European Union: Entry Into Force Of The Cyprus–Luxembourg Double Taxation Agreement

Introduction

The new double taxation agreement (DTA) between Cyprus and Luxembourg, which was signed on May 8, 2017, entered into force on May 21, 2018, following completion of both countries' domestic ratification pro-cedures. The provisions of the agreement will apply to income arising from January 1, 2019 with regard to taxes deducted at source, and for tax years beginning on or after that date for other taxes.

The agreement is the first between the two countries. Its wording closely follows the latest OECD Model Convention and, in line with the OECD Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS, of which both Cyprus and Luxembourg are signato¬ries, it also includes a preamble making clear that it is not designed to create opportunities for double non-taxation or reduced taxation through evasion or avoidance and a principal purpose test-based general anti-avoidance rule.

Taxes Covered

The categories of taxes covered by the DTA are as follows:

  • In Luxembourg: Income tax on individuals;

    • Corporation tax;
    • Capital tax; and
    • Communal trade tax; and
  • In Cyprus

    • Income tax;
    • Corporate income tax;
    • Capital gains tax; and
    • Special Contribution for the Defence of the Republic (commonly referred to as SDC tax).

The agreement will also apply also to any identical or substantially similar taxes that are imposed in future to replace or add to the existing taxes.

Residence

The "tie-break" provisions for determining residence for individuals who are resident in both countries are the same as in the OECD Model Convention, namely permanent home and center of vital interests, country of habitual residence, and nationality, in descending order. If none of these criteria is decisive, residence is to be settled by mutual agreement between the two countries' tax authorities.

Legal persons are resident in the place of effective management.

Permanent Establishment

Article 5 of the DTA, which defines a permanent establishment, is identical to the corresponding article of the OECD Model Convention. A building site or construction or installation project will constitute a permanent establishment if it lasts more than 12 months.

If an enterprise has a representative in the territory of a country who has, and habitually exercises, authority to conclude contracts in the name of the enterprise, the enterprise concerned is deemed to have a permanent establishment in respect of any activities which the person undertakes for it. An independent broker or agent who represents the enterprise in the ordinary course of busi¬ness will not fall within the scope of this provision. Care needs to be taken regarding the issuing of general powers of attorney so as not to risk inadvertently creating a permanent establishment, with potentially unfavorable consequences.

Income From Immovable Property

This article reproduces the corresponding article of the OECD Model Convention and provides that income from immovable property may be taxed in the contracting state where the property is situated.

Business Profits

The profits of an enterprise are taxable only in the contracting state in which it is resident unless it carries on business in the other contracting state through a permanent establishment there, in which case the profit attributable to the permanent establishment may be taxed in the contracting state in which it is located.

Profits are to be calculated on an arm's length basis, as if the permanent establishment was a dis¬tinct and separate enterprise, after deduction of expenses which are incurred for the purposes of the permanent establishment, including executive and general administrative expenses. If profits of a permanent establishment have customarily been determined by an apportionment of the total profits of the enterprise to its various parts, the same method may continue to be used as long as the result is in line with these principles.

Profits From Shipping And Aviation

Profits from the operation of ships (both in international traffic or inland waterways) and aircraft in international traffic are taxable only in the contracting state in which the enterprise is resident. Residence is determined by the place of effective management; if the place of effective manage¬ment of a shipping enterprise is aboard a ship, it is deemed to be in the contracting state in which the home harbor of the ship is located, or, if there is no such home harbor, in the contracting state of residence of the operator of the ship.

Dividends

Dividends paid by a company resident in one contracting state to a resident of the other are subject to zero tax in the contracting state from which they originate as long as the beneficial owner of the dividend is a company (but not a partnership) resident in the second contracting state which directly holds at least 10 percent of the capital of the company paying the dividends. Otherwise, tax payable in the first contracting state is limited to 5 percent of the gross dividends. In practical terms these provisions only affect dividends paid by Luxembourg investee compa¬nies to investors in Cyprus, since Cyprus does not impose withholding tax on dividends paid to overseas-resident shareholders.

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Originally published in Wolters Kluwer

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