Wide-Scope Tax Reform In Croatia Taking Effect From 1st January 2017
December 14, 2016
Following a relatively short time after the extraordinary parliamentary elections in Croatia, the new Government headed by prime minister Andrej Plenković proposed a comprehensive reform of the Croatian tax system, a tax reform that the minister of finance, Zdravko Marić, has been working on with his team since he was a part of the previous Government. The Croatian Parliament has recently adopted the tax reform package, which includes amendments to as many as 15 acts regulating matters of taxation. Most of the tax reforms will be taking effect on 1st January 2017, while some of them have been postponed for the beginning of 2018 and 2019. Here are the most important aspects of the tax reform for both individuals and enterprises.
1. CORPORATE INCOME TAX REFORM
For the first time in the history of the Croatian state, the Government has actually followed through on the promise that it would decrease the corporate income tax. This is aimed at increasing the competitiveness of the Croatian economy. The current tax rate of 20% exceeds the income tax rates in all of the countries neighboring Croatia (Hungary 19%, Slovenia 17%, Serbia 15%, Bosnia and Herzegovina 10% and Montenegro 9%).
TWO TAX RATES
Instead of the 20% flat tax rate that will still be applied to taxing profits gained in 2016, the new regulations introduced two different rates of corporate income tax to be applied to profits from 2017:
- Tax rate of 18% – applicable to enterprises with annual revenues of more than HRK 3,000,000 (approx. EUR 400,000/USD 450,000), and
- Tax rate of 12% – applicable to smaller enterprises with annual revenues of less than HRK 3,000,000 (approx. EUR 400,000/USD 450,000).
The reason for the introduction of the two-rate income tax system, as per the Government’s notice to the Croatian Parliament, is to encourage the development of smaller enterprises and start-ups. With the same goal in mind, smaller entrepreneurs with annual revenues of less than HRK 3,000,000 will also have the flexibility to choose either to calculate and pay the corporate income tax using the cash basis or the accrual basis accounting.
NON-PROFIT ORGANIZATIONS
Non-profit organizations and entities doing business according to special regulations, which are corporate income tax payers, also have the option to select the taxation method i.e. they can choose between regular bookkeeping and a previously set tax liability. Only non-profits with revenues from commercial activities which do not exceed 230,000.00 HRK in 2017 and 300,000.00 HRK in 2018 and thereafter can use this option, provided that the activity due to which they are liable to pay the corporate income tax is not their only activity nor it makes more than 50% of their revenue.
REINVESTED PROFITS AND REGIONAL INCENTIVES
In order to maintain fiscal sustainability, the Government has removed the tax relief for reinvested profits, with the explanation that only 0.70% of tax payers has used this possibility in the past. As far as regional tax incentives are concerned, the tax relief for tax payers doing business in areas of special national concern of the first level will remain. However, instead of a 100% relief, they will receive a 50% relief. As of 2017 there will be no more lower tax rates for tax payers doing business in areas of special national concern of the second level. All current reliefs for education and training, as well as research and development will remain.
WRITE-OFFS, ADVANCE PRICING AND DEDUCTIONS
The tax reform also touches upon the rules for writing off receivables, which have been made more flexible, and new provisions are being introduced regarding the advance pricing arrangements. The following changes in relation to the calculation of the corporate income tax will also take place :
- Representation expenses will be deductible at the rate of 50% (unlike the current 30%), and
- Transportation expenses will be deductible at the rate of 50% (unlike the current 70%). This part of the tax reform will come into effect on 1st January 2018. The option of private use of a company car i.e. taxable benefits in kind, in the case of which the transportation expenses are deductible at the rate of 100%, will remain.
2. VALUE ADDED TAX REFORM
As part of the overall tax reform, the Value Added Tax Act was amended as well. By shuffling the deck of VAT cards, the Government hopes to address the problems revealed by a tax analysis undertaken in preparation of the tax reform. Namely, a higher burden that lies on tax payers with smaller turnover, a too high tax rate for certain goods and services and a high tax burden on imports of some categories of machinery and equipment. There will be three stages in implementing the tax reform in relation to VAT.
FIRST STAGE – 1ST JANUARY 2017
In the first stage that will begin on 1st January 2017 and in which the majority of changes will come into effect, the three VAT rates applicable up to now (25%, 13% and 5%) will remain, but certain goods and services will be reallocated from one rate to the other.
VAT will increase from 13% to 25% for the following goods and services:
- Hospitality services related to serving drinks and food. The tax rate of 13% will still be applicable to accommodation services.
- White sugar.
VAT will decrease from 23% to 13% for the following goods and services:
- Child car seats,
- Supply of electricity up to another supplier or the end user, including the fees related to the supply,
- Public service of waste collection,
- Caskets and urns,
- Seeds and seedlings,
- Fertilizers and pesticides and other agrochemicals, and
- Animal food (excluding pet food).
Furthermore, as of 1st January 2017, the enterprises which have voluntarily registered into the VAT system will have to remain in the system for 3 years, instead of the previously prescribed 5 years, provided that their turnover is below the threshold.
SECOND STAGE – 1ST JANUARY 2018
In the second stage, beginning on 1st January 2018, the threshold for mandatory registration into the VAT system will increase from HRK 230,000 (approx. EUR 30,700/USD 35,000) to HRK 300,000 HRK (approx. EUR 40,000/USD 45,500). It will also be possible to use a 50% input VAT deduction for purchase or lease of motor vehicles. However, this is provided that their value is not higher than HRK 400,000 (approx. EUR 53,000). It will also be possible to defer VAT upon imports of certain machinery and equipment the value of which exceeds HRK 1,000,000 (approx. EUR 133,000).
THIRD STAGE – 1ST JANUARY 2019
In the third stage that will begin on 1st January 2019, the new provisions of the Value Added Tax Act regulating the taxation of vouchers will come into force.
3. PERSONAL INCOME TAX REFORM
Perhaps the most encompassing changes brought by the tax reform relate to the personal income tax. The aforementioned tax analysis has revealed that certain procedures related to calculating the personal income tax were too complicated. It has also found the burden on salaries of highly educated employees too high.
TWO TAX RATES
With a view of raising competitiveness of such employees, instead of the previous three tax rates (12%, 25% and 40%) the new Personal Income Tax Act introduces two:
- Tax rate of 24% – applicable to monthly income below HRK 17,500 (approx. EUR 2,300/USD 2,600), and
- Tax rate of 36% – applicable to monthly income above HRK 17,500 (approx. EUR 2,300/USD 2,600).
As an exception, two categories of tax payers will enjoy a 50% reduction of these rates:
- Retired persons in the case of their pension income, and
- Tax payers who are residents of the City of Vukovar or certain areas with lower development, for their employment income.
MONTHLY PERSONAL ALLOWANCES
The standard monthly personal allowance, which reduces the tax base, has been increased for all tax payers from HRK 2,600 (approx EUR 350/USD 400) to HRK 3,800 (approx EUR 500/USD 575). Monthly allowances for dependents and for persons with disabilities are to be calculated by multiplying the allowance base in the amount of HRK 2,500 (approx EUR 330/USD 380) with coefficients for each category of person, as follows:
- Adult dependent – 2,500 x 0.7 = HRK 1.750 (approx. EUR 230/USD 265),
- 1st child – 2,500 x 0.7 = HRK 1.750 (approx. EUR 230/USD 265),
- 2nd child – 2,500 x 1.0 = HRK 2,500 (approx. EUR 330/USD 380),
- 3rd child – 2,500 x 1.4 = HRK 3,500 (approx. EUR 460/USD 530),
- 4th child – 2,500 x 1.9 = HRK 4,750 (approx. EUR 630/USD 720) etc.,
- Partial disability of tax payer and each adult or child dependent – 2,500 x 0.4 = 1,000 HRK (approx. EUR 130/USD 150), and
- 100% disability – 2,500 x 1.5 = 3,750 HRK (approx. EUR 500/USD 570)
As of 1st January 2018, adult dependents will include the spouse of the tax payer, the parents, the children after their first employment, and persons over 18 years of age for whom the tax payer is a guardian. The spouse’s parents, stepmothers and stepfathers, grandmothers and grandfathers, grandchildren and the former spouse of the tax payer will not be considered adult dependents anymore.
ANNUAL AND FINAL INCOME
The tax reform also introduces two new terms, as well as the possibility of synthetic taxation:
- Annual income includes the total income from dependent work, income from independent work and other income (with two exceptions which fall under the term “final income”), earned by the tax payer during the taxable period. These incomes are summed up at the end of the year and the tax is determined for the total amount based on the annual tax return or in separate proceedings in which annual income tax is determined. The tax rate for this type of income is 24% for the amounts that do not exceed HRK 210,000 (approx. EUR 28,000/USD 31,800), and 36% for higher amounts.
- Final income includes each separate amount of income from property and property rights, capital and insurance and two types of other income excluded from annual income: other income based on the refund of social security contributions paid above the highest annual base and other income based on the difference between property value and the funds with which the property was acquired. There are three tax rates for this type of income, depending on the source: 12% (lease, interests, capital gains, dividends or share in the profits, and insurance), 24% (property rights, sale of real estate or property rights, award or option purchase of own shares) and 36% (exclusion of property and use of services, refund of social security contributions, and difference between property value and the funds with which the property was acquired).
AUTHORS
Authors and retired persons will probably not be particularly happy with this tax reform. Namely, the amendments to the Contributions Act, which regulates the payment of social security contributions, removed the exemption related to the payment of contributions for artist income, delivery of copyrighted works and income arising from casual work of retirees (income not related to pensions). However, social security contributions for these categories will be payable at lower rates:
- Pension insurance contributions at the rate of 10%,
- Health insurance contributions at the rate of 7.5%.
4. LOCAL TAXES REFORM
The new Local Taxes Act reduced the tax rate for inheritance and gifts from 5% to 4%. It also abolished the so-called “company name tax”. Furthermore, as of 1st January 2017, the motor vehicle tax will be payable at the time of vehicle registration based on the decision of the local jurisdiction. The Tax Office had previously been assessing this tax and sent the decision to tax payers via mail.
SIMPLE REAL ESTATE TAX
The most important tax reform imposed by the Local Taxes Act will come into force on 1st January 2018. It concerns the transformation of the so-called “municipal fee” into the so-called “simple real estate tax“. The Act contains the formula for assessing the future tax. Yet, it is still not possible to calculate any amount because much information is still not available. However, according to the Ministry of Finance, most property owners will not pay more than the current municipal fee.
REAL ESTATE TRANSFER TAX
The real estate transfer tax was reduced to 4% pursuant to the amendment of the Real Estate Transfer Tax Act. This tax will now in its entirety belong to the local jurisdiction in which the real estate is located. The tax base for this purpose is still the market value of the real estate. Furthermore, the tax payers no longer have the obligation to report the transaction to the Tax Office. Notaries, courts and other authorities will do this, as of 1st January 2017. Finally, citizens are no longer exempted from paying the real estate transfer tax in the case of buying their first property that resolves their housing problem.
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Jasmina Mutabžija
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