Did Andrej Kiska really commit a crime as the managing director of KTAG? Tax – legal analysis

Determining whether a particular tax optimisation is legal or can be sanctioned as an administrative offence or even as a criminal offence is not easy.

Mato is “employed” full time in the company as a freelancer. He works exclusively in the premises of this company, on the basis of instructions from the managing director of this company, he uses a computer, printer, utensils,… He participates in company team-building, has relatively fixed working hours and is entitled to 25 days of paid vacation. While at home and among his colleagues Mato calls the managing director of this firm his boss, on Mato’s invoice this boss acts as a client. Is this OK (tax optimisation)? Or is it fine (aggressive tax optimization)? Or is it even a criminal offence (tax and insurance fraud)?

At first glance, these questions seem completely irrelevant. After all, so many companies and freelancers in Slovakia do it this way. Even the journalist who asked me about the moral side of the Panama Papers. However, the Labour Code orders Mata to carry out such activities in an employment relationship. However, since employment means a lot of taxes and even more levies, after a miscalculation, Mato and the managing director of this company agree that Mato will invoice the company through his newly established trade. So the agreement between Mato and his boss (the client) is – €2,000 gross salary will be exchanged for €2,000 on the invoice. The company will save EUR 700 per month and Mato will be able to net almost EUR 400 more. And if he thinks about it, he can get the maximum maternity allowance even with this setup. Win-win.

Simplifying, the law commands Mata to enter into an employment-only relationship with the company. The modality of this legal norm allows us to subject it to conversion without affecting its meaning. Thus, in other words, the law prohibits Mato from entering into a commercial contract with the firm. However, in order to pay less in taxes and levies, Mato and the firm choose not to respect the law. In this regard, the Criminal Law states: “Whoever shortchanges tax, social insurance contributions, public health insurance contributions or contributions to old-age pension savings to a small extent shall be punished by imprisonment for one to five years.”

The comparison with classic VAT fraud is interesting. In these cases, the VAT Act states that the entrepreneur cannot claim a VAT deduction if, among other things/examples, there has been no actual supply of goods or services. However, well-known players in major VAT scandals with fictitious supplies have claimed VAT deductions (and thus, for example, paid less in taxes, just like Mato), even though the law forbids them to do so (just as Mato is forbidden by law to enter into a commercial contract). Taking into account only the fulfilment of the formal elements of the specific offence and abstracting from the material aspect (i.e. the degree of seriousness – the ultima ratio principle), are Mato’s actions and those of the company’s managing director in order (tax optimisation)? If it is not okay, do they face only a fine for such conduct (aggressive tax optimization) or does it really fulfill the objective aspect of the crime (tax and insurance premium evasion)?

This is not a binary world

If you’ve thought about this question more deeply, you’ve probably figured out that this is not a binary world. Denis Healey, former UK Chancellor of the Exchequer, likened the difference between aggressive tax optimisation (a penalty) and tax short-cutting (a criminal sanction) to the thickness of a prison wall. While this statement does nothing to help identify what is, what is not, or how much is not allowed, it completes the picture for the layman of the fragility of firm foundations on this subject. I always help myself in explaining it with this image:

Adjacent sets do not have only one join point intentionally. This is because in practice there are frequent cases where it is simply not possible to reliably assign a business situation to a particular set. In particular, cases where it is not clear whether the tax offence in question also fulfils the elements of a criminal offence represent a very unpleasant area of legal uncertainty. Yet the difference between a written notice from the tax administrator and a nightly battering ram from the NAKA is experientially quite significant.

It is not easy to classify substantively whether a particular tax optimisation is legal or can be sanctioned as an administrative offence or even as a criminal offence. This is not a question for an accountant. The accountant will correctly book Mato’s invoice because it meets the requirements of an accounting document. Nor is it a question for the tax adviser. The latter, in turn, has the task of correctly calculating which form of cooperation (employment relationship vs. commercial contract) is more advantageous for both parties in excel. And it is not even a question for the criminal lawyer. “That would put everyone in jail” was the practical answer from one respected criminal lawyer.

Based on my experience, I am convinced that only a lawyer who has a detailed knowledge of taxes, is familiar with the basics of accounting, and has some knowledge of legal theory and constitutional law can competently classify economic situations into particular sets. Last but not least, he must also have business experience. The life of an entrepreneur is not black and white, and without this knowledge a lawyer cannot grasp this issue in all its complexity.

KTAG and the presidential campaign

I only know about the KTAG case from the media. It is subject to tax secrecy :). However, based on information from Andrej Kiska’s background and media information, I understand that:

• KTAG paid for Andrej Kiska’s entire presidential campaign, both the official and unofficial parts of it;
• KTAG has claimed a VAT deduction on these costs; and
• KTAG accounted for these costs as tax expenses for income tax purposes.

I have seen two types of defensive argument against the claim that KTAG wrongfully wanted to cut its income tax and save on VAT. While in 2017 , according to published information from an anonymous person, the defence was likely to emphasise the lack of intent on the part of the Statutory Officers to account for campaign-related receipts in this way (” Defence no. 1″ ), in 2019 Andrej Kiska for a change talked about the intention to book them, but in good faith that they are deductible for VAT as well as income tax purposes (“Defence no. 2″ ). Ak by sa Radoslav Procházka oprel o Obranu č. 2 a podnikal rovnako ako KTAG (Procházka tiež vydával knihy a prednášal), možno by nemusel riešiť „pol na pol“ s Igorom Matovičom.

Was KTAG’s procedure in order? If not, should KTAG only be fined or should the directors be criminally sanctioned?

Principles of criminal law

The legal qualification of whether or not something is a crime depends on the degree of seriousness of the anti-social act in question. In general, in a state governed by the rule of law, the criminal law only comes into play in cases(principle of subsidiarity of criminal law) where sufficient protection of the legal relationship (i.e. whether the KTAG pays the statutory tax to the State) cannot be achieved by other means (e.g. by imposing a fine for a tax offence). According to this principle, criminal law should in no case interfere excessively in the life of society and individuals and should not substitute for other branches of law (in this case tax law) which are primarily intended by the legislator to protect social interests (in this case, the fair collection of taxes). It follows that, in general, it is possible to consider tax cases in a criminal context only in the most extreme cases.

Since the means of protection of social relations employed by criminal law represent the most intense interference with human integrity, legal theory naturally places high demands on the quality of criminal law norms. If we were to draft the abstract facts of the criminal law in this way: ‘Whoever fails to pay a fair tax shall be punished by imprisonment for one to five years‘, this would be in direct contravention of Article 1 of our Constitution (the principle of legal certainty). What is a fair tax? Who defines it? The facts of offences must be clearly defined, cannot be vague and allow for arbitrary interpretation. Otherwise, the State could punish the perpetrators of unlawful acts more than necessary, arbitrarily and in cases where such a sanction is not even necessary for the protection of the interests of society as a whole.

In criminal law, the principle of accessoriality also applies. Its essence lies in the fact that the criminal law treatment of an unlawful act (e.g. a tax offence) is linked to the existence of a less serious offence under which the same unlawful act can be subordinated (e.g. fined for a tax offence under the Tax Code). Thus, in order to impose a criminal dimension on the conduct of the directors of KTAG, that conduct must first satisfy the elements of a tax offence in administrative law (and thus not only criminal law).

Are these tax deductible costs?

For the purposes of this blog, I will only analyze the arguments used in Defense No. 2. Similarly, for the purposes of this blog, I will use the simplified concept of tax deductible/non-deductible in relation to both income taxes and VAT. Further, in this blog, I do not address the issue of the in-kind income that Andrej Kiska would have incurred if KTAG had paid for the entire presidential campaign. Such income is subject to full employee social security and health care taxes.

Without going too technically into the tax postulates now, both for income tax and VAT, expenses are not tax deductible if they are personal expenses. Andrej Kiska argued that these expenses were perceived in good faith as expenses for the presentation of his person, which was to have an impact on KTAG’s taxable income in the future. However, the opposite reasoning, which is also used by the tax administration, may consider the campaign expenditure to be similar to a dental procedure. These expenses are not tax deductible, even though smiling with all your teeth can realistically help an entrepreneur’s business. In fact, the Income Tax Act Commentaries speak of substantial connection as an obligation to directly relate the expenditure to the taxpayer’s earned income. Very similar principles apply to VAT.

Tax law also knows something called apportionment. If I, as a businessman, buy a service and use it for a purpose other than my business, only the portion attributable to the business is tax deductible. Obviously, presidential campaign expenses are not per se business related. However, in the context of the activities of KTAG and the person of Andrej Kiska, they are related, but only secondarily. There can be no doubt that if the primary purpose of these expenditures were to present Andrej Kiska as a person to promote the sale of his speeches, the campaign would be at least to a minimal extent (at least to the smallest logical atom of an extent) tailored to that purpose. Because it was tailored fully to the purpose of the presidential campaign, the private purpose element of the use of KTAG funds cannot objectively be eliminated entirely. Therefore, I think that if these expenses can be considered tax deductible (because by doing so KTAG is advertising to the main sales face and the tax authorities do not consider it to be a “dental examination”), KTAG should have proceeded proportionately and, for example, claimed a VAT deduction for only part of those expenses. However, if Andrej Kiska paid the official part of it with private money, the debate would only be about whether the ratio (KTAG vs Andrej Kiska) is appropriate. And that’s just about the controversy of whether or not it’s a tax expense, , which is beyond any potential to fulfill the objective aspect of the crime of tax and insurance evasion.

Is that a criminal offence?

In my practice as a tax lawyer, I not only encounter demands for better and more efficient setup of business in terms of taxes and levies or technical assessment of specific tax situations, but more and more often I see the need of entrepreneurs to obtain greater legal convenience. This is achieved, for example, by trying to analyse our clients’ current economic case, structure or planned move from a tax-law perspective in order to identify whether or not their actions are unlawful. It is particularly challenging, however, to be able to reliably draw a line beyond which a business’s conduct is in dangerous criminal waters.

In the Czech Republic, there is a Supreme Court decision in which the court found guilty of the crime of tax evasion a person who included in his tax expenses expenses that actually served the needs of a political party. Although at first sight this case may appear to be analogous to the KTAG case, this is not entirely the case.

In general, tax optimisation is only exceptionally punishable by criminal law. The tax administrator and later the court could find for KTAG, but equally they could not. If he did not find in favour of KTAG, would that mean that the directors of KTAG could be prosecuted? The theory is that in relation to the tax laws, it is only acting contra legem (contrary to the law) and not in fraudem legis (circumventing the law) that is criminal. Can the actions of the directors of KTAG be considered to be technically in accordance with the law, but with the aim of achieving a state of affairs not foreseen by the tax law and which is undesirable? This reasoning would make sense, for example, in a situation where there was an apparent disparity between the cost of a campaign and the change in taxable income potential as a result of such a campaign.

If KTAG paid Andrej Kiska’s entire campaign and considered the costs tax deductible, this is clearly an act of contra legem. Tax evasion is a deliberate criminal offence. The culpability of KTAG’s managing director in the form of intent must relate to all the facts that are elements of the offence of tax evasion. If the managing director of KTAG misjudged whether the costs in question were tax deductible, and at the same time the wording of the provisions in question could be said to be vague or unintelligible, the managing director may have been mistaken as to the meaning of the provisions in question. In this case, it would be a mistake of fact and not of law, and here the law excludes criminal liability. KTAG’s Managing Director could be in such error if it were to be found that the law was unclear in its obligation to apportion costs between business and private costs. This is not the case, however, as the law is sufficiently explicit on this issue. If Andrej Kiska had paid the official part of the campaign costs with private money, only this would be the case, since the law is not explicit about what proportion to use.

Equally important in this context is whether there is any case law from the courts that would suggest criminal consequences for the actions of Mato and company or potentially KTAG. If there is no such thing, and in practice similar cases have already been resolved without criminal consequences, I cannot quite imagine that in the rule of law it would be described as constitutionally comfortable for the courts to adopt a practice that would suddenly introduce an entirely new practice in a context of such extreme significance in terms of its consequences.

I mentioned above that the rule of law places a high value on the quality of the criminal law (the need for clarity and intelligibility). If the facts of the offence of tax and premium evasion speak only of (some) evasion in the hypothesis, it is questionable whether this also includes a blanket treatment of all costs as tax deductible. A constitutionally comfortable state of the law is one in which the line between what is criminal and what is not criminal is set by the legislature and is established in a comprehensible manner. The role of the courts is then only to determine whether that line has been crossed, not to determine where that line lies. Furthermore, the interpretation of the concept of Shortening must be restrictive.

Thus, if I were to determine where a KTAG case is situated in light of the above, I would distinguish the following four situations:

• KTAG funded the entire campaign, and the cost of the campaign was clearly disproportionate to the revenue potential of KTAG’s lecture and publishing activities, which benefit from the name of Andrej Kiska (“KTAG 1”);
• KTAG funded the entire campaign, and the cost of the campaign was proportional to the revenue potential of KTAG’s speaking and publishing activities, which benefit from the name of Andrej Kiska (“KTAG 2”);
• KTAG funded only part of the campaign, and the cost of the campaign was clearly disproportionate to the revenue potential of KTAG’s lecturing and publishing activities, which benefit from the name of Andrej Kiska (“KTAG 3”);
• KTAG funded only a portion of the campaign, and the cost of the campaign was proportional to the revenue potential of KTAG’s speaking and publishing activities, which benefit from the name of Andrej Kiska (“KTAG 4”).

I firmly believe that the whole case will be evaluated with an emphasis on plausible in-depth legal analysis without political colouring to one side or the other. Substantively, this is indeed an extremely interesting case which, at the end of the day, can shed a lot of light on the murky waters of decision-making by state authorities and thus improve legal certainty in tax cases.