From the changes in tax rates that will come into force in the coming year the most important, but probably also the most confusing is the increase in and calculation of the income tax exemption. You should also keep up with the changes in the taxation of sports incentives, be aware of the reduced rate on regular dividends of companies and so on.
Increase in and calculation of the income tax exemption
As of 1 January 2018, the tax-free income threshold for private persons will be increased to 500 euros, but the 500-euro basic exemption will start decreasing from the 1,200-euro gross salary, until it reaches zero at the gross salary of 2,100 euros. The tax-free income of persons who earn a gross salary of 1,200 to 2,100 euros will depend on their salary and other income in a calendar year.
A person whose average monthly income falls within the aforementioned range can calculate their exemption using the formula 6,000 – 6,000 : 10,800 x (annual income amount – 14,400). Basic exemption will be reduced by one euro per every additional 1.80 euros of income starting from the gross salary of 1,200 euros.
Compared to 2017, a person who earns up to 1,200 euros will in the coming year receive 62 euros net more in a month, i.e. 744 euros of additional income in a year. A person who earns at least 1,780 euros will receive less money in a month, while a person whose monthly income is 2,100 euros and more will lose 432 euros per year.
Changes in the taxation of employers’ passenger cars
- The previously applicable maximum limit of 256 euros per passenger car a month will be replaced by calculation based on the capacity of the car – 1.96 euros per kilowatt. Thus, the fringe benefit tax obligation, i.e. the income and social tax will be 1.3 euros per kilowatt a month. If the passenger car is more than five years old, the fringe benefit price will be reduced by an additional 25%.
- According to the new system, the tax obligation will be lower than currently at the fixed fringe benefit rate in the case of cars with medium and smaller capacity (< 130 kW). These form nearly 70% of company passenger cars. An employer shall have the right to use the kilowatt-based calculation also in the case of trucks with a full mass of up to 3,500 kilograms.
- Under the new system, companies can no longer keep accounts of private journeys made or partly reduce the fringe benefit tax obligation.
- If an employer has forbidden the personal use of a vehicle and wishes to prove it, the employer can, if it so wishes, continue to keep detailed records of the use of the passenger car or use another method accepted by the tax administrator for certifying the absence of personal use. In the case of passenger cars the personal use of which is forbidden by the employer’s decision and cars which are only used for work-related journeys in the public sector, a relevant notation must be made in the Traffic Register entry in order to specify the use of the passenger car. However, it is important to prove, if necessary, that the passenger car is not used for personal purposes.
- If the purpose of use of an acquired passenger car on which 100% input VAT has been accounted for is altered to mixed use within two years, 50% of the input VAT accounted for on the acquisition must be repaid with interest. Interest will be calculated from the deduction of the input VAT until the repayment thereof.
- Upon the purpose of use of a passenger car being changed to that of a car partly used for business purposes, the tax payer will have to treat the passenger car as one used partly for business for at least one year from the change of purpose of use.
Reduced rate of 14% on regular dividends of companies
A lower income tax rate (14%) will be applied to distributed profit smaller than or equal to the average distributed profit taxable in Estonia over the previous three years. Non-taxable profit will not be taken into account. The profit allocations exceeding the said amount will still be subject to the tax rate of 20%.
The taxation of profit will therefore fall into three categories in the context of companies:
- Up to the three year average rate of 14%.
- At 20% on the part of profit in excess of the limit.
- At 0% on profit paid forward on the terms and conditions of the exemption method.
Every year, the reduced rate can be applied to a third of the sum of the profit distributed in each of the 3 preceding years. The said third constitutes a so-called transition rule until three years have passed from the entry into force of the provision.
2018 will be taken as the first year of profit distribution, which means that as soon as in 2019 the income tax rate of 14% can be applied to a third of the dividend amount paid in 2018.
Upon the payment of dividends taxable at 14% to a natural person (resident or non-resident), income tax of 7% will be withheld. Upon the forward payment of profit taxable at the income tax rate of 14% to a natural person (upon applying the exemption method) the entity paying it forward becomes subject to the obligation to withhold income tax. Upon the rate of 20% being applied, the withheld rate would still be 0%. Thus, a resident natural person will not benefit from the reduced rate for dividends.
Depending on the country, withholding income tax in the extent of 7% may prove useful (deductible) for non-resident natural persons, if the exemption method is not applied to them in the country of location.
Declaring intra-group loans and the related burden of proof
A reverse burden of proof was established for long-term loans as well as an obligation to declare loans given to related persons.
In the case of intra-group loans, the following will have to be taken into account:
- Income tax shall be paid on a loan given to a shareholder or member, if the circumstances of the transaction indicate that it could be covert profit distribution;
- If a company gives a loan to its parent or its other subsidiaries or an undertaking above the parent company, the entity granting the loan must in the event of loans with a term of more than 48 months be able to prove that the borrower is capable of repaying the loan and intends to do so;
- Loans given or considerably changed (particularly by increasing the loan amount or extending the repayment term) as of 1 July 2017 must be declared by 10 February 2018. Thereafter, loans will be declared in every quarter. Declaring alone does not create a tax obligation.
Taxation of sports incentives from 1 January 2018
In 2018, an employer can compensate expenses incurred on improving the health of an employee in the extent of 100 euros in a quarter without that being taxed as a fringe benefit. The amendment is established for the term of five years. Employers are obligated to declare the compensations related to health improvement.
Compensation includes, for instance, participation fees of public sports events, costs directly related to the regular use of sports or fitness facility, costs incurred in the maintenance of an employer’s existing sports facilities, costs incurred on a rehabilitation physician, physiotherapist or activity therapist.
Natural persons can open a business account from 1 January 2018
The simplified taxation of business income act approved by the Government gives natural persons a possibility to open a so-called business account. Upon opening a business account, a natural person does not have an accounting and annual reporting obligation and taxes would be paid automatically via the business account. The business account is intended for micro-enterprises whose turnover does not exceed 25,000 euros a year. The bank transfers 20% of the income received to the business account to the Tax and Customs Board’s account every month to cover income tax, social tax and contributed pension payment. If turnover exceeds 25,000 euros in a year, 40% will go to the Tax and Customs Board. There is no possibility to deduct expenses.
A business account can be used by natural persons who provide services or sell goods to natural or legal persons. NB! In addition, legal persons have to pay the so-called corporate income tax on the sum of the services received form a natural person (at the rate of 20/80), as otherwise the undertakings would in the opinion of the Ministry of Finance lose any motivation to create employment relationships.
Note! As an implementing problem, it must be pointed out that it will probably not be possible to open a business account in any of the banks in Estonia at the beginning of 2018. The law allows but does not obligate credit institutions to open the said account for natural persons. Currently only LHV has shown interest in this option, but no one is nevertheless able to say when such a possibility will be created.
Incentives in the taxation of sole proprietors from 1 January 2018
- An upper limit will be applied to the payment of social tax on business revenue linked to the 15-fold annual minimum salary, to be reduced to a 10-fold minimum salary rate.
- The procedure for the quarterly payment of advance social tax payments will be replaced with a calculation in total at the beginning of a calendar year and the monthly calculation of the minimum social tax obligation will be replaced with a daily calculation.
- The period for carrying forward a loss will be extended from seven to ten years.
- The rules of income taxation of business revenue earned in a foreign country will change. The exemption method will be applied to business.
- The right to deduct costs related to health improvement and catering costs of foreign business assignments (in the extent of the daily allowance) will be established. The 32-euro entertainment limit and the 10-euro promotional gift limit will be increased.
- A possibility to receive a social tax exemption for the second to the eighth day of the calculated sickness benefit.
- A possibility to transfer a special account from one bank to another within 10 days without closing the account, while maintaining the special account status.