What constitutes representation costs for a self-employed person?
Representation costs in a self-employed business and specifically their incorporation into the tax-deductible costs have kindled discussions for years. This results from a lack of any clear legal definition of representation costs. When, if at all, can these costs be deducted? What about VAT? We are organising knowledge on this topic.
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Definition of representation costs
Legislation does not provide a precise definition of representation costs; nor does it refer to other regulations in this respect. This gives rise to numerous disputes between taxpayers and tax authorities. For years, tax authorities have been regarding the costs that are lavish, grand, and intended to create a good impression as representation costs.
This situation was changed by the verdicts and rulings of the Supreme Administrative Court. On 25 January 2012, in a ruling with file ref. no. II FSK 1445/10, the Supreme Administrative Court resolved that: “The representation costs referred to in Art. 23 sec. 1 point 23 of the Personal Income Tax Act are expenses related to the representation of the taxpayer or the enterprise run by the taxpayer, regardless of their amount or the place of provision.”
In turn, in a ruling dated 17 December 2012, with file ref. no. II FSK 702/11, the Supreme Administrative Court adopted the following interpretation of the term ‘representation’.
The court took into account the dictionary definition of the term ‘representation’ and explained that, “according to the widely shared opinion of the tax law doctrine, representation is defined as ‘acting on behalf of a taxpayer (company), associated with grandeur, refinement, in order to create the best impression when representing the company. Representation means primarily activities that relate to official and commercial contacts with other business entities that are associated in particular with hospitality related to delegations or contractors, or participation in receptions related to the hosting of these entities”.
When can representation costs be tax-deductible costs?
When determining the nature of the costs, you need to be very precise about their objective. These costs will be representation costs if their main objective is concerned with the creation of a positive image and good reputation of the business conducted. Therefore, these may be activities targeted at business partners or an external environment that will result in a contract or agreement being signed or satisfactory cooperation being entered into. The nature of these is influenced by the situation in which the costs were incurred, as well as the type of your business activity.
For example, a meeting with a client or business partner in a restaurant contributes to building relationships and making a good impression, and so is a representation cost that you can include in tax-deductible costs.
Representation or advertising?
Pursuant to the Broadcasting Act, “advertising is a commercial message originating from a public or private entity in connection with its business or professional activity, aimed at promoting the sale or saleable use of goods or services; advertising also includes self-promotion”. In practice, advertising means the wide dissemination of information about a product, service, brand, or company, which is supposed to emphasise the benefits and encourage different groups of recipients to make a purchase. There are countless forms of advertising and advertising expenses can be classified as costs, as these serve the purpose of obtaining sources of income. You can classify some expenses depending on your needs. For example, flowers that decorate an office or a winter garden can be an advertisement, but when regarded as décor for a well-maintained company headquarters, they can also be classified as representation costs in tax-deductible costs.
What about gifts for customers?
If the gift contains your company logo, it will be a normal advertising cost and you can deduct it as a tax-deductible cost and deduct VAT. Otherwise, it will be the representation cost, which cannot be included in the costs. This is the conclusion of the tax interpretation of the Director of the Tax Chamber in Bydgoszcz, file ref. no. ITPB3/423-406/10/PS, of 21 October 2010: “Gadgets provided free of charge during business meetings, if they bear a permanent Company logo and their unit value is relatively low, will not be held to be representation as referred to in Art. 16 section 1 point 28 of the Act and, consequently, the expenses relating to such gadgets will also constitute tax-deductible costs pursuant to Art. 15 section 1 of the Income Tax Act.”
For example, if you run an advertising agency and produce home-made liqueurs at the same time, and you put your company’s logo on the label, you can gift it to the client and deduct it as a tax-deductible cost. Otherwise, the alcohol with the logo will be a gift that will be a nondeductible representation cost.
You can deduct VAT
Pursuant to Art. 23 section 1 point 23 of the Personal Income Tax Act, representation costs may not constitute a tax cost, but you can deduct VAT in this situation, as stated in Art. 16 section 1 of the Corporate Income Tax Act. This is confirmed by the individual interpretation issued by the Director of the Tax Chamber in Łódź of 6 March 2012, file ref. no. IPTPB3/423-319/11-2/GG: “Representation costs are not a tax-deductible cost, but the input tax on goods and services is a tax cost in that part in which, according to the provisions on value-added tax, the taxpayer is not entitled to a reduction in the amount or a refund of the difference in tax on goods and services.” The exception relates to the cost of accommodation and catering services, where you cannot deduct VAT (Article 88 (1) (4) of the VAT Act).
It should be stressed that in the event of any doubts or disputes, you can always submit a request to the appropriate tax administration authority for an individual interpretation of any given case.