On October 22, 2014 a draft law on the taxation of the Controlled Foreign Companies was submitted to the State Duma of the Russian Federation. The Duma’s specialized committees should provide their comments on the draft before November 2, 2014.
The drafting of the law has been done by the Ministry of Finance of the Russian Federation, but despite that fact, the right of legislative initiative was implemented by the members of Parliament . At the same time, the Draft Law that was submitted to the State Duma is completely identical with the latest version that had been prepared by the Ministry of Finance of the Russian Federation (21/10).
The approach to the taxation of the CFC has not changed compared to the version of the Draft Law published on September 2, 2014 (as a general rule, any foreign company controlled by the Russian residents falls in the scope of the regulation — i.e. not just the offshore companies from the so-called «black list»). However, compared to the previous version of the draft, the last edition contains a significant number of changes, the main of which are presented below.
KEY POINTS (DISTINCTIONS) OF THE NEW EDITITON
- A Russian tax resident shall be recognized as a controlling party should the threshold of his participation in a foreign company’s capital be 25% (earlier 10%). Where 50% of a foreign company’s capital is held by Russian tax residents, only a 10%-interest shall be required to recognize a party as a controlling one. An interim period shall be provided for until 2017: a Russian resident’s interest in the capital will need to exceed 50% for such a foreign company to be recognized as controlled.
- In the new version of the Draft Law the approach to the companies and structures, which should be excluded from the scope of the CFC, has changed. Now, if the conditions for the application of exemptions are met, the company or the structure (e.g. trust) remains the CFC, but still is entitled to the income tax exemption.
- In particular, in the draft version as of September 2, 2014, it was stated that the structures that met certain criteria (irrevocability of the assets, tenure of the founder, the absence of the right to income) are not the CFC. The new edition of the draft states only that the profit of such structures is not subject to tax (i.e., in particular, the trusts are considered the CFC, even if the criteria mentioned above are met).
- In accordance with the new edition of the Draft Law, public companies no longer fall within the scope of exceptions.
- The procedure for calculating the effective tax rate has changed. In the previous version of the Draft Law, foreign companies from the jurisdictions that cooperate in terms of exchange of information on tax matters (white list) were not considered the CFC if their effective tax rate was higher than 75% of Russia's corporate tax rate.
- The new edition of the draft determines the effective tax rate for the CFC as 75% of the average tax rate. The average tax rate of income takes into account the operational income that is taxed at regular corporate income tax rate (20%) and dividend income (9%).
- Moreover, in the draft, the "white list" is replaced by the "black list" — the Ministry of Finance of the Russian Federation will generate a list of jurisdictions that do not exchange information for tax purposes.
- The bill added a new exception that applies to foreign companies from the jurisdictions that cooperate in terms of exchange of information on tax matters, provided that the share of the passive income (dividends, interest, royalties, sale of assets) does not exceed 20% in the structure of their income. Given the new approach, these companies are considered the CFCs, but their income is not taxable.
ADMINISTRATION OF THE CFC
- The rules related to reporting obligations are more precise now — the notification on CFC should be submitted no later than by March, 20 of the year following the tax period in which the CFC profits are to be accounted at the Russian taxpayer resident.
- Under the new rules, it is assumed that Russian tax authorities are provided not only with the information on the CFC, but on the whole structure of ownership meaning all the organizations through which the participation in the CFC is implemented.
- In accordance with the new version of the Draft Law, the Russian tax residents are required to report not only on the participation in the structures without legal entity (such as the trust), but also on their establishment.
- The tax authorities are entitled to request information on the foreign companies if there is a reason to assume that the taxpayer is in fact the controlling person, but failed to comply with reporting obligations. Based on the assessment of the requested information, the tax authorities have the right to recognize the Russian tax resident as controlling person of the CFC. The decision of the tax authority may be challenged by the taxpayer in court.
THE CALCULATION OF THE CFC INCOME
- The profit (or the loss) of the CFC, which permanent location is in a treaty country (country that has concluded double tax treaty agreement with the Russian Federation) is calculated on the basis of the financial statements.
In other cases the profit is calculated according to the rules of Chapter 25 of the Tax Code (corporate income tax).
The amount of the financial losses incurred before 2015 may be carried forward in the amount not exceeding the loss within the 2012 - 2014 period.
Tax residence rules have been extended.
In particular, a foreign company which is controlled by the Russian tax resident (provided that the share of direct/indirect participation in the capital exceeds 50% during the year (365 days)) may not be forcibly recognized as the Russian tax resident if the following conditions are met:
- more than 50% of the assets of such company consist of investments in the foreign subsidiaries (more than 50% of the share capital) in jurisdictions that exchange information for tax purposes, but are not the jurisdictions from the so-called "black list";
- passive income of the foreign subsidiaries of the CFC received from the sources in Russia do not constitute more than 20% of their total income;
- more than 95% of the CFC income should be passive and should be directly or indirectly obtained from the above-mentioned foreign subsidiaries.
Under certain conditions, the foreign issuers of the traded bonds cannot be considered tax residents.
As in the previous edition, the responsibility for failing to pay tax on the CFC profit will only apply from 2018.