Cyprus: Can The Current Climate Of Hostility Towards The Use Of Hybrid Instruments And Entities In International Tax Planning Be Advantageous For Some?

Last Updated: 12 March 2014
Article by Philippos Aristotelous and Stavros Supashis

The importance of hybrid instruments in international tax planning has increased dramatically over the past decade and has created tremendous opportunities for both companies and financial services practitioners. Their increasing importance and ability to create substantial tax benefits for taxpayers have attracted the attention of governments worldwide, who view the benefits they create as artificial, and so are seeking to diminish their effectiveness.

As a first step in analyzing the issue we need to define what is meant by a hybrid instrument or a hybrid entity. In summary it is an instrument or entity, as the case may be, the characteristics of which allow it to arbitrage mismatches arising between various national legislative measures in order for the interested parties to optimize their tax position.

Hybrid instruments are mostly used for financing operations. The interposition of a hybrid instrument can create a double benefit, in the form of a tax deductible interest expense in the country of residence of the payer, and creation of tax-exempt income in the country of the recipient of the income. This is due to the fact that certain characteristics of the instrument cause it to be treated as a loan by the tax authorities of the country of payment, but to be treated as an equity interest by the authorities in the country in which the income is received, allowing the recipient to take advantage of a domestic participation exemption regime or its equivalent.

Additionally hybrid instruments can be utilized in instances of domestic withholding tax "shopping" as various source countries tend to interpose hybrid instruments in order to avoid withholding taxes on certain items of income by re-characterizing income from, for example, dividends as interest and vice versa.

A hybrid entity is one which is treated as tax-transparent by the legislation of one country and as a corporate vehicle by another. Generally countries do not have a uniform approach as to how to tax foreign entities: some do so on the same basis as domestic entities and others adopt an opt-in opt-out approach which gives the members of the company the ability to choose the way which the foreign entity will be taxed (US check the box system). By arbitraging the differences, tax-exempt income and taxable deductions can be created.

The extensive use of hybrids in international tax planning and the resultant loss of tax revenues has caused governments to take action, both collectively and unilaterally, to rein in their use. The latest collective initiative is the Organization for Economic Cooperation and Development's ("OECD") Action Plan to counter Base Erosion and Profit Shifting ("BEPS"), announced in July 2013. In many respects this is a continuation of the Harmful Tax Practices initiative of the 1990s. The OECD has published an action plan and has set ambitious deadlines to achieve its goals. The action plan specifically addresses the issue of hybrid instruments and the measures under consideration include amendment of the OECD Model Tax Convention to deny an exemption of income which has previously caused a deduction at source out of the taxable base of the payor and to deny a deduction if the corresponding income will not be taxable in the hands of the recipient.

At a European level efforts to counter what the authorities view as over-aggressive tax planning have increased in recent years, in response to the fall in tax revenues that has resulted from the global financial crisis. The European Commission has announced that it intends to introduce amendments to both the Parent-Subsidiary Directive ("P/S Directive") and the European Union Savings Directive ("EUSD") which will specifically address the issue of hybrid instruments.

In 2012 the European Commission adopted an Action Plan which included more than 30 measures to combat tax fraud and tax evasion. These included a proposal to close loopholes in the P/S Directive. The action plan was substantiated through a proposal to amend the P/S Directive which will deny the benefits of the P/S directive to items of income which had already provided for a deduction at the level of the payor (similar to the recommendations of the OECD).

The EUSD applies to payments of income from EU paying agents (as defined in the EUSD) to individual tax residents in the EU. In general the EUSD requires an exchange of information by member states in relation to the recipient of income. Belgium, Luxembourg and Austria were granted temporary exemption from the requirement to exchange information and were given the option to allow taxpayers to choose between disclosure of interest or payment of a withholding tax, currently at the rate of 35 percent, in place of information exchange. As the definition of interest payments in the EUSD is narrow, it has been relatively easy for paying agents to structure their payments in relation to some products so as to avoid the payment falling within the definition of "debt claims of every kind." The new amendments seek to extend the definition of interest so as to close these loopholes.

A number of countries have put in place measures to address the issue of hybrid instruments unilaterally through domestic law provisions such as the recently-introduced German anti-hybrid rules (applicable to dividends for fiscal year 2014 onwards) which deny the 95 percent exemption on dividends received by corporate shareholders if the dividend payment was treated as a tax-deductible expense at the level of the foreign distributing entity. Similar rules are also in place in Italy. Anti-hybrid rules can also be found in certain tax treaties such as the rule included in article 4 of the US-Canada treaty which denies treaty benefits to certain income, profit or gains derived through, or paid by, a "hybrid" entity. It is clear that the authorities have hybrid instruments firmly in their sights and that a large number of current tax structures are likely to lose their usefulness as the trend gathers momentum. This will undoubtedly encourage various jurisdictions to amend their domestic tax legislation so as to achieve similar results.

Most structures involving Cyprus are not affected as its advantageous domestic tax regime does not depend on the use of hybrid instruments or entities. As a result businesses using Cyprus and Cyprus- based structures are not likely to have to take any significant steps towards complying with the new era of tax planning, as far a hybrid instruments and entities are concerned. Nevertheless, there are still challenges ahead, and Cyprus will need to keep abreast of international developments in order to maintain and enhance its position on the international tax planning scene.

This article was first published in Global Tax Weekly and is reproduced by kind permission of the publisher

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Philippos Aristotelous
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.