Act on top-up taxes

25 June 2023

Hana Veselá |
Zenon Folwarczny, Partner, Head of Tax |

The Act on Equalisation Taxes for the Purposes of Ensuring a Minimum Level of Taxation of Large Multinational Groups and Large Domestic Groups (the "Act") is currently undergoing a comment procedure, after which it will go to Parliament with expected effect from 31 December 2023.

The Act is not a complete surprise as it is essentially an implementation of Council Directive (EU) 2022/2523 of 15 December 2022 on ensuring a global minimum level of effective taxation of multinational enterprise groups and large domestic groups in the Union (the "Directive"). This Directive thus follows the OECD initiative - the so-called Pillar 2 agreed under the OECD/G20 project "Tax Challenges Arising from the Digitalisation of the Economy - Global Anti-Base Erosion Model Rules (Pillar Two)".

In line with OECD rules, the Directive introduces a new obligation for parent companies, large multinationals and national groups to pay a minimum tax for each jurisdiction in which the group is located, regardless of whether the country has implemented the Directive or joined Pillar 2. Individual countries are then free to apply their local top-up tax. However, if a country does not introduce this local equalisation tax, the minimum tax will be paid by its parent company in its jurisdiction. The Czech Republic does not intend to deprive itself of this additional source of tax collection and is introducing this local equalisation tax.

The Act thus introduces two completely new taxes with their own rules, which are different from the rules for personal and corporate income tax set out in the Income Tax Act (i.e. Act No. 582/1992 Coll.). As its full name implies, the aim is to ensure that large multinational or national groups pay a minimum tax in the Czech Republic, in accordance with the rules introduced by the Directive and Pillar 2. The minimum tax targets an effective tax rate of 15%.

The Act therefore introduces a so-called domestic equalisation tax. The taxpayer will always be Czech companies (Czech tax residents or a permanent establishment of a foreign company) that are members of a large multinational or national group (see below). Furthermore, the Act introduces the so-called assigned equalisation tax, which will be paid in the Czech Republic by Czech parent companies under certain conditions. This tax is also called the global tax attributed to the parent entity (or other group entity).

How does a Czech company determine whether it will become subject to this minimum tax in the Czech Republic? The basic condition is that it must belong to a group of companies whose annual revenue exceeded more than EUR 750 million (in two of the four preceding tax years). The annual revenue is determined from the consolidated financial statements prepared by the ultimate parent company. Whether the EUR 750 million threshold is reached will largely affect the rules for the preparation of the consolidated financial statements by the ultimate parent company or the parent company is one level below. 

The law does not only target groups located in the EU, but globally. It also does not target so-called excluded entities (e.g. non-profit and governmental organisations, pension funds and, under certain conditions, investment funds).

If a Czech company belongs to a large multinational or national group, the next step will be to determine the effective tax rate achieved by the entire group in the Czech Republic. Its calculation will be very complex. Under certain conditions, it will be possible to rely on financial statements prepared under Czech accounting rules (i.e. different from the accounting rules under which the consolidated financial statements of the ultimate parent company were prepared). If the effective tax rate for the entire group in the Czech Republic is less than 15%, it will be necessary to further test the effective tax rate for each Czech company separately. If the Czech company achieves an effective tax rate below 15%, it will be liable for the domestic top-up tax.

If the Czech companies include income taxpayers who benefit from tax relief under investment incentives or e.g. the science and research deduction, the domestic top-up tax may significantly cancel out any potential tax savings.

The calculation of the effective tax rate will be based on tax payable and deferred tax, but will not simply take the figures reported in the accounts. On the contrary, the calculation will be very demanding. In some cases, it will be necessary to use the values entered in the consolidated financial statements (net of intercompany transactions) prepared by the ultimate parent entity.

The subsequent calculation of the domestic equalisation tax will also be complex. The domestic top-up tax will first be calculated for the entire group in the Czech Republic and then apportioned among those Czech companies whose effective tax rate does not reach the minimum rate of 15%, based on the proportion of their profits.

Thus, each Czech company belonging to a large multinational or national group will be required to file a separate information statement and tax return (if it pays the domestic top-up tax).

The law on the equalisation tax is very complex and its implementation in practice will certainly trouble many taxpayers and tax experts.

Cooperation across the group will be necessary to correctly determine the minimum tax liability in the Czech Republic. This will require a very good knowledge not only of Czech accounting regulations but also of the regulations under which the consolidated financial statements of the ultimate parent company are prepared (IFRS, US GAAP, etc.). The OECD model rules will also be a useful source of information.