Introduction to Notional Interest Deduction (NID)
The Notional Interest Deduction (NID) is a tax incentive introduced by Cyprus in 2015 to encourage companies to finance their operations through equity rather than debt. It allows businesses to claim a notional deduction on taxable profits when raising capital via new equity, offering a tax advantage similar to interest deductions on debt financing.
By reducing the effective tax rate, NID enhances Cyprus’s attractiveness as a business hub, promotes financial stability, and ensures tax neutrality between debt and equity financing.
Legal Framework of NID
The NID is legislated under 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:
–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 additional clarifications and calculation examples.
How Does NID Work?
The NID allows 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. It must be used for the generation of 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 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 cannot exceed 80% of taxable profit from new equity before applying the NID which means that 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.
NID does not carry forward like tax losses, meaning if it is unused in a year, it cannot be retroactively claimed.
5. Anti-abuse provisions
The law contains a number of specific anti-abuse provisions, along with a general anti-abuse rule designed to counteract tax avoidance practices.
Example Calculation
A Cyprus company issues €10 million in new equity in 2024. The reference interest rate for that year is 8.25%, meaning the company can claim a notional deduction of €825,000 (calculated as €10 million × 8.25%). However, since the NID is capped at 80% of taxable profits, the actual deduction allowed will depend on the company’s taxable income. For instance, if the company’s taxable profit for 2024 is €2 million, then the maximum allowable NID deduction would be €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 its taxable income and consequently lowering its tax liability for the year.
Recent Developments & Future Changes
In 2025, Cyprus is set to increase the corporate tax rate from 12.5% to 15% to align with OECD global tax standards, and the deemed dividend distribution (DDD) rules are expected to be abolished. Additionally, new anti-abuse provisions have been introduced to prevent artificial NID claims, restricting transactions that are structured solely for tax benefits. These changes emphasize the need for businesses to ensure compliance with evolving regulations while strategically planning their tax liabilities.
Conclusion
The Cyprus Notional Interest Deduction (NID) is a powerful tool for reducing tax burdens and optimizing corporate finance strategies. Given upcoming tax reforms, businesses should strategically plan their NID claims and ensure compliance with new tax laws and anti-abuse provisions. Contact us at info@nikitapartners.com.cy for a tailored consultation with our expert tax advisors to ensure you’re maximizing your NID benefits while staying fully compliant.
