Bulgaria: International tax developments quarterly digest October – December 2023

Bulgaria: International tax developments quarterly digest October – December 2023

Bulgaria enacted the Directive on 15% global minimum tax

On 22 December 2023, the relevant amendments to the Corporate Income Tax Act (“CITA”) transposing EU Minimum Tax Directive (“the Directive”) were enacted and promulgated in the State Gazette.

The rules ensure a minimum effective taxation of 15% for large multinational and domestic groups. Most notably, Bulgaria opted to enact a national top-up tax which would allow it to collect any top-up tax due on profits generated by constituent entities (including permanent establishments) situated in Bulgaria which are part of multinational groups in scope.

However, the Bulgarian Parliament did not opt to apply most of the available forms of relief.  Namely, the de minimis exclusion of small size constituent entities was not introduced, nor the exclusion for large domestic groups in the initial phase of their international activity.

Furthermore, the introduced rules provide only for partial application of the substance-based income exclusion. Under the general rules this “substance carve-out” relief envisages a reduction of the amount which is subject to the top-up tax in the respective jurisdiction by a percentage related to the ‘substantive activities’ of the group, particularly its payroll expenses and the net book value of its tangible assets. However, Bulgaria, only implemented the tangible assets carve-out when applying the domestic top-up tax. This approach of the Bulgarian legislator significantly differentiates from the other EU Member States which allow the make use of both. This impacts taxpayers that carry out less asset intensive operations, such as service organizations and financial institutions.

The national top-up tax applies from 1 January 2024 and the first reporting obligation would be 18 months for the transitional period following the end of the respective tax period of the group.

The way forward would be for the Bulgarian taxpayers to take relevant steps in assessing the impact of the new tax regime on their activity and proceed with the relevant disclosures starting with those in their annual financial statements for 2023.

Legislative amendments in relation to hidden profit distributions

The Bulgarian Parliament adopted an amendment to the Corporate Income Tax Act in regard to the administrative sanction envisaged for cases of hidden profit distribution. Particularly, it has been clarified that a taxpayer may be subject to a penalty when it has made a hidden profit distribution, but only when this is not disclosed in the respective annual corporate tax return. The amount of the sanction remains unaltered, namely 20% of the distributed amount.

Additionally, the Administrative Offences and Penalties Act concerning the statute of limitations period was also amended in the above context. Prior to this amendment the law did not allow the initiation of a penalty procedure, if two years have elapsed since the infringement has been committed. However, as of 1 January 2024, these general rules will no longer apply in the cases of hidden profit distributions as the Bulgarian Parliament has explicitly extended the period to five years.

In its past practice the Bulgarian tax administration has been reluctant and rarely imposed penalties for hidden profit distributions, generally due to the fact that the discussed limitation period has expired. Considering the legislative amendments and especially the updated longer  period, taxpayers may expect an increased focus on this topic in future tax audits.

The Bulgarian Supreme Administrative Court ruled on expenses not related to business activities

On 8 December 2023, the Bulgarian Supreme Administrative Court (“SAC”) issued an interesting decision in relation to the concept of expenses unrelated to the economic activities of a company treated as non-deductible for local tax purposes.

In the given case, a Bulgarian company, having as a main activity the construction of infrastructure projects, granted numerous unsecured interest-bearing loans to other companies who were in a deteriorated financial position. Several months afterwards and in view of a forthcoming business restructuring, the company transferred these loan receivables under a significant discount recognizing the relevant loss as tax deductible.

In the course of subsequent audit proceedings, the tax authorities have taken the position that the incurred expense is not related to the taxpayer’s activity, and therefore should not be deductible for tax purposes. The main argument of the tax auditors in support of the above is that the audited entity is neither a financial company, nor a holding company whose main activity is related to the provision of financial resources to third parties for profit.

In its decision the SAC interpreted the term "expenses not related to the business activity of a company" does not refer to expenses that are not "related to the core activity" of the audited entities, but to those that are not related to their activities at all. In this respect, it is stated that the income of an enterprise includes both income from ordinary activities and incidental income which is not linked to the enterprise's core business. Based on these arguments, the Supreme Court held that the issued audit report was unlawful.

Financial transactions continue to be heavily scrutinized by the Bulgarian tax authorities, especially in the context of related-party dealings, including with respect to non-settlement of the loan principal for a significant period of time, impairment of such and their subsequent write-off (including assignment to another party). Taxpayers are advised to review their financial transactions in order to identify any potential tax risks.

Protocol amending Germany-Bulgaria Double Tax Treaty enters into effect

Bulgaria and Germany exchanged their ratification instruments required for the implementation of the Protocol amending the respective Double Tax Treaty (“DTT”). The Protocol introduces several changes, with the most important one being the introduction of the principal purpose test into the provisions of the DTT.

The principal purpose test comprises an anti-abuse rule wherein a contracting state may deny access to benefits under the DTT where, having regard for all circumstances of a given transaction, its principal purpose or one of its principal purposes is obtaining tax advantage under the treaty. The test serves as a safeguard to help prevent tax avoidance.

The Protocol was initially agreed between the contracting states on 21 July 2022. The ratification instruments required for the amendments to enter into force were exchanged by the states prior to the end of 2023 and its provisions would apply as of 1 January 2024.

Bulgaria introduces public Country-By-Country reporting

In December 2023, Bulgaria introduced the new rules in the Accounting Act on public country-by-country reporting (“CbCR”) transposing Directive (EU) 2021/2102.

Effectively, ultimate parent entities of MNE groups with consolidated revenues exceeding BGN 1,500 million (EUR 750m) in each of the last two consecutive fiscal years would need to provide an annual report disclosing information related to the group’s tax position, such as revenue streams, pre-tax profits, tax accrued, paid and other.

The legislator aims to ensure transparency and to allow possible public scrutiny to the extent of the group’s compliance with the tax legislation, irrespective of whether they are headquartered in or outside the EU.

Entities in Bulgaria obligated to prepare a Public CbC Report must file the relevant report with the Commercial Register and Register of Non-Profit Legal Persons within 12 months after the end of the respective reporting period. Entities which fail to meet this obligation may be subject to significant sanctions. Under certain conditions taxpayers may be exempt from providing the relevant report.

The new provisions shall enter into force on 1 January 2025.

Bulgarian taxpayers would need to assess whether they fall within the scope of the rules, respectively file the relevant CbC Report or meet the available exemptions.

New benefit related to the income of individuals from the disposal of financial assets

In December 2023, The Personal Income Tax Act (PITA) underwent an amendment in the area of financial assets disposed of by individuals. Namely, a statutory expense allowance of 10% has been introduced to apply to the taxable income generated from the sale/exchange of financial assets such as shares, bonds, compensatory instruments and other similar assets. In addition, the amendment explicitly recognized the same treatment of virtual currencies as that of financial assets, which seems to be in coherence with the tax administration’s prior practice.

The amendment comes into force as of 1 January 2024.

The tax agenda of the new Belgian Presidency of the EU Council

From 1 January to 30 June 2024 Belgium assumes the presidency position of the EU Council. In this role, Belgium will have a range of tasks, including leading the agenda and fostering cooperation among Member States in different areas, including tax and customs.

In light of the current political and economic climate related to the intense efforts of combating tax abusive schemes, the Belgian Presidency has expressed its intention to prioritize tackling tax avoidance and aggressive tax planning. Amongst other, the Belgian Presidency’s agenda includes actions aimed at preventing abuse related to withholding taxes, updating the EU’s list of non-cooperative jurisdictions and driving both legislative and non-legislative initiatives in order to decrease compliance costs for entities and cross-border investors. Efforts will also be dedicated to enhancing tax transparency and strengthening the exchange of information within the EU, with a specific focus on ensuring the effective operation of the Directive on global minimum taxation.

The Presidency has also expressed its approval of the Business in Europe Framework for Income Taxation (BEFIT) package and intends to investigate the potential benefits of implementing more cohesive tax regulations in various areas in the long-run, particularly in connection with mobile workers. Furthermore, the Presidency has committed to endorse the Unshell Directive's implementation which has not made significant progress in previous months.