As it is known, royalty is a reward that the author receives for the use of his/her works. However, tax experts in practice have many troublesome situations related to the taxation of royalty. Some nuances of this issue − in the following.
VAT
According to sub-para. 196.1.6 of para. 196.1 of Art. 196 of the Tax Code of Ukraine (hereinafter − TCU), royalty payment transactions in cash are not the subject to value added tax (hereinafter – VAT. Consequently, if payments under the contract are to be classified as royalties, then transactions for making such payments are not the subject to VAT.
If payments can not be classified as royalties, such transactions are to be the subject to VAT on general terms at a rate of 20%.
In addition, if the payments are not royalties, but transactions are recognized as transactions for the supply of software products, then in accordance with paragraph 261 of sub-sec. 2 of sec. XX of TCU in the period from 01.01.2013 to 01.01.2023 they are exempt from VAT taxation.
Income tax
According to para. 134.1 of Art. 134 of TCU, the subject to taxation of the income tax is determined by adjusting the financial result before tax (profit or loss), determined in the financial statements of the enterprise in accordance with National Accounting Standards or IFRS, on the differences that arise in accordance with the provisions of this section.
Determining of the financial result in accordance with the Accounting Standards means the need to apply all necessary provisions, including those relating to costs.
National Accounting Standards contain their definition of royalty, and for the purposes of determining the financial result, it is necessary to be guided by the definition of “royalty” given in para. 4 of Accounting Standards 15 “Revenue”, but not in the TCU. Para. 4 of Accounting Standards 15 “Revenue” in the content is practically analogous to part 1 of para. 14.1.225 of TCU, except that in para. 4 of Accounting Standards 15 “Revenue” it is used the word “Use”, and in part 1 of para. 14.1.225 of TCU − “Usage”. But at the same time para. 4 of Accounting Standards 15 “Revenue” does not contain restrictions, which are reflected in part 2 of para. 14.1.225 of TCU.
Consequently, in accordance with the norms of National Accounting Standards and for accounting purposes, a much larger number of payments are treated as royalties as compared to the provisions of the TCU.
Adjustment on difference
After taking into account the cost of royalty payment in accordance with the accounting rules and determining the financial result before taxation, the taxpayer should adjust that financial result on the difference as determined by the rules of TCU, if the terms of the relevant agreement and business transactions under such an agreement will fall within the rules of “difference”. At the same time it should be taken into account the following.
1. If the income tax payer makes payments that according to the rules of accounting, are recognized as royalty and are accordingly included in expenses, and for the purpose of taxation of the income tax, such payments are not considered royalty, the company is not obliged to form differences for adjusting the financial result before taxation of the income tax in accordance with sub-paras. 40.5.5−140.5.7 of para. 140.5 of Art. 140 of TCU.
2. If payments in accordance with the provisions of para. 14.1.225 of TCU to be recognized as royalties, then it is necessary to determine whether the economic transactions of the payer in the payment of royalties fall under the cases provided for in sub-paras. 140.5.5–140.5.7 of para. 140.5 of Art. 140 of TCU. If they fall then the financial result before taxation, determined according to Accounting Standards, should be increased by the corresponding amounts of royalty, namely:
a. according to para. 140.5.5 of TCU – on the amount of royalties in favour of a non-resident that exceeds the amount of royalty, increased by 4% of net income from the sale of products (goods, works, services) according to the financial statements for the year preceding the reporting year;
b. according to para. 140.5.6 of TCU − on the amount of royalty in favour of a non-resident that exceeds the amount of royalty, increased by 4% of net income from the sale of products (goods, works, services) according to the financial statements for the year preceding the reporting year (except business entities conducting activities in the field of television and radio broadcasting in accordance with the Law of Ukraine “On Television and Radio Broadcasting”);
c. according to para. 140.5.7 of TCU – on the amount of royalty in full, if the royalty has been accrued in favour of:
i. non-residents registered in the countries (in the territories) included in the list of the countries (territories) approved by the order of the Cabinet of Ministers of Ukraine (hereinafter − CMU) No. 977-р dated 16.09.2015;
ii. a non-resident who is not the beneficial (actual) recipient (owner) of the royalty, except when the beneficiary (the beneficial owner) has granted the right to receive royalty to other persons;
iii. a non-resident on objects, the rights of intellectual property on which were first raised in a resident of Ukraine;
iv. a non-resident who is not subject to royalty taxation in the State where he is a resident;
v. a person who pays the income tax as a part of other taxes;
vi. a legal entity that is exempted from paying the income tax in accordance with the Tax Code, or pays the tax at a rate other than that specified in para. 136.1 of Art. 136 of TCU.
Consequently, for the entire amount of royalty, it is necessary to increase the financial result before tax, if the royalty payment is in favour, for example:
- a resident of Bulgaria (Cyprus, Liechtenstein, Moldova, Montenegro and others from the list of the CMU);
- an individual − a business entity or a legal entity that pays the unified tax.
At the same time, it is not necessary to form differences and increase the financial result if:
- annual income from any activity (excluding indirect taxes), determined according to the accounting rules for the last annual reporting (tax) period, does not exceed UAH 20 million (part 3 of sub-para. 134.11of para. 134.1 of Art. 134 of TCU);
- transaction is controlled and the amount of royalty corresponds to the level of normal prices, which is substantiated in the report on controlled transactions and related documentation;
- transaction is not controlled and the amount of the royalty is confirmed by the taxpayer according to the rules of the usual prices in accordance with the procedure established by Art. 39 of TCU, but without reporting.
Repatriation tax
If the royalty is paid in favour of a non-resident, it should be taken into account the requirements of sub-para. “в” of para. 141.4 of Art. 141 of TCU. According to it, royalty is related to income received by a non-resident with a source of their origin from Ukraine.
It follows from para. 141.4.2 of TCU that in the case of royalty payment to a non-resident, the resident is required to withhold the income tax (that is, from royalty) at a rate of 15% of the amount of income and at the expense of such income and pay the tax to the budget during such payment.
If the rules of taxation during the payment of royalties to non-residents will be provided by the provisions of the international treaties of Ukraine with the countries of residence of the beneficiaries, the taxation will be in accordance with the requirements of such international agreements.
