Rules for Controlled Foreign Companies (CFCs)

Rules for Controlled Foreign Companies (CFCs)

The provisions of Article 66 of the Greek Income Tax Code (ITC) were amended as of 01.01.2019 by virtue of the provisions of Article 12 of Law 4607/2019 for the purpose of harmonization with Council Directive 2016/1164/EU (ATAD) and implementation of the BEPS results (final report – action 3), in order for Member States to limit the artificial diversion of income to companies and permanent establishments established in low-tax countries within and outside the European Union.

In particular, the new provisions for “Controlled Foreign Companies”, which relate to the inclusion in the taxable income of non-distributed income of a legal person or legal entity that is a tax resident in another country, introduce a Targeted Anti-Avoidance Rule (TAAR) to prevent tax avoidance by domestic companies through the transfer of their income to their subsidiaries located in low-tax jurisdictions.

Other EU Member States, such as Germany, France, UK, Sweden, Portugal, France, Denmark, , Finland, Italy and the United Kingdom, apply similar CFC rules.

It should be noted that the provisions of Article 66 of the ITC are more specific than the provisions of Article 38 of the Code of Tax Procedure (CTP), which provide the General Anti-Avoidance Rule (GAAR). Consequently, cases falling within the scope of Article 66 are not considered in the light of the more general provisions, either cumulatively or alternatively (E.2167/2019).

Α. Conditions of application

As “Controlled Foreign Company” qualifies a foreign legal person or a foreign legal entity or a foreign permanent establishment the profits of which are not taxed or are tax exempt in Greece, when the following conditions are cumulatively met:

Participation criterion

• In the case of a legal person or legal entity, the taxpayer alone or jointly with its associated entities:
• holds a direct or indirect participation of more than fifty percent (50%) of the voting rights; or
• has direct or indirect ownership of more than fifty percent (50%) of the capital; or
• is entitled to receive more than fifty per cent (50%) of the profits of that legal person or legal entity.

It is noted that in the case of indirect participation, to determine such percentage, it must first be established that the intermediate entities are associated with the domestic entity, as follows:

“Associated entity” means:

• A legal person or legal entity in which the taxpayer holds, directly or indirectly, voting rights or participation in the capital or profit participation rights of twenty-five percent (25%) or more,
• An individual or legal person or legal entity which holds, directly or indirectly, voting rights or participation in the capital or participation in profits of twenty-five per cent (25%) or more in a taxpayer.

If an individual or legal person or legal entity holds, directly or indirectly, voting rights or participation in the capital or profit participation rights of twenty-five percent (25%) or more in a taxpayer and in one or more legal persons or legal entities, all relevant legal persons or legal entities, including the taxpayer, shall also be considered associated entities.

It should be noted that the above definition of associated entities for the purposes of Article 66 differs from that of Article 2 of Law 4172/2013.

If it is established that these are associated entities, then the percentages of their participation in the CFCCFC must be checked cumulatively, i.e. if the sum exceeds 50%, the above condition is met (E.2122/2021).

• Criterion of the tax paid

The actual corporate tax paid on the profits of the CFC is less than the difference between the tax that would be due by the CFC under Greek law, if it was a tax resident or had a permanent establishment in Greece pursuant to Article 6 of the Greek Income Tax Code and the actual corporate tax paid by the CFC  on its profits (as it would have been derived from code 004 of the income tax return of legal persons and legal entities – form N, if the CFC had filed a return as a domestic company).

For calculating the tax difference, the permanent establishment of a CFC that is not subject to tax or is exempt from tax in the country of the CFC is not taken into account.

Therefore, the new provisions introduce an effective tax criterion so that the provisions are triggered when the tax actually paid in the country of the CFC is less than 50% of the tax that would be due under the general provisions on corporate income tax if the CFC was a tax resident or had a permanent establishment in Greece. Therefore, it is no longer examined whether the CFC is established and subject to taxation in a non-cooperative state or a state with a preferential tax regime, as was the case under the previous provisions.

• Income criterion

More than thirty percent (30%) of the net income before taxes realized by the CFC falls exclusively within one or more of the following income categories:

1. interest or any other income generated from financial assets, royalties or any other income derived from intellectual property,
2. dividends and income from the disposal of shares,
3. income from financial leasing,
4. income from insurance, banking, and other financial activities,

income from invoicing entities that derive income from sales of goods and services that are purchased and sold from/to its related entities and add no or little economic value.

 

The following changes compared to the previous provisions should be noted:

• The exemption that previously applied for foreign listed companies has been abolished and the latter are now also included in the scope of Article 66, provided that the above criteria are met.
• Non-distributed income is the profits arising exclusively from the categories of income listed above and not from the total non-distributed income of the CFC.
• The categories of income under scope no longer include income from real estate, but include income from invoicing companies (see the relevant provisions of par. 78 of the Final Report of the OECD BEPS Action Plan 3).
• There is no longer a requirement that income derived from even one of the income categories must exceed 50% of the transactions of the taxpayer (or its associated parties) with the CFC.
• Non-distributed passive income is included in the taxable income without considering whether it is derived from acts and transactions of the CFC with the taxpayer company/entity/person or with persons directly or indirectly associated with the taxpayer company/entity/person.
• It now addresses the artificial diversion of passive income that forms part of the taxpayer’s worldwide income, which, without the provisions in question, would remain tax-free.

 

B. Rules for calculating the taxable income of the CFC

The income of the CFC included in the taxable base is calculated in accordance with the provisions of the ITC and at the tax rate applicable to business profits of individuals or legal persons or legal entities, as the case may be.

Furthermore, the income is included in that tax year of the taxpayer during which the tax year of the legal person or legal entity that qualifies as a CFC ends and is calculated in proportion to the taxpayer’s participation in the legal person or legal entity. If the legal person or legal entity or permanent establishment incurs losses in a tax year, such losses shall not be included in the taxpayer’s taxable base, but shall be offset against future profits, subject to the conditions set out in Article 27 par. 4 case c’ of the ITC..

C. Distribution of profits from the CFC

When the CFC (legal person or legal entity) distributes profits or, in the case of a permanent establishment, attributes profits to the taxpayer, which are included in the taxable income of the latter, the amounts of income included in the taxable base in a previous tax year shall be deducted from the taxable base when calculating the amount of tax due on the distributed profits.

Consequently, at the time of distribution, the amounts of the CFC that were included in previous tax years in accordance with the provisions of Article 66 of the ITC are deducted.

D. Disposal of the participation in a CFC

In the event of a disposal of a direct participation in the CFC by a Greek resident taxpayer, when calculating the amount of tax due, that part of the taxable base that has already been taxed in previous tax years under the CFC rules is deducted from the taxable base. These amounts are entered in code 478 of the income tax return of legal persons and legal entities (Form N). In the event of a transfer of part of the participation in the CFC, then the amount entered in the above code in the income tax return is reduced by the percentage of the participation transferred.

Special case

If in the same tax year the CFC a) makes a distribution and b) the taxpayer subsequently disposes of its total participation in the CFC, then the amount distributed in that tax year under the provisions of Article 66 of the ITA will be entered in code 478 of Form N, while the amount of the capital gain from the disposal will be taxed. If the capital gain from the transfer is exempt, there is no double taxation and, therefore, the part already taxed in previous tax years on the basis of the above is not deducted from the taxable base (par. 134 of the OECD BEPS Report Action 3 Designing Effective Controlled Foreign Company Rules).

E. CFC tax credit

The foreign tax paid by the CFC, as well as by the associated entities in case of indirect participation, reduces the taxpayer’s tax liability up to the amount of tax due on such income in Greece. In addition, to avoid double taxation in the case where the tax liability of a domestic parent company is also reduced by the tax paid by the other associated entities by applying the credit method, the tax credit should not exceed the amount of tax due on this income in Greece. This treatment avoids double taxation both at the level of the CFC and at the level of the intermediate associated entities.

F. Declaration of income of individuals

The non-distributed income of a controlled foreign company included in the taxable income of an individual constitutes business income, is calculated at the tax rate applicable to business income of individuals and is reported in the individual income tax return (Form E1) in Schedule C2, codes 411-412 “Net profits from foreign business activity” (case 8). Consequently, the foreign tax paid, which, according to the above, reduces the taxpayer’s tax liability, it is entered under codes 653-654 “Taxes paid abroad” (case 12).

G. Non-application of CFC rules

The provisions of Article 66 on CFCs do not apply where the CFC is established within the EU and EEA and carries out a substantial economic activity supported by personnel, equipment, assets, and facilities as evidenced by relevant facts and circumstances.  In this case, the Tax Authority bears the burden of proof to the contrary.

The above exemption from the CFC rules does not apply for CFCs that are tax resident (or established, in the case of a permanent establishment) in a third country that is not a party to the EEA Agreement. In this case, the CFC rules apply even if the CFC carries out a substantial economic activity.

Finally, it is noted that the CFC rules continue not to apply to shipping companies incorporated and operating in accordance with Law 27/1975 and Law 2687/1953, as well as to companies, legal persons or legal entities, to the extent that their capital either derives from shipping activities or constitutes investments from shipping funds, provided that such funds are owned by individuals associated with the companies incorporated and operating in accordance with Law 27/1975 and Law 2687/1953. It should be noted that provisions governing the taxation of shipping companies and associated individuals only in relation to income derived from such companies are not affected by the provisions of Article 66 (Article 72 par.14 of the ITC and relevant Circular POL. 1211/2014).

 

*             The information is accurate to the best of our knowledge as at the time of writing. We have no obligation to update it. We accept no responsibility against any third party who is not a client of the firm and has not signed the terms of our engagement.