InternationalFiscalAssociation International Tax Bulletin

IFA Ukraine

Contents

Taxation of Controlled Foreign Corporations and other Anti-offshore measures in the Russian Federation

by Roustam Vakhitov,Partner, International Tax Associates B.V.

www.ifa-ukraine.orgifa@ifa-ukraine.org

Taxation of Controlled Foreign Corporations and other Anti-offshore measures in the Russian Federation

Issue #2(11) October, 2014

Topic of the Issue:

Taxation of Controlled Foreign Corporations and other Anti-offshore measures in the Russian Federation

IFA Ukraine | International Tax Bulletin | Issue #2(11), October 2014 www.ifa-ukraine.org | 2

1. Controlled Foreign Companies

Trusts and Funds

General provisions of Tax Code define the concept of an international structure which does not form a legal entity. Namely, it is a structure with a right to carry out activities aimed at gaining income for the benefit of shareholders (members, trustees or other persons), or other beneficiaries. The mentioned activities are not of business or commercial nature, therefore trusts and similar structures receiving dividends and other income which can be used in the interest of "trustees or other persons” are clearly covered by the definition of the structure subject to CFC legislation. Consequently, as we have expected, multilevel, discretionary trusts and other sophisticated structures cannot be an effective way of getting beyond the boundaries of CFC legisla-tion. At the same time such structures complicate the property control and increase the risks of loss thereof.Moreover, the threshold for Russian beneficiary participation disclosure in the case of a foreign legal entity constitutes 10% (25% for the transition stage – till 2017). On the contrary, there is no threshold in respect of the unincorporated structures (trusts). Although the draft law contains a number of gaps that may temporarily allow an effective use of such struc-tures in certain cases, in general, from our point of view trusts and similar structures do not create a strategically successful solution.Public companies are defined as Russian and foreign legal entities the emissive securities of which have been listed or admitted to trading on the Russian or

foreign stock exchange which is in the list approved by the Central Bank in coordination with the Ministry of Finance. Public companies are generally exempt from CFC rules.

Softening provisions

The threshold for CFC participation disclosure rose from 1% to 10%. In this case, a foreign company shall be recognized as CFC only if residents of the Russian Federation as a whole control at least 50% of the CFC, at a participation of at least 10% each (together with its related persons).Compared to the previous draft law the following companies shall not be recognized as CFC:• Banks and insurance companies operating in coun-tries, which conduct effective information exchange with Russian Federation;• Structures of Eurobonds and similar SPV;• Companies participating in the Production Sharing Agreements.Profit threshold for the recognition as CFC rose from 3 million to 10 million of Russian roubles.Russian beneficial owner test shall be applied only in situations when such test is prescribed by the interna-tional tax treaty.Also, not the direct recipient shall be recognized as the beneficial owner, but the organization of a higher level.Prior to January 1, 2017 the participation threshold for CFC profit tax shall constitute not 10, but 50%. For the purposes of CFC control notification the threshold constitutes 25%.

If you are reading this publication and you are not the original recipient please email your contact details to ifa@ifa-ukraine.org to receive future editions. Any republishing of materials from this bulletin without written permission from IFA Ukraine is prohibited.

Contributed by

Roustam Vakhitov,

Partner,

International Tax Associates B.V.

Tel: + 31 20 894 3767

E-mail: vakhitov@intertaxlaw.nl

Toughening provisions

If companies owning real estate property do not disclose CFC information, they shall be subject to a 100 % fine.The possibility of a tax-free transfer of assets between the subsidiary and the parent company which owns at least 50% is cancelled.

Uncorrected deficiencies

The calculation of the effective tax rate for the purposes of exemption from CFC rules for companies, for which the effective rate is at least 75% of the Russian one, is still made on the basis of the gross income. Herein the amounts subject to tax exemption in Russia are not deducted.For example, the Cyprus subsidiary of a Russian resident shall not pay taxes on 1,000 Euros of dividends, which it had received from the Latvian subsidiary, due to strategic participation income exemption. The effective rate shall be 0% and the company will be deemed to be CFC. At the same time the Russian company also shall not pay taxes on dividends received by virtue of the strategic participa-tion income exemption.For the purposes of the effective rate determination of not less than 75% of Russian one it seems logical to compare such effective rate with the effective tax rate of a similar Russian company, rather than with the nominal rate of 20%. For example, the holding company’s effective rate of 15% will hardly ever be complied with. Thus such holding companies shall be considered as CFCs. At the same time the buffering European financial companies that pay huge amounts of interest from Russia to offshore companies will show an impressive tax rate on a tiny margin (29,62% in

Luxembourg, 20/25% in the Netherlands, etc.) and will not be considered as CFC. The abovementioned is unlikely to be the legislator’s aim. Therefore it is to be expected that the effective rate will be calculated as the ratio of tax to the tax base according to Russian regu- lations. This shall be an answer to all the questions.The new principle of current law application is repre-sented. In particular, the law is applicable to all compa-nies with just certain groups of companies excluded. This principle shall replace the principle of “black list” which allowed companies to use special tax regimes in the countries not included to such “black list”.

2. Beneficial ownership

The beneficial owner is defined as the person having the right to own, use and dispose of the income. The functions and risks incurred by such person are also taken into account. If a person exercises limited powers and performs just a mediating function without incurring other risks and functions, he/she will not be recognized as a beneficial owner. Therefore such person will have no right to use the benefits of interna-tional tax treaties. The burden of proving shall be laid on the tax agent who pays the income.Structures’ revision accompanied by vesting the foreign companies with real functions and risks, as well as with qualified personnel, namely, the creation of the real business abroad shall be a solution to the abovementioned problem.

3. Tax residence determination by the company’s management place

This measure has been discussed during a long period. Its implementation will also be an effective

way of recognizing the offshore and other non-residential companies as Russian taxpayers in case if actual management of such companies is being made from Russia. In particular, similar provision is imple-mented in Belarusian practice by conducting surveys among employees, including top managers, within the tax and administrative activities. If it becomes clear that the actual management of the offshore is under-taken by Belarusian company, the appropriate addi-tional charge shall be made.Accordingly, transfer of powers for independent deci-sion-making to the foreign company and refusal from direct management powers by the Russian company shall be a solution to the abovementioned problem.

4. Taxation of real estate transactions

The changes of Article 309 of the Tax Code of Russia concern the scope of companies whose income from shares/equities sales shall be taxable. In particular, the abovementioned will apply not only to the Russian companies the assets of which for more than 50% con- sist of Russian real estate, but to any companies the assets of which directly or indirectly for more than 50% consist of Russian real estate. This shall prevent the possibility of the Russian real estate to be sold under the pretence of the sale of foreign companies. It should be noted that the appropriate changes were made to the Russian tax treaties with Cyprus, Luxembourg and Switzerland, and are expected to the tax treaty with the Netherlands. Accordingly, the Russian rules’ changes will not breach any of the most actively applied tax treaties.

5. Criminal liability for the use of offshore companies and other anti-offshore measures

The draft law 599584-6 provides introduction of special criminal liability for tax and duties evasion by the organization along with the "concealment or distortion of information" on controlled foreign compa-nies and transfer pricing.The proposed changes stipulate a fine ranging from 200 to 500 thousand roubles, a fine in the amount of income received by the convicted person for a period up to three years, as well as up to six years of impris-onment with deprivation of the right to occupy certain positions or to engage in certain activities for a term up to three years.In other words, if the scheme involves the CFC the penalties for tax evasion in particularly large amounts will be applied to situations of tax evasion in just large amounts (for the purposes of this rule “particularly large amounts” are the sums of taxes more than 10 million roubles within three years, provided that more than 20% of taxes and fees were not paid, or the sum exceeding 30 million roubles; “large amounts” is underpayment of 2 million within the three year period, provided that the unpaid share exceeds 10% of taxes and duties or 6 million roubles).6 million roubles at the current exchange rate of euro/rouble of 49.2 is equal to approximately 122 thousand Euros. This is the amount of unpaid tax in the distribution of, for example, dividends in the amount of 1 million and 220 thousand Euros through a transit Cyprus-controlled company to an offshore.

The tax rate on dividends in this case is 5% instead of 15%, which would be used if a Cyprus company was not the beneficial owner of the dividends. This means that the threshold for criminal liability is actually quite low. At the same time, the sanctions are not applicable if the information concealment is not taking place. In fact that is not a strong consolation for businesses since otherwise the sanction for tax evasion in large amounts will be applicable - a fine of one hundred to three hundred thousand roubles or up to three years of imprisonment.The purpose of the changes proposed is, obviously, to encourage the disclosure of information on CFC. However, it is unclear what the concept of "conceal-ment or distortion" covers. Will the statement that the Cyprus company is the beneficial owner of the dividends with the right to apply a reduced withholding tax rate of 5% under the Agreement for the avoidance of double taxation between Cyprus and Russia be considered as concealment or distortion?The draft law 599495-6 provides the mandatory designation of Russian controlling persons while registering a Russian legal entity, in particular, for the disclosure of final beneficiaries when foreign legal entities are the founders of Russian companies, except for companies that have passed the listing procedure. This method allows disclosing the offshore companies "from below" in cases when Russian companies have to disclose their final beneficiaries.As it has been mentioned, the draft law provides for an exception for the Russian companies that have passed the listing procedure.

The draft law also stipulates that the foreign legal enti- ties from offshore jurisdictions shall be excluded from procurement procedures for state and municipal needs.The draft law 599561-6 provides the mandatory disclosure of persons who are the budget process participants and prohibits the issuance of governmen-tal guarantees to foreign entities.

6. The planned changes within the frame-work of the provisions of international legislation

European countries’ legislations, including the legisla-tion of Cyprus, anticipate serious liability for money-laundering operations, which cover both the criminally punishable transactions and the funds received as a result of such transactions.The amounts of unpaid taxes in Russia can be considered as such funds. As a result of application of CFC provisions the amount of funds subject to taxa-tion in Russia will significantly increase. Potentially, the failure to pay taxes on the CFC funds may lead to the liability of foreign companies’ directors according to the local anti money laundering legislation. We shall pay specific attention to the described aspect of the Russian tax and criminal law application.Only the most urgent of the proposed changes were presented hereunder. They will affect a large number of Russian and non-Russian residents. We will be happy to answer your questions and provide our recommendations on the further steps to be taken.

The new draft law on controlled foreign companies (CFC) and other anti-offshore measures became available. It remains within the logic and the struc-ture of the bill of May 27. However it softens number of strict provisions of previous draft law. After the adoption of the current draft law it will become one of the most fundamental game-changes over the few decades in respect of taxation of the international structures and the fight against tax evasion.

The draft law focuses on several issues each of which deserve specific attention: 1. Controlled foreign companies2. Beneficial ownership3. Tax residence determination by the company's management place4. Taxation of real estate transactions 5. Criminal liability for the use of offshore companies and other anti-offshore measures6. The planned changes within the framework of the provisions of international legislation

1. Controlled Foreign Companies

Trusts and Funds

General provisions of Tax Code define the concept of an international structure which does not form a legal entity. Namely, it is a structure with a right to carry out activities aimed at gaining income for the benefit of shareholders (members, trustees or other persons), or other beneficiaries. The mentioned activities are not of business or commercial nature, therefore trusts and similar structures receiving dividends and other income which can be used in the interest of "trustees or other persons” are clearly covered by the definition of the structure subject to CFC legislation. Consequently, as we have expected, multilevel, discretionary trusts and other sophisticated structures cannot be an effective way of getting beyond the boundaries of CFC legisla-tion. At the same time such structures complicate the property control and increase the risks of loss thereof.Moreover, the threshold for Russian beneficiary participation disclosure in the case of a foreign legal entity constitutes 10% (25% for the transition stage – till 2017). On the contrary, there is no threshold in respect of the unincorporated structures (trusts). Although the draft law contains a number of gaps that may temporarily allow an effective use of such struc-tures in certain cases, in general, from our point of view trusts and similar structures do not create a strategically successful solution.Public companies are defined as Russian and foreign legal entities the emissive securities of which have been listed or admitted to trading on the Russian or

foreign stock exchange which is in the list approved by the Central Bank in coordination with the Ministry of Finance. Public companies are generally exempt from CFC rules.

Softening provisions

The threshold for CFC participation disclosure rose from 1% to 10%. In this case, a foreign company shall be recognized as CFC only if residents of the Russian Federation as a whole control at least 50% of the CFC, at a participation of at least 10% each (together with its related persons).Compared to the previous draft law the following companies shall not be recognized as CFC:• Banks and insurance companies operating in coun-tries, which conduct effective information exchange with Russian Federation;• Structures of Eurobonds and similar SPV;• Companies participating in the Production Sharing Agreements.Profit threshold for the recognition as CFC rose from 3 million to 10 million of Russian roubles.Russian beneficial owner test shall be applied only in situations when such test is prescribed by the interna-tional tax treaty.Also, not the direct recipient shall be recognized as the beneficial owner, but the organization of a higher level.Prior to January 1, 2017 the participation threshold for CFC profit tax shall constitute not 10, but 50%. For the purposes of CFC control notification the threshold constitutes 25%.

Toughening provisions

If companies owning real estate property do not disclose CFC information, they shall be subject to a 100 % fine.The possibility of a tax-free transfer of assets between the subsidiary and the parent company which owns at least 50% is cancelled.

Uncorrected deficiencies

The calculation of the effective tax rate for the purposes of exemption from CFC rules for companies, for which the effective rate is at least 75% of the Russian one, is still made on the basis of the gross income. Herein the amounts subject to tax exemption in Russia are not deducted.For example, the Cyprus subsidiary of a Russian resident shall not pay taxes on 1,000 Euros of dividends, which it had received from the Latvian subsidiary, due to strategic participation income exemption. The effective rate shall be 0% and the company will be deemed to be CFC. At the same time the Russian company also shall not pay taxes on dividends received by virtue of the strategic participa-tion income exemption.For the purposes of the effective rate determination of not less than 75% of Russian one it seems logical to compare such effective rate with the effective tax rate of a similar Russian company, rather than with the nominal rate of 20%. For example, the holding company’s effective rate of 15% will hardly ever be complied with. Thus such holding companies shall be considered as CFCs. At the same time the buffering European financial companies that pay huge amounts of interest from Russia to offshore companies will show an impressive tax rate on a tiny margin (29,62% in

IFA Ukraine | International Tax Bulletin | Issue #2(11), October 2014 www.ifa-ukraine.org | 3

Luxembourg, 20/25% in the Netherlands, etc.) and will not be considered as CFC. The abovementioned is unlikely to be the legislator’s aim. Therefore it is to be expected that the effective rate will be calculated as the ratio of tax to the tax base according to Russian regu- lations. This shall be an answer to all the questions.The new principle of current law application is repre-sented. In particular, the law is applicable to all compa-nies with just certain groups of companies excluded. This principle shall replace the principle of “black list” which allowed companies to use special tax regimes in the countries not included to such “black list”.

2. Beneficial ownership

The beneficial owner is defined as the person having the right to own, use and dispose of the income. The functions and risks incurred by such person are also taken into account. If a person exercises limited powers and performs just a mediating function without incurring other risks and functions, he/she will not be recognized as a beneficial owner. Therefore such person will have no right to use the benefits of interna-tional tax treaties. The burden of proving shall be laid on the tax agent who pays the income.Structures’ revision accompanied by vesting the foreign companies with real functions and risks, as well as with qualified personnel, namely, the creation of the real business abroad shall be a solution to the abovementioned problem.

3. Tax residence determination by the company’s management place

This measure has been discussed during a long period. Its implementation will also be an effective

way of recognizing the offshore and other non-residential companies as Russian taxpayers in case if actual management of such companies is being made from Russia. In particular, similar provision is imple-mented in Belarusian practice by conducting surveys among employees, including top managers, within the tax and administrative activities. If it becomes clear that the actual management of the offshore is under-taken by Belarusian company, the appropriate addi-tional charge shall be made.Accordingly, transfer of powers for independent deci-sion-making to the foreign company and refusal from direct management powers by the Russian company shall be a solution to the abovementioned problem.

4. Taxation of real estate transactions

The changes of Article 309 of the Tax Code of Russia concern the scope of companies whose income from shares/equities sales shall be taxable. In particular, the abovementioned will apply not only to the Russian companies the assets of which for more than 50% con- sist of Russian real estate, but to any companies the assets of which directly or indirectly for more than 50% consist of Russian real estate. This shall prevent the possibility of the Russian real estate to be sold under the pretence of the sale of foreign companies. It should be noted that the appropriate changes were made to the Russian tax treaties with Cyprus, Luxembourg and Switzerland, and are expected to the tax treaty with the Netherlands. Accordingly, the Russian rules’ changes will not breach any of the most actively applied tax treaties.

If you are reading this publication and you are not the original recipient please email your contact details to ifa@ifa-ukraine.org to receive future editions. Any republishing of materials from this bulletin without written permission from IFA Ukraine is prohibited.

5. Criminal liability for the use of offshore companies and other anti-offshore measures

The draft law 599584-6 provides introduction of special criminal liability for tax and duties evasion by the organization along with the "concealment or distortion of information" on controlled foreign compa-nies and transfer pricing.The proposed changes stipulate a fine ranging from 200 to 500 thousand roubles, a fine in the amount of income received by the convicted person for a period up to three years, as well as up to six years of impris-onment with deprivation of the right to occupy certain positions or to engage in certain activities for a term up to three years.In other words, if the scheme involves the CFC the penalties for tax evasion in particularly large amounts will be applied to situations of tax evasion in just large amounts (for the purposes of this rule “particularly large amounts” are the sums of taxes more than 10 million roubles within three years, provided that more than 20% of taxes and fees were not paid, or the sum exceeding 30 million roubles; “large amounts” is underpayment of 2 million within the three year period, provided that the unpaid share exceeds 10% of taxes and duties or 6 million roubles).6 million roubles at the current exchange rate of euro/rouble of 49.2 is equal to approximately 122 thousand Euros. This is the amount of unpaid tax in the distribution of, for example, dividends in the amount of 1 million and 220 thousand Euros through a transit Cyprus-controlled company to an offshore.

The tax rate on dividends in this case is 5% instead of 15%, which would be used if a Cyprus company was not the beneficial owner of the dividends. This means that the threshold for criminal liability is actually quite low. At the same time, the sanctions are not applicable if the information concealment is not taking place. In fact that is not a strong consolation for businesses since otherwise the sanction for tax evasion in large amounts will be applicable - a fine of one hundred to three hundred thousand roubles or up to three years of imprisonment.The purpose of the changes proposed is, obviously, to encourage the disclosure of information on CFC. However, it is unclear what the concept of "conceal-ment or distortion" covers. Will the statement that the Cyprus company is the beneficial owner of the dividends with the right to apply a reduced withholding tax rate of 5% under the Agreement for the avoidance of double taxation between Cyprus and Russia be considered as concealment or distortion?The draft law 599495-6 provides the mandatory designation of Russian controlling persons while registering a Russian legal entity, in particular, for the disclosure of final beneficiaries when foreign legal entities are the founders of Russian companies, except for companies that have passed the listing procedure. This method allows disclosing the offshore companies "from below" in cases when Russian companies have to disclose their final beneficiaries.As it has been mentioned, the draft law provides for an exception for the Russian companies that have passed the listing procedure.

The draft law also stipulates that the foreign legal enti- ties from offshore jurisdictions shall be excluded from procurement procedures for state and municipal needs.The draft law 599561-6 provides the mandatory disclosure of persons who are the budget process participants and prohibits the issuance of governmen-tal guarantees to foreign entities.

6. The planned changes within the frame-work of the provisions of international legislation

European countries’ legislations, including the legisla-tion of Cyprus, anticipate serious liability for money-laundering operations, which cover both the criminally punishable transactions and the funds received as a result of such transactions.The amounts of unpaid taxes in Russia can be considered as such funds. As a result of application of CFC provisions the amount of funds subject to taxa-tion in Russia will significantly increase. Potentially, the failure to pay taxes on the CFC funds may lead to the liability of foreign companies’ directors according to the local anti money laundering legislation. We shall pay specific attention to the described aspect of the Russian tax and criminal law application.Only the most urgent of the proposed changes were presented hereunder. They will affect a large number of Russian and non-Russian residents. We will be happy to answer your questions and provide our recommendations on the further steps to be taken.

1. Controlled Foreign Companies

Trusts and Funds

General provisions of Tax Code define the concept of an international structure which does not form a legal entity. Namely, it is a structure with a right to carry out activities aimed at gaining income for the benefit of shareholders (members, trustees or other persons), or other beneficiaries. The mentioned activities are not of business or commercial nature, therefore trusts and similar structures receiving dividends and other income which can be used in the interest of "trustees or other persons” are clearly covered by the definition of the structure subject to CFC legislation. Consequently, as we have expected, multilevel, discretionary trusts and other sophisticated structures cannot be an effective way of getting beyond the boundaries of CFC legisla-tion. At the same time such structures complicate the property control and increase the risks of loss thereof.Moreover, the threshold for Russian beneficiary participation disclosure in the case of a foreign legal entity constitutes 10% (25% for the transition stage – till 2017). On the contrary, there is no threshold in respect of the unincorporated structures (trusts). Although the draft law contains a number of gaps that may temporarily allow an effective use of such struc-tures in certain cases, in general, from our point of view trusts and similar structures do not create a strategically successful solution.Public companies are defined as Russian and foreign legal entities the emissive securities of which have been listed or admitted to trading on the Russian or

foreign stock exchange which is in the list approved by the Central Bank in coordination with the Ministry of Finance. Public companies are generally exempt from CFC rules.

Softening provisions

The threshold for CFC participation disclosure rose from 1% to 10%. In this case, a foreign company shall be recognized as CFC only if residents of the Russian Federation as a whole control at least 50% of the CFC, at a participation of at least 10% each (together with its related persons).Compared to the previous draft law the following companies shall not be recognized as CFC:• Banks and insurance companies operating in coun-tries, which conduct effective information exchange with Russian Federation;• Structures of Eurobonds and similar SPV;• Companies participating in the Production Sharing Agreements.Profit threshold for the recognition as CFC rose from 3 million to 10 million of Russian roubles.Russian beneficial owner test shall be applied only in situations when such test is prescribed by the interna-tional tax treaty.Also, not the direct recipient shall be recognized as the beneficial owner, but the organization of a higher level.Prior to January 1, 2017 the participation threshold for CFC profit tax shall constitute not 10, but 50%. For the purposes of CFC control notification the threshold constitutes 25%.

Toughening provisions

If companies owning real estate property do not disclose CFC information, they shall be subject to a 100 % fine.The possibility of a tax-free transfer of assets between the subsidiary and the parent company which owns at least 50% is cancelled.

Uncorrected deficiencies

The calculation of the effective tax rate for the purposes of exemption from CFC rules for companies, for which the effective rate is at least 75% of the Russian one, is still made on the basis of the gross income. Herein the amounts subject to tax exemption in Russia are not deducted.For example, the Cyprus subsidiary of a Russian resident shall not pay taxes on 1,000 Euros of dividends, which it had received from the Latvian subsidiary, due to strategic participation income exemption. The effective rate shall be 0% and the company will be deemed to be CFC. At the same time the Russian company also shall not pay taxes on dividends received by virtue of the strategic participa-tion income exemption.For the purposes of the effective rate determination of not less than 75% of Russian one it seems logical to compare such effective rate with the effective tax rate of a similar Russian company, rather than with the nominal rate of 20%. For example, the holding company’s effective rate of 15% will hardly ever be complied with. Thus such holding companies shall be considered as CFCs. At the same time the buffering European financial companies that pay huge amounts of interest from Russia to offshore companies will show an impressive tax rate on a tiny margin (29,62% in

Luxembourg, 20/25% in the Netherlands, etc.) and will not be considered as CFC. The abovementioned is unlikely to be the legislator’s aim. Therefore it is to be expected that the effective rate will be calculated as the ratio of tax to the tax base according to Russian regu- lations. This shall be an answer to all the questions.The new principle of current law application is repre-sented. In particular, the law is applicable to all compa-nies with just certain groups of companies excluded. This principle shall replace the principle of “black list” which allowed companies to use special tax regimes in the countries not included to such “black list”.

2. Beneficial ownership

The beneficial owner is defined as the person having the right to own, use and dispose of the income. The functions and risks incurred by such person are also taken into account. If a person exercises limited powers and performs just a mediating function without incurring other risks and functions, he/she will not be recognized as a beneficial owner. Therefore such person will have no right to use the benefits of interna-tional tax treaties. The burden of proving shall be laid on the tax agent who pays the income.Structures’ revision accompanied by vesting the foreign companies with real functions and risks, as well as with qualified personnel, namely, the creation of the real business abroad shall be a solution to the abovementioned problem.

3. Tax residence determination by the company’s management place

This measure has been discussed during a long period. Its implementation will also be an effective

way of recognizing the offshore and other non-residential companies as Russian taxpayers in case if actual management of such companies is being made from Russia. In particular, similar provision is imple-mented in Belarusian practice by conducting surveys among employees, including top managers, within the tax and administrative activities. If it becomes clear that the actual management of the offshore is under-taken by Belarusian company, the appropriate addi-tional charge shall be made.Accordingly, transfer of powers for independent deci-sion-making to the foreign company and refusal from direct management powers by the Russian company shall be a solution to the abovementioned problem.

4. Taxation of real estate transactions

The changes of Article 309 of the Tax Code of Russia concern the scope of companies whose income from shares/equities sales shall be taxable. In particular, the abovementioned will apply not only to the Russian companies the assets of which for more than 50% con- sist of Russian real estate, but to any companies the assets of which directly or indirectly for more than 50% consist of Russian real estate. This shall prevent the possibility of the Russian real estate to be sold under the pretence of the sale of foreign companies. It should be noted that the appropriate changes were made to the Russian tax treaties with Cyprus, Luxembourg and Switzerland, and are expected to the tax treaty with the Netherlands. Accordingly, the Russian rules’ changes will not breach any of the most actively applied tax treaties.

5. Criminal liability for the use of offshore companies and other anti-offshore measures

The draft law 599584-6 provides introduction of special criminal liability for tax and duties evasion by the organization along with the "concealment or distortion of information" on controlled foreign compa-nies and transfer pricing.The proposed changes stipulate a fine ranging from 200 to 500 thousand roubles, a fine in the amount of income received by the convicted person for a period up to three years, as well as up to six years of impris-onment with deprivation of the right to occupy certain positions or to engage in certain activities for a term up to three years.In other words, if the scheme involves the CFC the penalties for tax evasion in particularly large amounts will be applied to situations of tax evasion in just large amounts (for the purposes of this rule “particularly large amounts” are the sums of taxes more than 10 million roubles within three years, provided that more than 20% of taxes and fees were not paid, or the sum exceeding 30 million roubles; “large amounts” is underpayment of 2 million within the three year period, provided that the unpaid share exceeds 10% of taxes and duties or 6 million roubles).6 million roubles at the current exchange rate of euro/rouble of 49.2 is equal to approximately 122 thousand Euros. This is the amount of unpaid tax in the distribution of, for example, dividends in the amount of 1 million and 220 thousand Euros through a transit Cyprus-controlled company to an offshore.

IFA Ukraine | International Tax Bulletin | Issue #2(11), October 2014 www.ifa-ukraine.org | 4

The tax rate on dividends in this case is 5% instead of 15%, which would be used if a Cyprus company was not the beneficial owner of the dividends. This means that the threshold for criminal liability is actually quite low. At the same time, the sanctions are not applicable if the information concealment is not taking place. In fact that is not a strong consolation for businesses since otherwise the sanction for tax evasion in large amounts will be applicable - a fine of one hundred to three hundred thousand roubles or up to three years of imprisonment.The purpose of the changes proposed is, obviously, to encourage the disclosure of information on CFC. However, it is unclear what the concept of "conceal-ment or distortion" covers. Will the statement that the Cyprus company is the beneficial owner of the dividends with the right to apply a reduced withholding tax rate of 5% under the Agreement for the avoidance of double taxation between Cyprus and Russia be considered as concealment or distortion?The draft law 599495-6 provides the mandatory designation of Russian controlling persons while registering a Russian legal entity, in particular, for the disclosure of final beneficiaries when foreign legal entities are the founders of Russian companies, except for companies that have passed the listing procedure. This method allows disclosing the offshore companies "from below" in cases when Russian companies have to disclose their final beneficiaries.As it has been mentioned, the draft law provides for an exception for the Russian companies that have passed the listing procedure.

The draft law also stipulates that the foreign legal enti- ties from offshore jurisdictions shall be excluded from procurement procedures for state and municipal needs.The draft law 599561-6 provides the mandatory disclosure of persons who are the budget process participants and prohibits the issuance of governmen-tal guarantees to foreign entities.

6. The planned changes within the frame-work of the provisions of international legislation

European countries’ legislations, including the legisla-tion of Cyprus, anticipate serious liability for money-laundering operations, which cover both the criminally punishable transactions and the funds received as a result of such transactions.The amounts of unpaid taxes in Russia can be considered as such funds. As a result of application of CFC provisions the amount of funds subject to taxa-tion in Russia will significantly increase. Potentially, the failure to pay taxes on the CFC funds may lead to the liability of foreign companies’ directors according to the local anti money laundering legislation. We shall pay specific attention to the described aspect of the Russian tax and criminal law application.Only the most urgent of the proposed changes were presented hereunder. They will affect a large number of Russian and non-Russian residents. We will be happy to answer your questions and provide our recommendations on the further steps to be taken.

If you are reading this publication and you are not the original recipient please email your contact details to ifa@ifa-ukraine.org to receive future editions. Any republishing of materials from this bulletin without written permission from IFA Ukraine is prohibited.

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