Russia revises double tax avoidance agreements with numerous countries

Introduction

In 2020 Russia launched an intensive process of revising its bilateral tax agreements with numerous jurisdictions, including Cyprus, Luxembourg, Malta and the Netherlands.

According to the Cyprus minister of finance and the Russian Ministry of Finance, significant amendments to the double tax avoidance agreement between Russia and Cyprus were agreed in August 2020. The most important amendment is an increase in the tax rate levied on the payment of dividends and borrowed money to 15% at the source of payment.

Current Russia-Cyprus agreement

The current Russia-Cyprus agreement provides for a full exemption from income tax in the country where interest is paid. Dividends can be taxed at the source of payment at a rate of 5% if the party with the actual right to the dividends has directly invested the equivalent of at least €100,000 or 10% (in some cases) in the capital of the company paying the dividends. According to Russian tax authority statistics, most dividend payments to Cyprus in previous years were subject to a preferential rate of 5%. At the same time, Russian tax rates on dividends are 13% (if paid domestically) and 15% if paid to a jurisdiction with which Russia has no double tax avoidance agreement.

Amendment process

The Russia-Cyprus agreement was revised on the initiative of and under serious pressure from Russia. As early as 25 March 2020, President Vladimir Putin instructed the government to revise the list of countries with which agreements on preferential tax rates for Russians had been concluded. Shortly thereafter, Cyprus received proposals from Russia to amend the agreement, which were negotiated during Spring and Summer 2020. The negotiations clearly reached an impasse at some point, as on 3 August 2020 an official statement beginning the procedure to denunciate the agreement was published on the Russian Ministry of Finance's website. However, shortly thereafter, the Ministry of Finance published a new message stating that Cyprus had agreed to Russia's proposal to increase the tax on dividends and interest to 15%. The protocol on amending the agreement should enter into force in 2021. Accordingly, the new tax rates will apply to income generated in 2021 and beyond.

A more preferential tax regime will remain in place for some categories of taxpayer. Thus, the 5% tax rate on dividends at the source of payment is expected to continue to apply to:

• banks;
• insurers;
• pension funds; and
• Cypriot companies that are listed on an exchange and have at least 15% free float.

Further, the 0% interest rate should remain the same for the coupon yield on government bonds.

Comment

The denunciation of the agreement as a whole clearly did not meet the interests of Cyprus or Russia or international businesses which operate in Russia and actively invoke its international tax agreements (of which the Cyprus agreement is prominent due to the jurisdiction's popularity). However, due to the rapid nature of these developments¹, businesses whose activities are guided by the Russia-Cyprus agreement must promptly revise their work models.

Businesses cannot simply start using other jurisdictions with conditionally similar benefits, as similar amendments are expected to be made to Russia's many other double tax avoidance agreements. For example, the Russian Ministry of Finance has agreed to make similar amendments to the country's tax agreements with Luxembourg and Malta, and negotiations with the Netherlands are already underway.

1. As a rule, negotiations regarding amendments to international agreements take years and the timeframe for their entry into force is usually several months after the date of signing.