A number of corporates whose directors are not employed but engaged on no-remuneration management contracts have reported unusual requests by tax inspectors in response to their exercise of legal right to claim VAT refund.
The Serbian tax authorities have a long-lasting practice of responding to such requests with visits to the petitioner’s premises and detailed audit of the petitioner’s books. As of recently, however, the tax inspectors have started conditioning VAT refund by requesting the petitioners whose directors are engaged on management contract without remuneration to calculate and pay tax and pension insurance on the amount equal to the statutory minimum wage even though no remuneration whatsoever has been paid to the director and moreover, the director has waived in the contract any right to remuneration.
This practice, which we think is not supported by law, could have been anticipated when the Ministry of Finance (MoF) issued in June 2018 an opinion on taxation of the director’s income. In that opinion, MoF quotes another opinion of the Ministry of Labour (MoL) issued in May 2018 in which MoL invoked a provision of the Serbian Constitution which stipulates that no one can waive remuneration for the work performed and concluded that the director’s remuneration is therefore a mandatory element of his contract. MoL then proceeds to conclude that the company as payor is obliged to calculate and withhold personal income tax and pension contributions on director’s income upon disbursement of that income.
The opinion of MoL on the mandatory nature of director’s remuneration is dubious on its merits. The reference to the constitutional guarantee of adequate pay is misplaced because it applies only in the context of employment (see Article 60 of the Serbian Constitution). The Labour Act provides that, in case the director is not employed with the company in which he serves, the relationship is governed by a civil law contract between them. The Labour Act does not prescribe a written form for this contract. The Labour Act indeed states that the director who is not employed “has the right to a remuneration for his work and other rights, obligations and duties, in accordance with the contract”. However, it is at least debatable whether this means that the director is entitled to a remuneration in any event, or he is entitled to a remuneration only if the contract so provides. The latter interpretation is more plausible because the language of the provision links the entitlement to a remuneration to the terms of the contract. Moreover, the Labour Act does not set any default rule for remuneration in case the contract is silent in that respect. The provisions of the Labour Act on minimum wage are restricted to employment status and do not extend to other forms of engagement. There is therefore no sufficient statutory basis to conclude that the director is entitled to a minimum wage if his contract is silent on the remuneration.
However, even if one accepted for the sake of an argument that the director is entitled to a certain deemed remuneration notwithstanding the fact that his contract is silent on the matter and even if he expressly waived in the contract any right to remuneration for the services, this would at best mean that the director has a claim towards the company for a certain remuneration (which would then trigger the issue of how to quantify that remuneration). There is certainly no basis in the law for the tax authority to require a company which has not paid any remuneration to the director to nevertheless pay pax and social contributions on a hypothetical remuneration (not to mention that no rules or guidance exists as to what can be taken as hypothetical remuneration in that case). Article 101 of the Personal Income Tax Act expressly provides that the obligation of a legal entity which is the payor of the so-called “other income” to an individual to withhold personal income tax arises “at the moment of disbursement” of the income. According to Article 70 of the Tax Procedure and Tax Administration Act, the tax authority is entitled to offset the amount of VAT refund against any due and payable tax liability of the taxpayer.
It is therefore clear that the reported practice of the tax authorities to condition the VAT refund to the corporate taxpayer with the payment of tax and social contributions on an undisbursed putative income of that corporate tax payer’s director, has no support in law.
Moreover, when directors are foreign nationals, the tax authority would first have to establish whether Serbia has the right to tax personal income of that non-resident. The fact that a non-resident individual is appointed and registered in the commercial registry as director of a Serbian company does not necessarily mean that he actually performs work in Serbia. If the work is not performed in Serbia, there is no liability to pay social contributions in Serbia. With respect to personal income tax, under international taxation principles (reflected in Serbia’s existing double taxation avoidance treaties – “DTTs”), Serbia would have the right to tax the income of a foreign director who is not an employee of the Serbian company but holds office on the basis of a civil law management agreement only if the director is a member of the board of directors of the company but not when he or she is an individual director. According to the language of the relevant DTTs, the fees of a director who is not a board member should be taxed in the country of his tax residence.
