Freelancers and Small Business Owners—Don’t Miss Your Tax Allowance For Capital Investments

Additional way to make money off capital for freelancers and small business owners

Low-risk capital investments yield by principle very small earnings. However, if combined with tax allowances, there is a good opportunity for an overall economic gain. This article explains the main aspects of the applicable law and comments on the usual cases. The following applies to individuals with business and tax residence in Austria. Please note that the topic illustrated below is too complex to be fully elaborated on in this article. We recommend consulting a professional before making any decisions.

Income tax allowance in general

Unlike a tax credit, a tax allowance is not paid to you directly. Instead, it lowers your tax base (taxable income). The tax savings depend therefore on the applicable tax bracket. In Austria, a tax allowance of EUR 3.900 is granted automatically to all individuals with a business income of EUR 30.000 or more.

However, there is a possibility of a further profit tax allowance if qualifying investments were made during the year. These investments include for example machinery and industrial equipment needed for business activity. As a general rule, the acquired assets have to remain in the individual’s business property for a period of 4 years.

Most interestingly certain types of capital investments also qualify. Additionally, if the capital assets are sold before 4 years have passed a reinvestment can avoid taxation of the once granted allowances.

Tax savings in an example

Imagine you had a good year and after deducting all your expenses you’re left with EUR 100.000 of taxable income. This entitles you to an overall tax profit allowance of EUR 13.000 (13%). If fully utilized, your taxable income will be hence only EUR 87.000, hence saving you a tax payment of EUR 6.440 (i.e. 10.000 x 50% + 3.000 x 48% according to the current tax bracket system).

Does this calculation seem right to you?
Let us know what you think in the comment section below.

The amount of EUR 3.900 is deducted automatically (tax saving EUR 1.450), however, to utilize the remaining tax allowance of EUR 8.100 (tax saving EUR 4.490), a qualified investment of that amount has to be made in that tax year.

Important note—only some capital investments qualify for the tax allowance (see sections below). The investment assets always should be carefully chosen.

Every self-employed person should have an investment portfolio

The example above may sound odd: The state will give you EUR 4.490 tax reduction if you invest EUR 8.100 in your own capital savings? That equals over 50% capital gain (EUR 4.490 / 8.100) paid in advance, which is great even considering the 4-year binding period. Furthermore, the capital investment is likely to produce additional gains by its nature.

Clearly, this measure helps self-employed people to build up capital reserves which can be used during hard times. It seems more reasonable when considering that the legally compulsory social security insurance for freelancers and business owners does not provide for unemployment benefits.

A freelancer may be entitled to unemployment benefits because of previous employment or additional voluntary unemployment insurance. In Austria there are also other social measures in place, to ensure livable conditions. Would you like to know more? Leave a comment below.

Sadly, this tax opportunity is rarely fully utilized. It is perhaps the complexity of financial markets and tax regulations involved that cause this measure to often miss the target. Also, financial planning is required as the assets have to be acquired before the year’s end. By principle, when the time the tax return preparation comes, the tax year is long passed, and it’s already too late to start considering this kind of investment.

freelancer tax allowance capital investment

Qualified capital investments

There is a lot of confusion about which capital assets actually qualify for the income tax allowance. It can be hardly expected from a common citizen to make sense out of the continuously changing regulations. Obviously, if a wrong kind of capital asset is purchased during the year, the tax allowance cannot be applied. For the curious, the current state of the regulations can be described as follows:

The current wording of the Sec 10 of the Austrian Income Tax Code—which at first glance would allow only housing bonds—is no longer applicable. The official Tax Guidelines elaborate on the applicable regulations for the period (a) before 2009, (b) 2010 until 2012, and (c) after 2013. A clear statement about the currently applicable rules is however somewhat hard to find. What’s even more confusing, some of the notes on the COVID-19 measures were inserted into the commentary on the 2010-2012 period, hardly keeping a comprehensible timeline (eg Sec 3826a in the income tax guidelines).

The first real hint lies quite hidden at the end of the Income Tax Code in Sec 124b nr. 252, which reverses Section 10 to its previous state—i.e. before the changes in 2014—so although its current wording says otherwise, it’s no longer applicable in that form (since 2017). The result is that the income tax allowance requires the same quality of capital assets as the ones required for securing employee’s pension funds specified in Sec 14 (7). These are meant to be low-risk investments.

In a way, this can be seen as a further obstruction of understanding—since the tax allowance is mostly meant to benefit small businesses and self-employed people. It can be hardly expected that these individuals would have any knowledge regarding security funds for pension provisions, which are mostly a topic in corporate boardrooms. To say the least, it is unfortunate that Section 14 (7) was used as a reference.

Compare the information about qualifying capital investments on the website of the Austrian Chamber of Commerce (link).

Finally, the remaining question is which assets are suitable for securing pension provisions—and hence for the investment income tax allowance—according to Sec 14 (7). Fortunately, the tax guidelines provide more clear information in this regard. In Sec 3406e the following examples are listed (rough translation):

  • Public bonds (issued by local authorities)
  • Federal bonds, federal notes
  • Bonds of the federal states and municipalities
  • Federal treasury notes
  • Bank bonds (papers issued by commercial banks)
  • Deposit bonds, municipal bonds
  • Industrial bonds (issued by companies in the non-banking sector)
  • Profit bonds (are characterised by the fact that the bond does not pay a fixed rate of interest, but rather a share in the profits of the debtor company)
  • “Housing bonds” (convertible bonds for the promotion of housing construction – the exemption from withholding tax pursuant to § 2 of the Federal Act on Special Tax Measures for the Promotion of Housing Construction does not apply, as the interest is not to be attributed to the recipient’s income from capital assets)
  • Convertible bonds (they give the holder the right to demand the exchange of the bond into shares of the issuer at a certain time instead of the repayment of the debt amount at a price already fixed at the time of the issue of the bond).
  • warrant bonds (in addition to the right to repayment of the redemption amount, there is an additional independent share subscription right)
  • Exchangeable bonds (instead of the repayment of the capital invested, the subscription of shares in a company named in the bond conditions can be agreed)
  • Subordinated bonds
  • Certificates (without restriction to a specific underlying), provided that a 100 per cent capital guarantee is given (permanently in the case of certificates with an unlimited term, and at least at the end of the term in the case of certificates with a limited term). In the case of certificates that do not have a nominal value, the 100 percent capital guarantee must be based on the initial issue price of the certificate, otherwise on the nominal value. Certificates can take a wide variety of forms; for example as
    (a) index certificates – their performance depends on the performance of an index,
    (b) certificates on an individual security – their performance depends on the performance of, for example, a share,
    (c) commodity certificates – their performance depends on the performance of a certain commodity price (e.g. copper).
  • Index bonds, provided they have a 100 per cent capital guarantee.

This gives some idea about what kind of investment product might be acceptable. However, a case-by-case assessment is highly recommended. Please note that the Tax Guidelines can be described as the tax authority’s interpretation of the law at the best and are not legally binding.

Careful not to commit tax fraud

Claiming a tax benefit without a legal right to do so can constitute fraud. This can be the case also when no intend, but high-level negligence is involved. To limit the risk of a criminal proceeding we recommend (a) consult an expert and (b) be transparent towards the tax authorities. It is a good practice to declare any assumptions made at the time of your tax filing.

Conclusion

The income tax allowance might be one of the greatest benefits, as it helps you to build up financial reserves (partially) with what would have been spent on taxes. At the same time, it might be the most underutilized tax benefit, most likely due to the complexity of the involved regulations. This article explains the legal framework behind this tax benefit and provides examples to elaborate on its use.

Please note that this article is illustrative and cannot provide all specifics regarding this topic. Your case may differ. We always recommend consulting an experienced specialist before making decisions.

Further reading…

  • Austrian Ministry of Finance, Tax Guidelines on allowances applicable 2010-2012, sec 3819 – link
  • Austrian Ministry of Finance, Tax Guidelines on employee provisioning funds, sec 3406e – link
  • Austran Chamber of Commerce, Income tax allowances – link

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