Cyprus has recently enacted important tax measures that restrict the deductibility of certain expenses involving entities established in jurisdictions considered “non-cooperative” or “low tax.” These amendments bring Cyprus in line with broader EU initiatives and reflect the country's increasing focus on transparency and compliance with international tax standards.
Scope of the New Rules
The restrictions apply to expenses incurred by Cyprus tax-resident companies and permanent establishments that make direct or indirect payments to related or unrelated entities resident, incorporated, or otherwise operating in either of the following categories. First, non-cooperative jurisdictions, which are jurisdictions listed on the EU blacklist of non-cooperative jurisdictions for tax purposes. The EU updates this list twice a year, and it includes countries that fail to meet minimum tax governance standards or that engage in harmful tax practices. Second, low-tax jurisdictions, defined as those where the corporate tax burden is less than 50% of the Cyprus corporate income tax rate. Given Cyprus' corporate income tax rate of 12.5%, this effectively captures jurisdictions with an effective corporate tax rate below 6.25%.
Categories of Non-Deductible Expenses
Payments falling within the scope of the new rules include interest expenses, such as those arising from intra-group loans or other financing arrangements, royalty payments for the use of intellectual property, and service fees or other deductible charges that are routed to entities in the targeted jurisdictions. From a practical standpoint, companies will now need to carefully examine the nature of their cross-border transactions to determine whether any of their payments fall within these categories.
Interaction with Cyprus Tax Law
The restrictions are introduced as amendments to the Cyprus Income Tax Law. The key principle is that while expenses are generally deductible if incurred wholly and exclusively for the production of taxable income, they are now expressly non-deductible if the recipient is based in a low-tax or non-cooperative jurisdiction. This represents a departure from the previous framework, where the focus was mainly on the arm's length principle under transfer pricing rules. In effect, even if a payment to a blacklisted or low-tax jurisdiction is priced at arm's length, it may still be disallowed entirely for tax deduction purposes.
Impact on Corporate Structures
This development is particularly relevant for multinational groups that previously relied on financing, licensing, or holding structures involving low-tax jurisdictions. For example, arrangements where intellectual property was owned by an offshore entity and royalties were paid from Cyprus will no longer be tax efficient if that entity is based in a targeted jurisdiction. Similarly, interest payments to group finance companies established in jurisdictions with very low effective tax rates will face outright denial of deductibility in Cyprus. Groups using such structures will need to consider relocating these functions to jurisdictions that are not caught by the rules, while still maintaining an acceptable overall tax burden.
Compliance and Risk Management
From a compliance perspective, companies operating in Cyprus will need to reassess their related-party arrangements and cross-border transactions. This includes reviewing not only current payments but also legacy structures that may still generate deductions in Cyprus. Tax audits are expected to place increased emphasis on identifying payments routed to blacklisted or low-tax jurisdictions, and companies that fail to adapt may face higher effective tax costs as well as potential penalties for non-compliance.
Strategic Considerations
These measures also reflect Cyprus' intention to strengthen its reputation as a transparent and credible international business centre. By implementing EU-driven anti-avoidance provisions, Cyprus positions itself as compliant with global standards while still offering competitive tax benefits such as the non-domicile regime and the IP Box regime, both of which remain unaffected. The reforms also underline the importance of genuine substance, as structures relying on artificial profit shifting to offshore entities will now be penalised.
Why Malta Has Not Introduced Similar Rules
While Cyprus has moved decisively to implement these restrictions, Malta has so far chosen not to follow the same path. Malta's tax system is built around its long-standing imputation and refund mechanism, under which companies pay tax at 35% but shareholders may claim significant refunds, often reducing the effective rate to around 5%. This system is deeply embedded and Malta may be reluctant to introduce parallel restrictions that could undermine its overall attractiveness. Unlike Cyprus, Malta has also delayed full implementation of the OECD's global minimum tax framework and prefers a cautious approach to reform. Instead of directly targeting payments to low-tax or blacklisted jurisdictions, Malta has focused on strengthening substance requirements and corporate governance, requiring businesses to demonstrate real economic activity such as local offices and management. By evolving gradually rather than through abrupt reform, Malta preserves stability and predictability for investors, even while international pressure for alignment continues to grow.
Looking Ahead
The introduction of restrictions in Cyprus marks a significant step in the ongoing shift towards greater tax transparency within the EU. For businesses, this underscores the need to review existing structures, ensure compliance with the amended Income Tax Law, and consider restructuring where necessary. At the same time, the divergence between Cyprus and Malta highlights that EU member states are not moving in unison. Cyprus has opted for proactive alignment, whereas Malta has adopted a more cautious stance, weighing its established competitive advantages against the growing demands of international tax reform.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
