More formally speaking, on Monday, the Russian authorities reaffirmed their intention to terminate the Agreement for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income and on property (the “DTA”) with the Netherlands.

As a famous Russian poet wrote, the incident is finally dissolved, and our national policy in respect of cross-border business structures is becoming more and more distant from the global idea of creating a favorable investment climate.

On April 12, another news report appeared stating that the State Duma has published a draft law on denunciation of the DTA. This means that for now negotiations with the Netherlands on amendments, which are similar to those previously agreed with Cyprus, Luxembourg and Malta, have come to a finale.

Why did negotiations between Russian and Dutch authorities end like this?

The Netherlands would not agree to raise the rate for business to 15% and demanded introducing incentives for Dutch business actually investing in the Russian economy. According to the explanatory note to the draft law, the Netherlands insisted on expanding the list of income that would be taxed at reduced rates. In turn, for Russia it was crucial to strictly follow the Russian President’s instructions to prevent mass withdrawal of funds from the country. Since when giving these instructions the Russian President did not announce any exceptions, Russia took and maintains a very categorical position in negotiations, which resulted in actual failure to come to an agreement with the Netherlands.

How will the upcoming termination of the DTA affect business?

This may cause an increase in the amount of taxes for many holding structures, which will require analyzing the possibilities for their restructuring or applying a “pass-through approach” and providing recognition of business units further down the chain in the holding structure as actual beneficiaries.

While the existing DTA establishes reduced rates for dividends (5% or 15% (in general cases)), and completely exempts interest, royalties and income derived from real estate from withholding tax, its termination will increase the rate for dividends to 15% in all cases, and will introduce a general withholding tax rate of 20% for royalties, interest and income from real estate. Furthermore, this may lead to double taxation in relation to all other types of income (including personal income), since the DTA termination will also preclude the offset of taxes paid in another state.

In this regard, it is important to note that even if the initially proposed amendments were agreed and adopted, only the withholding tax rates would have been increased, with the possibility to offset taxes remaining in effect.

When the DAT is terminated, however, such offset option will cease, posing potential risks of double taxation and significant financial losses for holding structures.

When to expect actual changes?

If after consideration the draft law is adopted, and Russia sends a notice of termination by June 30, 2021, then the DAT will cease to be in in effect starting next year, i.e. from January 1, 2022.

Therefore, there is a real threat of severance of relations with the Netherlands and an increased tax burden. This will inevitably trigger the need to analyze whether the existing structures are effective and how they could be restructured.

In the context of such news, we also remind readers that the amendments to double taxation agreements with Cyprus and Malta took effect on January 1, 2021, and amendments to the agreement with Luxembourg will take effect starting January 1, 2022 due to ratification by Luxembourg only at the beginning of March.

What to expect or who will be next?

It seems that despite obvious negative consequences of amendments to, and termination of, existing agreements for business, unfortunately, the DAT with the Netherlands will most likely not be the last. The professional community shares a common view that soon Russia is expected to propose amending agreements with other popular jurisdictions.

We continue to monitor the development of the situation with a sinking heart and apprehension, and will keep you posted on this issue.

Our experts are at your service to help reduce negative consequences of amendments to, and termination of, double taxation agreements, to analyze the impact of such changes on your business and to propose options for minimizing potential risks. Should any questions arise, we will be glad to assist.

This overview is prepared by Senior Associate of the Tax practice Ekaterina Smolovaya.