Examples of Calculating the Limits of Excess Borrowing Costs

A lot of taxpayers are preparing for the application of the new rules introduced in the Income Tax Act by its latest amendment, i.e. Act 80/2019 Coll., on limiting the tax deductibility of excessive borrowing costs. Section 23e of the Income Tax Act stipulates that the amount of borrowing expenses (less borrowing income) that exceeds the set limit will be tax non-deductible. This limit was determined as (i) an amount corresponding to 30 % of the tax profit before interest, tax and depreciation, or EBITDA, or (ii) the amount of CZK 80,000,000, whichever may be higher.

The definition of the “borrowing costs” includes, in particular, all interest costs on all forms of debt, regardless of who the provider is (unlike in the event of the low capitalization rule, which only targets funding from related parties). The amendment to the Act contains a broad definition of what is meant by borrowing expenses. It is a much broader definition than the currently known financial expenses for the calculation of non-tax interest, for the purpose of the testing of low capitalization. The rule limiting the deductibility of borrowing expenses will apply to all financial instruments and all existing agreements. According to the transitional provisions, only interest which has been included in the valuation of depreciated assets (so-called capitalized interest) will constitute an exception. In this case, only interest (or their share in the tax depreciation) which was included in the valuation of the depreciated assets put into use after 17 June 2016, will be checked.

This provision comes into effect on the first day of the next fiscal year commenced after the effective date of Act 80/2019 Coll., i.e. the fiscal year commenced after 1 April 2019. For most taxpayers for whom fiscal years correspond to calendar years, this provision will be first applied in 2020.

Example 1

Subsidiary DA which is a member of a group controlled by parent company MX, has fiscal years corresponding to calendar years. The first fiscal year in which the excessive borrowing expenses will be checked is calendar year 2020. The following data are assumed to be included in its accounts in 2020:

1. The total borrowing expenses according to the definition of the Income Tax Act correspond to CZK 88 million.
2. The company has no borrowing income that may reduce the amounts above.
3. The total EBITDA is CZK 300 000 000.

 

Calculation of tax deductible borrowing expenses	Amount (CZK)
Total borrowing costs as defined by the Income Tax Act	88 000 000
Borrowing income	0
30 % of the calculated EBITDA	90 000 000
Tax-deductible borrowing costs	88 000 000
The base of the corporate income tax will be increased by	0

Example 2

Subsidiary DB which is a member of a group controlled by parent company MY, has fiscal years from 1 September to 31 August. The first fiscal year in which the excessive borrowing expenses will be checked is the fiscal year from 1 September 2019 to 31 August 2020. The following accounting data are assumed:

1. The total borrowing expenses according to the definition of the Income Tax Act correspond to CZK 82 million.
2. The company has no borrowing income that may reduce the amounts above.
3. The total EBITDA is CZK 150 000 000.

 

Calculation of tax deductible borrowing expenses	Amount (CZK)
Total borrowing costs as defined by the Income Tax Act	82 000 000
Borrowing income	0
30 % of the calculated EBITDA	45 000 000
Tax-deductible borrowing costs	80 000 000
The base of the corporate income tax will be increased by	2 000 000

The amount of profit will be increased, as the result of limiting the deductibility of excessive borrowing costs, by the amount of CZK 2 million; in the future this amount can be used to decrease profit.

However, actual borrowing expenses must be lower by this amount than the limit for the deductibility of excessive borrowing expenses (i.e. if the deductibility limit for the given year is not fully utilized, the borrowing expenses not deductible in previous years can be used up to the remaining amount). However, the possibility of reducing the amount of profit or the difference between income and expenses does not pass to a legal successor.

Example 3

Subsidiary DC which is a member of a group controlled by parent company MZ, has fiscal years corresponding to calendar years. The first fiscal year in which the excessive borrowing expenses will be checked is calendar year 2020. The following data are assumed to be included in its accounts in 2020:

1. The total borrowing expenses according to the definition of the Income Tax Act correspond to CZK 129 million.
2. The company has no borrowing income that may reduce the amounts above.
3. The total EBITDA is CZK 304 000 000.

 

Calculation of tax deductible borrowing expenses	Amount (CZK)
Total borrowing costs as defined by the Income Tax Act	129 000 000
Borrowing income	0
30 % of the calculated EBITDA	91 200 000
Tax-deductible borrowing costs	91 200 000
The base of the corporate income tax will be increased by	37 800 000

Unlike in example 2, the maximum limit for the deductibility of borrowing expenses will be based on the calculated percentage from EBITDA, because the amount is higher than the amount of CZK 80 million determined by law. As a result, the profit will be increased by CZK 37.8 million. In the future this amount can be used to decrease profit under the same conditions as specified in the previous example.