Identification of the shvarc system

In the past we have analysed in detail the history and advantages or disadvantages associated with the shvarc system, which you can read about in our article The Schwartz System: Do you want to work as a freelancer or employ freelancers? Be careful not to get knocked on the door by Cobra or the CID.

The issue of the shvarc system is often perceived as a hunt for a fictitious sole trader (but also a one-person SRO), i.e. a self-employed person (self-employed person) without own employees who does not meet at least two of the following criteria:

• autonomy – has more than one client for whom he works,
• subcontracting – it has the possibility to employ staff if necessary,
• Decision-making power – it is capable of important decisions regarding its planning.

Although this definition is vague and neglects many variables, the state tries to identify and punish such tradesmen because they are “robbing” the public finances, failing to pay pension contributions and other compulsory contributions.

Let’s look at this issue from a different angle. Why is the shvarcsystem so controversial? And what are its real advantages and disadvantages for sole traders and employers? These questions open the way for an interesting debate and bring new perspectives to old problems.

Read more to find out how you can safely navigate the world of the shvarcsystem without unnecessary risks.

Motivation for the use of tradesmen

In Slovakia, the number of sole traders is constantly growing, which brings us to the question: what motivates people to become sole traders?

One of the main reasons for this is the significant disproportion between the tax and levy obligations of sole traders and employees. This imbalance in the tax system creates more financially favourable conditions for sole traders, which naturally attracts many who are looking for ways to optimise their income. However, the state is looking at this phenomenon critically and intervening to prevent abuse of the system. It should be noted that if there is such a disparity in the law between the different regimes, the intervention of the state is legitimate.

At the conference, Peter Varga addressed this topic from a different perspective. He stressed that if the tax system were more neutral, the decision of individuals to become a sole trader or an employee would not be considered fraudulent. It would not be an attempt to avoid tax, but a free choice of the legal form that best suited individual needs. In situations where the individual expects social insurance benefits (mainly a pension), the optics are more neutral for a change. Be that as it may, it is the knowledge of the complex perspective of taxes, levies and social insurance benefits that is a prerequisite for a greater likelihood of defending a business relationship with a contractor. In other words, it can be argued from the case law that legal analysis alone is not sufficient and that legal analysis must reflect the existence or non-existence of a financial disproportion in the adjustment of the relationship. These are also the conclusions of our conference.

In the absence of a disproportion, we would be on a level that would allow a freer choice of the appropriate legal form for a particular natural person. Within the relevant legal models, employment, single-person LLCs, trades, but also IP relationships and other forms of cooperation, such as silent partnerships, were presented in more detail. Watch the video recording of the conference to learn more about why working as a sole trader is so attractive and what advantages and disadvantages it brings for both employers and sole traders. A deeper look at the motivations for using sole traders and the contractual freedom in choosing the legal form is presented by Peter Varga in the video from the Švarc system conference : “Employing freelancers” – where is the limit?

Comparison of tax and levy obligations

The motivation of market participants on the part of employees is to seek other forms in order to increase their income. For better clarification, we also provide a summary of the tax rates, the basic models that frame the issue

Effective levy rate: Who pays less?

At the conference, we made a detailed comparison of levy rates for different working regimes based on an income of €1,000 gross salary for an employee and €1,000 on an invoice for a sole trader (other alternatives were also discussed).

The results clearly show that the effective tax and deduction rate for an employee is 42%, while a sole trader who uses the deduction holiday pays only a tiny 10%. When compared to a managing director with. r. o. we can see that this scheme is not so advantageous, since with the executive remuneration of the minimum subsistence level, i.e. j. 269 € per month, which is the most efficient in terms of minimum health levies, and we assume that it pays 15% corporation tax, so the effective levy rate is 28%. From the above, we can seem to understand why the incidence of sole traders in Slovakia is so high. To clarify, we provide a brief summary.

Peter Varga at the conference explained in detail the individual items and evaluated the changes in the effective tax-tax rate with increasing wages/remuneration, the obligation of a sole trader to pay social contributions , including the possibilities for SROs to reduce the tax burden through the standard ways in practice for small SROs to optimize (legal/illegal) taxes (e.g. purchase of a car, etc.) and thus reduce the % of the effective tax rate in this table.

You can subscribe to the full video recording of the conference here:

Legal and regulatory challenges

At the conference, we also highlighted the legal risks associated with the shvarc system. This issue of illegal employment and dependent work is under scrutiny and falls under the jurisdiction of not only the tax authorities, but also the Labour Inspectorate, the Social Insurance Institution and, until recently, the Social Welfare and Family Labour Office. Employers who resort to this employment model risk heavy fines and even criminal prosecution. In order to define some kind of boundary, it is also necessary to analyse the different legal concepts that we may encounter in this issue.

In the case of the Labour Inspectorate and illegal employment, as a concept that is regulated by law č. 82/2005 Coll. on undeclared work and illegal employment, which defines several types of undeclared work, but primarily prohibits the classic shvarcsystem. It is understood by law as dependent work performed by an individual for an entrepreneur without an employment relationship or a state employment relationship existing between them. The performance of work by a self-employed person for an entrepreneur cannot in all circumstances be subsumed under the definition of a shvarcsystem. The essence is that the cumulative fulfilment of the features of dependent work found in Art. 2 of the Labour Code, under which it is the work performed:

• In the relationship of superiority of the employer and subordination of the employee;
• The employee performs it personally for the employer;
• As instructed by the employer;
• On behalf of the employer; and
• The employee performs work at the time specified by the employer.

In the case of tax administration and tax authorities, the issue is that of dependent activities, which is regulated in Section 5 of the Income Tax Act. Simply put, a dependent activity is a situation where a person is obliged to follow the instructions or orders of the payer of the income. A mechanical interpretation of dependent activity could lead to the erroneous conclusion that any instruction or direction given to someone is a dependent activity. Such an interpretation would not only be totally illogical, but more importantly, it would not reflect the state of affairs and the purpose which the legislature sought to achieve by the above formulation.

It is important to understand that the concept of dependent activity is broader than the concept of dependent work. This means that all dependent work is dependent activity, but not all dependent activity is dependent work. This distinction is key in controlling and sanctioning the shvarcsystem.

Controls and penalties: what can you expect in the scarcity system?

The Shvarcsystem is under the strict supervision of a number of supervisory authorities. The main institutions carrying out controls are:

• The Labour Inspectorate, which controls illegal employment under Art. on illegal employment;
• The tax authority controlling the dependent activity pursuant to Art. on income tax;
• Social Insurance Institution, which refers to the Income Tax Act.

Each of these authorities has the authority to carry out separate inspection activities, but we know from decision-making practice and findings that inspections are often initiated by the Labour Inspectorate. If it finds a breach of duty and determines that an offence has been committed, it issues a report and informs the Social Insurance Institution.

Employers who violate their obligations face heavy fines not only from the Labour Inspectorate but also from the Social Insurance Institution. The Labour Inspectorate can impose a fine of between EUR 2 000 and EUR 200 000 under the law. The Social Insurance Institution may impose a fine of up to EUR 16 600 and may also impose a penalty of 0.05% for each day of non-payment of insurance premiums, which amounts to 18% per year.

The penalties imposed by the tax office are different and this is related to the fact that the tax office has the power to carry out an audit even several periods back, which makes it impossible to determine the maximum amount and could therefore lead to liquidation consequences for the company. During the conference, Peter Varga spoke about the possibilities of how to avoid such liquidating sanctions from the tax office.

The law also defines non-monetary sanctions such as:

• Inability to obtain subsidies from the state budget;
• Inability to participate in public procurement;
• Inclusion in a public list of persons fined for illegal employment;
• And others.

Professor of criminal law Tomáš Strémy in a discussion with Petr Varga at the conference also spoke about the criminal aspect of the shvarcsystem. In extreme cases, a prison sentence of up to 12 years can be imposed. More about the criminal aspect of the shvarcsystem can be found in the video from the conference Shvarc system: “Employing freelancers” – where is the line?

Legal vs. factual: What does reality say?

In law, the principle is that the state of the law must correspond to the state of the facts. Simply put, the contract must reflect the actual situation. You cannot have a contract to do job A if the employee is actually doing job B. This is often referred to as a legal sham. For a better understanding and preparation of employment contracts, here are some of the indicators that should, or should not, be included in contracts. For example, such indicators are:

• Instructions: clear instructions regarding the work to be done.
• Representability: the ability of an employee to be represented.
• Project: work on specific projects.
• Holidays: rules on holidays and time off.
• Penalties: possible penalties for non-compliance.

These indicators can serve as an aid in assessing and proving the true nature of the contractual relationship in a dispute with the tax authorities or the Labour Inspectorate. When setting up relationships for clients, we focus on several details that neither an entrepreneur nor an attorney who does not deal with taxes and levies in detail will notice at first glance. If you would like to If you are interested or would like to assess/set up relationships at your company, let us know.

The shvarcsystem may seem at first glance to be an attractive employment model, but it hides a number of risks and potential negative consequences. At our conference, we offered an in-depth look at this issue, highlighted the importance of complying with laws and regulations, provided advice on how sanctions can be avoided, and opened a discussion on the opportunities and challenges associated with this model.

If you have any questions or need professional assistance in this area, please do not hesitate to contact us. We are here to help you find the best solutions for your business.

Článok The Schwarz system: Don’t you face up to 12 years for “employing” freelancers? je zobrazený ako prvý na Highgate.

In addition, Highgate Law & Tax is also celebrating its win in the “Capital Markets” category, proving itself to be a comprehensive law firm with an extensive portfolio of expertise and the ability to successfully navigate diverse legal challenges.

The awards gala evening, which was organized by the media and educational group EPRAVO Group and the weekly TREND, was held at the Double Tree by Hilton hotel in Bratislava. For Highgate Law & Tax it was not only an opportunity to celebrate its success, but also to thank its clients and partners for their trust and support, without which this milestone would not have been possible.

This double triumph confirms Highgate Law & Tax’s excellent reputation for legal and tax services and reinforces its position as a leading player in the legal services market in Slovakia.

Článok Highgate Law & Tax and its double triumph in the prestigious Law Firm of the Year competition je zobrazený ako prvý na Highgate.

In the interview, in abbreviated form, and at the conference, in a comprehensive form, we paid particular attention to the following topics:

• Where is the threshold after which it is no longer possible to “employ” a sole trader;
• What are the penalties;
• When is it a crime;
• How about one-person SROs;
• What are the implications for social insurance benefits?

You can watch the full interview here: https://www.trend.sk/ekonomika/zamestnavanie-zivnostnikov-ma-svoje-limity-ktorym-firmam-hrozia-postihy?itm_brand=trend&itm_template=news&itm_modul=denny_suhrn_sprav&itm_position=1

Článok Peter Varga for Trend on the issue of “employing” freelancers je zobrazený ako prvý na Highgate.

In three entries, we focused on best practices in Slovak companies, starting with the process of setting up a functioning ESOP program with creative suggestions for types of employee compensation and the associated minimization of tax and levy implications. We also covered approaches to properly valuing a company when issuing an ESOP, seamlessly moving on to the topic of current trends associated with issuing employee stock to the setup (different approaches) and managerial handling of Good Leaver/Bad Leaver situations.

For those who missed the conference, this article provides a small taste of what we covered at the ESOP conference. If you are interested in the topic in more depth, there is a video recording of the conference, which you can find here.

In particular, we present how important it is to set up the whole structure correctly at the very beginning of the ESOP program, taking into account the potential growth of the company, the entry of an investor or even legislative innovations, which can make the existing ESOP program more effective if set up correctly.

What to consider in an ESOP?

ESOPs are a complex topic that is not enough to look at only through a legal and tax lens. In the first step, of course, it is important to work with the ESOPist’s vision and knowledge of the company that intends to set up an ESOP program. Subsequently, other issues such as:

• Economic setup – psychology and management, Good Leaver / Bad Leaver, vesting / cliff period, option / stock / shadow stock;
• Tax setup – company valuation, taxation moments, strike price;
• Legal set-up – administration, flexibility and protection of founders/company, voting and economic rights.

Our task is therefore for the client “under one roof” to take into account all relevant facts and provide the most ideal economic, legal and tax-tax setup of the option program, including service such as:

• drafting the so-called. ESOP contracts;
• drafting the so-called. “drawer contracts”;
• Tax-tax assessment and design of a specific ESOP structure;
• suggestions to minimise the risks of a possible tax audit;
• the actual execution of corporate changes;
• setting up an ESOP structure using a foreign company; or
• Prevention as well as eventual resolution of Bad Leaver situations.

ESOP Basic Conditions

The ESOP concept brings with it many concepts, and it is necessary for the client to think about them before we start setting up a specific strategy for him or her. It is mainly a decision on what conditions will be set in the ESOP. It mainly concerns:

• ESOP pool – A percentage of the total number of shares of a company’s outstanding stock that is offered to employees as a recruitment and/or retention tool.
• Strike price – also known as strike price. The price (determined at the time of grant) at which an employee can purchase shares.
• FMV – fair market value – the price that would be agreed between a potential buyer and a potential seller, neither of whom is under any obligation to act and both of whom have reasonable knowledge of the relevant facts. Three methods are commonly used to determine FMV, namely Discounted Cash Flow, Public Market Comparables, Precedent Transactions.
• Vesting period – the period during which shares “mature”. It is up to the company to choose the period of time – for example, 4 years is standard.
• Cliff period – holding participation in an ESOP, for example, in the case of a new employee. Thus, a company may determine that the vesting period will only begin after a certain period, e.g. by a year.
• Good leaver/ bad leaver – a bad leaver clause allows the company to recover vested options of an employee who leaves under pre-determined conditions. In a good leaver, the action is essentially “maturing”.

What can cause a poorly set ESOP?

An ESOP acts as a powerful motivational and rewarding tool to attract and retain employees or reduce turnover in the company. At the same time, it motivates employees to perform better at work, which is also linked to the growth of the company. However, this is only true if the ESOP is set up correctly and efficiently. In practice, we also encounter the opposite situations where we have to deal with “dead equity” in the company, namely a “non-working ESOPist” who has already been assigned a real, tangible stake in the company.

A poorly set up ESOP can also have a demotivating effect on employees, which is the opposite of the purpose of such a program. For example, after the vesting period, an employee may lose the motivation to perform his or her job as effectively as during this period of share maturation. Therefore, it is necessary to set up the ESOP in such a way that the employees have an incentive to work or stay in the company even after the “vesting period” has expired.

One of the reasons for employee demotivation can be the poor setting of Good Leaver / Bad Leaver conditions. In practice, we often deal with a variety of “bad leaver” situations, most of which require a sophisticated and complex approach. Therefore, it is most ideal for companies to set these conditions upfront as a precaution in clear and practically enforceable language and manner. Of course, setting a fair playing field also applies to the “good leaver” situation.

When setting up an ESOP, it is more than desirable to comprehensively anticipate all potentially problematic situations and one of them is the possible dispute about the value of the share and therefore how to determine the “fair market value” (FMV), what methods to use to value a company or, for example, a Start-up with a unique product and difficult predictability of its development in the next stages, and who to contact to develop the FMV for your business model.

Types of employee “shares”

The company has a choice as to what kind of “shares” it offers to its employees. In the conditions of the Slovak Republic it is in particular:

• Share options;
• Shares and business holdings;
• Shadow business holdings/shares.

Already at this step, when choosing the type of shares, it is necessary to consider the economic and tax-tax implications. The choice of the type of shares is undoubtedly linked to the choice of the legal form of the ESOPist, where our legislation gives us four options to choose from, the choice of which depends on the specific realities of the intended structure, namely:

• Limited liability company (s. r. o.);
• Joint stock company (a. s.);
• Simple stock corporation (j. s. a.);
• Cooperative; or
• Alternative forms.

Each legal form has its specifics, or its advantages and disadvantages. Already at the conference we outlined the essential advantages of the less used legal form of the cooperative, as well as the use-cases of the correct set-up in practice. It is important to note, however, that there is no such thing as the “most correct” choice of legal form, but in any case it is very important to make a comprehensive assessment of which legal form is the most “ideal” choice for a given case.

In practice, it is relatively common to encounter the creation of an ESOP structure abroad. There are a number of legitimate reasons for this:

Standard ESOP milestones

ESOPs entail certain “milestones” which also need to clearly set the conditions under which they occur. We mean the following:

• Option grant;
• Exercise of the option;
• Acquisition Action;
• Sale of shares.

In the case of employee shares, a fundamental problem arises in practice from our point of view, namely the question of the timing of taxation. The Income Tax Act provides for the accrual of non-cash income – taxation – at the time of acquisition of employee shares by the employee. In the case of options, there are views that the moment of taxation occurs even a little earlier. However, such a procedure contradicts the principle of taxation, where taxation on the acquisition of employee shares is to occur at a point in time when neither the employer nor the employee has cash income on which tax and levies can be paid.

For our clients, we therefore try to find legal ways to set up the ESOP structure so as to divert the moment of taxation to the moment of actually received cash income, or to reduce the rate of taxes and levies, or to minimize the risks of a possible tax audit.

As we said in several case studies at the conference, each client needs to be considered on an ad hoc basis, and there is no sort of one-size-fits-all template that just rolls over to the firm without knowing the client’s requirements. In any case, we will be happy to create and run a tailor-made solution for your business with an optimal mix of legal and tax-efficient structure.

Taxation of employee/contractor ESOPs

The recently adopted amendment to the Income Tax Act has at least triggered a positive response within the startup environment. Under the rules in effect prior to this amendment, a critical portion of shares awarded to an employee or contractor had to be taxed as non-cash income. In practice, therefore, various arguments and structures have been devised to eliminate this risk. The amendment was intended to shift this taxation to the moment of realisation of income in the form of an “EXIT” share.

However, despite the certainly noble motive, the amendment does not fully address this need and it appears that it may be unused in practice without fiscal risks. It is therefore possible that the new legislation will still be subject to some changes.

Airdrops for employees/contractors and other forms of remuneration

As the ecosystem around crypto assets develops, we are increasingly seeing the distribution of various crypto assets to team members. This was also addressed at the conference.

If you are interested in this topic and would like to know more about it, a video recording of the conference is available right here below the article.

If you are interested in this topic, please do not hesitate to contact us.

Článok Employee Stock Ownership Conference (ESOPe) je zobrazený ako prvý na Highgate.

The amendment introduces the so-called minimum employee health levy. The previous legislation did not provide for such a thing . Do účinnosti tejto novely the employee paid the insurance premiums on the gross salary or remuneration earned in the relevant month. On that basis, he was provided with general health insurance, often literally “for a few euros”. For example, under the old system, if an employee earned a gross salary of EUR 100 in a given month, he also paid a total of EUR 14,00 in insurance premiums on that amount, namely EUR 4 for the employee and EUR 10 for the employer.

The same was true for managing directors, if the managing director had a monthly remuneration of EUR 10, EUR 1.40 per month was paid to the health insurance company for him, while he was fully covered by public health insurance. This fact often led in practice to the conclusion of many speculative employment contracts. This was because if a person was registered as voluntarily unemployed, he or she would be obliged to pay insurance premiums at the level of the minimum levy, which for 2022 was EUR 79,31 (currently already EUR 84,77 for 2023). After all, it was precisely the desire to prevent speculative remuneration, speculative employment and the avoidance of levy obligations that led the legislator to adopt the aforementioned amendment.

Who will be most affected by the amendment?

At first gl ance, it may seem that the amendment will affect only employees or persons who receive remuneration from dependent activities with income below the minimum subsistence level, which is EUR 234.42 as of 01.01.2023. However, it will also affect employees with a monthly income higher than EUR 234.42, up to EUR 328.00 per month if they claim a deductible in health insurance. As we have already indirectly outlined, this will also affect members of statutory bodies (e.g. managing directors who are also owners of the company) whose remuneration is below the current minimum subsistence level, i.e. j. less than EUR 234,42.

Amount of minimum health levies

According to the amendment, the insurance premiums together with the advance payment for insurance premiums must be at least the amount that the employee would pay together with the employer if the employee’s salary were equal to the minimum subsistence level for a single natural person, i.e. j. the aforementioned EUR 234,42.

The Health Insurance Act, in turn, provides that the premium rate for the employee is 4% of the assessment base and for the employer 10% of the employee’s assessment base.

Taking into account the condition that the minimum health levy, as we have mentioned above, is calculated on a minimum of EUR 234.42, a simple calculation leads to the conclusion that the minimum health levy is EUR 32.81 per month.

However, the employee’s minimum advance shall be reduced by the proportionate part attributable to the number of calendar days during which the employee has been employed:

• at the same time a self-employed person;
• at the same time insured by the state (e.g. student, pensioner, person receiving sickness benefit, maternity benefit,…);
• a person with a disability;
• declared a missing person;
• the insured person was not considered an employee.

Example:

The person was registered as an employee with the health insurance company during January 2023, but at the same time, between 01.01.2023 and 25.01.2023, the person was incapable of work and received income compensation from the employer and sickness benefit from the Social Insurance Institution. As a result, the person was not also insured by the State for 5 days. Therefore, the calculation will be as follows:

• EUR 32,81 x (5/31) = EUR 5,29

In this case, the employee’s minimum advance payment will be EUR 5.29 for the month of January.

What if a person’s monthly wage/remuneration is less than the living wage?

These are cases where the calculated health levy would not reach the required minimum amount and therefore the difference would have to be made up. Once the employee’s health levy comes out below EUR 32,81, the employee is obliged to make up the levy up to that amount. This also implies that the employer’s levy burden does not change and any additional payment up to the amount of the minimum advance payment is paid in full by the employee.

For the sake of simplicity, let us give the following examples (for the purposes of the calculations, we assume that the employees do not use any deduction):

1. An employee with a monthly salary of EUR 200.00 was obliged to pay a health insurance premium of EUR 30.00 (EUR 8.00 for the employee and EUR 22.00 for the employer), which is less than the minimum health levy under the amendment, and therefore the difference of EUR 2.81 will have to be paid by the employee, i.e. from 2023 it is EUR 32.81 (EUR 10.81 for the employee and EUR 22.00 for the employer).
2. An employee with a monthly salary of EUR 10.00 was obliged to pay a health insurance premium of EUR 1.40 (EUR 0.40 for the employee and EUR 1.00 for the employer), now it is EUR 32.81 (EUR 31.81 for the employee and EUR 1.00 for the employer).
   

Minimum health levies for managing directors

As we have already mentioned, the amendment will also affect directors with a symbolic remuneration, below the minimum subsistence level. This is mainly because the managing director of a company who pays himself remuneration is also considered an employee, as this is a dependent activity.

Despite the introduction of minimum health levies, such income optimisation will still be to some extent advantageous for statutory bodies. However, it may also not be the most efficient solution because of the various tax-insurance benefits, which include social insurance benefits or tax bonuses. If executives continue to pay themselves less than the living wage despite legislative changes, they could “overpay” on health insurance prepayments .

In order to avoid only “topping up” health levies, one solution could be to increase the executive’ s remuneration to the subsistence level, or even a little higher. As a consequence, although directors would have higher tax and social security contributions, they would also benefit from the social security system in the long run.

Managing directors who decide to increase their remuneration to the living wage level can save approximately EUR 40.00 per year on their regular remuneration by doing so.

If the directors increase their remuneration to, for example, EUR 400.00 per month, they would pay an extra EUR 200.00 per year to the health insurance company. Although the amount of their income would also affect the amount of their social security contributions, they would also be entitled to a minimum pension if other conditions were met. The amount of social contributions calculated on the basis of income is, among other things, also responsible for a higher tax bonus, affects sickness benefits and other benefits paid under social insurance.

Another possible alternative is for the managing directors to consider moving to an employment relationship with a monthly salary of EUR 329.00. In this case, they would be able to save approximately EUR 36,00 per year.

More of our comments on the issue can also be found in interviews for Trend(From the new year, health levies must be paid also by statutory officers with a symbolic salary), Hospodárske noviny (From the new year, even statutory employees with a token salary have to pay health levies. At least approximately 30 euros ), or .week(Even LLCs and low-wage employees must already pay minimum health insurance premiums).

Who is not covered by the minimum health levy?

The employee’s minimum advance does not apply to an employee who is:

• at the same time a self-employed person;
• at the same time insured by the state (e.g. student, pensioner, person receiving sickness benefit, maternity benefit,…);
• a person with a disability;
• declared a missing person.

In short, this means that if the employee was also insured by the state during the whole month, the minimum employee health insurance contribution does not apply.

However, if the employee was also insured by the State for only part of the month, as we have already mentioned earlier in this article, the amount of the minimum advance payment will be reduced by an aliquot amount.

In addition to the above, minimum health contributions do not apply to persons who do not receive any wages or remuneration, such as a contract worker who has no wages in a particular month.

If you are interested in this topic, please do not hesitate to contact us.

Článok Minimum health levies 2023 je zobrazený ako prvý na Highgate.

We are thus relatively intimately familiar with the related realities of this segment. Whether it is the topic of tax optimization, “employing sole traders”, investor entry, setting up a holding company, automated accounting, ESOPs, the legal, practical and tax pitfalls of scaling a business abroad, or operating with cryptos, these are all topics that we encounter in practice.

For this reason, we perceived that this conference can help many entrepreneurs to navigate through the complex tangle of more complex Slovak and foreign tax and legal issues. It was also intended to help to better understand the perspective of an investor or potential buyer in a company exit.

Sale of the company or entry of an investor :

• What are the basic situations and types of investor entry into companies?
• What are the key motivations and areas of interest for the investor and the company owner?
• What should an IT firm focus on to maximize the benefits of the investment for the firm and the business owner?
• Structured transactions and relevant tax implications from an income tax perspective (e.g. tax burden through a Slovak vs. a foreign holding company);
• Transaction Experience;

Relevant financial ratios when a company is sold or an investor enters :

• What is of interest to the investor or the buyer in accounting?
• Risks associated with incorrect accounting;
• Capitalization of the company;
• Transaction Experience;

Foreign IT contractors and work “from Bali” :

• Withholding taxes on payments to foreign contractors;
• Working from “Bali” – tax and levy implications;
• Setting up contract documentation;

ESOP – Best practice :

• What forms of shares and options can Slovak companies offer to their employees?
• Legal and practical context;
• Tax and levy context;
• Cross-border structure and practical experience;

Functioning in the crypt :

• Receiving retribution and paying contractors in the crypt;
• Types of crypto projects (token issuance, management, consulting, community token,…) and regulatory and tax aspects;
• Accounting and tax pitfalls in Slovakia and best practice when leaving Slovakia;
• Experience;

Scaling the IT business abroad :

• Do I need to have a company abroad in different business situations?
• Establishment of a permanent establishment, VAT regimes, withholding taxes;
• A company in an offshore jurisdiction from a legal, tax and practical perspective;
• Holding abroad – advantages and disadvantages;
• Investor requirements for foreign structure;
• Protection of the owner’s private property in the context of the political situation in Slovakia;
• Transfer pricing;

Software contracts :

• Framework or one-off contracts;
• Waterfall vs. agile SW development;
• Licensing Terms;
• Warranties and liability for defects in the SW;
• Problematic provisions – experience from practice;

Structuring business to the US :

• How best to enter the US market;
• Where can I get some help/information/grants?
• What is the tax and administrative burden?
• How to choose the right lawyer and accountant?
• How to get into the investors/funds horizon?
• In which state are the best conditions to enter the US market?

Tax optimization for digital and IT companies :

• Holding structure – owner protection;
• Patent Box and Supercomputing – how some IT companies do not have to pay income tax in Slovakia;
• Other tax and levy types and practical experience;
• When is tax optimisation already a criminal offence;

Schwarz system :

• Tax-tax implications and calculations;
• Impact on employees’ social insurance benefits (maternity, pension, sick leave,…);
• What impact does the change to a sole trader’s trade have on a sole trader’s pension?
• Analysis of court decisions that have dealt with the topic;
• Practice of tax administrations and labour inspectorates;
• Criminal liability;
• Setting up contracts with contractors;

Relevant financial ratios when a company is sold or an investor enters :

• What is of interest to the investor or the buyer in accounting?
• Risks associated with incorrect accounting;
• Capitalization of the company;
• Transaction Experience;

Many topics and many questions from conference participants. Companies were particularly interested in topics around ESOPs, tax optimizations or company sales. However, many attendees stayed until the end to hear the current practice in connection with the so-called In the meantime, there was a lot of interest in the practice of the shvarc system (i.e. the employment of freelancers).

We received a lot of positive feedback on the content and organisation of the conference. We are therefore very pleased that after the conference on setting up investment funds, this conference was also a success.

If you are interested in this topic, please do not hesitate to contact us.

Článok Conference on legal and tax optimization for technology companies je zobrazený ako prvý na Highgate.

In his 4-hour lecture, Peter Varga focused mainly on the issues of effective payout of owners from the company , not only from the tax and taxation point of view, but also from the legal point of view. This is because some, at first glance effective, solutions may bring with them the legal inconvenience of a natural person being liable for all of his or her assets. This may arise in particular in situations where the disbursement of funds to the holder in question has not been made in accordance with the relevant commercial law standards. In addition, if the paying company is in a more difficult financial situation, it is also possible to talk about the criminal consequences of improper payments from the company.

In addition, the topics were mainly the possibilities of setting up and operating companies abroad in the context of legal defensibility and other tax-legal pitfalls as well as the relevant administration. Establishing not only offshore companies, but any foreign companies is a very complex topic in the context of today’s legislation, partly the practice of tax authorities and administrative pitfalls. Gone are the days when it was possible to set up and run a foreign company with ease and extract profits simply by moving them into a low tax bracket. Peter Varga has been working on this topic for a long time and has also discussed it at our recent conferences on setting up investment funds and tax optimization for IT companies.

In addition to the above topics, he also discussed other commoditizable tax optimization techniques. However, many optimization opportunities arise only in the context of the dynamics of specific companies. Thus, a number of specific opportunities can only be applied to specific situations, making the range of possibilities very wide in today’s relatively complex world of tax law contexts. Either way, tax optimisation is a lively topic and we have been working on it for a long time.

If you are interested in this topic, please do not hesitate to contact us.

Článok Lecture by Peter Varga on tax optimization options je zobrazený ako prvý na Highgate.

According to Petr Varga, the reform is not just an invention of this government. A number of proposals have existed for a longer period of time. He also sees the reform as an effort to introduce a greater degree of fairness into Taxation / drainage. There is now a huge disproportion between employees and the so called. office tradesmen. These sole traders benefit from generous lump-sum expenses and pay an effective tax and levy rate of perhaps around 15% (up to 10% for levy holidays). Whereas ordinary employees are much worse off. And yet tradespeople do not lose out on important social insurance benefits (old-age pension, maternity, pregnancy benefits) and save hundreds of euros a month at the expense of public finances.

Positive features of the reform:

• simplification of the system
• group taxation (i.e. netting of losses, elimination of transfer pricing)
• lower tax rate
• striving for greater fairness

Negative features of the reform:

• property tax (illusion)
• exuberant social transfers
• charging university fees for working students

Anyway Peter Varga is very sceptical about whether the state as we have known it for a long time (except perhaps the 2nd Dzurinda government) is capable of implementing such a tax and levy reform. It would be extremely technically complex, not only from a §§ point of view, but also from an information point of view. After all, the Social Insurance Institution has been unable to introduce even an annual settlement of insurance premiums for several years.

Full interview: An expert has dissected Matovič’s reform to the bone. The part with tradesmen has succeeded, surprised the expert (INTERVIEW)

If you are interested in this topic, please do not hesitate to contact us.

Článok What are the positives and negatives of Matovic’s tax revolution? je zobrazený ako prvý na Highgate.

In the area of employment of “contractors” we provide our clients with:

• a financial analysis of the impact of employing “contractors”;
• Comparison of a limited company with a trade for the client’s contractors;
• analysis of the impact on social insurance benefits for specific individuals;
• analysis of the limits and possibilities of employing “contractors” in the light of current case law with regard to the so-called “contractors”. the schvarc system;
• drafting cooperation agreements with regard to:
• eliminating the risks associated with the “shvarcsystem”;
• protecting the company from “bad leaver” situations;
• protection of IP and other company assets.

Employment law at Highgate Group

Highgate Group is a tax and accounting company and law firm. In one place our client can meet a payroll accountant as well as a lawyer who deals with employment law. On the basis of inquiries from our clients, we find that such a concept represents unquestionable added value not only for our clients, but also for our colleagues. They can thus seek professional support within the office.

Such a concept must undoubtedly also mean a more comfortable position for clients as recipients of payroll accounting services. In practice, we see situations where accountants build legal information and awareness by searching for information on the internet. This information may be misinterpreted and may not even agree with the current case law of the courts.

Samples of legal documents for our clients

Our clients have the opportunity to use several templates of legal documents prepared by our law firm Highgate Group free of charge. Clients can use templates of employment contracts, termination agreements, cooperation agreements, etc.

Employment in a “trade”

Given the significant differences between standard employment and employment as a “trade”, this topic is relevant for almost every client. We look at it not only from a tax and levy point of view, but also from a legal point of view as well as with regard to social insurance benefits.

The difference between a trade and employment

Suppose an employer has an employee who is paid a gross salary of EUR 2 000. Suppose they agree that the employee will set up a business and invoice the employer for his work, with aninvoice amount of EUR 2 000.

Suppose:

• the employee has one child under the age of 6 for whom he/she claims a tax bonus;
• the employee does not claim any other tax bonus;
• the employee does not claim the non-taxable part of the tax base for the spouse or any other non-taxable part except for that under Art. 2 of the Income Tax Act;
• as a sole trader, the employee claims flat-rate expenses;
• as a self-employed person, the employee is subject to an annual social insurance settlement;
• as a self-employed person, you don’t pay unemployment insurance;
• the employer has a positive tax base;
• the employer is subject to a 21% tax rate.

What are the tax and levy implications for both legal forms? The table is based on the current tax and levy situation in force in the second half of 2021.

The financial differences between the two forms of ’employment’ are thus significant not only from the employer’s point of view, but also from the ’employee’s’ point of view. However, if the employee as a sole trader is in the so-called. levy holidays, the financial difference would be even more significant:

However, a completely different tax-tax situation arises if the contractor cooperates with the company through its legal entity. In such a case, there are other aspects that come into play that can significantly adjust the resulting savings figure.

Impact of a trade on social insurance benefits

It is not possible to look at the benefits of ‘trade’ employment in isolation through the lens of the above tables alone. The complex picture is also completed by the effect on social insurance benefits, the amount of which varies depending on a number of circumstances, including the legal form under which the individual carries out gainful employment.

The situation is also different for social security benefits for contractors who provide their services through a legal person.

Trade and maternity

The basic condition for entitlement to maternity pay is that the person has been insured for at least 270 days in the last two years before giving birth. If the sole trader is in the so-called. is not paying social security contributions as a voluntary insured person, he or she may not be entitled to maternity pay. The amount of the maternity allowance is normally 75% of the so-called. the daily assessment base. The daily assessment base is derived from the average of the assessment bases in the so-called. crucial period. The decisive period varies depending on the circumstances of the case. To simplify, the amount of maternity pay for a self-employed person depends on how much and when the self-employed person contributed to social insurance. However, it is precisely in the case of maternity allowance for sole traders that the Social Insurance Act allows for flexibility to reach a situation where the sole trader receives the maximum maternity allowance. The maximum maternity allowance for 31-day months is slowly approaching EUR 2 000 each year. For more information, arrange a personal consultation with Peter Varga. Our accounting clients enjoy a 50% discount.

Trade and incapacity for work

In general, a tradesperson may be found unfit for work in the event of illness, accident or isolation/quarantine. The standard amount of sickness benefit is based on the tradesman’s social insurance contributions as well as the type of sickness absence (the amount may be different for pandemic sickness absence).

If the self-employed person meets the conditions for sickness benefit (e.g. he/she is liable for social security contributions or is in the so-called protection period), the amount of sickness benefit is similar to that for employees, namely :

• 25 % of the daily assessment base in the period from 1. to 3. on the day of the PN;
• 55 % of the daily assessment base from 4. on the day of the PN.

The amount of the daily assessment depends on a number of factors. In general, however, sole traders using flat-rate expenses pay social security contributions on lower tax bases. This also has an impact on the calculation of the daily assessment. It should also be taken into account that a self-employed person cannot estimate the amount of sickness benefit in advance to the same extent as he or she can do for maternity pay.

Trade and nursing

Nursing care became an important social supplement during the pandemic and school closures. It helped not only the employees/employers but also the employers themselves in terms of cash-flow to get through the difficult pandemic period of a suspended economy.

A self-employed person is normally entitled to sick pay as long as he or she pays social security contributions or is in the so-called. the protection period. The amount of the sickness benefit also depends on the daily assessment base, which is based on the contributions of the self-employed person to the social system in the so-called. crucial period. The amount of the sickness allowance is 55 % of the daily assessment calculated in this way. Thus, similarly to sickness benefit, the amount of sickness benefit for a sole trader is affected by the lower contribution obligation of sole traders compared to employees.

Trade and pension

Although pensions are an abstract topic for many of our clients’ contractors, some of them are still interested in analysing the effects of converting to a trade in terms of future pension income. For pensions, the merit principle is normally applied – the more the insured person contributes to the social system, the higher the pension will be. However, this merit-based system is influenced by a social element, which is mainly represented by pension ceilings, the coefficient for higher pensions as well as the institution of the minimum pension.

For example, if the conversion from employee to sole trader means a lower pension of, say, €200, then with a 15-year pension the total amount is €36,000. And that is the relevant amount. Thus, when converting from employment to “contractors”, we also analyse this aspect for our clients on request.

Trade and unemployment benefit

A self-employed person is entitled to unemployment benefit only if he or she has paid voluntary unemployment insurance for at least two years in the four years before being registered as a jobseeker. A self-employed person must pay voluntary unemployment insurance to qualify for this benefit.
The amount of the benefit is 50 % of the daily assessment base, which is based on the average of the assessment bases in the reference period. The reference period for unemployment benefit is different from that for maternity or sickness benefit, for example. The decisive period for establishing the daily assessment base is the two-year period preceding the date on which entitlement to unemployment benefit accrued.

Is the “scarc system” legal?

The Schwarz system is not legal. In addition to the administrative sanction, it is also possible to fulfil the factual essence of one of the tax offences (in particular, tax and insurance premium evasion) in the case of a shvarc system. It is thus important, when setting up relationships with contractors or converting employees to contractors, to understand these steps as a project that also deserves consideration from a legal perspective. However, the aim is not only to minimise the risks associated with state sanctions, but also to set up contractual relations with contractors in such a way that the company is protected (for example, in relation to IP rights).

What does the case law of the courts have to say about the “shvarc system”?

The case law is relatively diverse. A great inspiration should be sought in the Czech judicial practice, which has produced not only the term “shvarcsystem” but also a relatively extensive system of court decisions that help us in setting up defensible legal and tax-tax frameworks for employment “on a trade”. A partly different tax-tax situation arises if the contractor cooperates with the company through its legal entity.

Článok Employing freelancers (the “Schwarz system”) and the legal and tax context je zobrazený ako prvý na Highgate.

The beginnings of the shvarcsystem

In the early 90s. years, entrepreneur Miroslav Švarc founded the construction company Švarc s. r. o. The vision of many after the fall of the regime was clear and that was to stand on their own feet and make money. In this case it was no different, Švarc decided to employ freelancers very soon after the establishment of the company, in this way he did not have to pay compulsory contributions and he could terminate the employment relationship at any time. The attraction for people was the increased wages compared to what they would have had if they had been employed. The company quickly began to make billions in sales and did so well that it became a sponsor of the Benešov football club. Thanks to Mr. Švarc’s cash injections, the football club made it all the way to the first league.

It is similarly attractive in Slovakia today (below is part of a slide from a training session on “Employing” freelancers – where is the limit?).

Legal, tax and levy details on the topic of the shvarcsystem can be found in the online training by Peter Varga “Employing” freelancers – where is the line?

At the time, no one knew that the name of the famous billionaire would soon become a byword for illegal employment. It wasn’t long before the state stopped liking that it was losing quite a lot money. A law was passed that officially banned the shvarcsystem. After the ban, Švarc’s life took a quick turn. He was first fined several times, then charged with embezzlement of social security benefits, and finally sentenced to three and a half years in prison for tax evasion.

At first glance, it would seem that this story was so intimidating that no one would want to risk it anymore, well the opposite became true. Nothing has changed by banning or convicting the father of the shvarcsystem. People are still trying to find ways to get around the ban and enjoy the benefits of doing so. And thanks to generous flat-rate spending, they are trying it today in Slovakia.

Legal definition of the shvarcsystem and dependent work

The Schwarcsystem has become a well-known term among people. It is regulated in particular by law č. 82/2005 Z. z.. which defines several types of illegal work, but primarily prohibits the classic shvarcsystem. It is understood by law as dependent work performed by an individual for an entrepreneur without an employment relationship or a state employment relationship existing between them. The prohibition of the shvarcsystem applies to both sides – to the person who works and to the recipient of this work.

The performance of work by a self-employed person for an entrepreneur cannot in all circumstances be subsumed under the definition of a shvarcsystem. The essence is that the characteristics of dependent work, which are found in Art. 2 of the Labour Code, under which it is the work performed:

• In the relationship of superiority of the employer and subordination of the employee;
• The employee performs it personally for the employer;
• As instructed by the employer;
• On behalf of the employer; and
• The employee performs work at the time specified by the employer.

If all of the above conditions are met, we are talking about a dependent activity that can be carried out exclusively in an employment relationship. Peter Varga talks more about this borderline also on the basis of the practice of state authorities in the online training “Employing” freelancers – where is the limit?

Advantages and disadvantages of the shvarcsystem

To begin with, the shvarcsystem is financially advantageous for both parties at first sight. The employer does not pay compulsory contributions, is relieved of administrative activities, costs related to the employment relationship and can terminate the relationship with the sole trader at any time. Peter Varga talks more about the financial benefits in the online training “Employing” freelancers – where is the line?

Benefits

For example, for a sole trader, the advantages are:

• has lower compulsory contributions
• can earn more than a salaried employee
• may have the right to terminate the relationship at any time.

Disadvantages

The employee is always the weaker party in employment law, but by switching to the sole trader regime, he loses a number of benefits that he should enjoy in accordance with the Labour Code.

An example would be:

• a self-employed person is not entitled to paid leave;
• statutory severance pay;
• breaks;
• entitlement to the provision of work equipment by the employer;
• limited liability;

In addition, a self-employed person is entitled to lower social insurance benefits (maternity, pension, unemployment benefit, sick pay, maternity pay, etc.). More about these benefits in the training “Employing” freelancers – where is the limit?

Fines and penalties for illegal work

The State is aware of the benefits of the shvarcsystem and therefore it is in its interest to carry out controls.

Control of illegal work and illegal employment, according to Act no. 82/2005 Coll. are carried out by the following inspection bodies:

• Labour Inspectorate
• Central Office for Labour, Social Affairs and Family and
• Labour, Social Affairs and Family Office

In addition to these authorities, the shvarc system is also controlled by the administrative authorities for health and social insurance, as well as by the tax authorities.

Labour inspectorates have even created specialised units to combat illegal employment “Cobra“. Their sole task is to check whether illegal employment or illegal work is taking place in workplaces.

The entrepreneur for whom the illegal work is carried out can be punished relatively severely. The labour inspectorate can impose a fine up to EUR 200 000 (minimum EUR 2 000). Even a natural person acting as a statutory body can be penalised for illegal work, in which case he or she is liable for the entirety of his or her assets.

A fine may also be imposed on the de facto employee himself.

If an employer repeatedly violates the prohibition of illegal employment, this is considered a particularly serious violation that leads to the revocation of his trade licence.

Should the trade licence not be revoked, the employer will be sanctioned by not being able to receive subsidies, aids and grants from the state or EU funds and not being able to participate in public procurement for the next three years. Another sanction is registration in a central publicly accessible list of natural persons and legal entities that have violated the prohibition of illegal employment.

In this article, we are generally concerned only with the controls carried out pursuant to Act No. 82/2005 Coll. More detailed information on these controls, including the amount of fines, current practice, court proceedings as well as controls carried out by tax administrators can be found in the online training “Employing” freelancers – where is the limit?.

Supreme Court on the issue of the schvarcsystem

Below are some interesting decisions of Slovak and Czech courts on the issue of the shvarcsystem.

In one decision, the court addressed the question of whether a natural person in the position of a betting shop director may carry out this activity on the basis of a mandate contract or whether it is a disguised employment relationship.

The following facts were found during the inspection. A company operating a network of betting shops employed a betting shop manager under a mandate agreement. The exercise of the activities was varied as it involved setting up a new operation, i.e. providing premises and staffing for a betting office, later on after setting up, he gave reprimands to employees, cut wages, approved leave requests and proposed payment of 13. salaries. He was remunerated monthly for the performance of these activities on the basis of processed attendance.

The subject matter of the mandate agreement is the establishment of a particular business matter, but in this case it was the performance of incidental tasks under the employer’s instructions and orders with an overriding employment character. In its reasoning, the court referred to the standard rule of interpretation of commercial contracts. The basic criterion for evaluating the actual content of the contractual relationship is a proper evaluation of all the circumstances relating to the manifestation of the will of the contracting party, which can be ascertained from the actual conduct. If the parties behave differently from what an ordinary businessman would expect in a mandate contract, then their primary motive was not to enter into a mandate contract and their contractual relationship is simulated. In this case, it was a clear case of legal concealment, in which the court found in favour of the tax administrator.

Another decision concerned a dispute between a taxpayer and a tax administrator concerning the employment of a sole trader as a senior accountant through a mandate agreement.

The tax administrator looked at three main criteria in its assessment: the chief accountant worked at the company’s headquarters using company equipment (both hardware and software), he received a monthly remuneration for his work, and last but not least, it was a continuous exercise of activity. A mandate agreement is an undertaking by the mandator to establish a particular activity and not an undertaking to perform on a continuing basis, to which the court responded that this strict language interpretation would lead to repeated contracting for each individual matter. If a business matter is defined in a definite way, its implementation may consist in arranging for a single specific matter, and equally in arranging for a recurring activity, or in arranging for a permanent and recurring group of matters. The court further pointed out that the accountant was responsible for the accounts as a sole trader, not as an employee, and it was a secondary activity. Therefore, the court found that this was not a disguised act, but a common phenomenon of the so called. outsourcing, which aims to use external entities for activities that are not the company’s core business and would lead to an unnecessary time and financial burden.

Another decision concerned the employment of tradesmen carrying out construction work for an entrepreneur.

In the present case, the tax administrator did not hesitate to reclassify these activities as a dependent activity. This is because the work was carried out under the instructions of and on behalf of the employer, the builders did not incur any material costs in securing the result, they invoiced only the employer and it was a generic activity. The tax administrator assessed that the above sufficiently meets the definition of dependent work. However, the court stated in its decision that even the totality of all of the above cannot and does not lead to a legal conclusion that the work is dependent work. He went on to say that it is not dependent work if it is specialised work carried out only on a short-term or non-constant basis and where its performance is conditioned by factors largely independent of the employer (e.g. seasonal work, weather-dependent work, etc.). Failure to accept these facts would place an illegitimate burden on the private sphere. On the basis of the above, the competent court disagreed with the findings of the tax authorities and sided with the taxpayer.

Criminal liability

Can the state (law enforcement agencies) view the shvarcsystem through a criminal lens? More information on this topic is provided by Peter Varga in the online training “Employing” freelancers – where is the line?. An interesting discussion among lawyers has also arisen on the legal forum https://www.lexforum.sk/545. As liability is in some situations also transferred to the statutory body – a natural person, the entrepreneur should be legally cautious when setting up the shvarcsystem. This is not only in the context of potential arbitrariness of the state, but also in the context of the current legal framework of illegal employment and tax fraud offences.

If you are interested in this topic, please do not hesitate to contact us.

Článok The Schwartz System: Do you want to work as a freelancer or employ freelancers? Be careful not to get knocked on the door by Cobra or the CID je zobrazený ako prvý na Highgate.