital gains derived from the sale of shares or other corporate rights that derive (i) more than 50% or (ii) a large portion of their value directly or indirectly from immovable property located in Ukraine shall be taxed in Ukraine, unless the following exemptions are applicable:
- The shares are listed on an approved stock exchange
- The gains are derived in the course of a corporate reorganization
- The immovable property from which the shares derived their value is property in which the business is carried on
- The shares are of a public company
- The capital gains are similar to those of interests in real estate funds
- The seller is listed on an approved stock exchange
- The seller is a public company
- The seller is a pension fund, a provident fund or similar entity
However, until and unless Ukrainian tax authorities issue certain tax rulings or Ukrainian tax legislation is amended respectively, application of these exemptions to the sale of shares/corporate rights in Ukrainian companies remains uncertain and risky.
Capital gains derived from alienation of any property other than those described above are subject to taxation in the alienator's state provided that such gains are taxable in the alienator's state. Considering that capital gains derived by Cypriot companies are exempt from taxation in Cyprus, Ukrainian 15% withholding tax shall be applicable.
Ukraine ratifies international instrument to prevent cross-border BEPS
Ukraine has ratified the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent (MLI) Base Erosion and Profit Shifting (BEPS) and extended it to current tax treaties with 76 countries. Currently, MLI is binding only in respect of tax treaties with the UK and Canada.
With respect to other tax treaties to which Ukraine is a party, MLI will come into force when these countries (i) ratify the MLI and (ii) extend its validity to tax treaties with Ukraine. The Netherlands and Austria ratified MLI but did not extend it to double tax treaties with Ukraine.
- A Principal Purpose Test allowing Ukrainian tax authorities to challenge tax benefits/tax relief to dividends, interests, royalties and other incomes under the relevant tax treaty if they prove that the only purpose of the transactions with a foreign entity is tax optimization.
- The application of the domestic withholding tax regime to sourced capital gains. Capital gains derived from the sale of shares or other corporate rights which derive more than 50% of their value, directly or indirectly, from immovable property shall be taxed in the country where such property is located.
- Anti-abuse rules for a permanent establishment address artificial avoidance of a permanent establishment status through splitting-up of contracts, limit activity that does not lead to a permanent establishment, directly specify that the activity of an enterprise resident in one contracting state relating to the exploration for or exploitation of natural resources in the other contracting state can be carried on only through a permanent establishment in this other state.
The above described changes have significant impact on cross-border taxation and international transactions with Ukrainian assets. Therefore, corporate structure and business models currently applied by business should be revised to address the new rules.
Amendments to Tax Code to be adopted in 2020
Draft Law #1210, which has passed its first reading in parliament, introduces significant changes to the Tax Code of Ukraine to implement the BEPS package. This Draft Law #1210 (after certain modifications) will most likely be adopted in 2020 and come into force as early as 2021.
The principal amendments are:
- Controlled Foreign Corporation (CFC) rules, which are designed to prevent the sheltering of income in controlled companies based in low or no-tax jurisdictions. The pro rata shares of undistributed income of the CFC, in whole or in part, is attributed to and included in the income of the Ukrainian resident taxpayer who holds, directly or indirectly, an interest in the CFC.
- Implementation of a Business Purpose Test for Ukrainian companies that carry on transactions with or payments to non-residents. The Ukrainian tax payer can apply tax benefits under the relevant double tax treaty or deduct expenses related to transactions with a non-resident party only if such taxpayer proves the business purpose of the transaction.
- Transfer pricing rules which, inter alia, introduce three-level transfer pricing reporting (controlled transactions report, master file and country-by-country reports); amend "related party criteria"; establish price assessment for raw commodities; extend the list of controlled transactions subject to transfer pricing.
- Some proceeds paid to a non-resident, if they meet the criteria, can be treated as dividends subject to Advance Tax and Withholding Tax (WHT) in Ukraine.
- Capital gains derived from the sale of shares/other corporate rights in foreign companies that derive more than 50% of their value directly or indirectly from immovable property located in Ukraine shall be subject to 15% Ukrainian WHT. This tax shall be paid by a non-resident seller if it has a permanent establishment in Ukraine, otherwise the Ukrainian WHT shall be paid by a foreign buyer subject to prior registration with Ukrainian tax authorities.
- The list of activities that cause a foreign company to acquire a permanent establishment in Ukraine will be expanded. In addition, new tax audit rules will be implemented to identify non-residents that carry on business activity in Ukraine without a registered permanent establishment.
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