Cyprus Notional Interest Deduction (NID)

Introduction to Notional Interest Deduction (NID)

The Notional Interest Deduction (NID) is a tax incentive introduced by Cyprus in 2015 to encourage businesses to finance operations through equity rather than debt. It allows companies to claim a notional deduction on taxable profits when raising capital via new equity, offering a tax benefit similar to interest deductions on debt financing.

By lowering the effective tax rate, NID enhances Cyprus’s appeal as a business destination, promotes financial stability, and ensures a neutral tax treatment between debt and equity financing.

Legal Framework of NID

The NID is governed by Article 9B of the Cyprus Income Tax Law (ITL) and applies to:

• Cyprus tax-resident companies
• Cyprus permanent establishments (PEs) of non-Cyprus tax residents

Key Regulatory Approvals:

• The EU Code of Conduct Group (Business Taxation) and ECOFIN assessed Cyprus’s NID regime as “not harmful” (November 2020).
• Cyprus Tax Authorities (CTA) Circular 2016/10 provides further clarifications and calculation examples.

How NID Works

NID enables businesses to deduct an imputed interest expense from taxable income when financing operations through new equity.

Key Components of NID:

1. New Equity
2. Reference Interest Rate
3. Deduction Cap
4. Annual Eligibility
5. Effective Tax Rate Reduction

1. New Equity

"New Equity" refers to capital introduced into a company after January 1, 2015, which must be used to generate taxable income.

Eligible Forms of New Equity:

• Paid-up share capital (ordinary, preference, redeemable, or convertible shares)
• Share premium
• Loans payable or other debt instruments converted into share capital
• Shareholder credit balances converted into share capital
• Non-refundable capital contributions
• Realized reserves (post-2015) converted into share capital

2. Reference Interest Rate

The reference rate is determined based on the 10-year government bond yield of the country where the funds are employed, plus a 5% premium.

3. Deduction Cap

The NID deduction is capped at 80% of taxable profits from new equity before applying NID. This means NID can reduce the effective tax rate to as low as 2.5%.

4. Annual Eligibility & Duration

There is no fixed time limit—NID can be claimed indefinitely. However, NID does not carry forward like tax losses, meaning if it is not used in a given year, it cannot be claimed retroactively.

5. Anti-Abuse Provisions

To prevent tax avoidance, the law includes specific anti-abuse measures along with a general anti-abuse rule.

Example Calculation

A Cyprus company issues €10 million in new equity in 2024. The reference interest rate for that year is 8.25%, allowing the company to claim a notional deduction of €825,000 (€10 million × 8.25%). However, since NID is capped at 80% of taxable profits, the actual deduction depends on the company’s taxable income.

For instance, if the company’s taxable profit for 2024 is €2 million, the maximum allowable NID deduction is €1.6 million (80% of €2 million). Since the calculated NID (€825,000) is lower than the cap, the company can fully utilize the deduction, reducing taxable income and tax liability for the year.

Recent Developments & Future Changes

In 2025, Cyprus will increase the corporate tax rate from 12.5% to 15% to align with OECD global tax standards. Additionally, the deemed dividend distribution (DDD) rules are expected to be abolished, and new anti-abuse provisions will restrict artificial NID claims structured solely for tax benefits.

These changes highlight the importance of businesses ensuring compliance with evolving regulations while strategically managing their tax liabilities.

Conclusion

The Cyprus Notional Interest Deduction (NID) is a valuable tool for reducing tax burdens and optimizing corporate finance strategies. Given upcoming tax reforms, businesses should carefully plan their NID claims and ensure compliance with new tax laws and anti-abuse provisions.

 

Author: Mr. Nasos A. Kyriakides LL.B, DI.M, LL.M, MCI Arb. from NASOS A. KYRIAKIDES & PARTNERS LLC, GRATA International, Cyprus