A controlled foreign company (CFC) is one of the concepts that appeared in Ukrainian tax legislation relatively recently to combat tax evasion and ensure proper payment of taxes by Ukrainian taxpayers.
In this article, we will first remind you of the main provisions of the Tax Code of Ukraine (hereinafter – the TCU) on CFCs, and then we will share the transitional provisions that are temporarily applicable until 2022-2023 reporting years.
What is CFC?
A controlled foreign company is any legal entity registered in a foreign state or territory that is recognized as being under the control of an individual resident of Ukraine or a legal entity resident of Ukraine in accordance with the rules set forth in this Code. A legal entity may be recognized as a corporate entity (association) or an organization with the right to own assets, have rights and obligations and carry out activities on its own behalf and independently of its founders, participants or form of ownership. The status of a legal entity of a controlled foreign company shall be recognized in accordance with the law of its registration. In the cases provided for in this Article, a foreign entity without the status of a legal entity may be equated to a controlled foreign company.
In this case, a controlling person is an individual or a legal entity – residents of Ukraine – who are direct or indirect owners (controllers) of a controlled foreign company.
So, to put it simply, a CFC is a company controlled by residents of Ukraine and having a non-resident status for tax purposes. If a CFC has profits that are earned outside of Ukraine, these profits may be subject to taxation in Ukraine. Under Ukrainian tax law, CFCs are required to file reports on their activities and financial position in Ukraine.
What percentage of ownership is required to be recognized as controlled?
In particular, a foreign company is recognized as a controlled foreign company if an individual resident of Ukraine or a legal entity resident of Ukraine (hereinafter referred to as the controlling person):
a) owns a share in a foreign legal entity in the amount of more than 50 percent, or
b) owns a share in a foreign legal entity in the amount of more than 10 percent, provided that several individuals – residents of Ukraine and/or legal entities – residents of Ukraine own shares in a foreign legal entity, the amount of which in aggregate is 50 percent or more, or
c) individually or jointly with other residents of Ukraine – related parties exercises actual control over a foreign legal entity.
Reporting
The controlling person is obliged to submit a full report on controlled foreign companies by the end of the calendar year following the reporting (tax) year. If, in accordance with such a report, the total taxable income, the object of taxation by corporate income tax of the controlling person increases, such person shall submit an adjusted annual declaration of property and income or a corporate income tax return by the end of the calendar year following the reporting (tax) year. In this case, no penalties and/or fines are applied.
Notification of changes in the CFC’s share
An individual resident of Ukraine or a legal entity resident of Ukraine is also obliged to notify the supervisory authority of the following:
1) each direct or indirect acquisition of a share in a foreign legal entity or the beginning of actual control over a foreign legal entity, which leads to the recognition of such an individual (legal entity) as a controlling person in accordance with the requirements of this Article;
2) establishment, creation or acquisition of property rights to a share in the assets, income or profit of an entity without the status of a legal entity;
3) each alienation of a share in a foreign legal entity or termination of actual control over a foreign legal entity, which leads to the loss of recognition of such individual (legal entity) as a controlling person in accordance with the requirements of this Article;
4) liquidation or alienation of property rights to a share in the assets, income or profits of an entity without the status of a legal entity.
The notification shall be sent to the supervisory authority within 60 days from the date of such acquisition (commencement of actual control) or alienation (termination of actual control). The form and procedure for sending such notification are established by the central executive body that ensures the formation and implementation of state financial policy.
The notification requirements do not apply if the controlled foreign company is a public company.
What transitional provisions apply for 2022-2023?
The following features apply for the period 2022-2023:
1) the first reporting (tax) year for the report on controlled foreign companies is 2022 (if the reporting year does not correspond to a calendar year, the reporting period starting in 2022). Controlling persons – individuals have the right to submit the report on controlled foreign companies for 2022 to the controlling authority simultaneously with the submission of the annual declaration of property and income (hereinafter – the “Declaration”) for 2023, with the inclusion of the adjusted profit of the controlled foreign company, which is subject to taxation in Ukraine, in the indicators of the Declaration for 2023. In this case, no penalties and/or fines are applied;
2) penalties and fines for violation of Article 39-2 of the TCU in determining and calculating the profit of a controlled foreign company will not be applied for the 2022-2023 reporting (tax) years;
3) for the 2022-2023 reporting (tax) years, the amount of a share in a foreign legal entity to be recognized as controlled is also determined in the following amounts: 25 percent or more, provided that several individuals – residents of Ukraine and/or legal entities – residents of Ukraine own shares in a foreign legal entity, the amount of which in aggregate is 50 percent or more, or”;
4) subparagraphs 39-2.3.2.1-39-2.3.2.4 of subparagraph 39-2.3.2 of paragraph 39-2.3 of Article 39-2 of the TCU regarding, among other things, adjustments to the financial result from CFC’s transactions with securities, other corporate rights, derivatives, CFC’s expenses from the depreciation of non-current assets, expenses for interest accrual on debt obligations, shall apply to reporting periods starting from January 1, 2023;
5) penalties and fines for violation of Article 39-2 of the TCU in determining and calculating the profit of a controlled foreign company shall not be applied for the 2022-2023 reporting (tax) years;
6) the taxpayer and its officials shall not be subject to administrative and criminal liability for any violations related to the application of Article 39-2 of the TCU in the 2022-2023 reporting (tax) years;
7) information and/or documents received by the supervisory authority in accordance with Article 39-2 of the TCU based on the results of the 2022-2023 reporting (tax) years: a) is restricted information that cannot be requested and/or transferred to law enforcement agencies upon their request or within the procedures provided for by the Criminal Procedure Code of Ukraine; b) cannot be considered evidence in criminal proceedings within the meaning of Article 84 of the Criminal Procedure Code of Ukraine.”
This is determined by clause 54 of subsection 10 of section XX “Transitional Provisions” of the TCU, which sets out the specifics of applying the provisions on taxation of profits of controlled foreign companies during the transition period.
Conclusions:
A controlled foreign company (CFC) is a company controlled by residents of Ukraine and having a non-resident status for tax purposes. According to the TCU, a CFC is one of the mechanisms for combating tax evasion, which ensures the taxation of profits earned outside Ukraine. If Ukrainian residents control a certain percentage of a CFC, the company is considered to be controlled for tax purposes. In order to determine the reporting and taxation of CFCs in accordance with the tax legislation of Ukraine, residents of Ukraine must ensure appropriate reporting on the activities of CFCs. Profits earned outside of Ukraine may be subject to taxation in Ukraine.
Transitional provisions are in place for 2022-2023, the main of which is the non-application of penalties and fines for violation of Article 39-2 of the Tax Code.
