In 2013, G20 and the Organisation for Economic Co-operation and Development (“OECD”) launched the Base Erosion and Profit Shifting (“BEPS”) Project, a global initiative aimed at preventing tax avoidance.

As a result, in November 2016, more than a hundred jurisdictions closed the negotiations on the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (“Multilateral Instrument,” “MLI,” or “the Convention”). The Multilateral Instrument introduces a series of changes to international tax rules in the context of bilateral tax treaties. Overall, the MLI seeks to:

  • Combat tax avoidance and treaty abuse
  • Improve international tax dispute resolution
  • Set uniform minimum standards across jurisdictions
  • Ensure regulatory flexibility in the area of eliminating double taxation where needed
  • The combined effect of the MLI’s provisions will radically transform the implementation of thousands of extant bilateral tax treaties worldwide.

As of 23 January 2020, 41 countries have implemented MLI. These include 29 of Cyprus’s double tax treaty partners: Austria, Belgium, Canada, Denmark, Finland, France, Georgia, Guernsey, India, Ireland, Jersey, Latvia, Lithuania, Luxembourg, Malta, Mauritius, Norway, Poland, Russia, Saudi Arabia, Serbia, Singapore, Slovak Republic, Slovenia, Sweden, Switzerland, Ukraine, United Arab Emirates, and the United Kingdom.

Cyprus and the MLI

The Ratification Process

On 22 January 2020, Cyprus’s Official Gazette published, in both Greek and English, the Instrument of Ratification of the Multilateral Convention to Implement Tax Treaty Related Matters to Prevent Base Erosion and Profit Shifting. The Gazette also featured an Exploratory Statement and the MLI Cyprus Position. The publication of these documents finalized the national ratification process by Cyprus.

On 23 January 2020, Cyprus formally deposited the above documents with the Secretariat of the OECD. The date of deposit is the same as the date of receipt by the OECD.

Entry into Force

As per Article 34 of the Convention, it shall enter into force on the first day of the month following the three months following the deposit of the ratification documents. In Cyprus, the Convention enters into force on 1 May 2020.

The provisions regarding taxes withheld at source shall enter into force on the first day of the following calendar year. For Cyprus, that day is 1 January 2021.

What Are the Changes Introduced by the MLI?

Cyprus approved the incorporation into national legislation of the following MLI provisions:

  • Action 6 (Purpose of Covered Tax Agreement)
  • Action 7 (Treaty Abuse)
  • Action 14 (Making Dispute Resolution Mechanisms More Effective)

These provisions apply to all of Cyprus’s existing bilateral double tax treaties, provided that the Contracting States have also ratified the Convention. That ensures the country’s compliance with the minimum international standards as per the MLI. The only exception is cases where minimum standards were already agreed on a bilateral basis.

The Principal Purpose Test

The Convention gives signatories the option to choose between two types of instruments to prevent treaty abuse:

  • Simplified Limitation on Benefits Provision (“SLBP”)
  • Principal Purpose Test (“PPT”)

Most state signatories, including Cyprus, have chosen the latter option.

The PPT states that benefits arising from a bilateral tax agreement shall not be granted in respect of either income or capital, where it is reasonable to conclude that those benefits were among the principal purposes of the arrangement or transaction in question. However, the benefits will be granted if it can be established that doing so would be in accordance with the object and purpose of the applicable provisions of the bilateral tax agreement. The PPT requires the competent authorities to consider all relevant facts and circumstances when making their assessment.

Where the tax agreement already includes a limitation of benefits clause, it shall be replaced by the PPT.

Finally, it is important to note that even where a person is denied benefits under a tax agreement following the application of the PPT, they may still request the relevant jurisdiction to re-examine its position. If the competent authorities conclude, in view of the facts and circumstances of the case, that such benefits would have been granted even in the absence of the transaction or arrangement, they shall treat that person as being entitled to them.

Practical Application of the MLI

The entry into force of the MLI will affect all tax-resident companies in Cyprus, many of which were established by non-tax-resident physical or legal persons. As of 1 January 2021, all such entities must demonstrate that obtaining benefits under bilateral tax treaties was not the sole purpose or one of the principal purposes for their registration in Cyprus. Otherwise, they may no longer be able to claim elimination or reduction of withholding taxes on income from the other Contracting State, including interest, dividends, or royalties. However, that only applies where the Contracting State has itself ratified the MLI.

How to Pass the Principal Purpose Test

In order to pass the PPT and qualify for tax treaty benefits, Cypriot tax-resident companies would need to show that they have sufficient economic substance in the country. That may involve various elements, such as:

  • Having an office space, employees and/or directors, and bank accounts in Cyprus
  • Carrying out effective management and control of the company in Cyprus
  • Signing of agreements and organizing shareholder and director meetings in the country

In addition, companies would need to prove that they have genuine and legitimate business considerations for being based in the country and that they carry out multiple activities locally.

It is clear that many entities based in the country would struggle to pass the PPT. To continue to qualify for tax treaty benefits, they may need to radically transform their structure and activities.

For further information please contact Mr Charles Savva at who will be happy to further assist you.


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