Implementation of the ATAD in Poland

Implementation of the ATAD in Poland: Reform of the CIT Act, PIT Act, and the Lump-sum Income Tax Act.

On July 12, 2017, The Ministry of Finance (MF) published a draft amendment (a draft bill on the amendment of the Personal Income Tax Act, the Corporate Income Tax Act, and the Act on Lump-sum Income Tax on Certain Revenues Earned by Individuals) to the tax laws that aims to increase the state budget by expanding business-related taxation.

With this in mind, the MF hopes that this amendment will, among other things, add additional taxable sources of revenue by revamping the Corporate Income Tax (CIT) Act.  It also stated that the changes were made, in part, with the hopes of improving the competitiveness of honest entrepreneurs who do not use aggressive optimization schemes for tax avoidance purposes.  Thus, one of the primary purposes of the draft amendment is to close loopholes in the CIT from which smaller entrepreneurs cannot benefit. To prevent the use of various forms of aggressive tax optimization, the following solutions were introduced in the draft amendment:

1. Additional Tax on Commercial Property (approx. 0.5%)
2. Interest Deductibility Limitation as a Result of Implementing the Anti-Tax Avoidance Directive (ATAD)
3. Division of Sources of Income in CIT (capital gains and other income)
4. Limitation of Intangible Asset Costs
5. Changes in Provisions Regulating Tax Capital Groups (PGK) and Controlled Foreign Companies (CFC).

1) Additional Tax on Commercial Property (approx. 0.5%)

This amendment introduces what the MF has called a “minimal” income tax. The new regulations will affect those taxpayers who have fixed assets in the form of commercial real estate located in the territory of the Republic of Poland with an initial value exceeding 10 million zlotys.

The following commercial properties will be subject to the new regulations:

1. commercial and service buildings classified in the Polish Building Classification (PKOB) as: shopping centers, department stores, independent shops and boutiques, other trade and service stores, and
2. office buildings classified in the PKOB as office buildings, excluding post offices, city offices, municipal offices, self-government offices, ministry offices, court houses, and parliamentary buildings.

The proposed legislation establishes an additional taxable base, which is the initial value of the qualified fixed assets as determined below. From this tax base, a tax of 0.042% will be charged on a monthly basis.  The proposed provisions provide specific rules for the determination of the initial value of the fixed asset forming the basis for taxation for 1) fixed assets jointly owned by affiliated entities, 2) fixed assets jointly owned by unrelated entities, and 3) fixed assets owned by an entity without legal personality:

1. if a fixed asset is jointly owned by the taxpayer and an affiliated entity, the total initial value of the fixed asset will be taken into account to determine whether the fixed asset qualifies for the „minimal” income tax.  Then, a share of the initial value (proportional to the taxpayer’s ownership) will be calculated to determine the taxpayer’s tax base.
2. if the fixed asset is jointly owned by the taxpayer and another unrelated entity, when calculating the initial value for the tax base, the value resulting from the taxpayer’s financial statements will be taken into account (by application of Article 16g (8) of the CIT Act and Article 22g (8) of the PIT Act);
3. if a fixed asset is owned by a business entity without legal personality, the method described in point 1 will be applied.  First, the total initial value of the fixed asset will be taken into account to determine whether the fixed asset qualifies for the „minimal” income tax.  Then, a share of the initial value (proportional to the shareholder’s right to participate in the profit) will be calculated to determine the shareholder’s tax base.

At the same time, in order to maintain the neutrality of the draft amendment, taxpayers will be able to deduct from their annual tax returns the total monthly „minimal” income tax amounts paid during the tax year.  Taxpayers required to pay the „minimal” income tax will thus have to maintain and submit records of the monthly „minimal” income tax payments in order to “benefit” from this deduction.

While many different taxpayers will be subject to the “minimal” income tax including, but not limited to, lessees making depreciation write-offs, PGK member companies, and even CIT-8 exempt taxpayers, these changes concern mainly large taxpayers engaged in large-scale business activities as a result of the 10 million zloty initial value threshold.

2) Interest Deductibility Limitation as a Result of Implementing the Anti-Tax Avoidance Directive (ATAD)

In recent years, the international community has intensified its collaborative effort to eliminate tax evasion.  With this in mind, the Anti-Tax Avoidance Directive of the EU Council of 2016/1164 (ATAD) was adopted on July 12, 2016.  The purpose of the ATAD is to limit aggressive optimization by implementing standard legislative amendments across all EU member states.  As a result of the EBITDA-based interest limitation rules agreed upon by the EU member states in the ATAD, the Polish draft amendment proposes thin capitalization rules. In this context, debt financing will be tax deductible only up to a maximum of 30% of the company’s EBITDA.  The above limit will cover interest obligations, fees, commissions, bonuses, the interest portion of lease payments, penalties, late payment fees, and security costs.  According to the ATAD, member states can choose to introduce a de minimus € 3 million threshold for interest costs below which they (interest costs) are fully deductible; the Polish draft amendment proposes a PLN 120,000 threshold. It is worth bearing in mind, however, that some of the above mentioned costs may be carried forward and settled in consecutive tax years for a period of five tax years.

3) Division of Sources of Income in CIT (capital gains and other income)

One aggressive tax optimization mechanism applied by corporate taxpayers is an artificial creation of losses in their business operations. In order to limit such optimization schemes, the draft amendment adopts a solution that separates a corporation’s revenue sources between capital income and other income.  By separating the sources, the draft amendment seeks to limit the pooling of income sources for tax avoidance purposes.  Thus, if, during the tax year, the taxpayer realizes both capital gains and income from other activities, both sources of income will be subject to a 19% income tax.  If, however, the taxpayer earns income from only one of these two sources of income – with the other source suffering a loss – then the profit from the profitable source will be taxed without being reduced by the loss from the other source of income.  In other words, the CIT taxpayer may use capital losses only to offset capital gains, not other kinds of income.  Up to 50% of any such loss incurred during the tax year, however, may be carried forward and deducted from the same source of income in the next consecutive tax year for a period of  5 years.

4) Limitation of Intangible Asset Costs

Many activities related to aggressive tax optimization take advantage of the difficulty with which intangible assets (e.g., trademarks) are valued; this makes them ideal for creating a „tax shield.”

With this in mind, the draft amendment introduces Article 15e to the CIT Act.  Under this new provision, where the total amount of intangible asset costs exceed PLN 1,200,000 per annum, a 5% EBITDA limit is imposed on the tax deductible expenses for the tax year resulting from:

1. consultancy, accounting, market research, legal services, advertising services, management and supervision, data processing, recruitment and recruitment services, guarantees and sureties;
2. all types of fees and charges for the use or right to use the intangible assets ​​referred to in art. 16b para. 1 point 4-7 of the CIT Act.

As this type of tax optimization usually involves the sale of intangible assets to an affiliated company, the draft amendment proposes changes to the CIT Act that introduce regulations, which limit the deductibility of intangible asset costs to the amount that had been previously recorded by the taxpayer on the disposal of said intangible assets.  This limitation will not apply, however, to those categories of costs that are directly related to the cost of manufacturing a product or service.

5) Changes in Provisions Regulating Tax Capital Groups (PGK) and Controlled Foreign Companies (CFC).

The use of tax capital groups (PGKs) for aggressive CIT optimization can be divided into a 4-step transaction. Please click here for a detailed explanation of this type of tax optimization scheme.  In order to avoid such optimization, the draft amendment introduces provisions to the CIT Act regarding the creation and functioning of a PGK. For this reason, the possibility of recognizing an intra-group donation as both income (by the donee) and an expense (by the donor) will be excluded. Moreover, the arm’s length principle will be obligatory on transactions between entities within the group, although, as the MF announced, preparing transfer pricing documentation will not be necessary for such transactions. In addition, if a PGK is terminated within three years of formation, the legal and tax implications would effectively nullify the PGK formation (in other words, it will be as if the PGK never existed).  Nevertheless, the draft law does include an exception for PGKs dissolved due to unprofitability.

It’s not all bad news, however, as the draft amendment also seeks to implement some changes that should be beneficial to taxpayers.  Some requirements will be relaxed such as: 1) the reduction of the average share capital of companies by half to PLN 0.5 million, 2) a reduction from 95% to 75% direct parent participation in subsidiary entities, and lastly, 3) the draft amendment seeks to reduce the PGK’s minimum income threshold to 2%.

There will also be a lot of changes implemented for foreign controlled companies (CFCs), because the current regulations are not effective in accomplishing their objective, which was to prevent Polish taxpayer’s from deferring or avoiding income taxation by transferring income generated in Poland to foreign entities based in tax havens. These changes address the same issues that articles 7 and 8 of the ATAD govern, nevertheless, they are not fully consistent with the provisions of ATAD as they are less restrictive than the provisions of the de minimis rule.  Thus, in an effort to supplement the above mentioned regulations and bring them up to date, the draft amendment sets out additional requirement for CFC classification: 1) the effective tax rate of the foreign company will be used instead of the average tax rate and 2) because a 50% passive income threshold under the current regulations is milder than the 33% passive income threshold for CFCs set by the EU Directive, the Polish CFC regulations must be adapted to the standard adopted by the Directive and thus, need to decrease the passive income threshold from 50% to 33%.

At the moment, public consultations on the published draft amendment are in progress. the MF hopes these changes will take effect at the beginning of 2018.

If you would like any more information on these proposed changes, please do not hesitate to contact our experts.

Click here for a link to the draft amendment (in Polish).