The Estonian Tax and Customs Board pays special attention to the taxation of the income of private individuals arising from commencement of employment relations: this includes income tax, social tax and other compulsory contributions. Income from transactions with cryptoassets is also subject to taxation.
Combating Tax Evasion and Hidden Employment Relations
The aim of the tax authorities is not only to ensure the correct taxation of wages accrued and paid to a private individual, but also to prevent the concealment of employment relations. As a result of such actions, some enterprises may try to avoid paying social tax and other compulsory contributions by artificially reducing payroll; using affiliated legal entities to perform key tasks; and engaging employees who formally work through their own companies to provide services to the enterprise (consulting, management, design, copywriting, etc.).
What is “OÜ-tamine”
The most prominent example of employment relations concealment schemes is “OÜ-tamine” – when the employer avoids paying social taxes by ordering services, often from themselves, through an affiliated company. Such practice may be interpreted as tax avoidance.
Relying on the rulings of the Supreme Court, the Tax and Customs Board is guided by a set of criteria defining the existence of real employment relations and, consequently, the resulting tax liabilities.
Financial Security for Business: Accounting, Taxes, Compliance
Eesti Firma, a firm that provides consulting and accounting services, will help with optimisation of the financial and tax policies of your enterprise in order to avoid the practice of “OÜ-tamine”, but also not to relinquish, if necessary and commercially feasible, the contractual relations for the provision of services important to your enterprise.
We will help to distinguish between employment relations and provision of services, and also ensure correct accounting of expenses related to business activities, as well as accounting for taxation of wages, payments to board members and dividend payments. In order to ensure a transparent financial policy of the enterprise, it is important to comply with the legislation, correctly account for income and prevent risks associated with tax avoidance.
Boundaries of application of the “OÜ-tamine” scheme
The tax problem of the “OÜ-tamine” scheme is still relevant today in the fight against the illegal payments of dividends instead of wages. According to media reports, the aim of the tax authority was not to penalise the use of the “OÜ-tamine” scheme, but to inform entrepreneurs that there are clear rules on what is allowed and what is not. The Tax and Customs Board has only gone to trial with three enterprises on the issue of concealing the true nature of the employment relations.
How OÜ Owners Evade Taxes: Insights from the Tax and Customs Board
According to the Tax and Customs Board, the problem of tax avoidance is more often related to OÜ owners living off their company proceeds. For instance, Lia Parve, the head tax auditing at the Tax and Customs Board, told journalists about two tax avoidance schemes used: concealing real employment relations under the guise of providing services between companies, which is done to reduce labour taxes, and using company assets for personal purposes. Parve noted that the former problem is not too widespread, while the latter can result in tax losses of over EUR 10 million a year.
Taxation of fictitious service provision transactions
An obligation to pay taxes arises when fictitious service provision arrangements are created between legal entities in order to reduce or avoid labour taxes altogether. The Supreme Court in its rulings (3-2-1-82-14 dated 12.05.2015, 3-3-1-25-15 dated 11.09.2015, 3-3-1-12-15 dated 6.10.2015) supported the position of the Tax and Customs Board, recognising such transactions as invalid from the taxation point of view.
In the cases examined, private individuals received actual wages not into their personal bank accounts, but into the accounts of the enterprises they owned (for example, limited liability companies), where they were the sole owners and board members. Instead of an employment contract, service provision contracts were concluded between companies. This allowed the parties to avoid labour taxes by transferring funds to an enterprise account where they could be used at the discretion of the recipient, for instance to pay dividends or cover any expenses.
Supreme Court Confirms: Tax Evasion Schemes via OÜ Are Illegal
Similar schemes were used for management and consulting services, where board members actually worked as private individuals, but the money was transferred to their company accounts. For example, if a director receives gross wages of EUR 3,500 under the contract of employment, their net income will be EUR 2,730 and the employer’s expenditure including taxes will be EUR 4,683. When a contract for provision services is arranged between the enterprises, the full amount of EUR 4,683 can be transferred tax-free, giving the director the ability to dispose of the full amount received. However, such an arrangement is regarded as tax avoidance.
The Supreme Court confirmed that the tax authorities have the right to intervene in such situations and to tax the so-called “service provision transactions” based on their real essence as hidden employment relations. A formal compliance of the contract with the requirements of the legislation is insufficient – it is important that the actual content of the work conforms to the contract provisions. The Tax and Customs Board, based on the Supreme Court’s position, strongly encourages companies to review their tax practices and bring them in line with the Supreme Court’s rulings to ensure taxation fairness and honest competition.
How employment relations differ from provision of services
Employment relations are regulated by the Employment Contracts Act, according to which a private individual (the employee) performs work for another person (the employer), complying in full with the latter’s management and control. For its part, the employer is obliged to pay the employee the contractual remuneration for labour and to ensure the working conditions stipulated in the employment contract or by the legislation.
The criteria from which the system of courts proceeds when treating legal relations as employment relations imply determining who organises and manages the process of work performance; who determines the time, place and manner of work performance; who pays for the work tools; who bears the risk related to work performance; who receives income or profit. Then it is important to establish whether the employee is included in the organisation’s staff and whether they are subject to the organisation’s internal regulations. All of these criteria should be considered together.
In the end, the degree of dependence of the employee on the employer, which is the employee’s level of autonomy, is key in deciding whether employment relations exist. It is the high degree of dependence that distinguishes an employment contract from other civil law contracts.
OÜ-tamine and Contract Reclassification: Key Legal Insights
On the other hand, the widespread and perfectly legal contracts of entrustment and subcontracting relate to service provision contracts regulated by the Law of Obligations Act. According to the clarification of the Supreme Court, the relationship between the members of the board of the enterprise and the enterprise itself is an entrustment relationship. The entrustment recipient is supposed to execute it personally, however, this executor may also engage third parties to achieve the result. Thus, a member of the management board of an enterprise cannot delegate their powers and liability, but this does not exclude the use of third party assistance when executing the entrustment.
As for transactions with enterprises affiliated with members of the management board of the enterprise, it may become apparent that management and consulting services were actually provided by specific private individuals, rather than by the enterprises that entered into the corresponding contracts. As a result, the legal consequences of such a transaction are that the second party to the contract is recognised as a specific private individual.
For transactions involving enterprise employees, the “OÜ-tamine” scheme is manifested in the fact that the relationship between the enterprise and the employee-affiliated company is in fact employment relations in its content and substance – this means that the entrustment contract will be reclassified as an employment contract.
Taxation of cryptoassets and income from online platforms
The current Estonian legislation provides for tax control over income earned from online platforms and apps, as well as on the cryptoasset market, which significantly limits the use of the “OÜ-tamine” scheme in these relatively new areas of employment relations for sale of goods and provision of services.
Income earned from online platforms (for example, freelancing, rental arrangements, selling of goods) in Estonia is also subject to taxation: income tax, social tax, VAT and unemployment insurance. Online platforms in the European Union are obliged to report data on income of private individuals to the tax authorities, and taxpayers are required to declare these taxes.
Selling, Mining, Staking: Crypto Taxation Explained
It should be noted that income from cryptoassets in Estonia is also taxed depending on the nature of the transactions. Profits from cryptocurrency sales are declared and subject to income tax. Mining is subject to income tax on net profits. Social tax is applicable when mining is carried out by a private individual, and not an enterprise. If a cryptocurrency is used as a means of payment for goods and services, such transactions are regarded as a sale of a cryptoasset and are also subject to taxation. The passive income received in the case of staking or lending is also subject to income tax. Tax is also payable on a sale of cryptoassets received as an inheritance or gift. It should be noted that private individuals are required to declare income, indicating the market value of the cryptoassets at the time of the transactions.
Risks of “OÜ-tamine” should be prevented and minimised
Employment relations taxation avoidance schemes, such as “OÜ-tamine”, create risks for companies related to social tax avoidance and concealment of employment relations. The tax authorities and courts require clear compliance with the rules, distinguishing employment contracts from civil law relationships and, if necessary, reclassifying transactions found to be fictitious. Taxation of cryptoassets is particularly worth paying attention to: income from cryptocurrency transactions is subject to declaration and taxation, including mining and staking. Activities performed via online platforms and apps are also taxable.
Proper Income and Tax Accounting with Eesti Firma Experts
Only clear compliance with the legislation ensures business sustainability and minimises the risks of penalties and tax audits. Eesti Firma provides consulting and accounting services, helping enterprises to differentiate between employment and service provision contracts; optimise the tax policy, eliminating the risk of “OÜ-tamine” schemes; and correctly account for income, including cryptoassets and dividend payments.