Tax and Legal News - November 2024

A dignified farewell to the unlimited exemption for the sale of securities

At the end of the year, after about 30 years, the exemption for sales of securities without income limits will end. An individual who sold securities after the 3-year time test was met paid no income tax regardless of whether they sold for a million or a billion. From 1 January 2025, the annual exempt income will be limited to CZK 40 million. It is not for me to judge whether the test limitation is a good or bad decision. But the time test without a cap was unique in the global context.

The exemption limitation applies to newly acquired securities as well as those acquired before 31 December 2024. In an attempt at fairness, or perhaps out of concern for hypothetical retroactivity, the legislature granted security owners the option to apply the market price of the security as of 31 December 2024 to future sales (which are subject to the exemption provisions). This option applies to securities acquired by an individual before 31 December 2024. Any individual holding securities or an interest in a company with a value in excess of CZK 40 million should therefore consider whether they can demonstrate the market price on 31 December 2024.

This is probably easiest for securities traded on a regulated market (stock exchange). It can be a little harder for investment funds, for example, which generally inform investors at least once a year about the value of their securities. But it is questionable whether this will always be the right market price, e.g. in a situation where an investment fund has a redemption obligation but provides funds to the investor within two years, according to the statute.

The most complex will be determining the market price for non-traded securities. Typically, this will be a situation where an individual owns a joint stock company that they have built from scratch. An expert appraisal as of 31 December 2024 is an option. We just need to consider when to prepare the appraisal (in the spring of 2025 or perhaps in three years) and what form it will take (an expert appraisal with a stamp and an entry in the register of expert appraisals or just an expert appraisal without a stamp). Opinions vary in the market, but in general it can be difficult to go back to valuations over x number of years.

The market price as of 31 December 2024, which will be applied against the sale proceeds, is probably fixed, unchangeable and non-transferable. So watch out for conversions and dispositions of equity.

And what will life be like after the test? Individuals are generally taxed on funds received, not income booked. Therefore, even the CZK 40 million limitation is probably calculated on a cash basis. If an individual sells securities (shares in a joint-stock company) for CZK 117 million and the seller pays the purchase price in three annual instalments of CZK 39 million each, the annual CZK 40 million test is probably not exceeded in practical terms. However, the tax administrator may not always like this and in some situations may come up with an abuse of rights argument. And the ensuing litigation is a long slog with an uncertain outcome.

Even after 1 January 2025, the obligation to report exempt income above CZK 5 million per year remains in force.

From the perspective of the Czech tax regime, the above is a significant change. We consider the use of the option to determine the market price as of 31 December 2024 to be significant. The burden of proof is on the taxpayer. For reasons of legal certainty, we can only hope that the new set-up will last for at least another 30 years.