Taxation of Trusts in Cyprus

A. INTRODUCTION

The scope of this article

In this study we shall try to identify how the income of trusts is taxed in Cyprus, having in mind its idiomorphic concept as to the dual separation of the ownership of the trust property, to legal and beneficial.

The matter will be also examined, considering the two main types of trusts established in Cyprus, Local and International.

The concept of trust

A trust is the relationship by which a person called the trustee, holds property, the trust property, settled to the trust by the settlor, for the benefit of some other persons, called the beneficiaries.

The type of trusts which are the subject matter of this article, are the written express trusts and not those created by operation of law such as the constructive or resulting trusts.

Structure Diagram of an Express Written Trust:

1. SETTLOR (Absolute Owner of the property settled to the trust):

   • Transfers legal ownership of the property to the TRUSTEES.

   • Transfers beneficial ownership of the property to the BENEFICIARIES.

2. TRUSTEES (Legal Owners of the trust property):

   • Hold obligations towards the beneficiaries as to the trust property pursuant to the terms of the trust deed.

3. BENEFICIARIES (Beneficial Owners of the trust property).

The basic concept of the trust, and at the same time its magnificence, is that the property, once entrusted to the trustees, has two owners at the same time: the legal owner of the property (the trustees) and the beneficial owner (the beneficiaries).

The role of the trustees for tax purposes

Any property settled to the trust by the settlor as its capital and any income received from any operations, is administered by the trustees being its legal owners.

The trust does not have legal personality and for this reason any trust property is held by the trustees in their names on behalf of the particular trust as per the terms of the trust deed, having identified beneficiaries, the beneficial owners, who ultimately have the expectation to become its legal owners as well.

The idiomorphic concept of the trust and its effect on taxation

This idiomorphic concept of the trust generated from the separation of the ownership as to the trust property, to legal and beneficial, raises concerns as to the taxation of the trust income distributed to or acquired by the trustees on behalf of the trust as per the terms of its deed. Whom to tax for the trust income: the legal owner or the beneficial owner?

B. TAXATION OF TRUSTS IN CYPRUS

The law

The taxation of Cyprus trusts, either Local or International, is governed by the general provisions of Art. 31 of the Income Tax Laws of 2002 No. 118(I)/2002.

Art. 31 though, is not helpful as to the taxation of the trust income. It does not lay down methodology and procedures. It simply imposes to the trustees the obligation to collect and pay the tax due considering that this income belongs to the beneficiaries.

Article 31 – Tax liability of trustees:

"Trustees in bankruptcy or receivers, trustees, executors of wills or administrators of property or guardians entrusted with the management, control or administration of property or an undertaking on behalf of any person shall be liable to tax in respect of the income arising from such property or undertaking in the same manner and to the same amount as such person would be taxed if he personally received such income, and every such trustee, receiver, commissioner, executor of wills or administrators of property or guardian shall be responsible for doing all things necessary under this Law for the assessment and payment of tax:

Provided that nothing contained in this article shall preclude the imposition of tax in the name of the person represented by such trustee, receiver, commissioner, executor of wills or administrators."

 

Every such trustee, shall be responsible for carrying out all actions required under Income Tax Law for the assessment and payment of the relevant tax in respect of the income arising from such trust property.

In addition, as per the provisions of the Assessment and Collection of Taxes Law No. 4/78, articles 8 and 9, the trustees must prepare and submit a tax return for a specified tax year when required by the Commissioner, for tax resident beneficiaries and for non-tax resident beneficiaries but in the case of the latter, for income arising from any source in Cyprus which is taxable in Cyprus.

The methodology applied by the tax authorities in imposing taxation

Trusts do not have legal personality. The express written trusts under consideration, are established by an agreement between the settlor and the trustees, the trust deed, without this agreement giving to the trust legal personality.

In view of this observation, the income tax authorities view the trusts as tax transparent or "see through" vehicles, and ignore their existence for tax purposes.

Relying on Art. 31, the income tax authorities impose taxation considering that the income belongs to the beneficiaries. They impose taxation on the trustees acting as representatives of the beneficiaries for the income of the trust which they theoretically allocate to the beneficiaries.

The trustees simply act as the collectors and payers of the tax who are responsible to take all necessary measures to assess and pay the due tax considering as if this income was received by the beneficiaries. The taxation is calculated during the financial year the beneficiaries received or are deemed to have received the income in cases where there was no distribution.

It is irrelevant whether there was an actual distribution of income to the beneficiaries or not. The trustees will be taxed for the income in their hands, theoretically allocated as income of the beneficiaries.

The basic rule of taxation in Cyprus

As per the basic rule of taxation in Cyprus (Art. 5(1) & (2) of Income Tax Law 118(I)/2002), a person in order to be liable to tax, must be a tax resident of Cyprus or have income from sources within Cyprus. In view of this approach, in order for the beneficiaries to be liable to taxation, they must be tax residents of Cyprus, or have income from sources within Cyprus, otherwise taxation cannot be imposed.

• Cyprus Tax Resident Beneficiaries: Taxation is imposed according to standard rules of taxation in Cyprus, subject to the type of income received (business income, dividends, royalties, rents, interest, etc.) and subject to the type of beneficiary (physical or corporate person).

• Discretionary Trusts: In practice, where the trust deed does not specify the exact percentages each beneficiary is entitled to, tax authorities allocate the income of the trust equally among the beneficiaries and tax accordingly.

• Non-Tax Resident Beneficiaries: There is no taxation or withholding tax (0%), unless the income is generated from sources within Cyprus.

C. THE PROBLEMS RELATED TO THE METHODOLOGY APPLIED

Various problems appear in view of the methodology of taxation applied by the tax authorities:

1. Taxation of beneficiaries for income they do not receive: The income of the trust might never be distributed to the beneficiaries, yet it is taxed as if it were. Re-invested income or income retained by trustees is taxed as property of the beneficiaries despite them having no absolute ownership over it.

2. Mixed Resident & Non-Resident Beneficiaries: How is income allocated if some beneficiaries are Cyprus tax residents and others are not, especially when the trust deed does not specify shares?

3. Discretionary Trusts (Taxation in breach of terms): Beneficiaries of discretionary trusts have only an expectation (not a right or claim) to receive funds if the trustees exercise discretion. Allocating income equally across beneficiaries violates the essential legal terms of discretionary trusts.

4. Companies as Beneficiaries: How do trustees estimate tax if the corporate beneficiary has transferable losses brought forward, or has received no actual cash distribution to pay the theoretical tax?

5. Timing of Tax Imposition: Is tax imposed at the time of receipt of income or at the end of the financial year when tax returns are filed?

6. Determination of Taxable Amount: Who identifies the exact net income figure after deducting expenses incurred by the trust, and when?

7. Secret Trusts: In secret trusts, beneficiaries do not even know the trust exists. Trustees cannot coordinate tax calculations without compromising confidentiality.

8. Lack of Guidance: These issues have remained unresolved for years due to the absence of proper legislation and explicit administrative guidance.

The Cyprus International Trust Case & Non-Domiciled Status

• Non-Resident Income: Income received by trustees of a Cyprus International Trust on behalf of non-resident beneficiaries is non-taxable (0%) unless derived from Cyprus sources.

• Non-Domiciled Status: Foreign individuals who settle in Cyprus after creating a Cyprus International Trust can claim non-domiciled tax status. For up to 17 years, non-domiciled residents pay 0% tax on passive income (dividends and interest), whether sourced in Cyprus or abroad.

• GeSY (General Health System): All tax residents (including non-domiciled individuals) contribute 2.65% to GeSY on personal income, capped at a maximum annual income threshold of €180,000.

D. RECENT PRACTICE OF CYPRUS TAX AUTHORITIES

Despite no explicit changes in the law during the tax reform, tax authorities now require trusts to register with the income tax authorities and obtain a Tax Identification Number (TIN).

When a trust is involved in transactions requiring tax authority processing, authorities demand that the trust get registered first. This practice is legally grounded in the combined provisions of the Assessment and Collection of Taxes Law (4/1978), Companies Law Cap 113, and Articles 2 and 31 of Income Tax Law (118(I)/2002), which allow the Director of Income Tax to request registration for any body corporate with or without legal personality.

E. THE COMPLICATIONS GENERATED BY THE RECENT PRACTICE

• Registration Timeline: Does the requirement to register within 60 days of establishment apply to all trusts, or only when a formal transaction occurs?

• Filing Annual Returns: Most trusts simply hold assets without active trading. Will passive holding trusts now be forced to file annual returns?

• Past Years: Will newly registered trusts be required to submit backdated tax returns for past years since establishment?

• Penalties: Will late registration penalties apply?

• Return Types: What form should be filed if beneficiaries include both physical and legal entities?

• Coordination & Secret Trusts: How can filings be coordinated between trustees and beneficiaries without creating conflicts or revealing secret trusts?

Possible Positive Effect: Access to Double Tax Treaties (DTTs)

If tax authorities view a trust as a body corporate obtaining a Tax Identification Number, and tax it when beneficiaries are Cyprus residents, the argument can be made that the trust itself is a tax resident of Cyprus (similar to partnerships).

If recognised as tax resident bodies, trusts could potentially access the benefits of Cyprus’s extensive Double Tax Treaty (DTT) network, particularly for discretionary trusts where income is legally retained at the trust level.

F. STEPS TO BE TAKEN BY TAX AUTHORITIES

Clear legislative amendments and formal guidance circulars must be issued by the Cyprus Tax Authorities to resolve these practical complications and provide full legal certainty.

G. THE ADVANTAGES OF CYPRUS TRUSTS

Despite administrative ambiguities, Cyprus Trusts (especially Cyprus International Trusts) remain powerful structures for:

• Asset protection

• Family estate and succession planning

• Business structural flexibility

• Charitable purposes

• Efficient international tax planning

H. RELATED TAXES & APPLICABLE TAX ENVIRONMENT IN CYPRUS

Personal Income Tax Rates (Scalable)

I. PRACTICAL SCENARIOS – TAXATION TO BE INCURRED

1. Scenario 1: Assets abroad + Beneficiaries non-tax residents of Cyprus $\rightarrow$ 0% Tax on Trust Income.

2. Scenario 2: Assets abroad + Beneficiaries tax residents of Cyprus $\rightarrow$ Taxed as per standard Cyprus tax rules.

3. Scenario 3: Assets abroad + Beneficiaries non-domiciled tax residents $\rightarrow$ 0% Tax on dividends and interest (other income subject to standard rules).

J. BUSINESS APPLICATION: HOLDING & TRADING COMPANIES OWNED BY A TRUST

Combining a Cyprus Trust with underlying Cyprus Holding or Trading Companies creates an optimal structure:

• 15% Corporate Tax on net operating profits.

• 0% tax on dividends received from overseas subsidiaries (subject to basic holding conditions).

• 0% withholding tax on outbound dividend distributions to non-resident beneficiaries.

• 0% Capital Gains Tax on disposal of shares/securities.

• Access to Cyprus’s extensive network of Double Tax Treaties.

K. HOW KINANIS LLC CAN ASSIST

• Establishment of trusts

• Tax and legal consulting on trust structures

• Management and administration of trusts

• Day-to-day operational support

• Trustee services and corporate governance

L. DISCLAIMER & CONTACT DETAILS

This publication has been prepared as a general guide for information purposes only and does not substitute professional legal/tax advice.

KINANIS LLC

Lawyers’ Limited Company
Law | Tax | Accounting | Consulting
12 Egypt Street, 1097 Nicosia, Cyprus
Tel: + 357 22 55 88 88 Fax: + 357 22 75 97 77
E-mail: FinancialServices@kinanis.com
Website: https://www.kinanis.com

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