Income taxes were first introduced in 1941, and a system of withholding in 1953. The first value-added tax (VAT) was enacted in 1992. With an eye to its hoped-for accession to the EU in 2004, the Greek Cypriot government enacted a series of new tax laws in July 2002, effective as of 1 January 2003, designed to be fully compliant with OECD tax criteria and the EU tax Code of Conduct.
The new corporate income tax rate, applied to both local and international business companies (IBC's), is 10%. Active IBCs already operating from Cyprus may retain the previous ring-fence rate of 4.25% until 2005 if their income for the period 2001 through 2005 continues to come entirely from sources outside of Cyprus. If they opt to retain the 4.25% rate until 2005, they cannot carry forward any tax losses up to 2000 beyond 2005. Dividends paid to Cypriot tax residents are subject to a 15% withholding tax. A major feature of the new tax code is the integration of corporation and withholding taxes with income tax on distributed profits. The combination of the income tax and the withholding tax, assuming that 70% of the after-tax profits are distributed, produces a final tax rate of 19.45%, which is below the highest income tax rate of 25% before the reforms. Provisions for "special contributions to defense of the Republic" are changed under the new tax laws. The defense tax on interest income was raised from 3% to 10% except for recipients whose total income is less that C £7.000 (about $13,100), and except on interest from government bonds, pension funds, and deposits with the HFC, which are taxed at 3%. With some exceptions, the defense levy on dividends received was increased from 3% to 15%. Interest income is subject to a final 10% withholding tax. All interest earned by individuals and 50% of the interest earned by corporations are exempt from income tax.
Income taxation of companies will no longer depend on where they are registered but on where they are managed and controlled. Companies registered in Cyprus but managed and controlled from another country, will only be taxed in Cyprus on their Cyprus-source income. IBCs will not be entitled to benefits under double taxation treaties, but they will also not be subject to the exchange of information requirements of such treaties.
Under the new laws, expatriate employees pay personal income taxes at the same rates as Cypriot citizens, as well as contribute to the Social Security Fund. For personal income tax rates, 2002 and 2003 are transitional years before the fully reformed schedule goes into effect in 2004. In 2001, for example, income up to C £6000 ($11,221) was exempt from personal income tax; in 2002, the threshold was raised to C £9000 ($16,800); in 2003, the threshold remained at C £9000 but with a reduction in the first marginal tax rate from 30% to 20%; and, finally, in 2004, the threshold will be raised to C £10,000 ($18,700). Starting in 2004, personal income above C £10,000, will be taxed at marginal rates of 20%, 25% and 30%, applied, respectively, to bands C £10,001 to C £15,000 ($28,050) and C £15,000 to 20,000 ($37,400), and above C £20,000. The capital gains tax, its rate of 20% unchanged under the new laws, is imposed only on the disposal of property situated in the Republic. Indirect taxes include a value-added tax (VAT) whose rate was raised in two steps (from 10% to 13% as of 1 July 2002, and to 15% as of 1 January 2003), plus various excise taxes.
Duty free facilities for expatriates are scheduled to be withdrawn in April 2003.