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News Taxation of Controlled Foreign Corporations

The Ministry of Finance of the Czech Republic is preparing an amendment to the Income Tax Act, which should come into effect on 1 January 2019. Among others, the amendment covers the implementation of the EU Council Directive, commonly known as ATAD, which sets out rules against tax evasion practices. As a result of the implementation, a completely new section “38fa Taxation of Controlled Foreign Company” is considered to be added to the ITA.

 

Who will be affected?

 

Briefly said, this section will affect Czech companies, which own (directly or indirectly) 50% or more shares in another company based or having permanent establishment outside the Czech Republic. These Czech companies will have to report the listed types of passive income of their foreign subsidiaries (income subject to inclusion) in their tax returns, and will have to tax them accordingly, proportionate to the share of their capital.  In order for these revenues to be taxed in the Czech Republic, the controlled foreign company will have to meet the following conditions:

 

  1. It shall not perform an actual business activity, and if, only to a small extent, and
  2. The income tax of controlled foreign company is lower than half of the corporate income tax that would be assessed under the Czech tax legislation  

 What type of income is subject to taxation?

 

Income subject to inclusion is stipulated by law:

 

  1. Income from borrowings; i.e. interests on credit facility and similar types of income
  2. Income from license fees
  3. Income from the share on profits
  4. Income from forfeiting the share on taxpayer´s corporate income tax return
  5. Income from rendering an asset to be used against payment with its subsequent assignment to the user
  6. Income from insurance, bank and other financial operations
  7. Income from purchasing goods and services from related parties or selling goods and services to related parties, without any added value or with a negligible one (income of billing companies that are being established solely to purchase the goods and services within the group, which are subsequently sold by the billing companies for a higher price without adding any value to these goods or services).

 When taxing the income of foreign controlled entity, Czech companies will be allowed to offset their tax liability in the Czech Republic with a tax similar in the nature to the corporate income tax the controlled foreign company paid in the country of residence. Of course, the foreign tax can be offset only to the extent related to the income subject to inclusion.