With the forthcoming deadline for filing the corporate income tax return, we summarise below several areas which may cause complications in practice.
In general, it seems appropriate when the employee benefits issues are mutually communicated by representatives of the HR department and the Finance department. Even though the tax implications may not be the most important aspect for selection, certain benefits may get significantly expensive both on the part of the employer and the employee.
- Meal vouchers and catering at the workplace
The Income Tax Act distinguishes between the operations of own catering and contributions to catering operated by other entities. In practice, we commonly see hybrid systems having features of both of the above. However, each of them has a different tax treatment of expenses. In the first case, costs of catering operating are tax deductible (except for the cost of food); in the second case, it is the maximum amount stipulated by law, which changes on an annual basis.
Recently, gift vouchers have become popular among benefits. They have numerous forms and their substance determines their tax treatment. Flexipasses intended solely for health, sports and education are exempt from tax on the part of employees. For employers, they are a tax non-deductible expense. All-purpose gift vouchers that can be used for activities except for sports, health, culture etc. may have the opposite tax treatment upon meeting of all statutory conditions, i.e. to be tax deductible on the part of the employer and taxable income on the part of the employee.
Mass transportation of employees has become another significant benefit through which companies seek to please their employees. In addition to being a tax-deductible expense when the conditions are met, it is taxable income of the employee in most cases with the necessity to take the price standard at the place and time of transportation into account.
Provisions for receivables and write-offs of receivables
We are often asked the question whether it is possible to release the statutory provision for a receivable and write off a receivable through tax deductible expenses as of the balance sheet date if the receivable became time-barred during the year. The current wording of the Income Tax Act does not allow for this possibility and the tax deductibility of this expense might be contested by the tax administrator in a potential tax audit.
For a correct application in accordance with the Income Tax Act, it is necessary to have an internally set system that allows you to write off a receivable and release a tax provision before the receivable becomes time-barred.
Rental vs. lease, including technical improvements issues
Tax consequences of termination of rental may make a situation, that is not so complicated in terms of taxes (e.g. moving to new premises, termination of rental agreement, expiration of the rental agreement term, etc.), considerably expensive. Already upon the conclusion of a rental agreement when the rented premises will be technically improved and you, as a tenant, will have the right to depreciate it, the situation requires a legal treatment and a tax analysis of the situation.
If, you, as a tenant, for example terminate the rental agreement, you do not remove the technical improvements and you receive no remuneration for the incurred costs from the landlord, the part of the technical improvements that was not depreciated becomes irremediably a tax non-deductible expense. Upon conclusion of the rental agreement, it is necessary to bear in mind the tax implications that may happen many years after the conclusion of the contract. There may be negative implications for the landlord himself, as the non-depreciated part of technical improvements may be taxable income.
Holding of an equity investment in a subsidiary
A correct treatment of income exempt from tax having the form of profit share paid by a subsidiary is usually not problematic in companies. The relating costs are sometimes a source of errors. Pursuant to the Income Tax Act, it is necessary to treat all direct expenses relating to the holding of an equity investment in a subsidiary as tax non-deductible and, in respect of indirect costs, companies must be able to prove that they are lower than 5% of the paid dividend, or treat the amount of 5% of the paid dividend as a tax non-deductible expense. Following the ruling of a regional court (29 Af 53/2016 – 88), it is necessary to see the background of indirect costs in a broader context and stay prudent, if you expect them to be zero, as you may easily lack evidence and face an additional assessment of indirect costs according to the above amount of 5% of the paid dividend, including relating sanctions.
Combination of deductions/gifts/discounts/tax credit
If your company is preparing a rather comprehensive tax return which includes e.g. items deductible from the tax base (deduction for research and development, deduction for the support of professional education, tax loss), performance supplied free of charge (gifts), discounts (e.g. arising from an investment incentive or employment of disabled persons), or e.g. credit of tax paid abroad, it is very important to pay attention to the rules of their use and mutual interconnection of relevant provisions. As for example gifts cannot be transferred to following years, one would automatically give them preference in the decrease of the tax base over the use of a deductible item for research and development. However, the Income Tax Act does not allow this step and, put simply, makes you use first the item deductible from the tax base and then the item decreasing the tax base (provided “gifts”).
Inventory and its tax deductibility
An inventory count should be used for a correct assessment of tax deductibility of individual situations that may arise for inventory. In addition to rather known decreases in inventory (e.g. sale) that are usually a tax-deductible expense, there may be numerous situations that require a deeper understanding of the issue.
If you decide to donate certain inventory, this expense is, in principle, a tax non-deductible expense. Exceptions include for example promotional items meeting statutory conditions, among other things, it must be promotional merchandise with the input price lower than CZK 500 net of VAT per piece, or product samples.
With some exceptions, it is a tax non-deductible expense. We would like to note that the definition of “damage” which is, for the purposes of the Income Taxes Act, entirely different from what we would imagine, and which is essential for assessment of a particular case. Damage, among other things, is such impairment that resulted in disposal of an asset or inventory, i.e. it is not minor damage that is subsequently repaired.
If your company records inventory which naturally decreases (e.g. shrinkage, evaporation, etc.), we recommend considering a setting of an internal “natural wastage standard”. If you are able to defend this standard to the tax administrator, the relevant wastage may be tax deductible up to the amount of the standard.
If someone stole your inventory, you may still treat such expense as tax deductible expense in certain cases. For example, when you have a protocol from the police stating that it was an unknown perpetrator, or if you have relating proceeds (be it from the perpetrator or from the insurer), the tax deductibility is limited by the amount of relating proceeds.
Did you liquidate the inventory during the year? To prove the tax deductibility of this expense, it is necessary to have a liquidation protocol which contains fixed particulars stipulated by the Income Tax Act.
Sometimes, nature may cause damage to your inventory. If it is natural disaster, the relating expense is a tax-deductible expense. Beware that not all of what happens in nature can be classified as a natural disaster. Wind blew away part of your inventory? It is a natural disaster only of the wind speed exceeded 75 km/hour.
Another issue may be confusions. If the warehouse operator confused one (easily confused) type of inventory with another type of inventory and you subsequently identify, during the inventory count, excesses of one type and a deficit in another type, it is possible to use the “confusion” in justified cases and mutually compensate the deficit by the excess.
Marketing and gifts
At this point, we would like to note the strict division of gifts and sponsoring – each of them has
a different tax assessment.
If you want to donate anything, you are obliged to stand the burden of proof in a potential tax audit. If you for example gave away samples or promotional merchandise of your company on a children’s day, you will want to have photographic documentation from the event proving that the merchandise was not taken by your employees (it would be a different tax treatment).
If you decide to boost your sales through marketing, e.g. advertising on TV and its cost exceeds CZK 60 thousand and useful life exceeds one year, it would be a mistake to recognise such cost on a one-off basis. The Income Tax Act sees it as fixed assets and you will expense their costs through tax depreciation charges.
If your company receives investment incentives, you should pay special attention to setting transfer prices in the group to ensure that the prices meet the criterion of the arm’s length principle.
As it is an additional benefit in the form of public aid, this benefit is counterposed by numerous obligations. It is necessary, among other things, to maximise all deductions from the tax base
(i.e. utilisation of the loss, deduction for research and development and deduction for the support of professional education) and maximise depreciation and tax provisions for receivables.
Deduction for research and development
The deductible item for research and development is currently significantly supported by the Czech government; however, never forget that the project documentation of research and development in accordance with the legislation applicable before 1 April 2019 is a prospective forward-looking document, however, the failure to adhere to (even formal) requirements for its form and content in line with the current practice of taxation authorities results in the exclusion of the entire deduction from the tax return and use of all sanctions allowed by the Tax Code.
In addition, you must have a well-structured and provable separated records of expenses (recognition through ledger accounts is not sufficient). Last but not least, when defending activities that you have assessed as research and development activities, an expert report from an independent expert institute may come in handy. It is not a statutory requirement, but we strongly recommend it given the current practice of tax audits.
For companies that started to deal with the development after the amendment to the Income Tax Act that took effect on 1 April 2019, rules of deduction may change. The amendment not only introduced the obligation to “announce” the intended projects to the tax administrator, but also the obligation to prepare the project documentation by no later than the date for the filing of the first regular tax return, even for multiannual projects.