Businesses in Croatia are often financed with loans because the interest on the loan represents a cost and reduces income tax liability. However, for companies to be able to deduct the interest, they must consider the ratio between loan and capital as well as voting rights. The Ecovis consultants know exactly what to do and what to look out for.

Companies in Croatia often use loans to find the extra capital needed to fund the business. When financing a company with a relatively high ratio of debt to capital, the tax aspect of such financing should also be considered. It is more appropriate for companies to finance with loans than with capital because, in general, interest on loans is a tax-deductible expense.

The tax authorities want to prevent such tax reductions. Therefore, in many countries, the amount of loans on which shareholders and members of the company can calculate and pay interest and declare as tax-deductible expenses has been limited. For example, on 1 January 2019, a new rule on limiting interest rates was introduced into the Croatian Income Tax Act. It stipulated that interest costs and other costs of borrowing on loans received by taxpayers from abroad are tax deductible up to an amount of EUR 3,000,000 or 30% of profit before interest, taxes and depreciation (EBITDA), whichever is lower.

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We can support you with corporate financing. Because we know the rules.

Mihael Gruičić, Payroll Specialist, ECOVIS FINUM, Zagreb, Croatia

Shareholder loans instead of external financing are permitted and common in Croatia

The rules on thin capitalisation in Croatia state that taxpayers must increase the income tax base on interest on loans received from a member of a foreign company holding at least 25 percent of the taxpayer’s equity or voting rights if, at any time during the tax period, those loans exceed four times the amount of the share of that member of the company (in capital or voting rights) determined in relation to the amount and duration of the loans in the tax period. Under Croatian law, loans from third parties guaranteed by a member of the company and loans from related parties are also seen as loans from a member of the company. When calculating the capital share of a member of the company, the balance of capital on the last day of the month in which the loan was used is taken into account. This is determined every last day of the month for the period of loan use.

Pay attention to the ratio of loan to capital and voting rights

In terms of capital, this is seen in totality – i.e., subscribed capital reduced by unpaid capital, unsubscribed capital, reserves and retained earnings. This means that interest charged on loans that exceed four times the total ownership share or voting rights is not tax deductible. Currently in Croatia, this rule does not apply to banks and other financial organisations and to domestic taxpayers who appear as lenders. Furthermore, when determining tax-deductible interest expenses on loans between related parties, including loans from members of the company, the interest rate and not just the absolute amount must be taken into account.