Tax-deductible and not tax-deductible
We accountants often use the expressions “tax-deductible” and “non-deductible”. Sometimes “tax-free” and “taxable” as well. But what do these words really mean?
Deductible and non-deductible costs
Let’s start at the beginning: every year a company pays income tax on its taxable profit. Exactly how the tax is calculated varies between different company types, but it’s always based on the taxable profit.
So what do we mean by “taxable profit”? Well, we start with the pre-tax book profit – that’s the profit you find in the company’s profit and loss statement, simply put revenue minus costs. The costs in your accounts are mostly deductible, but some are actually non-deductible. This means that, even if it’s a cost that decreases the company’s profit, it doesn’t decrease the company’s income tax.
Non-deductible costs can be e.g. representation/entertainment, penalty fees from Skatteverket/Bolagsverket or asset write-downs.
So to arrive at taxable profit, we take book profit and add back the non-deductible costs.
Taxable and tax-free revenue
There is also revenue that is not taxable, and this we have to deduct when we calculate the taxable profit. Examples of tax-free revenue are dividends and capital gains from unlisted companies (näringsbetingade andelar) and interest income from the tax account at Skatteverket.
But sometimes we also talk about deductible and non-deductible VAT, what’s that all about? VAT (value-added tax) is a bit different from revenue and costs. I’m assuming you know what VAT (or sales tax) is, but maybe not exactly how it works.
VAT – the basics
If you run a business that is subject to VAT (which most companies do) you add VAT when you sell something. This VAT is called “output VAT” (utgående moms) and this is money you eventually pay to Skatteverket.
And vice versa, when you buy goods or services from others you often pay VAT on these purchases. This VAT is called “input VAT” (ingående moms) and you eventually get this money back from Skatteverket, assuming your business is subject to VAT.
In practice you report output and input VAT in the same VAT return, and the net amount is paid/received to/from Skatteverket.
So what is then non-deductible VAT? Well, it may be that your business is not subject to VAT, e.g. if you’re a dentist, an insurance company, a bank, a holding company etc. Then you don’t add VAT when you sell something, but you don’t get to claim back the VAT on stuff you buy. Input VAT instead becomes a cost in your P&L statement.
Even if you are subject to VAT, some input VAT can be non-deductible. It could e.g. be when representing and only a certain amount is deductible, or if you purchase something but the receipt or the invoice doesn’t fulfill the legal VAT requirements. Here your input VAT becomes a cost as well.
Taxable and tax-free benefits
Benefits – the basics
Another area where the terms “taxable” and “tax-free” are commonly used is for benefits to employees (or owners). A taxable benefit is a benefit on which you pay income tax, while on a tax-free benefit you obviously don’t pay income tax – no surprises there.
When a benefit is taxable it’s included as income in the recipient’s income tax return and the employer pays social fees on the benefit amount. When the benefit is tax-free, neither income tax nor social fees are paid.
A taxable benefit is usually tax-deductible for the company, both the cost for the benefit and the social fees. However, VAT on the cost for the benefit is usually not deductible as VAT, only as a cost. For market-valued benefits the bottom-line effect is usually the same as paying extra salary to the employee. There is limited (or no) upside for market-valued benefits, in other words.
Even some tax-free benefits are tax-deductible for the company, both the cost for the benefit and the social fees. And you normally get the VAT back from Skatteverket. Common examples of tax-free benefits are coffee and snacks in the workplace, gym memberships, office massage etc. Tax-free and tax-deductible benefits are the most “beneficial” benefits for both parties.
Finally there are tax-free benefits that are non-deductible for the company, although nowadays this is rare. The most common example was when the employer pays for private health care or a private health care insurance, which until June 2018 was a tax-free benefit with no tax consequence for the recipient, no social fees for the employer, but a non-deductible cost for the employer. However, from July 2018 this is considered a taxable benefit just like any other taxable benefit, see above.
Non-deductible costs in aktiebolags
In limited liability companies (aktiebolag) and most other legal entities (handelsbolag excluded), the company’s taxable profit is not decreased by non-deductible costs. You can say that you’re paying with the company’s after-tax profits. But a non-deductible cost in the company is still more beneficial for the owner than taking the cost privately, assuming it’s not a taxable benefit. To transform the company’s pre-tax profit to after-tax income for the owner, costs in taxes from 37,6% (with dividends) up to 70% (with salary at the top margin tax and social fees). While a non-deductible cost in the company “costs” only 22% in corporate tax. This principle can be a bit hard to grasp, I know.
Non-deductible costs in enskilda firmor
So how about sole traders (enskil firma)? This is actually quite different – since the company profit is taxed directly by the owner, a non-deductible cost in the company is exactly the same thing as paying with private money. Good to know if you e.g. treat clients with an expensive dinner.
So that’s a primer on the terms deductible, non-deductible, taxable and tax-free. If you have questions, please leave a comment.
I have bought a container of merchandise and I have paid all taxes and duties including VAT , and I have deductable TVA .
but the merchandise was damaged , what is the treatement of the deductable VAT ?
In general, I’d say that if you get a credit note from the seller for the damaged merchandise, that VAT should be handled the same way as with the original invoice. If you don’t get a credit note, but just write down the value of your inventory, there’s no VAT on this write-down. It would be the same as when you’d adjust the value of your inventory at the end of each year.
That is what I would say as a general answer, but it’s hard to say for sure without more information.
Great and helpful overview!
I had a question regarding VAT and invoicing across borders in EU that would be keen to hear your thoughts on.
If a Swedish based aktiebolag invoiced a Maltese company for consulting services rendered, there is no VAT associated with that invoice that needs to be paid by either party?
Exactly. Well, sort of. For your purposes, the answer is yes. 🙂
But to give a more generic answer for anyone else who wonders about this: When a company in one EU country invoices a VAT registered client in another EU country for services, the “main rule” is that you apply reverse charge VAT. The main rule is used for e.g. most digital and consulting services to company buyers. In reality, the definition of the buyer is a bit more complicated than just “VAT registered”, and there is a long list of various services and whether the main rule applies or not. But what I said above probably covers 99% of the cases for consultants.
So what is the reverse charge mechanism? You simply add the client’s VAT number to the invoice and you don’t add Swedish VAT (or wherever your company is based). You should also note on the invoice that reverse charge applies – there are various phrasings for this that you can look up on the web.
The client on their side declares Maltese VAT (or wherever they are based) on this purchase in their VAT return, but usually gets to claim it right back, creating a zero-sum game. I.e. the same net effect as if they had bought the services locally and claimed the VAT. So the “reverse charge” refers to the buyer handling the VAT instead of the seller.
So what’s the point of this? Well, the alternative would be to add Swedish VAT, which your Maltese client would have to claim back from the Swedish tax authorities, which is costly and time-consuming.
And why even declaring it on the buyer’s side, with the zero-sum game? Well, let’s say your client is e.g. a bank, which (at least by Swedish regulations) usually isn’t VAT registered. They would add the local VAT in their VAT return but then not get to claim it back. Basically meaning they’d have the same total cost as if they had bought the service locally.
My employees do not like cofee, they like beer. Is beer tax free and tax deductible or there are some limitations?
Unfortunately not, at least not the same way as with coffee. The rules regulating tax-free refreshments to staff say that it has to be a “simple” form of refreshment (“enklare förtäring”), such as “coffee, tea, alcohol-free drinks, fruit, buns or small sandwiches, that cannot be considered a full meal.” (my translation) See Skatteverket’s page (in Swedish).
So what happens if a company holds an “after work” for its staff? Well, it’s not really explicitly stated in the law, and Skatteverket hasn’t been too clear about it either. But we do know that companies can have staff parties without tax consequences for their staff, so I guess an after work could qualify as a staff party.
However, you can’t do this too often, or it would be considered a taxable benefit for the staff. And what is “too often”? That’s not explicitly stated as far as I know, but my guess is that weekly would definitely be too often. While once a quarter would probably not be a problem.
Not that they do talk about a maximum of two staff parties per year, but this is from a deducting costs and VAT point of view, and doesn’t concern possible tax consequences for the staff. So it’s quite possible to have more than two staff parties per year without the staff being taxed.
I won’t go into the rules for the company’s tax-deductibility for costs and/or VAT, since these rules are complicated. And the main concern is usually that you don’t want staff members to be taxed.