A recent decision of the Moscow Arbitration Court (the Court) became the latest in a series of rulings against taxpayers on the subject of the imposition of withholding tax under the rules concerning the "person possessing an actual right to income" (or the "beneficial owner" of income). The Court examined a situation in which a Russian company had paid interest on a loan provided by a Luxembourg company that in turn had been financed through loans from the latter company's Italian shareholder. The tax inspectorate took the view that the Luxembourg company was a "conduit" (intermediate) company and could not claim a withholding tax exemption under the treaty between Russia and Luxembourg. The inspectorate had drawn this conclusion on the basis of the Luxembourg company's financial statements, a reply from the Luxembourg tax authorities to an inquiry sent from Russia, and a comparison of the terms of the loans received and issued by that company. As a result of the audit, the inspectorate had ordered the payment of withholding tax at the 10% rate stipulated for interest under the tax treaty between Russia and Italy. Although an appeal at the appellate level may yet be filed against this decision, the arguments used by the parties to the dispute and the position taken by the trial court may influence practice in the application of the "actual recipient" rules both in regard to interest and in regard to other payments to foreign counterparties which are taxable at source in Russia (for example, dividends and royalties).

A Tax Alert prepared by Ernst & Young Russia, and attached below, provides additional details.

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