August 18, 2014

On 18 March the MinFin of Russian Federation published a draft of the legislative amendments concerning taxation of income of foreign companies. The purpose of these amendments is to obligate Russian legal entities and individuals to pay taxes in Russia from income of their foreign subsidiaries and controlled legal entities.

New notions were introduced into legislation – controllable foreign companies and controlling entities. The former are institutions (not necessarily legal entities), registered in offshore. The latter are persons controlling the former. The notion “control execution” is determined as exertion of influence over decisions made by controllable entities regarding distributable income after taxation due to direct or indirect participation in such controllable entity.

According to the proposed amendments income of the controllable entity shall be accounted for when determining the taxable income of the controlling entity. The taxation rate shall be 20%. This means that users of offshore structures shall calculate and pay taxes for such offshore structures.

The controlling entity shall be recognised as the entity having direct, indirect or joint participation of more than 10% in the controllable entity. According to the international experience the threshold of 10% for joint participation is considered to be quite low and is usually defined to be in excess of 25-50%.

Furthermore, it is now allowed to deduct expenses and/or losses from the taxable base determinable by controlling entities of income of the controllable entities. However, dividends payable by the controllable entity shall be allowed for deduction.

Quite severe sanctions – up to 20% on taxable income - shall be introduced for non-payment or partial payment of taxes levied on controlling legal entities or individuals. The shareholders of controlling entities shall be obliged to inform the tax authorities concerning the controllable foreign entities and the participating share. In failure to do so such controlling entities will be exposed to a sanction of up to 100K rubles.

In addition this draft provides strict definition of Russian tax residency for foreign entities.

In light of the above changes, there is more and more incentive for de-offshorization. In case this draft becomes effective, it will have a huge impact on the current structures.