In the summer of 2022, while most Croatian citizens, with the exception of those related to the tourism sector, were likely ‘recharging their batteries’ on annual vacations and trying to ignore the increasingly frequent media announcements about the ‘black and cold’ winter awaiting us due to the significant energy and inflation crisis, the Minister of Finance publicly mentioned for the first time that consideration was being given to introducing a tax on excess profit. At that moment, there were no further details regarding this, but a parallel could be drawn with the windfall tax, which had been discussed at the European Union level months earlier due to financing generous support that EU member states had approved due to the strong rise in energy prices.
At the beginning of October 2022, the European Commission formally adopted the Council Regulation on urgent intervention to address high energy prices. Among other things, it introduced a tax on excess profits, known as the solidarity contribution, which taxes the profits of companies in the energy sector in 2022 and/or 2023 at a minimum rate of 33% if they exceed the average profit from the previous four years by more than 20%.
Sharp Tax Scissors
However, although most EU member states announced, proposed, or introduced some form of tax on higher profits in the following months, this tax was directed at companies in the energy sector, in accordance with the European Commission’s guidelines. Therefore, it was not surprising that there was a shock in the business circles in Croatia when the Government announced in November 2022 the Proposal for the Law on Additional Profit Tax, according to which an additional profit tax at a rate of 33% for 2022 would be imposed on all companies with revenue exceeding 300 million kuna and profit growth exceeding 20% compared to the average profit of the previous four tax periods. At that time, it was estimated that more than three hundred large Croatian companies would fall under the additional tax scissors.
The proposal sparked numerous criticisms and discontent among large entrepreneurs and other interest groups, who submitted their proposals for amendments to various provisions of the proposal that they believed did not cover specific situations in practice or were unclear, and that they would therefore be harmed or, they say, unjustly taxed.
The Government reacted relatively quickly, and in December 2022, the amended proposal was included in the parliamentary procedure. The Law on Additional Profit Tax was voted on at an extraordinary session of the Croatian Parliament on December 16, 2022, and came into force a few days later, on the first day of publication in the Official Gazette. The additional profit tax for 2022 will be paid by submitting a profit tax return. At the time of writing this article, the adoption of the regulation on additional profit tax, which should provide more detailed explanations of certain provisions of the law, is still awaited.
Where the Government Conceded
It is important to note that the Government, presumably based on dialogue with large entrepreneurs and other interest groups, made several key amendments to the initial proposal that favored entrepreneurs. This reduced the number of entrepreneurs who would become liable for paying the additional profit tax. Specifically, perhaps the most important amendment to the initial proposal is that the previous tax period in which taxable profit was negative or equal to zero will not be included in the calculation of the average profit of previous periods.
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Perhaps the most important amendment to the initial proposal is that the previous tax period in which taxable profit was negative or equal to zero will not be included in the calculation of the average profit of previous periods
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For example, if in one of the four previous tax periods the taxable profit was negative or equal to zero, then when calculating the average, the sum of taxable profits from the remaining periods will be divided by three, and if a loss was incurred in all four previous tax periods, there will be no obligation to pay the additional profit tax. In this way, part of the entrepreneurs who incurred losses in previous periods but made a profit in 2022, and who were supposed to be liable for the additional profit tax based on the initial proposal, were excluded from paying the additional profit tax.
Some Changes and Confirmed Exemptions
Another important change is that the taxpayers of the additional profit tax, those who have acquired the status of users of incentive measures in accordance with the investment promotion regulation, reduce their obligation for the additional profit tax by applying the rate by which the obligation for profit tax is also reduced in the same tax period according to the investment promotion regulation. This was not possible under the initial proposal. Furthermore, newly established sole proprietors who submit a profit tax return for the first tax period and profit tax payers who cease their business without prior transfer of activities to other tax payers and if they submit the last profit tax return are excluded from the obligation to pay the additional profit tax.
Also, when determining the amount of taxable profit for 2022, unrealized losses on financial assets whose fair value changes are recognized through the profit and loss account can also be excluded, for which the tax base was increased on line number 22 of the profit tax return, except for loans and receivables, provided that the same exemption is applied in calculating the taxable profit of each previous tax period. In this way, the Government has shown that it is not unwilling to compromise in this case and is ready to engage in constructive dialogue and accept the arguments of entrepreneurs.
What Are Still the Complaints
On the other hand, the greatest criticism directed at the Government is that the additional profit tax is being introduced for entrepreneurs from various sectors who often have no connection to the energy sector. Additionally, entrepreneurs believe that an analysis has not been conducted to determine which companies have actually made excess profits due to the energy and economic crisis, and which have had deserved and expected profit growth based on previous investments and good business decisions. Tax legal uncertainty is also highlighted, which is created by unexpected tax policy, which certainly does not favor the investment climate in Croatia and raises questions about the investment potential, competitiveness, and liquidity of the most successful Croatian entrepreneurs. Consequently, the constitutionality of the additional profit tax is also being questioned.
Although it is true that this is a relatively unexpected and extraordinary measure of fiscal policy that is an additional burden for large entrepreneurs, the Law states in its fundamental provisions that the additional profit tax is determined and paid under conditions of unfavorable economic circumstances in the Republic of Croatia in accordance with the provisions based on the principles of fairness, equality, and proportionality, according to which everyone is obliged to participate in covering public expenses in accordance with their economic capabilities.
Playing on Solidarity
Furthermore, the Law stipulates that the amount collected from the additional profit tax will be fully directed towards measures to assist socially vulnerable citizens, including retirees and other vulnerable groups in society. From these provisions, it can be concluded that the additional profit tax is not necessarily exclusively linked to companies in the energy sector or excess profits that companies have made due to the energy crisis.
Namely, the fact that the additional profit tax should be returned to the Croatian economy through support for citizens and other vulnerable groups most affected by rising energy prices, as well as rising prices in general, and the naming of the additional profit tax as a solidarity contribution, point to what the Government is asking of what it considers to be the most successful in times of economic crisis. This aims to alleviate the economic crisis and avoid a scenario of prolonged recession, considering that Croatian citizens and small and medium-sized entrepreneurs are a very important cog in the machine of the Croatian economy and that their collapse would certainly negatively affect the profits of large entrepreneurs.
This is not unexpected from the perspective that everything is happening at a time when ESG (as an acronym for environmental, social, and corporate governance) has become very popular and likely an inevitable way of sustainable business.
Punishment or Investment in the Future
However, it cannot be denied that large entrepreneurs already pay significant amounts of tax, employ a large number of people, and certainly already participate in alleviating the economic crisis, so their stance that they feel punished for their good results can be understood.
Therefore, the question is whether it is even possible for them to view the additional profit tax from a different, more optimistic, and solidarity perspective, as an investment in a safer and better future for all. As always, time will tell whether the introduction of the additional profit tax was the right decision for the Croatian economy.
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Determining the Base for the Additional Profit Tax Which Categories Are Exempt
- revenues resulting from creditor write-offs in pre-bankruptcy and bankruptcy proceedings
- revenues in bankruptcy proceedings resulting from the sale of assets to satisfy creditors
- revenues or profits from the sale or other disposal of long-term tangible or intangible assets used in the production process and provided to unrelated parties, and in the case that the mentioned assets were sold or otherwise disposed of to related parties, if this was carried out by October 31, 2022.
- profits or losses from the sale or other disposal of shares and stakes in companies in which they have more than 20% of the capital, sold or disposed of after two years from acquisition, and in the case of sale or other disposal to related parties if carried out by October 31, 2022.
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