Facts:
A Polish company, operating in the form of a limited liability company, owned by individuals, launched a successful internet business. Using the terms of the VAT law we may say that through the company’s website users may purchase certain goods (a supply of goods within the Polish territory is being performed) at really bargain prices. However in order to participate in the purchase scheme users have to create their personal accounts and buy certain electronic services. The main proceeds and profits for the company are generated on electronic. In order to supply those services the company must have a license to use special software which manages the purchase process and relations with customers.
The task for tax advisors is to structure the business in the most tax efficient way. Polish tax burdens are as follows:
- Corporate tax calculated on the basis of the company’s net income (proceeds less deductible costs) – 19%
- Tax on dividend paid to individuals – 19%
- Tax on management fee for the members of the company’s board – progressive 18 – 32 %
- VAT on services and goods – 22%
Proposed scheme:
1. Because of several restrictions under Polish law regarding transactions with offshore companies (companies residing in countries which practice harmful tax competition and which are listed by OECD), it is not possible to run the business directly by such a company. Those restrictions are:
a. Withholding tax on license fees and certain non-material services at the rate of 20%;
b. Ban on VAT deductions in the case of services supplied by the offshore companies;
c. Special transfer pricing policy.
2. The business shall be split in two separate businesses. The first part will deal with the supply of goods to customers whilst the second part will deal with the supply of electronic services. Justification: It doesn’t make any sense to supply goods by the company which is not located in Poland. As the supply of goods is carried out within the Polish territory, Polish VAT as well as Polish income tax apply (because of the source of income or because of the permanent seat in Poland). Additionally, this part of business is not so profitable as the supply of electronic services can be performed from abroad where the system of taxation is more “business friendly”.
3. The most important issue is VAT. According to the EU VAT directive (2006/112/EC) in the case of electronic services which are supplied by the tax payer established in the Community to customers established in the Community too, the place of the supply is the place where the supplier has established his business (art. 43 and art.56, 57). This rule will unfortunately be in force only until 1st January 2015. After this date a customer’s VAT rate shall apply (Directive 2008/8/EC). It means that until the new EU directive comes into force, we can explore the opportunity and find countries with the lowest VAT rates. The lowest rates are in Spain (16%), on Cyprus (15%), in Luxembourg (15%) and in the UK (15%). For some reasons, which will be explained below, we choose Cyprus, although Luxembourg is also very popular for electronic services supply.
4. Cyprus has some other advantages:
a. Low corporate tax rate – 10%; It is the lowest rate within EU what allows us to reduce those costs, too;
b. No withholding tax on license fees, even if paid to off shore businesses; This regulation allows us to place software copyright in the off shore entity and to license its use for the Cypriot company. In that way the base for corporate taxation on Cyprus can be reduced by the amount of the license fee;
c. No taxes on management fees in the case the manager (member of the company’s board) has no tax residency on Cyprus. This regulation is especially advantageous in the case of Polish managers. According to the tax treaty between Poland and Cyprus, the management fee can be taxed according the company’s residency. In such a case the director’s income of a resident of the other country should be tax exempt in that country. Therefore, the management fee paid by the Cypriot company to the Polish manager is subject to taxation in neither country.
