Since 2018, the Latvian corporate income tax (CIT) system has been significantly simplified – tax is payable when profits are distributed or when certain non-business-related expenses arise. However, in practice, these are non-business expenses that most often raise questions.
What are non-business expenses?
Simply put, these are all expenses that are not directly related to the company’s economic activity. They may include both intentional expenses and situations arising from company decisions or actions.
Most common examples of such expenses are:
- entertainment expenses for employees or owners, if personal income tax has not been paid on them
- gifts and written-off loans
- donations (with certain exceptions)
- assets that are not used in business activities
- expenses related to luxury cars
- excessive contractual penalties or fines
- fuel expenses exceeding established consumption limits
Accordingly, if expenses are not aligned with the company’s business activity, they may create an additional tax burden.
Let’s look at some of the expenses that most often raise questions: representation expenses and employee-related expenses.
Representation expenses
Representation expenses are recognised as business-related expenses only if:
- together with personnel sustainability expenses, they do not exceed 5% of the previous year’s gross payroll (on which social security contributions have been paid),
- and they are clearly recorded separately from other expenses in the company’s accounts.
Representation expenses also include small items bearing the company’s brand that are distributed to promote the business. The applicable tax treatment depends on the value of the item (below or above EUR 20) and whether the recipient can be identified.
Personnel sustainability expenses
The purpose of personnel sustainability measures is to promote team cohesion and employee well-being. The tax treatment depends on whether the benefit is available to all employees and whether it can be attributed to specific individuals.
- If the benefit is aimed at team cohesion / employee well-being and is not attributable to individual employees, payroll taxes do not apply, as the expense is not treated as employee income. CIT does not apply if total expenses do not exceed 5% of the previous year’s gross payroll.
- If the benefit is available to all employees but is attributable to individuals, the same principle applies: no payroll taxes, as the benefit is provided to all employees.
CIT does not apply if the 5% threshold for representation and sustainability expenses is not exceeded. - If the benefit is not available to all employees and is attributable to specific individuals, it is treated as a personal benefit to the employee and payroll taxes applies. For CIT purposes, such expenses are treated as non-business-related, if they do not qualify as a collective measure.
In conclusion to avoid unexpected tax consequences:
- clearly document and justify how expenses relate to business activities
- monitor the 5% threshold for representation and sustainability expenses
- assess whether benefits are attributable to individuals
- do not overlook VAT implications, as they may differ even in cases where expenses are considered business-related for CIT purposes.
Proper assessment of transactions at an early stage helps prevent mistakes and tax penalties in the future. We would be happy to assist with advice when needed.
Contact us
Leinonen Latvia supports foreign-owned businesses with accounting, payroll, and tax compliance, including the correct classification of non-business expenses for CIT purposes. Reach out to our team to discuss your company’s specific situation.
