Controlled Foreign Companies (CFC) in Russia: Legal Guide

 

April 8, 2024

BRACE Law Firm ©

 

Tax residents of the Russian Federation – both individuals and legal entities – who are controlling persons of foreign companies must fulfill certain duties prescribed by the tax legislation of the Russian Federation and by-laws. In particular, they must submit notifications of participation in foreign organizations and notifications of controlled foreign companies, as well as pay taxes. Controlling persons bear tax and other liability for failure to fulfill or improper fulfillment of their duties.

Furthermore, for controlling persons of foreign companies registered in unfriendly states, new opportunities have been provided starting January 1, 2024, specifically, the right to file an application with the authorized body to exercise the rights of a shareholder (participant) in relation to a Russian economic company in which the controlled foreign company is a shareholder (participant) [1].

In this article, we will examine in detail which companies are classified as controlled foreign companies (the "CFCs"), which persons are recognized as controlling persons of CFCs, their duties and liability, as well as taxation specifics for CFCs and their controlling persons.

Definition of a CFC: Which Companies Are Classified as CFCs?

Briefly, a CFC can be defined as a foreign organization that is not a tax resident of the Russian Federation and is controlled by individuals and/or organizations that are tax residents of the Russian Federation [2]. Additionally, a foreign structure without legal personality, the controlling person of which is an organization and (or) an individual recognized as a tax resident of the Russian Federation, is also recognized as a controlled foreign company [3].

Before examining CFCs in detail, it is necessary to define the concept of a "tax resident." Both organizations and individuals can be tax residents of Russia. The grounds for assigning resident/non-resident status differ for them.

An organization is recognized as a tax resident of Russia if it meets one of the criteria [4]:

• it is a Russian organization;
• it is a foreign organization with its place of management in Russia;
• it is a foreign organization recognized as a Russian resident under an international treaty;
• it is a foreign organization with separate subdivisions in Russia that has voluntarily applied for resident status.

As noted above, an organization is recognized as a tax resident if its place of management is the Russian Federation, indicated by one of the following signs [5]:

• the executive body regularly manages the organization in Russia;
• the chief officers manage the organization primarily in Russia.

The grounds for recognizing/not recognizing an organization as a resident of Russia in international treaties may differ from the grounds specified in the Tax Code of the RF. For example, if an organization is a resident under the laws of two countries simultaneously, the issue of residency in Double Taxation Treaties (the "DTTs") is resolved differently, including:

• only by mutual agreement of the competent authorities (Item 3 Art. 4 of the Agreement between the Government of Russia and the Government of the Republic of Indonesia dated March 12, 1999);
• by the place of effective management (Item 3 Art. 4 of the Convention between the Government of Russia and the Government of the Hellenic Republic dated June 26, 2000);
• by the place where the effective management organ is situated (Item 4 Art. 4 of the Agreement between the Government of Russia and the Government of Australia dated September 7, 2000).

Please note that the operation of key sections of 38 bilateral double taxation treaties with unfriendly countries (USA, Canada, Japan, South Korea, Singapore, Australia, New Zealand, the UK, European Union member states, Albania, Macedonia, Montenegro, Iceland, Norway, Switzerland) was suspended by Decree of the President of Russia No. 585 dated August 8, 2023. However, general concepts, including the concept of "resident", were not affected by the suspension, and these clauses continue to operate. Treaties with some countries have ceased to operate (with Ukraine since January 1, 2023 [6], with Latvia since January 1, 2024 [7]). In the latter case, all provisions of the DTT without exception have lost force.

An individual is recognized as a Russian tax resident if:

• they are present in Russia for 183 calendar days or more over 12 consecutive months [8];
• they are Russian military personnel serving abroad or employees of state bodies (local self-government bodies) seconded to work abroad, regardless of the time spent in Russia [9].

Note that this refers specifically to tax residents, regardless of the individual's citizenship. Accordingly, organizations and individuals not meeting the above criteria are not Russian tax residents.

Thus, for an organization that is not a tax resident of Russia to be recognized as a CFC within the meaning of the Tax Code of the RF, it must be controlled by individuals and/or organizations that are residents of the RF.

An individual or legal entity is recognized as controlling if [10]:

• its participation interest in the CFC exceeds 25 percent;
• its participation interest in the CFC (for individuals, jointly with spouses and minor children) exceeds 10 percent, provided the participation interest of all persons recognized as tax residents of the Russian Federation in this CFC (for individuals, jointly with spouses and minor children) exceeds 50 percent;
• its participation interest (for individuals, jointly with spouses and minor children) in an international company, as well as in a foreign organization registered via redomiciliation of such an international company, exceeds 15 percent of the international company.

The controlling person of a foreign structure without legal personality is recognized as:

• the founder (creator) [11];
• another person, if such person exercises control over the structure and at least one of the following conditions is met [12]:
• the person has the actual right to the income (part thereof) received by such structure;
• the person has the right to dispose of the property of such structure;
• the person has the right to receive the property of such structure in the event of its termination (liquidation, termination of the agreement).

A person is not recognized as controlling if:

• the person participates in a foreign organization through direct and (or) indirect participation in one or several Russian public companies, which may participate in such foreign organization through non-public companies [13];
• the person participates through direct and (or) indirect participation in one or several foreign organizations whose shares are admitted to trading on one or several foreign stock exchanges located in foreign states that are OECD members, provided the following conditions are met simultaneously:
• the specified exchanges are located in foreign states that are OECD members (exception: the state is included in the List of states that do not ensure the exchange of information);
• the share of direct and (or) indirect participation of the controlling person in each foreign organization does not exceed 50%;
• the share of ordinary shares admitted to trading on foreign stock exchanges in the aggregate across all specified foreign stock exchanges exceeds 25% of the authorized capital formed by ordinary shares for each foreign organization.

Until January 1, 2029, this exception does not apply if the public company is an international holding company in accordance with Article 24.2 of the Tax Code of the RF [14], i.e., an international company registered in accordance with Federal Law No. 290-FZ dated August 3, 2018, On International Companies and International Funds, satisfying the following conditions:

• it is registered via redomiciliation of a foreign organization created under its personal law prior to March 1, 2022;
• at least 3 years have passed from the date of its creation to the date of registration of the international company under the specified procedure;
• it submitted financial statements, an auditor's report, and information on controlling persons to the tax authority at the place of registration no later than 15 days from the date of its registration.

Duties of CFC Shareholders (Owners)

CFC owners in Russia have two main duties:

• to submit reporting (notifications);
• to pay taxes on CFC profit in cases established by tax legislation.

A person controlling a foreign company is obliged to submit to the tax authority [15]:

• notifications of participation in foreign organizations (on the establishment of foreign structures);
• notifications of CFCs.

A notification of participation in foreign organizations (on the establishment of foreign structures) is submitted to the tax authority regardless of whether such foreign organization (foreign structure) is recognized as controlled, if [16]:

• the participation interest in the foreign organization exceeds 10%;
• a foreign structure without legal personality has been established.

The notification is submitted upon the establishment of a CFC, acquisition of a share in a CFC, change in share size, termination of participation in a CFC, or liquidation of a CFC. The deadline for submitting the notification is no later than 3 months from the date [17]:

• of the emergence of a participation interest in a foreign organization exceeding 10%;
• of a change in the participation interest or termination of participation in a foreign organization, if prior to the change/termination the share exceeded 10% [18] (notification is required only if the participation interest changes within 2 decimal places accounting for rounding; notification is not required for changes in the third and subsequent decimal places [19]);
• of the establishment, termination, or liquidation of a foreign structure without legal personality;
• of the exclusion of a foreign organization from the register of legal entities in the initial state of registration (in the event of its redomiciliation) (in this case, the notification is submitted with the ground "termination of participation" — code "3". Additionally, a notification of participation in a foreign organization in the territory of the state of new registration must be submitted, indicating ground code "1" [20]).

In the event that an individual who was not a tax resident of the Russian Federation at the time the grounds for submitting a notification of participation in foreign organizations arose becomes a tax resident of the Russian Federation based on the results of that calendar year, the deadline is no later than March 1 of the year following the specified calendar year [21].

Organizations submit the notification electronically at their location, and major taxpayers at their place of registration as major taxpayers. Individuals submit the notification in paper or electronic form at their place of residence [22]. The notification of participation in foreign organizations is submitted using Form KND 1120411 [23] (approved by Order of the Federal Tax Service of Russia No. MMV-7-13/338@ dated July 5, 2019).

The notification of participation in foreign organizations must indicate [24]:

• the date the grounds for its submission arose;
• the name of the foreign organization (foreign structure);
• for a foreign organization: the registration number(s) of the foreign organization, code(s) as a taxpayer, address in the state of residence;
• for a foreign structure: the organizational form, name and details of the establishment document, date of establishment (registration), registration number in the state of establishment (registration);
• the taxpayer's participation interest in the foreign organization;
• the structure of participation in the foreign organization; if indirect, information must be provided for all organizations (structures) through which participation is realized;
• information on whether the taxpayer — founder (creator) of the foreign structure — is its controlling person.

The notification of participation in foreign organizations must indicate (Item 5 Art. 25.14 of the Tax Code of the RF):

• the date the grounds for its submission arose;
• the name of the foreign organization (foreign structure);
• for a foreign organization: the registration number(s) of the foreign organization, code(s) as a taxpayer, address in the state of residence;
• for a foreign structure: the organizational form, name and details of the establishment document, date of establishment (registration), registration number in the state of establishment (registration);
• the taxpayer's participation interest in the foreign organization;
• the structure of participation in the foreign organization; if indirect (information must be indicated for all organizations (structures) through which participation is realized);
• information on whether the taxpayer r — founder (creator) of the foreign structure — is its controlling person.

In addition to the notification of participation in foreign companies discussed above, the tax legislation of the Russian Federation prescribes a Notification of CFC. The Notification of CFC must be submitted by Russian residents — organizations and individuals recognized as controlling persons [25].

Deadlines for submitting the Notification of CFC [26]:

• organizations: no later than March 20 of the year following the year in which the controlling person recognizes such income or following the results of which the CFC loss is determined;
• individuals: no later than April 30 of the year following the year in which the controlling person recognizes such income or following the results of which the CFC loss is determined.

The form of the notification of CFC, the procedure for filling it out, and the electronic submission format were approved by Order of the Federal Tax Service of Russia No. ED-7-13/671@ dated July 19, 2021.

Organizations submit the notification electronically at their location, and major taxpayers at their place of registration as major taxpayers.

Individuals submit the notification in paper or electronic form at their place of residence or via the web version of the personal account using a simplified form [27].

Together with the Notification of CFC, an individual must provide the following documents (Item 5 Art. 25.15 of the Tax Code of the RF):

• financial statements of the CFC for the financial year under its personal law; if it is impossible to submit them, other documents confirming the profit (loss) of the CFC, as well as confirming the impossibility of submitting the CFC reporting, are provided [28];
• an auditor's report on the CFC's financial statements, if an audit is mandatory for it or was conducted voluntarily.

Individuals who have switched to paying personal income tax (NDFL) on fixed CFC profit do not submit CFC financial statements and auditor's reports [29].

Controlling persons that are organizations indicate the dates of preparation of the CFC financial statements and the auditor's report thereon in the Notification of CFC, and submit the documents themselves together with the Profit Tax Return [30].

The Notification of CFC must indicate [31]:

• the period for which the notification is submitted;
• the date of submission to the inspectorate of the notification of transition to payment (refusal to pay) personal income tax on fixed profit (if applicable);
• the name of the CFC;
• for a CFC organization: registration number(s) of the CFC, CFC code(s) as a taxpayer, and address in the state of residence;
• for a CFC foreign structure: organizational form, name and details of the establishment document, date of establishment (registration), registration number (other identifier) in the state of establishment (registration);
• the last day of the period for which the CFC financial statements for the financial year are prepared under its personal law;
• the date of preparation of the CFC financial statements for the financial year under its personal law;
• the date of preparation of the auditor's report on the CFC financial statements;
• the taxpayer's participation interest in the CFC;
• the structure of participation, if indirect.

The Notification of CFC is submitted by the controlling person even if:

• CFC profit is exempt from taxation;
• a loss was formed based on the results of the reporting period [32];
• the taxpayer — individual has switched to paying personal income tax on fixed CFC profit [33];
• a CFC that has decided to redomicile to the Russian Federation is simultaneously listed in both Russian and foreign registers of legal entities — until the date the foreign company is excluded from the register in the foreign jurisdiction [34].

The taxpayer has the right to submit an amended notification of participation in a foreign organization or of a CFC if:

• incompleteness of information, inaccuracies, or errors are discovered in a previously submitted notification (Item 7 Art. 25.14 of the Tax Code of the RF);
• mandatory information specified in Item 5 Art. 25.14 of the Tax Code of the RF has changed [35].

CFC Taxation: What Taxes Do CFCs Pay?

Controlled foreign organizations (foreign structures) pay taxes in the state of which they are resident, in accordance with the laws of that state.

Additionally, CFC profit, if not exempt from taxation under RF tax legislation, is taxed in the Russian Federation at the level of the controlling persons, as CFC profit is equated to the profit of the controlling organization or the income of the controlling individuals [36].

CFC profit (loss) is calculated in accordance with Art. 309.1 of the Tax Code of the RF [37].

The amount of CFC profit is determined alternatively by one of two methods [38].

Based on the CFC's financial statements [39], if one of the conditions is met [40]:

• the CFC's state of residence has a double taxation treaty with Russia and ensures the exchange of information with Russia [41];
• OR
• a positive auditor's report on the financial statements is presented (a report under international auditing standards if a mandatory audit is not conducted);
• under the rules of Chapter 25 of the Tax Code of the RF:
• in the absence of CFC financial statements; in this case, profit (loss) is confirmed by other documents, in particular, account statements of the foreign controlled organization, primary documents [42];
• the controlling person, being an individual, chose this method of determining CFC profit (loss), provided the choice of such procedure is reflected in the controlling person's personal income tax tax return, and such procedure is applied for at least five tax periods from the date of its commencement.

To eliminate double taxation, the amount of tax on CFC profit calculated in the Russian Federation is subject to reduction by the amount of tax calculated in relation to this profit under the law of the foreign state, and by the amount of tax on the profit of the CFC's permanent establishment in Russia. It should be noted that Decree of the President of Russia No. 585 dated August 8, 2023, On the Suspension by the Russian Federation of Certain Provisions of International Treaties of the Russian Federation on Taxation Matters, did not affect the provisions on the avoidance of double taxation regarding the right to reduce CFC profit tax by the amount of tax paid in a foreign state; therefore, they continue to operate.

CFC profit is exempt from taxation in Russia if the CFC [43]:

1) is a non-profit organization (NPO) that does not distribute received profit (income) among participants or other persons;

2) has a permanent location in one of the EAEU member states and is formed under its laws;

3) is an operator of a new offshore hydrocarbon field or a shareholder (participant) of the operator of such a field;

4) participates in projects for the extraction of minerals in accordance with production sharing agreements, concession and other agreements concluded with a state (including a foreign one), its government, or authorized institutions, license agreements for the use of subsoil plots on risk terms, is a party to agreements or created under them, and the share of income from such participation constitutes at least 90% of all income [44];

5) is a financial sector organization or performs operations with bonds [45];

6) is one of the types of active companies [46]:

• an active foreign company whose share of passive income for the financial year is no more than 20% of the total amount of income according to reporting data [47];
• an active foreign holding company whose state of residence is not included in the list of offshore zones, provided the share of direct participation of the Russian organization—controlling person in the authorized (share) capital (fund) of this foreign organization is at least 75 percent;
• the participation interest of this foreign organization in at least one foreign organization is at least 50 percent;
• the participation interest of this foreign organization in other foreign organizations (if any) is at least 15 percent; the holding period is at least 365 consecutive calendar days as of the end date of the financial year in accordance with the personal law of this foreign organization (Items 4 and 5 Art. 25.13-1 of the Tax Code of the RF);
• an active foreign sub-holding company whose state of residence is not included in the list of offshore zones, provided the share of direct participation of the foreign holding company in the authorized (share) capital (fund) of this foreign organization is at least 75 percent;
• the participation interest of this foreign organization in at least one foreign organization is at least 50 percent;
• the participation interest of this foreign organization in other foreign organizations (if any) is at least 15 percent;
• the holding period is at least 365 consecutive calendar days as of the end date of the financial year in accordance with the personal law of this foreign organization (Items 4.1, 6 Art. 25.13-1 of the Tax Code of the RF).

The list of passive income is established by Item 4 Art. 309.1 of the Tax Code of the RF and includes:

• dividends;
• interest;
• income from the use of intellectual property rights;
• income from the sale of shares (interests) and (or) assignment of rights in a foreign organization that is not a legal entity under foreign law;
• income from the sale of immovable property;
• income from the provision of consulting, legal, accounting, auditing, advertising, marketing services, information processing services, as well as R&D;
• income from personnel provision services.

This list is open, as any income recognized as analogous to the income specified in Subparas. 1 – 11 Item 4 Art. 309.1 of the Tax Code of the RF can be classified as passive income [48].

When determining the share of passive income for all types of active companies, income in the form of exchange rate differences recognized in the profit and loss statement is not taken into account [49].

Active income can include all income that is not passive, for example:

• income from the sale of goods, performance of work (Item 5 Art. 309.1 of the Tax Code of the RF);
• income from the lease and sublease of sea and aircraft and transport vehicles (Subpara. 8 Item 4 Art. 309.1 of the Tax Code of the RF);
• interest and income from operations with derivative financial instruments if the CFC is a bank and receives them from its main licensed activity (Item 5 Art. 309.1 of the Tax Code of the RF).

7) CFC profit is not taxed in the RF if, following the results of the financial year, the effective tax rate on income (profit) is greater than or equal to the weighted average tax rate on corporate profit [50], and furthermore:

• the state of residence has a double taxation treaty with the RF;
• the state of residence is not included in the list of states that do not ensure the exchange of information with Russia.

In the absence of income, receipt of a loss, or if the profit amount equals zero for the tax period, the calculation of the effective rate is not required [51]. In this case, no tax is paid.

The effective tax rate is calculated by the formula:

S_{eff} = H / P

where:

S_{eff} – the effective tax rate on the income (profit) of the foreign organization;

H – the amount of tax on income (profit) calculated by the foreign organization and its separate subdivisions in accordance with its personal law, and tax on income withheld from the income (profit) of such organization at the source of payment of such income;

P – the amount of income (profit) of the foreign organization determined in accordance with the first paragraph of Item 1 Article 25.15 of the Tax Code of the RF, reduced by the amount of income specified in Subparagraph 1 Item 4 Article 309.1 of the Tax Code of the RF, the source of payment of which are Russian organizations, if the controlling person of such foreign organization has the actual right to such income taking into account the provisions of Article 312 of the Tax Code of the RF. Indirect taxes are not included in the calculation of the effective rate (Item 9 of the Letter of the Ministry of Finance of Russia No. 03-12-11/2/7395 dated February 10, 2017).

The weighted average tax rate on corporate profit is determined by the following formula [52]:

S_{avg} = (P1 \times St1 + P2 \times St2) / (P1 + P2)

where:

P1 – the amount of profit of the foreign organization determined in accordance with the first paragraph of Item 1 Article 25.15 of the Tax Code of the RF, excluding income specified in Subparagraph 1 Item 4 Article 309.1 of the Tax Code of the RF. If, during the calculation, the indicator P1 takes a negative value, it is taken as equal to zero;

P2 – the amount of income of the foreign organization specified in Subparagraph 1 Item 4 Article 309.1 of the Tax Code of the RF, reduced by the amount of income the source of payment of which are Russian organizations, if the controlling person of this foreign organization has the actual right to such income taking into account the provisions of Article 312 of the Tax Code of the RF;

St1 – the corporate profit tax rate established by the first paragraph of Item 1 Article 284 of the Tax Code of the RF;

St2 – the corporate profit tax rate established by Subparagraph 2 Item 3 Article 284 of the Tax Code of the RF;

8) tax does not need to be paid on CFC profit if, for the tax period, the amount of profit determined under the rules of Art. 309.1 of the Tax Code of the RF amounted to 10 million rubles or less (Item 7 Art. 25.15 of the Tax Code of the RF).

According to the Ministry of Finance of Russia, when determining the threshold value, loss carried forward from past periods should not be taken into account, as carrying forward a loss is a taxpayer's right, not an obligation [53]. Also, when determining the monetary threshold, the amount of reduction for dividends (distributed profit) paid by such controlled foreign company should not be taken into account [54].

Documentary confirmation is required for the exemption of CFC profit from taxation. Submission of supporting documents is not required, for example, in the following cases:

• in relation to CFCs formed under the laws of an EAEU member state and having a permanent location in that state [55];
• in case of indirect participation, it is sufficient for one of the controlling persons to submit documents. Other controlling persons need only indicate the details of the person who submitted such documents in the Notification of CFC [56].

There is no approved list of documents confirming the benefit; each case requires its own confirmation [57]. For example, such documents may be:

• calculation of the effective rate with attached tax returns certified by the tax authority of the foreign state, and payment documents;
• CFC reporting for the relevant period;
• accounting registers;
• tax reporting;
• copies of agreements.

Confirmation must be submitted simultaneously with the Notification of CFC (Letter of the Ministry of Finance of Russia No. 03-12-11/2/10577 dated February 19, 2019). If confirmation of exemption is not provided, generally, the tax authority may request such documents within the three years preceding the request [58]. The taxpayer is obliged to provide such documents with a translation into Russian within one month [59].

Taxes for CFC Controlling Persons

As stated above, CFC profit is equated to the profit of the organization (income of individuals) received by the controlling person of this company [60] and is taken into account by them when calculating the tax base:

• for Profit Tax – for organizations;
• for personal income tax – for individuals.

Profit Tax for the CFC Controlling Person

The tax base is determined separately for each CFC (Item 6 Art. 309.1 of the Tax Code of the RF), and profit is accounted for in proportion to the controlling person's participation interest in the CFC (Item 3 Art. 25.15 of the Tax Code of the RF):

• on the date of the decision to distribute profit, adopted in the calendar year following the tax period (for the controlling person) in which the CFC's financial year ends;
• on December 31 of the year following the tax period (for the controlling person) in which the CFC's financial year ends, if no decision to distribute profit is made or it is impossible to determine the share. In this case, profit must be accounted for based on the amount of profit to which the controlling person actually has a right in the event of its distribution among persons possessing the actual right to such profit.

The participation interest in the CFC may differ from the share in profit in the event of distribution to which the controlling person has a right. In that case, profit must be accounted for in the share corresponding to the share in CFC profit to which the controlling person has a right [61].

Regardless of the profit determination method, it is reduced by the following amounts [62]:

• for all CFCs: by the amount of dividends paid by this foreign company in the calendar year following the year for which financial statements are prepared under the personal law of such company, taking into account interim dividends paid during the financial year for which these financial statements are prepared;
• for a CFC that is a foreign structure not providing for participation in capital: by the amount of distributed profit.

If profit is not distributed in 2022 – 2025 due to sanctions, the controlling person may calculate it under a special procedure: instead of paid dividends (distributed profit), account for the amount of CFC profit calculated under Art. 309.1 of the Tax Code of the RF.

This is possible if the conditions established in Item 1.2 Art. 25.15 of the Tax Code of the RF are simultaneously met:

• as of the end date of the calendar year following the year for which financial statements are prepared, sanctions of unfriendly states were in effect against the controlling person; the CFC; management bodies (members of management bodies) of the controlling person or the CFC [63];
• as of the end date of the calendar year following the year for which financial statements are prepared, sanctions were in effect against individuals — beneficiaries of the controlling persons [64];
• the sanctions prohibited (restricted) settlements and (or) the execution (performance) of operations (transactions) and prevented the adoption of decisions on profit distribution, declaration, and (or) implementation of dividend payments (distributed profit);
• dividends (distributed profit) were not paid (as of the end date of the calendar year following the year for which financial statements are prepared);
• the CFC is not located in a state (territory) included in the List of offshore zones.

To use the special procedure, the controlling person must annually submit documents confirming the amount of CFC profit no later than March 20 together with the Profit Tax Return.

The impossibility of distributing CFC profit due to sanctions can be confirmed by any documents; the list is open. These may be, for example [65]:

• refusals by banks to service and conduct settlements; statements by CFC directors resigning their powers;
• refusals by agencies and (or) registration agents to perform registration actions regarding the CFC, formalize the appointment of directors, auditors, etc.;
• refusals by auditors to conduct a CFC audit and (or) provide a written report on audit results;
• refusals by notaries to perform notarial acts. The amount of profit (loss) must be converted into rubles using the average exchange rate of the foreign currency to the ruble established by the Bank of Russia for the period for which the financial statements are prepared for the financial year (Item 2 Art. 309.1 of the Tax Code of the RF).

The average value of the foreign currency exchange rate to the ruble is determined as the arithmetic mean of the foreign currency exchange rate to the ruble established by the Bank of Russia for all days in the relevant period for which the financial statements are prepared [66].

When determining profit, the following income (expenses) are not taken into account (Item 3 Art. 309.1 of the Tax Code of the RF):

• amounts of revaluation and (or) impairment of shares in the authorized (share) capital (fund) of organizations, units in unit investment funds and cooperatives, securities, and derivative financial instruments (hereinafter, "financial assets") at fair value, recognized as part of profit (loss) before tax;
• income and expenses from the sale or other disposal of financial assets (except for derivative financial instruments) recognized as part of profit (loss) before tax;
• profit (loss) of subsidiary (associated) organizations (excluding dividends);
• expenses for the formation of reserves and income from the restoration of reserves;
• profit that cannot be distributed because it is directed (Item 8 Art. 25.15 of the Tax Code of Russia) to: (1) increase the authorized capital under the CFC's personal law, confirmed by references to relevant norms of personal law and documents evidencing the fact of such authorized capital increase (Letter of the Ministry of Finance of Russia No. 03-12-12/2/49910 dated August 4, 2017); (2) form mandatory reserves under the law of the foreign state.

Regardless of the profit determination method, income specified in Item 1 Art. 309 of the Tax Code of the RF (in particular, dividends, income from the use in Russia of rights to intellectual property results, income from the sale of real estate in Russia) paid by Russian organizations is not included in income if the controlling person has the actual right to it taking into account Art. 312 of the Tax Code of the RF [67].

CFC loss can be carried forward to future periods without restrictions if the controlling person submitted a Notification of CFC for the period in which the loss was received. If the taxpayer ceases to be a controlling person, they lose the right to carry forward the loss of such company to future periods in the part not previously accounted for when calculating CFC profit (Item 7.1 Art. 309.1 of the Tax Code of the RF).

For any method of determining CFC profit, the date of receipt of income is considered (Subpara. 12 Item 4 Art. 271 of the Tax Code of the RF):

• December 31 of the calendar year following the tax period in which the end date of the CFC's financial year falls;
• in the absence of an obligation to prepare and submit financial statements under personal law—December 31 of the calendar year following the tax period in which the end date of the calendar year for which CFC profit is determined falls.

CFC profit is included in the tax base for corporate profit tax of the controlling person—organization. The tax rate for corporate profit tax is set at 20% [68]. When filing a corporate profit tax return, the controlling person must submit [69]:

• CFC financial statements, or other documents if it is impossible to submit such statements. Circumstances due to which such possibility is absent must be confirmed [70].
• Auditor's report on the CFC financial statements (for mandatory or voluntary audits). If it is impossible to submit the report simultaneously with the return, this duty must be fulfilled no later than one month from the date reflected in the Notification of CFC.

If documents are in a foreign language, they must be translated into Russian. Regarding CFCs formed under the laws of an EAEU member state and having a permanent location in that state, documents need not be submitted. This is because the exemption of such CFCs from taxation does not depend on the amount of their profit [71].

The deadline for paying corporate profit tax is no later than March 28 [72].

Personal income tax of the CFC Controlling Person

The controlling person does not have an obligation to submit an NDFL declaration if a loss is determined for CFC activity based on the results of the reporting period [73] (Letters of the Ministry of Finance of Russia No. 03-12-12/2/35790 dated April 30, 2020, No. 03-12-12/2/25706 dated April 17, 2018).

As a general rule, CFC profit for personal income tax calculation purposes is determined in the same order as for Profit Tax calculation purposes (Items 1, 2 Art. 25.15 of the Tax Code of the RF). personal income tax can also be paid on fixed CFC profit.

The date of actual receipt of income (including fixed profit) depends on whether the CFC prepares financial statements [74]:

• prepares — December 31 of the year following the calendar year in which the end date of the financial year under the CFC's personal law falls;
• does not prepare (obligation not established by personal law) — December 31 of the year following the calendar year for which CFC profit is determined.

Income in the form of CFC profit (including fixed profit) is not reduced by tax deductions [75].

The tax rate for personal income tax is generally set at 13% [76]. The tax payment deadline is no later than July 15 of the year following the expired tax period. The tax must be paid at the taxpayer's place of residence [77].

Personal income tax can be paid on the fixed profit of the CFC. The fixed profit amount for the tax period is 34,000,000 rubles in total for all CFCs of the controlling person [78].

When switching to this payment procedure, the following rules must be observed:

• it is not permitted to apply exemptions from taxation of CFC profit on grounds provided by Item 1 Art. 25.13-1 of the Tax Code of the RF;
• it is not permitted to reduce the tax on fixed profit by tax amounts: paid by the controlling person in a foreign state on their income (Item 1 Art. 232 of the Tax Code of the RF);
• calculated on the profit of the CFC (its permanent establishment) [79];
• it is not permitted to reduce the tax base in the form of the fixed profit amount by dividends paid by the CFC in the calendar year [80];
• it is not permitted to distribute the amount of fixed CFC profit when determining the taxpayer's tax base in accordance with their participation interest in the CFC [81];
• CFC loss received before and after the transition to paying personal income tax on fixed profit can only be accounted for by the controlling person in periods after refusing such payment [82].

To switch to paying personal income tax on fixed CFC profit, one must submit a corresponding notification to the tax authority at the place of residence (place of registration for major taxpayers) by December 31 of the year starting from which payment is planned [83].

After switching to this personal income tax payment procedure from 2020 or 2021, one can refuse it no earlier than after three years. For a repeated transition, as well as for a primary transition from 2022 and later, refusal is allowed no earlier than after 5 years [84]. The taxpayer has no obligation to pay tax on fixed profit for those periods during which they ceased to be a controlling person in relation to all CFCs [85].

Liability of Controlling Persons

Controlling persons bear tax liability for failure to fulfill duties prescribed by the Tax Code of the Russian Federation.

For failure to submit Notifications of CFC by the established deadline or submission of a notification containing false information, Part 1 of Article 129.6 of the Tax Code of the RF provides for tax liability in the form of a fine of 500,000 rubles for each controlled foreign company.

According to the Ministry of Finance, if due to restrictive measures introduced by foreign states, the taxpayer—controlling person did not have the opportunity to timely obtain confirming documents related to CFC notifications for 2021 and 2022, the taxpayer does not bear liability under Item 1 Art. 129.6 of the Tax Code of the RF for failing to reflect information on CFC financial statements in such notification. They are obliged to submit explanations (documents) confirming the indicated circumstances and submit the documents when they are able to obtain them [86].

Also, when imposing liability, the court will take into account mitigating circumstances. Article 114 of the Tax Code of the Russian Federation provides for the possibility of reducing tax sanctions (fines) by at least two times compared to the amount established by the articles of Chapter 16 of the Tax Code of the Russian Federation for committing a tax offense if there is at least one mitigating circumstance.

The list of circumstances mitigating liability for committing a tax offense is established by Art. 112 of the Tax Code of the RF. This list is not exhaustive, and the court has the right, taking into account specific circumstances, to recognize as mitigating circumstances those not directly specified in Article 112 of the Tax Code of the RF.

For example, Resolution of the Arbitration Court of the Moscow District dated September 19, 2022, in case No. A40-263897/2021. The Company was held liable for unlawful failure to submit a notification of controlled foreign companies to the tax authority within the established timeframe. The court recognized the imposition of liability on the Company as lawful, but due to the proven presence of circumstances mitigating its liability, the fine was reduced from 250,000 to 50,000 rubles. The following were recognized as mitigating circumstances: the Company could not receive profit from the CFC's activities due to the actual cessation of its activities; absence of negative consequences for the budget; absence of profit for the Company from participation in the controlled organization, reduction in the number of the Company's counterparties due to the coronavirus pandemic, difficult financial situation, threat of bankruptcy. For failure by a taxpayer to submit a notification of participation in foreign organizations to the tax authority within the established timeframe or submission of a notification containing false information, Part 2 of Art. 129.6 of the Tax Code of the RF provides for a fine of 50,000 rubles regarding each foreign organization. In the event of filing an amended notification before the taxpayer learns that the tax authority has established the fact of reflecting false information in the notification, the taxpayer is released from liability provided by Article 129.6 of the Tax Code of the RF [87].

However, abuse of rights is not permitted when filing an amended notification; one may clarify information about CFCs and participation in foreign companies previously provided in corresponding notifications, but not submit new information about foreign companies/CFCs that were not submitted on time.

For example, in case No. A40-49647/2019, an economic company submitted a notification of participation in three foreign organizations to the tax authority within the established timeframe. After the deadline for submitting the notification expired, it submitted an amended notification of participation in seventeen foreign organizations. The Company was held liable in the form of a fine for unlawful failure to submit the notification within the established timeframe. The court refused to recognize the tax authority's decision as invalid. The actions of the economic company, in the court's opinion, testified to its bad faith conduct aimed at evading liability for the untimely submission of the notification [88].

Item 1.1 Art. 126 of the Tax Code of the RF provides for liability for failure to submit to the tax authority documents confirming the amount of profit (loss) of a controlled foreign company within the timeframe established by Item 5 Article 25.15 of the Tax Code of the RF, or submission of such documents with deliberately false information, in the amount of 500,000 rubles.

For example, Resolution of the Arbitration Court of the Moscow District dated October 9, 2023, in case No. A40-235624/2022. The Company tried to challenge the tax authority's decision to impose liability in the form of a fine based on Item 1.1 Art. 126 of the Tax Code of the RF, but the claim was denied. The Company submitted a notification of controlled foreign companies, of which they are controlling persons, for 2020 to the Inspectorate. However, the Company did not submit documents confirming the profit (loss) of the controlled foreign companies. The tax authority sent the taxpayer a demand to provide documents. The Company reported that the documents provided for by Item 5 Article 25.15 of the Code were requested from the specified foreign companies, but they are in bankruptcy proceedings, and these companies lack funds for the preparation and audit of financial statements for 2019. However, the Company did not present evidence of the impossibility of submitting documents, so the tax authority and the court concluded that the taxpayer did not take all necessary and sufficient measures to obtain and timely submit the required documents (information) to the tax authority.

If a CFC is located in the territory of Ukraine and there is no possibility to submit documents regarding it, the taxpayer has the right to submit written explanations indicating the circumstances preventing the receipt of confirming documents, as well as an obligation to immediately submit the documents after receiving them. These circumstances may be accepted by the tax authority as excluding guilt in committing an offense under Item 1.1 Art. 126 of the Tax Code of the RF (Letter of the Federal Tax Service of Russia No. ShYu-4-13/15999@ dated December 21, 2023).

Item 1.1-1 Art. 126 of the Tax Code of the RF provides for liability if requested documents confirming compliance with the conditions for exemption of CFC profit from taxation in accordance with Item 9 Art. 25.13-1 of the Tax Code of the RF, or confirming the amount of CFC profit (loss) (according to the list of documents from Item 5 Art. 25.15 of the Tax Code of the RF), or confirming compliance with conditions for exemption of CFC profit from the application of provisions of Art. 25.15 of the Tax Code of the RF are not submitted within one month from the date of receipt of the demand or contain deliberately false information. In this case, the controlling person faces a fine of 1,000,000 rubles.

Article 129.5 of the Tax Code of the RF provides for liability in the form of a fine for non-payment or incomplete payment by the controlling person of tax amounts as a result of non-inclusion of a share of CFC profit in the tax base. The fine is collected in the amount of 20 percent of the amount of unpaid tax regarding the profit of the controlled foreign company subject to inclusion in the tax base for personal income tax for controlling persons who are taxpayers—individuals, or in the tax base for corporate profit tax for controlling persons who are taxpayers—organizations, but not less than 100,000 rubles.

Tax authorities check amended profit tax returns particularly thoroughly. For example, Resolution of the Arbitration Court of the West Siberian District dated April 2, 2024, in case No. A45-10537/2023. A Russian organization accounted for dividends paid by a CFC for 2016 in the primary corporate profit tax return for 2017. However, in 2019, the Company, as the sole participant of the CFC, decided: to consider the annual dividend for 2016 in the amount of 20,000,000 US dollars, paid in 2017, as an interim dividend for 2017. Annual dividends for 2016 in the amount of 20,000,000 US dollars were reflected in amended profit tax returns for 2018 as interim dividends for 2017. As a result, profit for 2018 was reduced. The court refused to recognize the tax authority's decision as invalid regarding the proposal to pay arrears on profit tax from income in the form of profit of controlled foreign companies, penalties, and a fine. The tax authority pointed out, in particular, the unjustified reduction by the taxpayer (a foreign organization, resident of the RF) of the tax base for profit tax when adjusting information on paid dividends (from an annual dividend for 2016 to an interim one in 2017). Current Russian legislation does not contain provisions allowing the change of the economic qualification of paid dividends for tax purposes.

In conclusion, it should be noted that controlling persons are obliged to submit notifications of participation in a foreign company and of a CFC within the timeframes established by legislation, as well as to account for CFC profit when calculating corporate profit tax or personal income tax.

To avoid or mitigate liability risks, it is necessary to confirm the information indicated in notifications and profit tax returns with relevant documents. If obtaining documents is impossible, it is recommended to preserve evidence of sending requests to the CFC and/or refusals to provide them.

______________________

References

[1] Federal Law No. 636-FZ dated December 25, 2023, On Amendments to the Federal Law "On the Specifics of Regulating Corporate Relations in Economic Companies That Are Economically Significant Organizations," Certain Legislative Acts of the Russian Federation and Recognition as Invalid of Certain Provisions of Legislative Acts of the Russian Federation.

[2] Part 1 Art. 25.13 of the Tax Code of the RF.

[3] Part 2 Art. 25.13 of the Tax Code of the RF.

[4] Items 1 and 8 Art. 246.2 of the Tax Code of the RF.

[5] Subpara. 3 Item 1, Item 2 Art. 246.2 of the Tax Code of the RF.

[6] Information of the Ministry of Finance of Russia "Informational Message on the Denunciation of the Agreement between the Government of the Russian Federation and the Government of Ukraine on the Avoidance of Double Taxation of Income and Property and the Prevention of Tax Evasion dated February 8, 1995."

[7] Federal Law No. 40-FZ dated February 28, 2023, On the Denunciation of the Agreement between the Government of the Russian Federation and the Government of the Republic of Latvia on the Avoidance of Double Taxation and the Prevention of Tax Evasion with Respect to Taxes on Income and Capital.

[8] Item 2 Art. 207 of the Tax Code of the RF.

[9] Item 3 Art. 207 of the Tax Code of the RF.

[10] Item 3 Art. 25.13 of the Tax Code of the RF.

[11] Item 9 Art. 25.13 of the Tax Code of the RF.

[12] Item 12 Art. 25.13 of the Tax Code of the RF, Letters of the Ministry of Finance of Russia No. 03-12-11/2/109593 dated November 16, 2023, No. 03-12-12/2/52171 dated August 11, 2017.

[13] Item 4 Art. 25.13 of the Tax Code of the RF.

[14] Item 4 Art. 25.13 of the Tax Code of the RF.

[15] Item 3.1 Art. 23, Item 1 Art. 25.14 of the Tax Code of the RF.

[16] Item 3.1 Art. 23 of the Tax Code of the RF.

[17] Item 3 Art. 25.14 of the Tax Code of the RF.

[18] Letter of the Ministry of Finance of Russia No. 03-12-12/2/75553 dated December 16, 2016.

[19] Item 3 Art. 25.14 of the Tax Code of the RF.

[20] Letter of the Federal Tax Service of Russia No. ShYu-4-13/15556@ dated December 13, 2023, No. ShYu-4-13/5298@ dated April 29, 2022.

[21] Item 3 Art. 25.14 of the Tax Code of the RF.

[22] Item 4 Art. 25.14 of the Tax Code of the RF.

[23]

[24] Item 5 Art. 25.14 of the Tax Code of the RF.

[25] Subpara. 2 Item 1 Art. 25.14 of the Tax Code of the RF.

[26] Item 2 Art. 25.14 of the Tax Code of the RF.

[27] Item 4 Art. 25.14 of the Tax Code of the RF.

[28] Letter of the Federal Tax Service of Russia No. ShYu-3-13/8817@ dated December 29, 2020.

[29] Item 9 Art. 25.15 of the Tax Code of the RF.

[30] Item 5 Art. 25.15 of the Tax Code of the RF.

[31] Items 6, 6.1 Art. 25.14 of the Tax Code of the RF.

[32] Item 2 Art. 25.14 of the Tax Code of the RF.

[33] Item 2 of the Letter of the Federal Tax Service of Russia No. ShYu-4-13/4504 dated April 5, 2021.

[34] Letter of the Federal Tax Service of Russia No. ShYu-4-13/15556@ dated December 13, 2023.

[35] Letter of the Ministry of Finance of Russia No. 03-12-12/2/58214 dated August 2, 2019.

[36] Item 2 Art. 25.15 of the Tax Code of the RF.

[37] Art. 25.15 of the Tax Code of the RF.

[38] Art. 309.1 of the Tax Code of the RF.

[39] Item 1.1 Art. 309.1 of the Tax Code of the RF.

[40] Letters of the Federal Tax Service of Russia No. VD-3-17/7817@ dated November 26, 2020, Ministry of Finance of Russia No. 03-12-12/2/35257 dated May 16, 2019.

[41] Order of the Federal Tax Service of Russia No. ED-7-17/914@ dated December 1, 2023, On Approval of the List of States (Territories) That Do Not Ensure the Exchange of Information for Tax Purposes with the Russian Federation.

[42] Letter of the Ministry of Finance of Russia No. 03-12-12/2/26231 dated April 8, 2021.

[43] Subparas. 1, 2, 8 Item 1 Art. 25.13-1 of the Tax Code of the RF.

[44] Subpara. 7 Item 1 Art. 25.13-1 of the Tax Code of the RF.

[45] Subparas. 5, 6 Item 1 Art. 25.13-1 of the Tax Code of the RF.

[46] Subpara. 4 Item 1 Art. 25.13-1 of the Tax Code of the RF.

[47] Item 3 Art. 25.13-1 of the Tax Code of the RF.

[48] Subpara. 12 Item 4 Art. 309.1 of the Tax Code of the RF.

[49] Item 6.1 Art. 25.13-1 of the Tax Code of the RF, Letter of the Ministry of Finance of Russia No. 03-12-12/2/20740 dated April 7, 2017.

[50] Subpara. 3 Item 1 Art. 25.13-1 of the Tax Code of the RF.

[51] Subpara. 1 Item 2 Art. 25.13-1 of the Tax Code of the RF.

[52] Subpara. 2 Item 2 Art. 25.13-1 of the Tax Code of the RF.

[53] Item 22 of the Letter No. 03-12-11/2/7395 dated February 10, 2017.

[54] Letters of the Ministry of Finance of Russia No. 03-12-11/2/78330 dated October 31, 2018, No. 03-12-11/2/7395 dated February 10, 2017 (Item 23), Federal Tax Service of Russia No. ShYu-3-13/11912@ dated October 27, 2022.

[55] Information of the Federal Tax Service of Russia, Letters of the Ministry of Finance of Russia No. 03-12-11/2/104893 dated November 2, 2023, Federal Tax Service of Russia No. ShYu-3-13/8817@ dated December 29, 2020.

[56] Item 9 Art. 25.13-1 of the Tax Code of the RF, Letter of the Ministry of Finance of Russia No. 03-12-11/2/24909 dated April 5, 2021.

[57] Letters of the Ministry of Finance of Russia No. 03-12-12/2/23493 dated March 31, 2021, No. 03-12-12/2/37389 dated May 23, 2019, No. 03-12-12/2/49387 dated July 16, 2018, No. 03-12-11/2/7395 dated February 10, 2017 (Item 25).

[58] Item 1 Art. 25.14-1 of the Tax Code of the RF.

[59] Item 2 Art. 25.14-1 of the Tax Code of the RF.

[60] Item 2 Art. 25.15 of the Tax Code of the RF.

[61] Item 3 Art. 25.15 of the Tax Code of the RF.

[62] Item 1 Art. 25.15 of the Tax Code of the RF.

[63] Letter of the Federal Tax Service of Russia No. ShYu-4-13/7148@ dated June 7, 2023.

[64] Letter of the Federal Tax Service of Russia No. ShYu-4-13/7148@ dated June 7, 2023.

[65] Letter of the Federal Tax Service of Russia No. ShYu-4-13/7148@ dated June 7, 2023.

[66] Letters of the Ministry of Finance of Russia No. 03-12-11/2/13604 dated March 1, 2019, No. 03-12-11/2/5166 dated January 30, 2018, Federal Tax Service of Russia No. SD-4-3/1124@ dated February 2, 2021.

[67] Item 1 Art. 25.15 of the Tax Code of the RF.

[68] Item 1.6 Art. 284 of the Tax Code of the RF.

[69] Items 5 and 6 Art. 25.15 of the Tax Code of the RF, Letter of the Federal Tax Service of Russia No. ShYu-4-13/9711@ dated July 12, 2021.

[70] Letters of the Federal Tax Service of Russia No. ShYu-4-13/15999@ dated December 21, 2023, No. ShYu-3-13/8817@ dated December 29, 2020.

[71] Letter of the Ministry of Finance of Russia No. 03-12-11/2/104893 dated November 2, 2023.

[72] Item 1 Art. 287 of the Tax Code of the RF.

[73] Letters of the Ministry of Finance of Russia No. 03-12-12/2/35790 dated April 30, 2020, No. 03-12-12/2/25706 dated April 17, 2018.

[74] Item 1.1 Art. 223 of the Tax Code of the RF.

[75] Item 3 Art. 210 of the Tax Code of the RF.

[76] Item 1 Art. 224 of the Tax Code of the RF.

[77] Item 4 Art. 228 of the Tax Code of the RF.

[78] Item 2 Art. 227.2 of the Tax Code of the RF.

[79] Item 11 Art. 309.1 of the Tax Code of the RF, Item 2.3 of the Letter of the Federal Tax Service of Russia No. ShYu-4-13/4504@ dated April 5, 2021.

[80] Items 1, 9 Art. 25.15 of the Tax Code of the RF, Item 2.3 of the Letter of the Federal Tax Service of Russia No. ShYu-4-13/4504@ dated April 5, 2021.

[81] Items 3, 9 Art. 25.15 of the Tax Code of the RF, Item 2.3 of the Letter of the Federal Tax Service of Russia No. ShYu-4-13/4504@ dated April 5, 2021.

[82] Item 12 Art. 309.1 of the Tax Code of the RF, Item 2.4 of the Letter of the Federal Tax Service of Russia No. ShYu-4-13/4504@ dated April 5, 2021.

[83] Item 1 Art. 227.2 of the Tax Code of the RF.

[84] Item 3 Art. 227.2 of the Tax Code of the RF, Item 1 of the Letter of the Federal Tax Service of Russia No. ShYu-4-13/4504@ dated April 5, 2021, Information of the Federal Tax Service of Russia.

[85] Item 3 Art. 227.2 of the Tax Code of the RF.

[86] Letter of the Federal Tax Service of Russia No. ShYu-4-13/5376 dated April 29, 2022.

[87] Item 7 Art. 25.14 of the Tax Code of the RF.

[88] Resolution of the Arbitration Court of the Moscow District dated March 12, 2020, in case No. A40-49647/2019.