A holding company is primarily used for holding equity shares in other companies. It can also hold other financial investments – bonds, real estate and complex financial products (derivatives). Holding companies are usually established in order to consolidate ownership of several operating subsidiaries. In particular, through a holding company, the development-stage costs of a new subsidiary can conveniently be financed from the dividend flow generated by other, more mature subsidiaries. In a wider sense, a holding company is effectively an unregulated private investment company, holding and managing financial assets for its one or several shareholders.
The decisive criteria for a holding company to be tax-efficient, is the taxation of its dividend flow, both inward and outward, the taxation of its capital gains and, to a lesser degree, the taxation of interest income.
Cyprus scores quite well on all of these requirements:
- Inward dividends, received from abroad or from another Cyprus company, are exempt from tax in Cyprus. Of note, this exemption even works for dividends received from typical offshore tax havens, such as Belize or Seychelles – under condition that those offshore subsidiaries derive most of their income from active trading or services (as opposed to passive investment income). There is only one exception, where foreign dividends received by a Cyprus holding company may be subject to tax in Cyprus – it’s when they are a paid by a foreign company that BOTH has most of its income as passive financial income AND its income is taxed domestically at less than 6.25%. This means that the dividend exemption from corporate income tax and special contribution for defence does not apply if more than 50% of the paying company’s activities result directly or indirectly in investment income and the foreign tax is significantly lower than the tax burden in Cyprus.
- Outward dividends or interest, paid by a Cyprus company to foreign shareholder are also not taxed in Cyprus. The same applies to royalties paid from Cyprus with the exception of intellectual property used in Cyprus.
- The realized gains from selling a holding in a subsidiary (capital gains) are also not subject to tax in Cyprus. The exception here is the sale of shares in a company in which the majority of the underlying asset is immovable property situated in Cyprus. In such case, capital gains tax will apply at the rate of 20%. This restriction is primarily in place to prevent the evasion of property transfer duties, which are in effect in Cyprus. If a Cyprus holding company gets liquidated, the liquidation proceeds are also not subject to exit taxes for non-resident owners – again, provided that the company does not hold immovable property in Cyprus.
Cyprus holding companies are often called “the easiest exit route from Europe” – and also “the investment gateway into Europe”. Cyprus is routinely chosen by investors from China, the U.S., Russia, Canada or just about any other country of the world, for structuring investment into the EU.
The EU Parent-Subsidiary Directive eliminates withholding (“exit”) tax on cross-border dividends paid between related companies across various EU countries. Thus a Cyprus company can effectively collect dividends tax-free from its EU subsidiaries. Once in Cyprus, these proceeds can be pooled and reinvested efficiently. Upon distribution to the foreign shareholder, no tax will be charged in Cyprus on outward dividend. Although, of course, there may still be domestic income tax on such dividend income in the home country of the company owner.
With a similar efficiency, a Cyprus company will also work for an EU-based owner, holding subsidiaries across the world – even in zero-tax offshore jurisdictions for as long as they are genuine trading or services companies.
Normally, the wording of the Memorandum and Articles of Association of a Cyprus company – even if it is intended to act as a holding company – do not limit its operational objects to just that one activity. Therefore, as a matter of fact, nothing precludes a Cyprus holding company to actually engage in active trading in goods or provision of services, if an opportunity arises. Obviously, in such case the net earnings from such other business would be taxed as regular income – normally, at the rate of 12.5%.