Do you have a subsidiary? Beware of indirect shareholding costs
Taxpayers have two options in treating the indirect costs of holding a share in a subsidiary: either to prove their actual amount, or to apply a legal simplification and exclude an amount equal to 5% of dividends received as a non-deductible expense. In a recent judgement, the Regional Court in Brno emphasised the taxpayers’ duty to actually prove the shareholding costs in the lower amount, and noted that all indirect costs have to be included in the calculation. The court also rejected the idea that the remuneration paid to a statutory body member for one day of their work could be the sole cost of a shareholding.
In the case in question (29 Af 53/2016), a company argued that the indirect costs of their shareholding were limited solely to payroll expenses of their statutory body for one day of work per year. Other expenses were purportedly negligible and not included in the calculation due to immateriality. The tax administrator did not accept this, and excluded 5% of the received dividend (the lump-sum amount of indirect shareholding costs stipulated by law) from deductible expenses, stating that the company failed to prove the actual amount of the incurred indirect costs. The regional court confirmed the tax administrator’s opinion. As far as we know, a cassation complaint has not been filed, the case will therefore not be dealt with by the Supreme Administrative Court.
The regional court emphasised the natural course of affairs when a parent company as such exercises certain management functions for a subsidiary, i.e. advises it about its activities or decisions. Indirect costs have the character of administrative overhead connected with holding a share in a subsidiary, but also with other activities of the parent company. According to the regional court, indirect overhead costs include for instance a portion of costs associated with operating an accounting office, the director’s office, exercising the function of director or economist, telecommunications costs, and the costs of gathering and assessing information about the subsidiary’s performance and financial position. The judgement also provides a guideline to identify the direct costs of shareholding that are non-deductible as well. In the court’s opinion, apart from costs incurred directly in connection with holding a general meeting of a subsidiary, these also include costs of advisory and support provided to the subsidiary, unless these are rebilled to the subsidiary separately.
Costs connected with holding a share in a subsidiary are by their nature hard to quantify. The Income Tax Act therefore offers the option not to prove the actually incurred indirect costs, and instead apply the legal fiction that they equal 5% of the received dividend. Should this simplifying approach be too much of a tax burden for some parent companies, it is possible to prove the actual amount of indirect costs. In this case, however, the burden of proof is on the parent company. If it fails to sufficiently prove the actual indirect costs, the legal fiction shall apply. The judgement of the Regional Court in Brno thus reminds us that proper attention must be paid to calculating and supporting the indirect costs of holding a share in a subsidiary.