CYPRUS IP BOX REGIME

Benefit From Intellectual Property Law

WHAT IS IP BOX REGIME?

IP Box Regime (known also as a patent box, innovation box or IP box) is a corporate tax regime, used by several countries to incentivize research and development activities which concludes in lower taxes, by taxing revenues deriving from a license, sublicense, sale or transfer of qualified IP assets, way differently compared to other commercial revenues.

Intellectual Property (IP) is a commonly used term which includes mind creation results such as software programs, innovative algorithms and formulas, inventions, trade-secrets and know-how, manufacturing practices, marketing concepts, artistic works, designs, images, names and inventions used in commerce. It is one of the most valued assets a company can have.

The IP assets may not have a fixed geographical nexus and can be relocated without significant costs. 85% of multinational companies use this flexibility to reduce overall tax burden by allocating valuable IP to group companies resident in countries with advanced IP box regime.

HISTORY OF IP BOX REGIME

Ireland introduced for the very first time a scheme in its Corporation Tax on 1970s, more specifically, was section 34 of the 1973 Finance Act, that gave the first incentive to total tax relief to respect royalties and other income from licenses patented in Ireland, even though this scheme was withdrawn later on 2010 under the National recovery Plan 2011-2015 of the Republic of Ireland.

French Tax Authorities, decided to adopt Ireland’s example, on 2001 in reducing rate of tax of revenues gained from IP licensing or the transfer of qualified IP. Later IP box regime started being a financial “trend” for several European countries such as Belgium, France, Hungary, Luxembourg, Netherlands, Spain, United Kingdom, Switzerland and Cyprus.

Referring IP Box Regime all over the Europe, it can be divided in two big groups: first one provides for reduced rates of tax on qualifying income (this strategy is implemented by France, Netherlands and United Kingdom), while second group, provides for an exemption of a specified proportion of revenues (this is implemented by Spain, Luxembourg, Belgium, Hungary and Cyprus). The second group subdivides into schemes that exempt a proportion of gross and those that exempt a proportion of net revenues. 

It is very convenient to deal with intellectual property due to its non-physical character. So it can be easily border-crossed between different jurisdictions and tax systems, according to prevailing circumstances and developments in different countries.

History of IP box regime

PRINCIPAL FEATURES OF IP BOX REGIME IN CYPRUS

80% of any profit resulting from the disposal of relevant intangible assets is disregarded for tax purposes. This is a generous exemption compared to other regimes as shown at the table below.

Four-fifths (80%) of the profit earned from the use of intangible assets is deducted for tax purposes. So, only 20% of IP income after deduction of the costs of earning the income, is taken into calculation. Therefore applying to Cyprus corporate tax rate of 12.5%, which is among the lowest in the EU, provides the effective tax rate of 2.5%.

Capital expenditure related to IP acquisition or development may be deducted in the first tax year in which the expense was incurred as well as in the subsequent 4 years. That is, development or acquisition expenses are amortized over a period of 5 years. This in practice can lower the effective tax rate to less than 2%.

Countries battle to attract innovative businesses by providing discounted tax rates for companies that established proper IP rights accounting and related cross-border operations

THE KEY DIFFERENCES BETWEEN COUNTRIES APPLYING IP BOX REGIME​

One jurisdiction will be better on certain aspects, but another will be better on others, and the differences will have to be assessed and weighed against one another to make the best decision of the solution.

 CyprusBelgiumHungaryLuxembourgNetherlandsFranceUnited Kingdom

Effective Tax Rate

2.5%

4.44%

4.5%

5.2%

7%

10%

10%

Qualifying IP Assets

Patents, computer software, utility models, other IP assets such as non obvious, useful or novel rights 

Patents and supplementary patent certificates, copyrighted software

Patents, utility model protection, copyrighted software

Patents, trademarks, designs, domain names, models and software copyrights, brands for services for goods such as productions and marketing know-how

Self-developed intellectual property relating to patents, copyrighted software or approved R&D

Patents, utility certificates, copyrighted software

Patent and rights similar to it

Ineligible IP Assets

Business names, trademarks, image rights, marketing activities

Know-how, trademarks, designs, models, formulas and processes

Designs

Formulas, copyrights (other than software)

Trademarks, brands and acquired IP

Non patentable inventions, R&D activities

Trademarks, copyrights and designs

Internally Developed or Acquired?

Internally developed and acquired intellectual property

Self-developed IP rights or acquired or licensed from third parties

Internally developed and acquired intellectual property

Internally developed and acquired intellectual property, but not IP acquired from a related party

Self-developed only

Internally developed and acquired intellectual property

Internally developed and acquired intellectual property

Limitations on Where R&D Takes Place

Some

Some

None

None

Some

None

None

Qualifying Revenue

Royalty, licensing fees, compensation income, trading profits from the disposal of IP, capital nature gains form the disposal not subject to any taxPatent incomeRoyalties

Royalties net of costs (amortisation, R&D costs, interest)

Net income from qualifying assets

Net results derived from licensing, sublicensing or selling of qualifying of IP rights

Net income from qualifying intellectual property

Deduction Rate

80%

85%

50%

80%

None – reduced tax rate

None-reduced tax rate

None – reduced tax rate

Overall Limit of Deduction

None

100% of pre-tax income

50% of pre-tax income

None

None

None

None

Gains on Disposal Included

Yes

No

Yes

Yes

Yes

Yes

Yes

IP BOX COMPARISON SUMMARY

Cyprus IP Box Regime provides a maximum tax rate of 2.5% on income earned from IP assets. The comparable rate in its nearest competitors, Belgium at 4.44%, Hungary at 4.5% and Luxembourg at 5.2%, is twice that amount, followed by Netherlands at 7%, France at 10% and United Kingdom at 10% who seem to be behind Netherlands but far behind Cyprus.

Cyprus IP Box Regime applies to a wider range of income compared to other similar European scheme, most of which restrict benefits to income from patents and supplementary patent certificates.

While IP Box Regime schemes of Belgium, Hungary, Luxembourg, Netherlands and United Kingdom offer partial exemption of gains on disposal, the exemptions become less attractive for IP holders than those offered by the Cyprus scheme, due to their limitations on qualifying assets and less deduction rates.

Consultation CYPRUS Intellectual Property box regime

RATIFICATION OF ALL MAJOR IP TREATIES​

Cyprus offers an efficient IP tax regime for tax optimisation, as well as maximum protection and certainty for IP owners due to the ratification of all major IP treaties and protocols.

Specifically, Cyprus is signatory to the below:

HOW TO APPLY FOR IP BOX?

Contact us to get more details about the requirements and possible scenarios for your business while applying for maximum tax benefits 

NEXUS FRACTION IN IP BOX REGIME

On 14 October 2016, the House of Representatives passed amendments to the Income Tax Law in order to align the current Cyprus IP tax legislation with the provisions of Action 5 of the OECD’s Base Erosion and Profit Shifting (BEPS) project.

The nexus fraction is used to determine the amount of qualifying profits that will give the relevant deduction to the taxpayer. In such cases, taxpayers would continue to benefit from the existing IP regime for a maximum of 5 years, after which date the new IP tax regime will be applied.

 

Taxpayers should be familiar with the process of calculating the qualifying profits and ensure they have proper accounting in place to separate out relevant income streams and gather information on R&D spend, in order to perform the nexus calculations.

Taxpayers should carefully examine the potential impact of the new tax provisions on their IP structures and operations. It’s more safe to order and consult professional services from companies that are expert in IP Box Regime legislation and can calculate nexus fraction as well as prepare the required set of documents.

PROVISIONS OF THE NEW CYPRUS IP BOX REGIME

The new IP regime complies with the provisions of the modified ‘nexus approach’, whereby for an intangible asset to qualify for the benefits of the regime, there needs to be a direct link between the qualifying income and the own qualifying expenses contributing to that income.
In brief, an amount equal to 80% of the qualifying profits earned from qualifying intangible assets will be allowed as a tax deductible expense.

As per the amended legislation, “qualifying intangible asset” is defined as an asset which was acquired, developed or exploited by a person within the course of carrying out his business (with the exception of intellectual property related to marketing), which is the result of research and development (R&D) activities, and which includes intangible assets for which only economic ownership exists.

Qualifying intangible assets comprise of:

  • patents, as defined in the Patents Law
  • computer software
  • other IP assets which are legally protected and fall within one of the following categories:
    • utility models, intellectual property assets which provide protection to plants and genetic material, orphan drug designations and extensions of protections for patents
    • non-obvious, useful and novel, where the person utilizing them in furtherance of a business does not generate annual gross revenues in excess of €7,500,000 from all intangible assets (€50,000,000 in case of a group of companies), which are certified as such by an appropriate authority, in Cyprus or abroad.

The definition of qualifying intangible assets specifically excludes business names, brands, trademarks, image rights and other intellectual property rights used for the marketing of products and services.

Qualifying profit (QP) is defined as the proportion of the overall income (OI) derived from the qualifying asset, corresponding to the fraction of the qualifying expenditure (QE) plus the uplift expenditure (UE) over the overall expenditure (OE) incurred for the qualifying intangible asset. The amount of qualifying profit can be derived through the application of the following formula:
qualifying profit
Where:
    • Overall Income (OI) Overall income is defined as the gross income earned from qualifying intangible assets during the tax year, minus any direct costs incurred for generating the income.Overall income includes, but is not limited to:
      • royalties or other amounts resulting from the use of qualifying intangible assets
      • license income for the operation of qualifying intangible assets
      • any amount received from insurance or as compensation in relation to qualifying intangible assets
      • income from the disposal of qualifying intangible assets, excluding profits of a capital nature
      • embedded income of qualifying intangible assets arising from the sale of products or services, or from the use of procedures that are directly related to the assets
      On calculating overall income, direct costs include as following:
      • all costs incurred, either directly or indirectly, wholly and exclusively for the purpose of earning the income from qualifying intangible assets
      • the amortization of the cost of the assets
      • notional interest on equity contributed to finance the development of the assets (being a notional interest tax deduction allowed by Cyprus tax provisions)
    • Qualifying Expenditure (QE) Qualifying expenditure for qualifying intangible assets is defined as the sum of all R&D costs incurred during any given tax year wholly and exclusively for the development, improvement or creation of qualifying intangible assets, and which costs are directly related to such assets.Qualifying expenditure includes, but is not limited to:
      • wages and salaries
      •  direct costs
      •  general expenses relating to installations used for R&D
      •  commission expenses associated with R&D activities
      •  costs associated with R&D activities that have been outsourced to non-related persons
      Even so, qualifying expenditure does not include:
      • costs for acquisition of intangible assets
      • interest paid or payable
      • costs for acquisition or construction of immovable property
      • amounts paid or payable directly or indirectly to a related person to conduct R&D activities, regardless of whether such amounts relate to cost sharing agreements
      • costs which cannot be proved directly connected to a specific qualifying intangible asset
      Any expenditure for R&D that has been outsourced to non-related parties, as well as any expenses of a general nature for R&D, which can not be allocated to the qualifying expenditure of a specific qualifying intangible asset, can be apportioned pro rata to the qualifying intangible assets
    • Uplift Expenditure (UE) An uplift expenditure is added to the qualifying expenditure, which will be equal to the lower of:
      • 30% of the qualifying expenditure
      • the total cost of acquisition of the qualifying intangible assets, plus the cost of outsourcing to related parties of any R&D activities in relation to such assets
  • Overall Expenditure (OE) Overall expenditure relating to qualified intangible assets is defined as the sum of:
    • the qualifying expenditure
    • the total cost of acquisition of the qualifying assets, plus the cost of outsourcing to related parties of any R&D activities in relation to these assets, incurred during any tax year

Persons claiming benefits under the new regime are obliged to maintain proper books of account, as well as records of income and expenses for each intangible asset.

Expenditure for the acquisition of an intangible asset that does not qualify for the transitional provisions, and which asset is used in furtherance of the business, can be amortized over the asset’s useful life, in accordance with accepted accounting principles, with a maximum period of 20 years.

A balancing statement needs to be prepared in case where the asset is disposed, similarly to cases of disposal of fixed assets. It is of a high importance to be noted that goodwill does not qualify for amortization.

PRACTICAL EXAMPLES​

To put things in perspective, we set out some numerical examples illustrating how, under the new IP regime, one would reach the QP stage on which 80% notional deduction would be applied.

 

The major factors in the examples are:

  • whether the asset was internally developed or whether it was acquired, and
  • whether R&D costs were outsourced to related parties or to third parties.

The following cases will be examined:

  1. The asset was developed or improved internally, with R&D costs being undertaken by the company itself.
  2. The asset was acquired, with subsequent R&D costs for improvements of the asset being were outsourced to non-related parties.
  3. The asset was acquired, with subsequent R&D costs for improvements being outsourced to related parties.

For the purposes of the examples, the following figures are used :

 Case 1Case 2Case 3
Overall Income (OI) from qualifying IP€1,000,000€1,000,000€1,000,000
  Cost of acquisition of assetN/A€300,000€300,000
  R&D costs, incurred internally€500,000N/AN/A
  R&D costs, outsourced to non-related partiesN/A€200,000N/A
  R&D costs, outsourced to related partiesN/AN/A€200,000
Overall Expenditure (OE)€500,000€500,000€500,000
  R&D costs, incurred internally€500,000N/AN/A
  R&D costs, outsourced to non-related partiesN/A€200,000N/A
Qualifying Expenditure (QE)€500,000€200,000N/A
  30% of the qualifying expenditure€150,000€60,000
0
  Total cost of acquisition + cost of outsourcing to related parties0€300,000€500,000
Uplift Expenditure (UE)0 €60,000

Applying the above figures to the formula for calculation of the Qualifying Profit (QP) and the tax benefit of up to 80% as a notional deduction, we have:

qualifying profit

Qualifying Profit (QP)

Notional Deduction (80% of QP)
Case 1:€1,000,000 x [(€500,000 + €0) / €500.000]

€1,000,000

€800,000

Case 2:€1,000,000 x [(€200,000 + €60,000) / €500.000]

€520,000

€416,000

Case 3:€1,000,000 x [(€0 + €0) / €500.000]

€0

€0

As a result, the IP tax benefit will be:

Case 1:    Taxable profit will be decreased by €800,000 notional expense – 2.5% effective corporate tax rate 

Case 2:    Taxable profit will be decreased by €416,000 notional expense – 7.3% effective corporate tax rate 

Case 3:    No notional expense applies – 12.5% effective corporate tax rate 

Get professional advice on how your business can benefit from IP Box Regime in Cyprus

HOW WE CAN HELP

We represent a group of entrepreneurs and legal advisers experienced in practical use of Cyprus IP Box Regime legislation. Our aim is to help companies and founders to take advantage of modern tax rules while generating intellectual property rights in Cyprus.

We can review your current situation and provide legal advice on how to improve the business structure for getting benefit from reduced corporate tax rate. The group of professionals can handle the tax compliance and track your IP calculations in line with relevant regulations timely determine IP related deductions. 

Keywords: #software #iprights #copyrights #patents #trademarks #taxation #audit #accounting #valuation
IP Box Regime Cyprus Office

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