Ground-breaking judgement: vacation compensation to be included in R&D allowance

The Regional Court in Hradec Králové issued judgement No. 31 Af 23/2016-76, dealing with tax allowances for research and development (R&D allowance). The judgment is truly ground-breaking, as it rejects the standpoint so far taken by the tax administration: contrary to their approach, the court is of the opinion that compensation paid to employees during their vacation is a part of payroll expenses, which are definitely covered by R&D allowances.

Both the tax administrator and the Appellate Financial Directorate had earlier agreed that wage compensation paid to employees participating in a research and development project during their vacation cannot be claimed within the R&D allowance. Their main argument was that an R&D allowance reducing the tax base may only be applied to costs directly connected with solving the project. Wage compensation for vacation time, according to tax administrators, does not meet this condition, as the employee does not carry out research and development activity while on vacation. The fact that the payment of wage compensation for vacation time is stipulated by the Labour Code is irrelevant, according to the tax administration.

The same issue was on the agenda of the Coordination Committee of the GFD and the Chamber of Tax Advisors of the CR, as we previously wrote about in 2015. At that time, the Chamber of Tax Advisors was of the opposite opinion than the tax administration, and since each side insisted on its conclusion, the debate was closed with disagreement. The Regional Court now confirmed the chamber’s opinion.

The court argued that the compensation for vacation time is an obligatory, statutory cost of work, the same as wages or social security and health insurance payments – which are, of course, included in the R&D allowance. According to the court, there is no rational reason why vacation compensation should be treated differently. Moreover, according to the court, the time spent on vacation is necessary for employees to be able to fulfil their role in a research and development project. The cost in form of wage compensation for vacation time should only be reduced where the employee also carries out other activities, unrelated to the research and development project.

The court further supported the above arguments by noting that had the legislators wanted to exclude the vacation compensation from the R&D allowance, they should have done so explicitly in the legal regulation. However, no such restriction can be deduced from the present wording of the Income Tax Act, the court held.

The dispute is now to appear before the Supreme Administrative Court. If the above conclusions are confirmed, it will be yet another hopeful sign of a positive trend in the research and development area.