On January 1, 2017, Croatia woke to a new, reformed tax system which, the Government hopes, aims at ending the frequent and endless amendments and finally sets the grounds for an attractive investment environment. The Government has delivered a comprehensive reform by changing as many as 15 tax-related acts. Most of the provisions have entered into force on January 1, 2017, with certain exceptions which will take effect in 2018 or 2019.
The reason for this huge intervention into the tax system, as the Government explains it in its formal notice to the Croatian Parliament, is the high tax burden in comparison to surrounding countries and too many tax deductions, reliefs and exceptions with questionable effect. The task force set up by the Government in April 2016 identified in their analysis that 44 changes were made to tax regulations in the period between 2012 and 2015 which led to a state of tax uncertainty - a significant obstacle to both domestic and foreign investment.
With this latest comprehensive tax reform, Croatia introduced changes to the following regulations: Value Added Tax (VAT) Act; Corporate Income Tax (CIT) Act / Profit Tax Act; Personal Income Tax (PIT) Act; Real Estate Transfer Tax (RETT) Act; Contributions Act; Local Taxes Act; Motor Vehicles Special Tax Act; Tax Advising Act; General Tax Act; Fiscalisation Act; Administrative Fees Act; Excises Act; Customs Office Act; Tax Administration Act and Act on Administrative Cooperation in the Area of Taxes.
Given the extent of amendments and the fact that their implementation is yet to occur, we will only outline the general important aspects, whereas our upcoming news and updates will cover topics in more detail.
Value Added Tax
The aforementioned tax analysis showed an increased burden of tax payers with smaller turnover, inadequate (too high) tax rate for certain goods and services, as well as high tax burden on imports of some categories of machinery and equipment. Therefore, in order to decrease the overall tax burden, enhance the economy, simplify the administration, build a stable, sustainable and easy tax system and provide stability to tax payers, the Government has proposed and the Parliament has accepted certain amendments to the VAT Act. Instead of three tax rates (25%, 13% and 5%), only two will be in use (25% and 13%), with certain goods and services reallocated. Pursuant to the Council Directive (EU) 2016/1065, the tax on voucher is introduced, but shall take effect only from January 1, 2019. The threshold for mandatory registration into VAT system has increased to 300,000 HRK (approx. 40,000 EUR), however will be applied only as of January 1, 2018. From January 1, 2017 the mandatory registration period for voluntary registration into VAT system has been decreased from 5 to 3 years. Additionally, it will now be possible to apply a tax deduction of 50% to advance VAT payment for acquisition or lease of motor vehicles the value of which does not exceed 400,000 HRK (approx. 53,000 EUR). For real estate exempt from VAT payment it will be possible to opt for VAT taxation provided that the tax payer is registered for VAT at the moment of transaction and has the right to deduct the advance VAT payment. Other amendments, inter alia, relate to import and customs issues, reciprocity in refunding VAT to third parties, new measures in case of suspicion of abuse of VAT ID number and the responsibility of taxpayers in case of fraudulent activities, mandatory content of an invoice as well as certain changes in the penalty section of the VAT legislation.
Corporate Income Tax (Profit Tax)
The reform aims at decreasing the tax burden for all taxpayers, particularly supporting start-ups and encouraging the development of small entrepreneurship. Thus, the tax rate has been decreased from 20% to 18% and for entrepreneurs with income lower than 3 million HRK (approx. 400,000 EUR) it shall be further discounted to 12%. Small taxpayers with annual income lower than 3 million HRK shall also have the option to choose the possibility to calculate the profit tax by using the cash method. For the sake of fiscal sustainability, as the Government explains, some interventions into the tax base (extension) have to be made and therefore the tax relief for reinvested profit has been removed seeing that only 0.70% of tax payers actually used this option. In this respect, some changes in the recognized tax deduction will also take effect: representation expenses will be set to 50% (currently 70%), whereas personal transportation expenses will be set to 30% (currently 50%), but the latter will only enter in force as of January 1, 2018. There are new provisions introduced regarding the advance pricing arrangements, and it will be possible to agree on an interest rate between affiliated companies by either using a transfer pricing method or the interest rate prescribed by the Ministry of Finance. In order to bypass the obstacle in form of bankruptcy and distraint proceedings, the Government has redefined certain conditions for writing off receivables and given the possibility to banks to write-off bad placements without having to initiate bankruptcy or distraint procedures (the latter will only be possible to be carried out during 2017).
Personal Income Tax
While the VAT Act and Profit Tax Act were amended in the form of act on changes and amendments, the Government has prepared an entirely new Personal Income Tax Act, as foreseen by the unique methodological and nomotechnics regulations for acts issued by the Croatian Parliament. The analysis performed by the task force identified a high tax burden on salaries which impacts negatively the competitiveness of highly educated employees. In addition, the analysis emphasized the need for simplification of processes of determination of personal income tax as well as in the field of tax reporting to the authorities. Among the many changes in the Act, it is worth focusing on the fact that the previous tax rates of 12%, 25% and 40% have been changed into tax rates of 24% and 36% where the 24% applies to a monthly tax base up to 17,500 HRK (approx. 2,300 EUR), and the 36% to the base above this amount. These rates are reduced by 50% for certain taxpayers – pensioners and employees resident in certain local jurisdictions with a low development rate and in Vukovar. The basic personal allowance (which decreases the tax base) has been increased from 2,600 HRK to 3,800 HRK; however, the calculation of the allowance has been changed in terms of basis for its calculation and coefficients which will initially make the payroll calculation a bit more complex than it was until now. Another novelty is the introduction of two new terms: annual income and final income. Annual income is all income derived from employment, independent activity and other income, except income that is considered final and it will be determined through the annual tax return. Tax rate for annual income is 24% for annual tax base up to 210,000 HRK and 36% for the base exceeding this amount. The final income is considered to be income derived from property and property related rights, capital and insurance and it will be, depending on the source, taxable using rates of 12%, 24% and 36%, where such tax payers will not be able to use the personal allowance deduction nor submit the annual tax return. Many provisions regarding the annual tax return were unclear and subject to interpretation which has been attempted to be resolved by these amendments. Categories of taxable and non-taxable income have been redefined as has the definition of family members that may be considered as supported family for purposes of tax deduction. The new Act also introduces the electronic Tax Card which will decrease the administrative burden with the Tax Offices.