From now on, there will be only one rate for micro-enterprise tax — 25%. This is one of the steps to eliminate the special tax regime for copyright royalties.

Small entrepreneurs who have chosen this regime have eliminated several questions they were facing before. Starting from this year, a unified tax rate has been introduced. It will be 25% regardless of the turnover amount. Previously, a 40% rate was applied to income exceeding 25 thousand. The life of micro-enterprise taxpayers has been made a bit easier, says Astra Kaļāne, the director of the Direct Tax Department at the Ministry of Finance.

About a year ago, the method of paying micro-enterprise tax was also simplified. Now, all income can be credited to a special commercial activity income account (in Latvian – SDI account), and calculations and tax payments may be forgotten. The bank, in collaboration with the State Revenue Service, handles everything on behalf of the client.

However, only one bank has responded to the Ministry of Finance's call to introduce such a service so far. The use of the commercial activity income account has not yet become popular. Out of nearly 10 thousand micro-enterprise taxpayers, only 270 have opened it so far. The situation may change when the special tax regime for copyright royalties is abolished. These amendments to the personal income tax law were adopted at the end of 2020, but the implementation was repeatedly postponed — now until the end of this year. The number of copyright royalty recipients has reached 30 thousand.

Beneficial if there are no expenses

Micro-enterprise tax was introduced in 2010 to mitigate the impact of the economic crisis and facilitate engagement in entrepreneurship. The initial tax rate was only 9% of the annual turnover, and the owner could employ up to five people, including themselves, without paying income taxes, recalls Inguna Leibus, a professor at the Latvian University of Life Sciences and Technologies.

Some entrepreneurs used it as an opportunity to reduce tax payments, and larger companies artificially divided into smaller ones. Thus, in 2016, more than 10% of employees were involved in micro-enterprises. "It was not a normal situation because tax payments were very small, and social security was negligible," says Leibus.

To address this, the tax rate was gradually increased, and conditions for employing other individuals were also changed. As a result, the number of taxpayers choosing this regime gradually decreased.

The micro-enterprise tax regime is beneficial if the small entrepreneur's expenses do not exceed 30%, explains Leibus. Mostly, these are people working in the service sector — photographers, recording and video service providers, lecturers, and watchmakers. Currently, almost 10 thousand people use this regime. In 2022, the total turnover of micro-enterprise taxpayers was 82 million euros, and 21 million euros were paid in taxes. In the last three quarters of the previous year, the turnover was 61 million euros, from which approximately 15 million euros were paid in taxes. Data for the last quarter is not available yet.

Only one bank

In recent years, micro-enterprise taxpayers have been subject to a differentiated tax rate: 25% for annual turnover up to 25 thousand, and 40% for the amount exceeding this threshold. However, the increased rate in 2022 applied only to about 4% of taxpayers, or approximately 370 individuals. "It's not much," evaluates Kaļāne. Of course, in monetary terms, changes mean a loss of income for the state budget. "However, we believe that simplicity is very important and will bring those who have not paid taxes so far out of the shadows," says Kaļāne.

The Finance Ministry also hopes that this step will encourage banks to offer economic activity accounts to their clients. The main idea is that the small entrepreneur credits all income to this account, and the bank, in collaboration with the State Revenue Service, calculates the tax amount, which is then transferred to the State Treasury. The client does not need to calculate how much money is needed to pay taxes. A similar practice is also in place in Estonia.

The only bank that has responded so far is Industra Bank. "We prepared a proposal for the commercial activity income account for quite some time and were very hopeful that banks with many clients would respond. Unfortunately, they did not choose this model," says Kaļāne.

Swedbank representative Jānis Krops explains that the commercial activity income account is not planned to be introduced so far. There are three main reasons for this — the potential client base is relatively small; the development process would extend the deadline for other digital service projects that aim to improve the daily lives of several hundred thousand customers; micro-enterprise tax payments have been relatively easy to administer until now.
SEB Bank expresses a similar rationale. Meanwhile, Citadele and Luminor might consider introducing the service if there is greater interest from clients.

Inconveniences eliminated

The implementation of the project took a lot of time and significant investment, admits Ieva Zauere, Head of Marketing and Communication at Industra Bank. "But we chose to do it not because it is a good business project. It is rather a tribute to small entrepreneurs. We want to show that we see and hear their needs." For now, a smaller number of clients than expected have chosen the new solution. She suggests that now, with the introduction of a unified tax rate, the offer may be more interesting to small entrepreneurs.

The bank reserves the potential tax amount immediately upon receipt of money into the account. As it was not known before contacting the State Revenue Service whether the turnover had already reached the 25 thousand euros threshold, 40% of the amount was automatically frozen. In case there was no excess, the remaining amount was made available again. Now such actions are no longer necessary.

Opening an economic activity income account at Industra Bank does not require much time or money. The client just needs to have a face-to-face or remote meeting and fill out an application. The account opening fee is 15 euros. Existing micro-tax payers should remember that the service can only be used from the next quarter, warns the bank's customer service specialist Māris Supe.

Why to abolish the regime?

It is possible that demand for the new banking service could increase next year when changes are planned to the tax calculation for copyright royalties. This means that representatives of creative professions will have to register economic activity and choose one of the tax payment regimes. Since most of them do not incur significant expenses, making it worthwhile to issue invoices and organize accounting, the micro-enterprise taxpayer regime could be the most suitable. "We understand the differences of artists and cultural people. Taxes are not what interests them," says Kaļāne.

So why abolish the copyright royalty’s regime? Currently, approximately 30 thousand residents in Latvia receive compensation in this format. This leads the Ministry of Finance to think that this regime is used not only for the payment of author's work. Doubts also arise about expenses incurred in areas such as sports and waste management. "Theoretically, it can be if, for example, a brand or advertisement is developed," says Kaļāne. However, the payment should be unique.

Leibus objects that this is not a sufficient argument. "We have copyright law. I don't see a problem why the State Revenue Service cannot check what copyright royalties are paid for." The Ministry of Finance, on the other hand, points out that the State Revenue Service lacks resources to assess whether misconduct has occurred.

The micro-enterprise tax has also been made more attractive in the sense that a person who also works with a salaried job can receive allowances for dependents and the differentiated non-taxable minimum from this year. Previously, this was not possible. Dissatisfaction with this system was expressed, for example, by photographers for whom photography is only an occasional side income a few times a year. By choosing the micro-enterprise tax regime, they lost allowances for work salary throughout the year. "We have heard about this problem," says Kaļāne.

For reference

Indirectly, changes related to the minimum threshold for becoming a VAT payer also affect micro-enterprise taxpayers. It has been raised from 40 thousand euros to 50 thousand euros. The law states that a micro-enterprise taxpayer cannot simultaneously be a VAT payer. This means that when turnover reaches this amount within 12 months, the type of economic activity must be changed.

Experience

Proof-reader, editor, and writer Gunita Lagzdiņa-Skroderēna has heard about the possibility of entrusting all numerical matters to the bank but has not explored it in detail. She became self-employed three years ago when she lost her salaried job. She chose the micro-enterprise tax regime because the accountant recommended it as the most suitable for her profession during small business organization courses for the unemployed. She also found it simpler and more understandable than other alternatives.

"As I am strong in 'you' with numbers, everything related to accounting seems difficult to me. However, in this regime, mathematics is relatively easy. What I need as a micro-enterprise taxpayer, I have learned on my own. The State Revenue Service's electronic data submission system, where reports must be submitted, is understandable," she explains. The most challenging part is remembering to submit them on time. An economic activity account would allow her not to think about it.

However, Gunita does not consider this a sufficient argument for change. She believes that first of all, time should be devoted to informing all collaborators, employers, and clients about the changes. Secondly, previous experience shows that changing accounts causes problems. "When I created a separate account for economic activities, there were occasional mix-ups because some clients and collaborators counted money on the private account out of habit."