Indirect sale of real estate in the Russian Federation in the context of the beneficial ownership rules

Print Friendly, PDF & Email

On 17 January 2017 the Commercial Court of Vladimir Oblast delivered a judgement in case No. А11-6602/2016 (the “Decision”) under the claim of Vladimir Energy Retail Company[1]  Public Joint-Stock Company (the “Company”).

This case is dedicated to refusal to grant tax benefits to a Cypriot company in connection with receipt of income from indirect sale of real estate located in the Russian Federation.

It follows from the judicial act that in May 2011 Vladimirsky Torgovy Dom MRG CJSC (“Vladimirsky Torgovy Dom”) sold to the Cypriot company a 100% shares of EnergoService LLC (“EnergoService”) for RUB 100 million with a par value of RUB 98.6 million. In turn, real estate made up more than 50% of the value of EnergoService’s assets. In September 2011, the Cypriot Company sold 100% of EnergoService to the Company for RUB 900 million. The Company did not withhold corporate profit tax when the income was paid to the Cypriot company. The Cypriot company paid the proceeds from the transaction to its shareholder registered in the BVI as dividends.

In the inspectorate’s opinion, when paying the income the Company should have withheld corporate profit tax at the 20% tax rate. In denying the Company, the court relied on the following:

  • The parties to the transaction were affiliates and influenced the results of the transactions.
  • The Cypriot company was registered in 2009, liquidated in 2013 and did not pay taxes in Cyprus while it existed.
  • The Cypriot company’s bank statements show that there was cash flow on the bank accounts only in 2011, and the transaction with the Company was the only income.
  • The Cypriot company’s tax statements confirm that dividends were paid to a BVI shareholder in 2011.
  • The dates dividends were paid to the Cypriot company match the dates of the debit transactions on the company’s account at the Cypriot bank.
  • The amount equal to RUB 800 million was reflected in the Cypriot company’s statements as 2011 tax-exempt income (due to certain features of Cyprus law).
  • The Cypriot company’s 2010 and 2011 tax statements show that as of its establishment the company did not have any intangible, tangible or financial assets, and the company did not have any labor or personnel expenses.

The inspectorate decided that the Cypriot company was not entitled to the benefits under the tax treaty, citing, inter alia, the beneficial ownership concept within the OECD meaning. The inspectorate was also guided by the provisions of the Russia-Cyprus Tax Treaty in the version of the Protocol, which introduced rules on limiting benefits in the event of indirect sale of real estate in Russia and entered into force on 1 January 2017.

The court’s position on this case creates a risk of claims being brought in connection with indirect sale of real estate for pre-2017 tax periods.

Dentons’ tax team is ready to provide you with 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 ownership concept, and other tools for combating tax evasion using international tax treaties, and in modification of those structures to reduce any risks identified.

[1] Vladimirskaia Energosbytovaia Kompania