The IP Box Regime
The House of Representatives has voted amendments to the IP Box Regime that brings the legislation in Cyprus on the taxation of Royalties (IP Box) in full compliance with OECD & BEPS. The new law does not provide for a change to the current effective tax rate of 2.5% and secures those already in business from benefitting from the old IP box regime as until the end of June 2021.
The new provisions apply for Qualifying IP’s which are developed after 1st of July 2016. The new IP Box Regime provides that 80% of Qualifying Profits generated from these Qualifying IP’s will be considered as deemed expenses and only 20% will be subject to 12.5% corporation tax. Thus the maximum effective tax rate will be 2.5%.
THE NEW IP BOX
1. Qualifying IP (‘modified nexus approach’)
The amendments focus on the application of the modified nexus approach and the narrowing down of the definition of what is a “qualifying” IP asset. According to the “modified nexus approach”, there should be sufficient substance and an essential nexus between the expenses, the IP assets and the related IP income in order to benefit from a patent box regime. Under the nexus approach, the application of an IP regime should be dependent on the level of Research and Development (R&D) activities carried out by the qualified taxpayer.
A qualifying IP means an asset which was acquired, developed or exploited by a person in the course of his business and it is a result of research and development. It also includes assets for which only economic ownership exist.
These assets are:
1. Patents as defined in the Patents Law
2. Computer Software
3. Other IP assets which are legally protected and they fall under one of the following:
a) Utility Models.
b) Nonobvious, useful and novel where the person utilizing does not generate gross revenues over EUR 7,500,000 or in the case of a group not more than EUR 50,000,000 using a weighted average method of the last 5 years for the calculation of both figures. The IP assets mentioned in this point should be certified by an Appropriate Authority in Cyprus or abroad.
Important Note: Business names such as brands, trademarks, image rights and other intellectual property rights used to market products and services which benefit from the Old IP regime are not considered as Qualifying Intangible Assets in the new IP regime. However, tax-planning can be used so that a Cyprus IP Company can hold a non-Qualifying IP such as trademark and receive royalties and benefit from advantages provided by Double Tax treaties.
2. Qualifying Profit (BEPS)
The term Qualifying Profit is the calculated as follows: [QE (Qualifying Expenditure) + UE (Uplift expenditure) divided by TE (Total expenditure)] x QA (Overall IP Income).
a) QE – Qualifying Expenditure (of capital nature)
Qualifying Expenditure is defined as the total expenses for research and
Development carried out wholly and exclusively for the development, improvement
or creation of a Qualifying IP in any fiscal year. The above expenditure should be a
direct expenditure. Qualifying Expenditure includes but is not limited to the following:
–Wages and Salaries for research and development
–General expenses relating to the facilities used for research and development
–Expenses for supplies relating to research and development
–Expenditure relating to research and development which has been outsourced to
an unrelated party
But they do not include:
–Cost of acquisition of intangible assets
–Interest paid or payable
–Costs for the acquisition or development of immovable property
– Amounts paid or payable directly or indirectly to a related party to conduct research and development irrespective of whether these amounts relate to a cost sharing agreement
–Cost which cannot be proved that related directly to the Qualifying Asset
Under the modified nexus regime, foreign PEs of Cyprus tax resident companies engaged in R&D activities give rise to “qualified expenditure” provided that they make an election so that their profits are taxed in Cyprus. It should be noted that such an election is irrevocable. In the instance where the profits of the foreign PEs are taxed abroad, a unilateral tax credit relief will be afforded in Cyprus, up to the amount of the tax payable in Cyprus on such profits.
b) UE – Uplift Expenditure
Uplift Expenditure means the lower of:
–30% of qualifying expenditure, or
–The total amount for the cost of acquisition and the research and development
outsourced to related parties
c) TE – Total Expenditure
Total expenditure means the total capital expenditure either qualifying or not,
relating to the creation of the Qualifying IP.
d) QA – Overall Income
The term Overall Income refers to the gross income arising from the Qualifying IP in
a tax year less the direct costs incurred for the production of this gross income. The
term includes but it is not restricted to the following:
–Royalties or other amounts in relation to the use of the Qualifying IP
–Any amount received as license for the use of a Qualifying IP
–Any amount received from insurance or compensation related to the Qualifying IP
–Embedded income of the Qualifying IP which income derives from the sale of
goods, services or procedures relating directly with the Qualifying asset
Direct costs include:
–All direct or indirect costs incurred in earning the income from the qualifying intangible asset
–The amortization of the cost of the intangible
–Notional Interest Deduction (NID) on equity contributed to finance the development of the qualifying intangible asset
3. Accounting Records
Any person who claims benefit under the new Regime should maintain proper books
and records in accordance with the laws in Cyprus.
THE OLD IP REGIME & GRANDFATHERING RULES
Under the old regime the Intellectual Property (IP) holder could benefit from tax advantages provided the following conditions were met:
The IP right is be a Qualifying IP
The Cyprus Company is the owner of the Qualifying IP
The Qualifying IP is used for the production of taxable income
Provided that the above conditions were met, 80% of “Royalty Profit” generated from Qualifying IP Rights was considered as deemed expenses for corporation tax purposes.
The remaining 20% was subject to the normal corporation tax rate of 12.5%, making thus the maximum effective tax rate to be 2.5%.
Note: intangible assets that were defined by the Patents Law, Trade Marks Law and the Intellectual Rights Law were considered as a Qualifying IP Right.
The amendments to the law provide Grandfathering rules which secure that persons will continue to benefit from the Old Regime until June 30th 2021 provided that the Qualifying IP:
a. Was acquired before 2 January 2016.
b. Was acquired directly or indirectly from a related person during the period from 2nd
of January 2016 until 30th of June 2016 and which assets.
-At the time of acquisition were benefiting under the IP box regime or under similar scheme of another member state, or,
-Where not acquired with main or one of the purpose the avoiding of taxes
c. Was acquired from unrelated person or developed during the period from 2nd January 2016 until 2016. A Qualifying IP that was acquired directly or indirectly from a related person during the period from 2nd of January 2016 until 30th of June 2016 and does not meet the above rules will continue to benefit from the Old Regime until 31st of December 2016.