Foreign companies doing business in Slovakia must meet substance requirements or risk losing their local VAT registration – which impacts not just them but also customers and business partners.
Slovakia is well known for being a pro-export market that is very open to foreign investment. However when set up incorrectly, the branches used by foreign companies to do business in the country can cause major headaches.
There are around three thousand branches in Slovakia – with tens of thousands of business partners – and they carry out transactions in the hundreds of millions of Euros per year. However VAT deductions on these transactions are jeopardised for both the branch and business partner if the branch cannot sufficiently prove that its place of business is Slovakia, as the national tax authority will withdraw the branch's VAT registration.
What are the consequences of VAT registration withdrawal?
In one case, the customer of a company supplying medical technologies and materials is now exposed to a VAT surcharge of almost €1 million.
A pharmaceutical company left Slovakia completely after being unable to register its branch for VAT, deciding to conduct its clinical studies elsewhere.
The importance of proving local substance
The Slovakian tax authority will not recognise a VAT registration unless the branch can prove that its place of business is Slovakia. Factors taken into account to verify this include whether the company has employees, offices or decision-makers in the country. If this is not the case, the tax authority can withdraw the VAT registration.
This scenario leaves business partners in an uncertain position, as they are legally responsible for ensuring that the invoices they receive comply with all tax requirements.
Additionally, the business partner will not be able to claim a VAT deduction. And it can significantly affect mutual business relations and delay deliveries, as the branch has no ‘certainty' about how to invoice correctly from a VAT perspective.
Avoiding the headache
Setting up your branch and VAT registration correctly from the start of business dealings in Slovakia will ensure you are fully compliant with all relevant legislation. Foreign companies should prepare a tax analysis of the activities that the Slovakian branch will perform, from the point of view of both corporate income tax and VAT.
There are only two ways in which branches in Slovakia should be registered for VAT. A foreign person may have a VAT registration as a domestic payer, or as a foreign payer.
VAT registration as a domestic payer applies to a branch that meets the conditions of establishment. Registration can take 30 days – or as long as several months. Registering as a foreign payer is much faster: within seven days.
The main difference between the two registrations comes down to invoicing. For service types such as consulting, legal, accounting, payroll and marketing, a foreign payer must invoice according to a certain regime with the transfer of tax liability to the founder.
If the aforementioned services are invoiced with Slovak VAT and the branch applies the VAT deduction (eg. for legal services), there is a risk that said tax deduction will not be recognised by the tax authority if the branch is subject to an inspection.
In most cases, such a registration does not qualify for input VAT through proper VAT returns, but the payer can claim input VAT through a VAT refund in the country of the founder. However, this significantly affects cash flow and increases costs.
Originally published by TMF, July 2020
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.