Government to discuss keeping companies from moving untaxed profits out of the country by means of loans

At a government meeting, Stenbock House, Tallinn. Source: (Siim Lõvi/ERR)

The government will discuss a proposal by the Ministry of Finance on Thursday calling for the introduction of a deposit tax on businesses’ loans to parent companies abroad. Currently loans are used to move untaxed profits out of the country on a large scale.

The Estonian taxation system is based on taxing capital whenever it changes hands. This means that there is no basic corporate tax, and no property or wealth tax. Anything from privately owned money and assets to a company’s profits is only taxed whenever it is moved, namely in the form of income and social tax on salaries, income tax on dividends paid out by businesses, VAT on goods, and so on.

The principle that a company’s undistributed profits are not taxed dates back to the 1990s, where the aim was to get companies to reinvest as much of their profits as possible. Now, there are two issues arising from this system.

One is companies’ habit not to pay out dividends because of the 20% income tax immediately levied on them. The government has announced its intent to lower this rate to 14% for so-called mature companies in order to encourage them to pay out dividends, which again would mean increased tax revenue for the state.

Closing a popular loophole

The other, which the government is set to discuss in Thursday’s cabinet meeting, concerns the fact that companies have been able to move very large amounts of money out of the country not by means of paying out dividends, but by giving loans to parent companies abroad. This way, e.g. an Estonian subsidiary of a Swedish company has been able to transfer much of its undistributed profits out of the country without paying so much as a cent in taxes.

The Ministry of Finance’s proposal is to introduce a deposit tax. Every loan granted by an Estonian business to a parent company, or another company outranking it in an international business structure, would be taxed at 20%. The money would be withheld by the state for the period of the loan agreement, for example for two years.

If after two years the loan has been paid back, the state pays back the 20%. If the loan has not been paid back, the state keeps the money as a tax on redistributed profit.

According to the ministry’s proposal, loans to companies higher up in an international business structure are not the only means by which companies are moving their profits out of the country. Other instruments used include various collaterals, savings deposits, and overdrafts, which legally would have to be put at the same level with loans.

Also, transfers out of corporate accounts that are obviously used to move profits out of the country should be counted as loans that fall into the same category, the ministry’s proposal stated.

The ministry finds the measure is necessary because of companies’ attempts to dodge income tax, and because the current legislation had turned into a very busily used loophole businesses used. Loans were granted a very large amount of which was never paid back.

In connection with the intent to move money out of Estonia, agreements were often concluded spanning very long periods of time, loans got extended repeatedly to avoid having to pay anything back, and in reality little to no interest was ever paid.

Editor: Editor: Dario Cavegn

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