On 30 October 2019, the Parliament of Ukraine ratified the Protocol amending the 2012 Tax Treaty between Ukraine and Cyprus ("Ukraine-Cyprus Protocol").
What does it mean?
The Ukraine-Cyprus Protocol will transpose into the 2012 Tax Treaty between the countries the following revisions:
- Dividends: The reduced 5% WHT rate will apply to a shareholder (other than a partnership), who directly holds at least 20% of the capital in the distributing company and has invested in the acquisition of shares or other rights of the distributing company at least EUR 100,000 (previously, the fulfilment of either of the two conditions qualified the taxpayer for the reduced tax rate). The 10% WHT rate will apply in all other case;
- Interest: The currently effective WHT rate of 2% will be raised to 5%;
- Capital Gains: Article 13 of the Ukraine-Cyprus tax treaty was substantially amended to subject sourced capital gains to domestic withholding tax regime. The most significant changes involve:
- General rule: The general approach vests the taxing rights with the "situs" state. In particular, gains derived from the sale of shares or other corporate rights will be taxable in the "situs" state if such shares or other corporate rights derive (i) more than 50% or (ii) a larger portion of their value directly or indirectly from immovable property located in the "situs" state (in case of sale of shares or corporate rights of a "situs" state company). In this context, we note a certain discrepancy between the Ukrainian and English wording of paragraph 4 of the re-stated Article 13. Should Ukraine be the "situs" state, domestic legislation of Ukraine would apply with the view to determining if shares were to derive value from real estate.
- Exemptions: The Ukraine-Cyprus Protocol grants certain exemptions from the above general rule. The most notable exemption relieves capital gains derived from the alienation of shares where the immovable property from which the shares derive their value is immovable property in which the business is carried on. Accordingly, capital gains with respect to qualified asset paid from Ukraine to Cyprus should be WHT-exempt;
- "Catch-all Clause": Payments between the two jurisdictions of capital gains from the alienation of types of property that are not specifically addressed in Article 13 should be exempt from the taxation in the "situs" state provided those gains are subject to tax in the alienator's state. Given that capital gains are not subject to tax in Cyprus, Ukrainian 15% WHT would apply in such instances.
- "Most favorable nation clause": Ukraine and Cyprus agreed to introduce this clause for taxes on interest, dividends, royalties and capital gains. In brief, if Ukraine enters into a double tax treaty agreement with another country, which provides for more favorable provisions for dividends, interests, royalties and capital gains than those provided to Cyprus, the DTT between Cyprus and Ukraine will have to be amended to include these more favorable provisions.
Please note that the tax treaty between Cyprus and Ukraine is a Covered Tax Agreement under the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting ("MLI"), which provides for the implementation of the principal purpose test ("PPT"). PPT under the DTT between Cyprus and Ukraine will be applicable after MLI enters into effect for Cyprus.
What is next?
The Ukraine-Cyprus Protocol has been already ratified by both states and is formally scheduled to enter into force after Ukraine and Cyprus exchange diplomatic notes to confirm the completion of the domestic implementation procedures.
In this context, it is expected that the Ukraine-Cyprus Protocol would take effect from 1 January 2020, with respect to (i) taxes withheld at source on income derived on or after 1 January 2020 and (ii) other taxes on income and capital, to taxes chargeable for any taxable year beginning on or after 1 January 2020.
Points to remember
The Ukraine-Cyprus Protocol could affect your business as early as in 2020. We, thus, recommend reassessing your current corporate structures and business models to be in compliance with the new rules.
In particular, you may wish to consider:
- assessing possible impact of capital gains taxation on your current business-model;
- re-examining WHT rates applicable to payments covered by the Ukraine-Cyprus tax treaty;
- revisiting your debt financing arrangements in light of an interest rate increase;
- ascertaining the organizational structure in light of the new qualifying capital threshold.
This LEGAL ALERT is issued to inform Baker McKenzie clients and other interested parties of legal developments that may affect or otherwise be of interest to them. The comments above do not constitute legal or other advice and should not be regarded as a substitute for specific advice in individual cases.