Transcript: Tax bulletins summary / January 2021

So the big news on the corporate tax front from last month is the new limitation on the deductibility of interest expense from corporate profits.

The new measure is intended to encourage businesses to use capital rather than borrowing in financing their operatios. The deductibility restriction only applies if the borrowings of a company exceed the equity.  

The limitation will be applied at 10% and it will apply on the interest expense corresponding to the exceeding portion of the borrowings, not on the whole borrowing amount. 

This means, if a company’s borrowings are greater than its equity,

going forward 10 percent of the interest expense corresponding to the excess borrowing will be disallowed for corporate income tax purposes.

Now, Turkey implements thin capitalisation rule, which also limits a company’s ability to deduct interest from taxable profits.

But unlike from the thin capitalisation rule which applies only to borrowings from shareholders and related parties, the new limitation applies to all borrowings, from related party or third party.

There is no possibility to carry forward disallowed interest for relief in future periods. The non-deductibility treatment is permanent.

There is some protection for interest that is capitalised to the cost of capital investments. These are not within the scope of deductibility restriction.

The fact that the interest is defined quite broadly to include all amounts that are interest-like in nature, is likely to create issues.

As a matter of fact, there are a number of areas that need clarification and we will have to wait until the implementation Communiqué for a full picture of the new rule.

At this point some of the inital questions include:

• We said that the restriction will apply if the company’s borrowings are greater than the equity.
• So, this borrowing  to equity ratio, well… exactly at what point in time we will be measuring this ratio? We do not have the answer yet.
• The decision putting the deductibility restriction into effect was issued on 4 February 2021, but it will be applied as of 1 January 2021, so there is already an issue here.
  
• Companies decided their financing mix in the absence of this restriction and now they have a new rule and for many projects  this will mean additional tax cost.
  
• Another question mark is the VAT. The VAT incurred on the disallowable interest expense, are the companies be allowed to recover the VAT?
  
•  From the interest deductibility restrictions applied in the past, we know that VAT recovery was allowed, and therefore the expectation is that it will be allowed also this time.   

And the presence of thin capitalisation rule is also important here.

The countries that are adopting this type of disallowance of financial expense, while doing so, they are repealing the thin capitalisation rule from their legislation.

There are only a handful of countries which are imposing the two restriction at the same time and it looks like Turkey will be one of them and we will waiting guidance from the tax authority on how the two restriction will work together.

This is the end of our time. Thanks for joining us. We hope to see you next month!