Catalogue of income to be taxed by the Zero tax on reinvested profits solution

Pursuant to art. 28m(1) of the CIT Act, the Zero tax on reinvested profits solution, i.e. a flat rate on corporate income, is generally subject to taxation on 6 categories of income.

1) income from net profits made during the period of taxation on a flat rate basis, in the part to be distributed to shareholders or to cover losses arising during the period prior to taxation on a flat rate basis,

2) income from inherent gains,

3) income from expenses not related to the taxpayer’s business activities,

4) income from changes in the value of assets (in the case of mergers, demergers, conversions of entities or contributions in kind of an enterprise, or an organised part thereof, by an individual),

5) income from net profit in the part not distributed or not allocated to loss coverage during the period of application of the flat rate – in the case of a taxpayer who has ceased to be taxed on a flat rate basis,

6) income from undisclosed business operations.

In practice, the Zero tax on reinvested profits solution is taxed on income determined also as:

  • services provided by the company to a private or family foundation
  • surplus of the market value of a controlled transaction over the agreed price of that transaction
  • equivalent of profit earmarked for increasing share capital donations, including gifts and offerings of all kinds (vide: relief for aid to Ukrainians)
  • representation expenditure
  • the amount of non-business expenditure
  • surplus of the market value of the assets acquired or contributed in kind over the tax value of these assets (income from the change in value of assets) – in the case of a merger, division, transformation of entities, or contribution in kind of an enterprise or its organised part
  • value of income and expenses which, in accordance with accounting regulations, are subject to entry in the tax year and are included in net profit (loss) but are not included in this net profit (loss) (income from undisclosed business operations)
  • surcharges paid in the event of a merger or division of entities
  • interest on the capital share paid to the shareholder by the company
  • profit intended to supplement the capital share of a shareholder of the company
  • cash and non-cash benefits paid in the event of a reduction in a shareholder’s capital interest in the company.
  • The Zero tax on reinvested profits solution does not apply only to profit distributed as dividends, but also to other forms of its distribution, for example, in the form of pecuniary, non-pecuniary, chargeable, gratuitous or partially chargeable services performed for the benefit of shareholders, partners, or for the benefit of entities directly or indirectly related to them, in particular:

  • the amounts of loans made by the company to a shareholder, stockholder or member, together with interest, commissions, fees and charges on those loans
  • surplus of the refunded amount of the surcharge paid to the company, pursuant to separate regulations, over the amount of the surcharge paid
  • remuneration paid out of profit from the redemption of a share or from the reduction in the value of a share, from the withdrawal of a shareholder from the company, from the reduction of a shareholder’s capital interest in the company.
  • The intention of the legislator was to include in the catalogue of income for taxation by flat rate taxation on corporate income also other benefits, alternative to dividends, made for the benefit of shareholders or entities related directly or indirectly to the taxpayer or to those shareholders. The provision of art. 28m(3) of the CIT Act indicates that any benefit whose beneficiary, directly or indirectly, is a shareholder or other related party, is deemed to be inherent gain. The benefit is to be exercised in relation to a right to a share in profit, other than a distributed profit.

    For a benefit to be considered an inherent gain, it should be related to influencing the actions and decisions of the flat taxed company. A benefit deemed to be an inherent gain, where the party is a shareholder of a flat taxed company, can be assessed in the context of a dividend-equivalent benefit. Such a benefit will arise, among other things, when a taxpayer, by carrying out a legal transaction (one or more), achieves the same economic effect as would be achieved by paying out profits in the form of dividends.

    The payment of so-called “inherent gains” implies the creation of a corresponding income for the company subject to flat rate taxation.

    However, inherent gains income does not include benefits that are not performed in connection with the right to share in the profit, i.e. benefits taken (performed) without any influence of other related parties on the operation and decisions of the company taxed with the flat rate, in respect of such benefit.