Benefits of Latvian corporate income tax

Introduction

The corporate income tax in Latvia is only payable upon the distribution of profits. As long as a Latvian company retains its earnings, a 0% tax rate applies. The tax is calculated using the 20%/80% rule, where the net amount is multiplied by this ratio to determine the payable tax.

A significant advantage of this new tax structure is the ability to delay tax payments. It allows companies to reinvest profits into their operations, investment vehicles, or simply hold onto the cash. Deferring the tax payment benefits the company through the time value of money.

Shareholders

Local individual shareholders benefit more from the new tax system since they no longer pay a dividend tax. The new tax rate is 20% on gross dividends, an improvement over the previous 15% corporate income tax and 10% personal income tax. Additionally, Latvian tax residents do not pay taxes on dividends received from foreign countries, making Latvia an attractive destination for saving on taxes from overseas profits.

For foreign individual shareholders with investments in Latvian companies, it is advisable to reassess their investments. Distributed profits will incur Latvian tax, which may not be credited against the dividend tax in their home countries. Potential solutions include:

1. Changing tax residence to Latvia to avoid dividend tax.
2. Establishing a holding company between the Latvian operating company and themselves.
3. Replacing some equity financing with loan financing.

For foreign legal entities, the increase in tax rate from 15% to 20% is balanced by the time value of the postponed tax payment, resulting in a neutral long-term impact. However, manufacturing companies might lose current tax reliefs related to new equipment acquisition.

Financing

Latvian law allows companies to be financed through loans (subject to thin capitalization rules), but restricts cash withdrawals from the company via loans.

Holding Company

A Latvian company has the following benefits as a holding company:

1. The sale of shares is tax-exempt if the Latvian company has held them for 3 years.
2. Flow-through dividends are tax-exempt.