Russia's thin-cap rules turn intercompany interest into a problem above a 3:1 debt-to-equity ratio — the excess stops being deductible and is reclassified as a dividend. Whether your financing crosses that line, and whether interest you're deducting is at risk, is the question.
Your controlled debt exceeds roughly 3:1 against equity — interest on the excess loses deductibility and is treated as a deemed dividend with withholding.
Test your debt-to-equity, restructure the mix where it bites, and defend or quantify the position where interest is challenged.
Russia's thin capitalisation rules restrict the deductibility of interest on loans from related parties where the debt-to-equity ratio exceeds a specified threshold. For foreign-owned Russian companies financed through intercompany debt — a common and commercially rational structure — these rules can significantly increase the effective tax cost of the financing and create unexpected withholding tax obligations.
Thin capitalisation rules (правила тонкой капитализации, Article 269 of the Russian Tax Code) apply where a Russian company has "controlled debt" to a foreign related party. Where the amount of controlled debt exceeds the company's equity by more than 3:1 (12:1 for banks and leasing companies), the excess interest is:
Non-deductible for Russian corporate income tax purposes — the Russian LLC pays 25% CIT on what should have been a deductible expense
Reclassified as a deemed dividend — subject to withholding tax at the applicable dividend rate (15% domestic, or treaty-reduced rate where a treaty applies)
This double hit — loss of deduction plus WHT on reclassified interest — makes thin capitalisation one of the most financially significant tax risks for foreign-owned Russian companies.
Controlled debt (контролируемая задолженность) is defined broadly under Article 269. It includes:
Direct loans from a foreign related party (parent company, sister company, any company with more than 25% direct or indirect ownership)
Loans from a Russian company that is itself related to the same foreign group (e.g. a Russian subsidiary of the same parent)
Loans where the foreign related party has provided a guarantee, surety or other security — even if the loan itself is from an unrelated third party (e.g. a bank)
Loans from an offshore company where the foreign related party is the beneficial owner
A common structure — the foreign parent guarantees a Russian bank loan to its Russian subsidiary — triggers thin capitalisation rules even though the lender is an unrelated Russian bank. The guarantee is sufficient to make the debt "controlled." Many foreign-owned companies have discovered this unexpectedly during FTS audits. If the group uses bank debt with parent guarantees in Russia, the thin capitalisation position must be reviewed.
The thin capitalisation ratio is calculated as:
Pick your situation — we'll tell you where you stand:
Controlled debt ÷ (Equity × 3) = Capitalisation ratio
Where the ratio exceeds 1 (i.e. controlled debt exceeds 3× equity), only the interest on the permitted portion of debt is deductible. The "permitted interest" is calculated as:
Permitted interest = Total interest × (3 × Equity ÷ Controlled debt)
The excess interest — the amount above the permitted portion — is non-deductible and treated as a deemed dividend.
Russian LLC has equity of RUB 100m and controlled debt of RUB 500m at 10% interest = RUB 50m annual interest.
Permitted interest: RUB 50m × (RUB 300m ÷ RUB 500m) = RUB 30m (deductible)
Excess interest: RUB 20m — non-deductible + reclassified as deemed dividend
WHT on deemed dividend (10% under treaty): RUB 2m
Additional CIT on non-deductible interest: RUB 20m × 25% = RUB 5m
Total additional tax cost of thin capitalisation: RUB 7m per year on RUB 500m of debt
Equity for thin capitalisation purposes is calculated as net assets — total assets minus total liabilities, per the Russian accounting (RAS) balance sheet. Key points:
Equity is calculated at the end of each reporting period (quarterly) — the ratio must be tested every quarter, not just annually
Where equity is negative (accumulated losses exceed paid-in capital), all controlled debt interest is non-deductible — the 3:1 ratio cannot be applied to a negative base
Retained earnings (or losses) from RAS accounts drive the equity figure — see our guide to IFRS to RAS reconciliation for why IFRS equity and RAS equity may differ significantly
If a Russian LLC has accumulated RAS losses that exceed its paid-in capital — resulting in negative net assets — the thin capitalisation rules completely disallow interest deductibility on all controlled debt. This is a common situation for Russian subsidiaries that have been through a loss-making period. The entire interest charge is reclassified as a deemed dividend and subject to WHT. This position should be modelled carefully before financing a Russian subsidiary through intercompany debt.
Thin capitalisation and transfer pricing are separate regimes that catch the same intercompany loan from two different directions, and a financing arrangement has to satisfy both — plus the general anti-abuse rule — to be safe. Foreign groups often address one and are caught by the other.
Transfer pricing asks whether the interest rate is arm's length: is the rate on the intercompany loan what an independent lender would have charged for comparable debt? If the rate is too high, the TP rules can adjust it downward, reducing the deductible interest to an arm's-length level.
Thin capitalisation, under Article 269 of the Tax Code, asks a different question — not about the rate, but about the amount of debt. Where controlled debt exceeds roughly a 3:1 debt-to-equity ratio, the interest on the excess portion stops being deductible at all and is reclassified as a dividend, which then attracts dividend withholding tax.
The interaction is that a single loan can be tested by both. The rate must first be arm's length under the TP rules; then, even at an arm's-length rate, the deductibility of the interest is capped by the thin-cap ratio; and the excess that fails the ratio is treated as a disguised dividend. So an intercompany loan can survive the TP rate test and still lose part of its interest deduction to thin cap — or the reverse.
Sitting over both is the general anti-avoidance rule in Article 54.1, which lets the FTS look at whether the financing has genuine business purpose and substance at all. A loan that is really equity dressed as debt can be recharacterised under 54.1 regardless of how the rate and ratio look in isolation.
The practical consequence is that intercompany financing into Russia has to be planned against all three tests together — an arm's-length rate, a defensible debt-to-equity ratio, and genuine commercial substance. Optimising for one in isolation is how groups end up with interest disallowed and reclassified as a dividend, with withholding tax on top.
If your controlled intercompany debt exceeds roughly 3:1 against equity, yes — interest on the excess stops being deductible and is reclassified as a deemed dividend, taxed with withholding. Testing your ratio is what tells you whether your interest deduction is safe or exposed.
It's disallowed as a deduction and treated as a dividend to the foreign lender, subject to withholding. So over-leveraging with intercompany debt can convert a deduction into a taxable distribution — the opposite of the intended effect.
Often, by adjusting the debt-equity mix — converting some debt to equity, or resizing the loan. Where interest has already been challenged, the position can be defended or the exposure quantified. Either way, testing the ratio before an audit is cheaper than after.
This explains Russia's thin-cap rules — interest on controlled debt above a 3:1 debt-to-equity ratio stops being deductible and is reclassified as a dividend. Your question is whether your intercompany financing crosses that line, and whether interest you're deducting is quietly at risk.
Funding your Russian entity with intercompany debt? The thin-cap line is worth checking before an audit reclassifies your interest.
Practical support for international business in Russia.