Doubtful debts are widely discussed in professional circles when preparing a corporate income tax return. Which activities will affect the declaration on a monthly basis and what must be declared in the last month of the reporting period?
First of all, in practice it is important to distinguish debts that have arisen from unpaid money from buyers by 31.12.2017 (old debts), of those debtors that have arisen after 01.01.2018 (new debts), as the application of CIT will be completely different.
The reference to be made to old debts can only be found in the transitional provisions of the Corporate Income Tax Law, which explain the situations where it is necessary to look at Section 9 of the Corporate Income Tax Law, which deals with lost debts, i.e. in cases when such debts are written off directly (expenses) or if the provisions previously established for these debts are written off.
Thus, in fact, operations with old debts that have arisen before 31.12.2017 and new ones that have arisen in the period from 01.01.2018 will have different consequences. The next steps need to be understood.
Section 9, Paragraph 1 of the Law on Corporate Income Tax stipulates that the CIT taxable base shall include debts (parts thereof) for which a provision for doubtful debts has been established, and the receivable has not been recovered within 36 months from the day of the creation of provisions, or the exemption referred to in Paragraph three of this Section is not applicable thereto.
Therefore, when creating provisions for doubtful debts, a period of 3 years is allowed, during which you can work with the debtor: either recover the debt or conclude all related legal actions to recover it.
However, if the provision is still in the balance sheet after 36 months, in the nearest monthly declaration of the last reporting period, all accrued amounts will have to be included in the CIT taxable base, or 25% corporate income tax will have to be paid from it. The criteria for not having to pay CIT are similar to those already known, and they are listed in Section 9, Paragraph 3 of the Law on Corporate Income Tax.
For example, the debtor has completed liquidation, has a deed of non-recovery, the amount of the debtor’s debt is less than the costs associated with its recovery, etc.
When creating provisions, it is important to note that this norm applies only to new debtors! Provisions that are formed for old debtors after 2018 do not have to be included in the CIT taxable base and will not be subject to corporate income tax. This is explained by the transitional provisions of the Corporate Income Tax Law.
It should also be noted that provisions for doubtful debts created before 31.12.2017 must be accounted for separately from provisions created from 01.01.2018!
It may be unpleasant, but the fact is that often debts have to be written off the balance sheet because there is no hope of recovering them. The application of CIT will also be different when writing off debts:
– For old debtors established before 31.12.2017 – if the exemption criteria are met, the company may reduce the taxable base in the monthly declarations. It should also be noted that in this case the CIT base is reduced by the amount of debts multiplied by a factor of 0.75. If the exemption criteria do not apply, the write-off of old debts will not result in additional CIT costs;
– For new debtors – if the exemption criteria are met, the write-off of these debts will not have the consequences of CIT. On the other hand, if the exemption criteria do not apply, the company must include the written-off debts in the taxable amount in the declaration for the last month of the reporting year. It is important to recall that the tax base can be reduced in the future if any of the exemption criteria become relevant at a later stage.
Based on the above, it is clear that in the case of old debtors, the company may qualify for a reduction in the taxable base, while in the case of new debtors, the company may have to increase the CIT taxable base. In both cases, the determining factor will be whether the exemption criteria listed in Section 9, Paragraph 3 of the Law on Corporate Income Tax are met, but the consequences of CIT would be different.
And they would be:
1) The debtor is a resident of Latvia or another Member State of the European Union or a state of the European Economic Area or a resident of the state with which Latvia has concluded a convention for the avoidance of double taxation and tax evasion, if this convention has entered into force;
2) The debtor is a state or local government capital company which has been liquidated in accordance with a decision of the relevant institution;
3) There is a court judgment regarding the recovery of a debt from a debtor and an act of a bailiff regarding the impossibility of recovery and a commercial company (debtor) has been excluded from the Register of Enterprises or a corresponding register in another Member State of the European Union or European Economic Area or in a country with Latvia the elimination of double taxation and tax evasion, once this Convention has entered into force;
4) There is a court judgment regarding the recovery of a debt from a debtor (natural person), and an act of a bailiff regarding the impossibility of recovery;
5) The amount of the debtor’s debt is less than the expenses related to its recovery, but not more than 20 EUR;
6) Recovery of the debtor’s debt through court is not possible due to expediency reasons due to the fact that the amount of the debtor’s debt is less than the expenses related to its recovery, if measures have been taken to recover the debt, provided that the amount of the debtor’s debt does not exceed 0.2 percent from the net turnover of the taxpayer for the reporting year, but not exceeding 500 EUR;
7) The amount of the debt has not been recovered from the debtor (natural person) who is not a person related to the enterprise, by repaying the loan issued to him and provided that the relevant repaid amount is not subject to personal income tax in accordance with Section 9 of the Law on Personal Income Tax;
8) The amount of the debt is recognised in accordance with the register of creditors’ claims when the court has approved:
(a) The closure of the insolvency proceedings of the debtor, whether a legal person, a partnership or a sole proprietor;
(b) The completion of the bankruptcy proceedings of the debtor (natural person);
9) The amount of the debt in accordance with a court ruling corresponds to the proportional amount of repayment or reduction of the principal debt, contractual penalty or interest specified in the plan of measures for legal protection proceedings in the legal protection proceedings of the debtor or in out-of-court legal protection proceedings;
10) The amount of the debt has not been recovered from a debtor whose activities have been suspended on the basis of a decision of the tax administration and it has been excluded from the commercial register;
11) The debtor (natural person) is dead.
It is also necessary to observe the nuance that by writing off the debts of old debtors directly (if no provision has been made for it in previous periods), the taxable base may be reduced, but at the same time retained earnings as at 31.12.2017 must be reduced.
We hope it wasn’t too complicated… Anyway, we’ll be happy to answer your questions!
P.S. And next time we will talk again about the Company Car Tax (CCT) – to whom and why it has to be paid.