Danish payroll duty and the financial sectorOctober 30, 2013
The Danish payroll duty
The Danish payroll duty is a tax levied on most businesses that perform VAT-exempt activities. The Danish payroll duty is primarily based on the salaries paid to the employees of a VAT-exempt business. In general, therefore, the amount of tax due depends on how many employees the entity has and the level of their salaries. However, the tax rate and tax base also depend on the business sector in which the entity operates.
The employment market contribution – incompatible with EU VAT for taxable businesses
The salary duty was originally part of the Danish legislation for an employment market contribution. This contribution was a tax designed in the 1980s to increase tax revenue and to simplify employer taxes. Shortly after its introduction, however, this tax was deemed to be against EU law, as the calculation method for taxable businesses was practically the same as for VAT.
The tax was, therefore, contrary to the EU rules that only one VAT-type tax may be imposed in an EU Member State. As a consequence, the employment market contribution was abolished for businesses subject to VAT. Instead, the Danish VAT rate was increased proportionally.
However, the tax survived for exempt businesses. The first act regarding payroll tax came into force in 1990. At that time, the tax targeted only the financial sector. However, a few years later, it was decided to expand the scope of the tax, and today the act applies to almost any entity that supplies goods or services that are exempt from VAT.
Although the application of the payroll tax rule may sound simple in theory, in practice, the tax is characterized by its complexity, and payment of the duty depends on a series of different criteria.
The impact of payroll duty on the financial sector
As a general rule, an entity is liable to the Danish payroll duty if it supplies goods or services that are exempt from VAT. Although a number of sectors are subject to the tax, the financial sector is the biggest contributor of payroll tax revenues, partly because the tax rate for this sector is by far the highest.
Whether an entity is subject to the payroll duty and at what rate depends on the entity’s activities. The payroll duty rate for the financial sector is 10.9% in 2013. However, this rate is due to rise.
Determining whether a business is in the “finance sector” for tax purposes
It is not always easy to determine whether a business is in the “finance sector” because it is rare that a business carries out nothing but financial activities. Often, a financial business has both financial activities and other activities that are exempt from VAT. Furthermore, an entity can perform both financial activities that are exempt from VAT and other activities that are not exempt from VAT.
To be liable to payroll duty at the rate applicable to financial businesses, the entity’s main activities must be financial activities. As a principal rule, a company must therefore determine whether more than 50% of the company’s activities are attributable to the supply of financial services.
How to calculate the payroll duty for financial businesses
Once an entity has assessed that it is liable for the Danish payroll duty, it must decide what should be included in the duty base. As a general rule, a company’s payroll duty base includes every item of “salary” paid to the entity’s employees. This amount includes all kinds of supplements, whether they are paid as part of the wages or are paid separately.
Only salaries paid to persons employed by the company are included in the payroll duty.
However, only salaries attributable to financial activities that are exempt from VAT are to be included in the payroll duty base. This means, in general, that most entities have to make an assessment of the actual time spent by employees on activities that are subject to VAT.
In principle, this assessment should be made for every employee. However, in some situations it may make better sense to perform the assessment based on the activities carried out in separate departments.
If the actual time spent cannot be recorded, the entity has to include 60% of its payroll costs in the payroll duty base. The remaining 40% of its payroll costs are then reduced in accordance with the entity’s VAT deduction rate, and the part remaining is also included in the payroll duty base.
If an entity is liable to pay the payroll duty it must register with the Danish tax authorities. Financial businesses must report and pay payroll duty on a monthly basis. However, some exemptions do apply, the most common exemption being the registration threshold.
If a business has a taxable base that does not exceed DKK80,000 (approximately €10,666), it is not liable to register for and pay payroll duty. The taxable amount must be calculated over a 12-month period, and it should not be understood as a basic allowance.
Lessons learned from the Danish payroll duty in relation to financial businesses
When the Danish payroll duty was first introduced, the rate was 3.8% of salary costs. The rate has been increased a number of times over the years, and, as demonstrated above, it continues to rise. Although, financial businesses have probably never been fans of the duty, they had learned to live with it to a certain extent.
However, with the contemplated increases in the rates of tax, businesses operating in the Danish financial sector might begin to wonder whether they should instead hope for early progress on the proposal to make financial services subject to VAT. Once the payroll duty rates rise further, the combined cost of the tax and the lack of VAT deduction on costs could make payment of VAT on sales the lesser evil.
The full version of this article was published in EY´s Indirect Tax Briefing, issue 8 (PDF, 3.28 MB)
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