In October 2016 the Income Tax Law was amended to bring its provisions on taxation of income from the use or sale of intangible assets into line with the “modified nexus” approach.
This approach, which was agreed by G20 leaders towards the end of 2014 and adopted by the OECD and the EU, allows a taxpayer to benefit from an intellectual property taxation regime, commonly known as an IP box, only to the extent that it can show material relevant activity, including a clear connection between the rights which create the IP income and the activity which contributes to that income.
Countries whose IP regimes were incompatible with the modified nexus approach were required to take steps to amend them, and to allow no new entrants to non-compliant IP regimes after 30 June 2016. However, transitional arrangements allowing taxpayers benefitting from existing schemes to continue to do so until 30 June 2021 were permitted.
The Cyprus Ministry of Finance announced in January 2016 that it would be taking steps to modify the Cyprus IP box in order to conform with the modified nexus approach and the amendment to the law makes good this commitment.
Transitional arrangements for intellectual property assets developed prior to 30 June 2016
The existing IP box regime, which was introduced in 2012 provides for 80% tax exemption of income from the use of a wide range of intangible assets. Coupled with Cyprus’s low corporate income tax of 12.5 per cent, it gives an effective tax rate on such income of 2.5 per cent or less. Taxpayers already benefitting from the existing scheme may continue to claim the same benefits until 30 June 2021, subject to certain conditions regarding assets acquired between 2 January 2016 and 30 June 2016.
New arrangements for intellectual property assets developed from 1 July 2016
The arrangements for assets developed after 1 July 2016 follow the modified nexus approach. Qualifying assets are restricted to patents, software and other IP assets which are legally protected. Intellectual property rights used to market products and services, such as business names, brands, trademarks and image rights, do not fall within the definition of qualifying assets. Relief is geared to the cost incurred by the taxpayer in developing the intellectual property through its research and development activities, and costs of purchase of intangible assets, interest, costs relating to the acquisition or construction of immovable property and amounts paid or payable directly or indirectly to a related person are excluded from the definition of qualifying expenditure.
As was the case under the original scheme, 80% of the overall profit derived from the qualifying intangible asset is treated as deductible expense, preserving the effective tax rate of less than 2.5% on such income.
The transitional arrangements secure the existing generous benefits for intellectual property developed before 30 June 2016 until 30 June 2021. While the range of assets and the categories of expenditure qualifying for relief after 1 July 2016 are more restricted than under the previous rules, Cyprus’s IP box still represents a very attractive option for taxpayers, with an effective tax rate of less than 2.5% on qualifying income.