Hidden profits, what they are and what is not considered hidden profit

May 15, 2024

The concept of hidden profits is intended by the legislator to serve as a safeguard against abuses that could result in tax avoidance. As mentioned earlier, Estonian CIT allows for the non-payment of income tax for several years, enabling reinvestment of profits and improving financial liquidity. Still, on the other hand, it may pose risks of abuse. To counteract this, the legislator has introduced the obligation to pay income tax in the event of obtaining income, including hidden profits.

What are hidden profits?

The legislator has introduced a legal definition of the concept of hidden profits. These are all benefits realized in connection with the right to share in profits, where the beneficiary is directly or indirectly a shareholder, partner, or shareholder associated with them, or a related entity.

Hidden profits: examples

Therefore, hidden profits refer to transactions entered into between the taxpayer and individuals who have (direct or indirect) rights to the taxpayer’s profits. The legislator then provides an illustrative list of hidden profits, including:

• Loans granted to a shareholder, shareholder, or partner or a related entity, and interest, commissions, and fees from loans granted by these entities to the taxpayer,
• Benefits provided to a family foundation or its beneficiaries,
• Surplus of the refunded subsidy amount,
• Equivalent of profit earmarked for increasing share capital,
• Donations, including gifts and contributions of all kinds.

At the same time, it should be noted that this is only an illustrative list. Therefore, there is no closed catalogue of hidden profits, as a result of which the taxpayer is obligated to conduct a thorough examination of transactions with their shareholders (shareholders, partners) each time.

What is not a hidden profit?

The legislator defines only a closed catalogue of cases that do not constitute hidden profits:

• Remuneration, including from employment, and service contracts, to the extent that they do not exceed five times the average monthly salary in the business sector,
• Expenses and depreciation allowances related to the use of passenger cars, for asset components that are not used solely for business purposes, 50% of expenses and allowances will not be considered hidden profit,
• The amount of the loan capital returned to the shareholder, shareholder, or partner or a related entity.

In the case of payments to related entities made by a taxpayer using Estonian CIT taxation, it is recommended to conduct a thorough analysis for the existence of hidden profits.

Tags Estonian CIT, Estoński CIT, hidden profits, ukryte zyski