Effective from 1 January 2022, the Slovak legislation governing the rules for controlled foreign companies (CFC) was extended for individuals as well. This extension should lead to the taxation of CFC profit shares already at the moment of the potential entitlement of the taxpayer, not at the moment of their actual payment. The rules shall be applied in the personal income tax returns for taxation period 2022 for the first time.
The purpose of these measures is to prevent aggressive tax planning and limit the diversion of profits to foreign countries, especially to those with a low or no tax burden (i.e. tax havens). An example of such an activity is diverting of profits to foreign letter-box companies, which are directly or indirectly managed by Slovak individuals, though, for example, redirecting the invoices for services that were actually performed in Slovakia or through transferring the legal ownership of profit-generating assets.
The new rules will apply when an individual (a resident in the Slovak Republic), alone or together with controlled entities, has an effective control over the CFC or when they have an equity investment in the CFC of more than 10%. At the same time, the rules will apply when the CFC is a tax resident in a non-cooperating state (from the point of view of the Slovak legislation) or when the effective taxation of the company is below 10%.
If an individual holds an equity investment in a CFC, the basis for attributing the profit amount is the CFC profit less the demonstrably paid corporate income tax or a similar tax, to the extent in which the individual is entitled to a share in profit (dividends). Simply put, it is the portion of the CFC profit that could potentially be distributed among the owners as a profit share. If the company is an entity, in which the taxpayer does not hold an equity investment but exercises effective control over it, the profit amount is attributed depending on the amount of the effective control.
There are three exceptions to the application of the CFC rules to individuals:
- The attributable income of the individual does not exceed EUR 100 thousand;
- The CFC rules are already applied by a legal person; or
- The legal person is resident of the EU or EEA member state and it is demonstrable that it achieves profit through an actual economic activity.
Based on the above stated, stricter rules are applied to companies established in “non-cooperating states”. If the CFC is resident of non-cooperating state, the tax rate of 35% is applied on attributable, not yet paid out income. On the other hand, the tax rate of 25% is applied for CFC, which are residents of other states. The set rules will force the CFC to actually pay out the profit shares, so the individual will be allowed to offset the tax already paid on these attributed profit shares.