Russian Federation: Development Of Russian Court Practice On Tax Implications When Dividends Are Paid To Foreign Companies (Application Of The "Beneficial Owner" Concept)

Last Updated: 25 November 2016
Article by Dzhangar Dzhalchinov

On 13 October 2016 the Commercial Court of Kemerovo Region delivered a judgement in case No. А27-20527/2015 (the "Decision") under the claim of Krasnobrodsky Yuzhny Limited Liability Company (the "Company").

The case is an example of the development of Russian court practice related with application of "beneficial owner" concept when dividends are paid to foreign companies.

In its judgement the court held that the persons beneficially entitled to the dividends were companies registered in the British Virgin Islands and not the Cypriot parent company. As a result, the court declared that when paying dividends to the Cypriot parent company the Company had illegitimately applied withholding tax at the tax rate of 5%.

According to the judicial act, the Company's sole participant (an individual) had acquired shares in the Cypriot company, and, in December 2010, had paid for an additional shares issue of the Cypriot company by contributing a 100% share in the Company. In October 2012 the Cypriot parent company contributed RUB 3.1 million to the Company's capital; the investment amount exceeded US$100,000 at the official dollar exchange rate.

In 2012 Company paid dividends to the Cypriot parent company:

  • US$3.5 million in November 2012;
  • US$1 million in December 2012.

When paying the dividends the Company withheld tax at the tax of 5% provided for by Article 10 (2a) of the Agreement between the Government of the Republic of Cyprus and the Government of the Russian Federation for the avoidance of double taxation with respect to taxes on income and on capital dated 5 December 1998.

The court held that the Cypriot parent company and its Cypriot shareholder were flow-through, "conduit" companies, not actually entitled to income in the form of dividends. In denying the Company, the court took the following circumstances into consideration:

  • According to the Cypriot parent company's financial statements, obtained by tax authorities through an international request, in 2012 the Cypriot parent company had investments of only the 100% participatory interest in the Company, and the only income was in the form of the Company's dividends. Moreover, the Cypriot parent company had made a contribution to the Company's assets not long before receiving the dividends. The Cypriot parent company's expenses were negligible and were associated, for example, with remuneration of directors, a secretary, accountants, payment for a registered office, etc.
  • The Company paid the Cypriot parent company dividends of US$3.5 million on 15 November 2012 and US$1 million in December 2012. The Cypriot parent company in turn paid its shareholders US$3.4 million in dividends on 30 November 2012. In addition, the Cypriot shareholder of the parent company paid dividends to its shareholders registered in the British Virgin Islands, and also paid off US$1 million in debt.
  • In 2012 and 2013 the Cypriot parent company received US$6.1 million in dividends and paid its shareholders US$6 million in dividends.
  • The independent auditor's reports on the financial position of the Cypriot parent company and its Cypriot shareholder show that those companies rely on constant financial assistance from their shareholders and without that assistance there would be debt keeping the company from retaining its status as a going concern and meeting its current liabilities.

The court supported the tax authority's position that the dividends paid by the Company were not actually received by the companies registered in the Republic of Cyprus. Those dividends were transferred using a transit scheme to companies that were residents of the British Virgin Islands. As a consequence, the court declared that the tax authority proved that there was a tax evasion scheme (unjustified tax benefit) in the fact that the Russian company actually paid dividends to companies that were residents of a country with which the Russian Federation does not have a double tax treaty.

However, the court supported the Company's arguments that the tax audit materials did not contain evidence that the Company's actual beneficiaries were citizens of the Russian Federation. Due evidence was also not submitted during the hearing of the case neither by the tax authority, nor by the Company, despite the court's requests. Moreover, the tax authority failed to establish facts proving that the Company was aware of the transit nature of the dividends paid. As a consequence, the court held that the fine provided for by Article 123 of the Russian Tax Code could not be imposed on the Company for failing to withhold tax on payment of dividends. Herewith the Company was obliged to pay outstanding amount of tax.

The court's position on the case confirms the trend of application of the beneficial owner concept to income paid by Russian companies to their foreign affiliates, and also the concept of unjustified tax benefit. The trend was outlined after the relevant deoffshorization amendments to Russian tax legislation, as well as in a number of clarifications of the competent authorities and in judicial acts, in particular, on the Credit Europe Bank case (No. А40-442/15-39-2), the Bank Inteza case (No. А40-241361/15), the MDM-Bank case (No. А40-116746/15) and the Torgovy Dom Petelino case (No. А40-12815/15), of which we have already informed.

Dentons' Tax practice team is ready to provide comprehensive legal support in analyzing asset ownership structures and financial flows as to whether those structures are subject to risks related to the possible application of the beneficial owner concept, and other measures for combating tax evasion using international tax treaties. Dentons' Tax practice team will be ready to assist you with modifying those structures to reduce any identified risks.

Dentons is the world's first polycentric global law firm. A top 20 firm on the Acritas 2015 Global Elite Brand Index, the Firm is committed to challenging the status quo in delivering consistent and uncompromising quality and value in new and inventive ways. Driven to provide clients a competitive edge, and connected to the communities where its clients want to do business, Dentons knows that understanding local cultures is crucial to successfully completing a deal, resolving a dispute or solving a business challenge. Now the world's largest law firm, Dentons' global team builds agile, tailored solutions to meet the local, national and global needs of private and public clients of any size in more than 125 locations serving 50-plus countries. www.dentons.com.

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 Mondaq.com.

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

Authors
Events from this Firm
6 Dec 2017, Webinar, New York, United States

Join Dentons for a complimentary webinar focused on the ongoing challenge of integrating new technologies into existing information governance policies and risk management frameworks.

24 Jan 2018, Seminar, San Francisco, United States

Dentons will host our Fourth Annual Courageous Counsel Leadership Institute in January, centered on the theme "Cultivating Innovation."

 
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”

Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
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
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (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 www.mondaq.com

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 Mondaq.com’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.

Disclaimer

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.

Registration

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 unsubscribe@mondaq.com 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.

Cookies

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.

Links

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.

Mail-A-Friend

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.

Emails

From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

*** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .

Security

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 webmaster@mondaq.com.

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 EditorialAdvisor@mondaq.com.

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 enquiries@mondaq.com.

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