For company managers, employee motivation must be considered in several aspects, including the selection of effective incentives and accurately calculating the budget allocated to them. Practice shows that the most successful incentives are those highly valued by employees themselves. Competitive salaries, performance bonuses, professional development opportunities, health insurance, flexible work arrangements (including hybrid and remote work), complimentary meals and travel at the expense of the company are just some of the measures that lead the list of employee benefits. In our experience supporting employers in establishing effective incentive programs, we have identified several popular measures and outlined their corresponding tax implications.
Cash bonuses are effective but subject to the highest tax rates
One of the most popular and highly valued incentives for employees is cash bonuses. One of the most popular and highly valued incentives for employees is the cash bonus. These bonuses can be paid annually, semi-annually, quarterly, or even monthly, often awarded based on performance, quality of work, or results achieved. However, it is important to note that annual or quarterly bonuses are taxed similarly to regular salary: personal income tax (PIT) at 20% (32%) and state social insurance contributions (19.50% employee’s share + 1.77% employer’s share) are applied.
Without health insurance, highly qualified specialists do not even consider a workplace
Health insurance has become an essential benefit that most employees expect from their employers. The ability to access private healthcare without long waits, undergo timely medical exams, purchase medicines, or visit a dentist is now a standard expectation for employees in high-demand professions.
Health insurance is one of the perks, since it is exempt from personal income tax (PIT) if several conditions are met – contributions for health insurance during the tax period do not exceed 25% of the salary calculated for the employee during the tax period, and the object of insurance is the payment of health care services of the insured person.
The State Tax Inspectorate (STI) has provided a list of services attributable to health care services in the commentary on the Law on Personal Income Taxes. However, this list is not exhaustive. This exemption may be applied to contributions paid by the employer on behalf of an employee for such health insurance, which pays for health care services, including the consultation, prevention, diagnosis, treatment, rehabilitation, nursing of the insured person, as well as the provision of medical equipment to the insured person.
The health insurance contract does not exclude services that are not related to health care, such as spa services or the purchase of cosmetics. However, such services are subject to PIT. Thus, if the company covers spa procedures of the employee, it is considered a benefit in kind, taxed in the same way as salary, even if health insurance is also paid.
Training is a mutually beneficial benefit, but mind its relevance
Employee training is a valuable benefit for both the company and its employees, and it often comes with favorable tax treatment. Companies can cover the costs of employee training, conferences, or language courses, both domestically and internationally, with these expenses considered allowable deductions. However, it is crucial that the training is directly related to the employee’s job functions within the company.
If the training to the employee which costs are covered by the employer is not related to the employee’s work activity or job functions, for example, the employee wants to learn Japanese or dance, it is considered that the employee received benefit in kind, which is taxed as a salary. If training or conferences are related to the employee’s work functions, the benefit in kind is not calculated, for example, an accountant is attending bookkeeping courses, during which he raises his qualifications. In such cases, the company can categorize these expenses as allowable deductions.
It is also important to note that if the training is not related to the employee’s job functions, the VAT on such expenses cannot be deducted.
Treats and travel: tax implications depend on purpose and recipient
Providing feasts, refreshments, or similar perks is one of the most popular and relatively inexpensive incentives used by companies. If an organization provides employees with fruit snacks or provides other benefits where it is impossible to identify the specific benefit each individual receives, these costs are considered non-allowable deductions for income tax purposes, employees are not taxed as receiving a benefit in kind. If the company has entered into a collective agreement, these costs can reduce taxable income.
A common mistake occurs when the recipient of a benefit is clearly identifiable and the value can be measured, for example, a trip is bought for an employee. However, such expenses are attributed to non-allowable deductions in terms of income tax and the PIT is not applied. It is often believed that if expenses are attributed to non-allowable deductions, there is no need to calculate benefit in kind – unfortunately, this is not the case.
Another way of tax optimization often applied in the organizations is to classify the cost of a team lunch as representation expenses. Unfortunately, such attribution is incorrect and risky. Representation expenses are specifically for networking with potential or existing clients. Therefore, a lunch with colleagues does not qualify as representation.
Additionally, VAT is not deductible on catering services provided to employees.
Team building events and trips
When employers organize team-building events, it is important to distinguish whether the event is for entertainment or educational purposes. If the event is of entertainment nature (for example, a Christmas party), the employee may be considered to have received a benefit in kind, depending on whether the benefit for each individual can be measured. When the cost of renting a venue and catering is incurred, we cannot determine the benefit provided to each employee, so no obligations of PIT arise. However, if employees receive specific gifts during the event (e.g., a trip to the Maldives), these gifts will be taxed as a benefit in kind, similar to salary.
For educational events, no PIT or state social insurance obligations arise. A common error companies make is attempting to classify entertainment events as educational or representation (where clients are expected to participate), despite few or no clients being present, such as in cases where the ratio of employees to clients is disproportionate (e.g., 20 employees to 2 clients). The State Tax Inspectorate (STI) can easily determine whether the event was truly educational or entertainment-based during inspections.
Please note that an educational event can be documented as a business trip. Another aspect that is worth paying attention to is that if a collective agreement is in place, the cost of an entertainment event for a company, when a specific benefit to a person cannot be determined, is attributed to the allowable deductions. If there is no such contract concluded, then the costs will be attributed to the non-allowable deductions. Accountants often mistakenly believe that if an expense is classified as a non-allowable deduction, no PIT or social insurance contributions need to be calculated for benefits in kind. This is incorrect. PIT and social insurance contributions must be calculated if the employee receives a benefit in kind. However, companies are permitted to give employees gifts worth up to EUR 200 per year without incurring additional taxes.
Finally, if the team building event organized by the employer is for entertainment, VAT deduction on the event’s costs is not possible. Conversely, if the event is educational, VAT deduction on the event’s expenses is possible.
Contributions to the employee’s third-pillar pension accumulation fund
In more advanced companies, contributions to an employee’s third-pillar pension accumulation fund are one of the most popular methods of motivation – they are not subject to personal income tax (PIT), if the contributions to the pension account in the pension fund during the tax period do not exceed 25% of the salary calculated for the employee during the tax period. If it exceeds the specified amount, the excess part is taxed as wages.
Successful promotion system depends on the perception of benefits by employees
In Lithuania, companies currently offer over 40 different types of employee benefit incentives. In addition to the above, some companies provide unique benefits, such as offering company shares, paying for bachelor’s or master’s degrees, insuring family members, covering taxi services, reimbursing car use and parking fees, offering additional vacation days, covering the cost of necessary tools for remote work, organizing events and trips abroad, shortening working hours, sponsoring gym memberships, and giving gifts for significant occasions.
However, for a benefits scheme to truly motivate employees, it’s essential to consider both the employer’s capabilities and the employees’ specific needs. For example, if an employee is motivated by the company covering their studies in areas not directly related to work (such as plant care or art courses), this can be an effective way of promoting job satisfaction for both the employee and the employer. From an accounting perspective, this type of benefit would be classified as a benefit in kind and taxed as part of the employee’s remuneration. However, by calculating the total cost of such benefits for the company, a balance can be found that meets both the employee’s desire for personal development and the company’s budget for employee incentives. Striking this balance is key to creating a benefits system that promotes motivation and loyalty among employees.
The article in Lithuanian has been published on Verslo žinios portal: Darbuotojų motyvavimas: kaip rasti balansą – Verslo žinios (vz.lt)
