Navigating the tax landscape for intercompany transactions requires a detailed understanding of both domestic and international tax regulations. One of the main points is that transfer pricing between related entities needs to be conducted at arm’s length. Failure to adhere to this rule can result in significant tax penalties and adjustments in terms of taxable income on the one side and deductible cost on the other side.
Another important consideration in cross-border intercompany transactions is the monitoring of potential withholding taxes. Many countries impose withholding taxes on payments made to foreign entities. These taxes can significantly increase the cost base if not properly managed.
In Bulgaria, the rules governing withholding tax are outlined in the Corporate Income Tax Act and are divided into two primary categories based on the legal grounds for imposing the tax. Both categories apply to foreign legal entities without a permanent establishment in Bulgaria—whether registered as a local commercial company or operating as a branch, office, storage facility, or another type of establishment. Withholding taxes may also apply to payments among related entities in the following cases.
1. Dividends. Liquidation shares
Withholding tax is levied on the distribution of dividends or liquidation shares to foreign legal entities. If these foreign entities are shareholders in a local Bulgarian entity and receive dividends or liquidation shares from it, the transaction will be subject to withholding tax. This rule also applies if the Bulgarian entity is an unincorporated association.
An exception exists for foreign recipient entities that are tax residents in any other EU or EEA country. If the receiving partner is a tax resident of an EU or EEA country, it may receive dividends or liquidation shares without withholding tax, provided that the transaction is not structured as a hidden profit distribution.
2. Income. Penalties and Indemnities
Certain types of income are also subject to withholding tax if generated by foreign legal entities from a Bulgarian source. For example, if a Bulgarian entity makes payments to a foreign legal entity for accrued interest (including interest on financial lease contributions), royalties on copyrights and licenses, or technical assistance, such payments are subject to withholding tax. Specifically, consulting services are considered a form of the previously mentioned “technical assistance” as defined in the supplementary provisions of the Corporate Income Tax Act. Therefore, if a Bulgarian entity pays a foreign entity for consulting services, these payments may be subject to withholding tax.
Additionally, withholding tax will be applied if a Bulgarian entity makes payments for penalties or indemnities owed to a foreign legal entity, provided that the latter is based in a jurisdiction with preferential tax treatment. Under the Bulgarian legislation such jurisdictions include the United Arab Emirates, Oman, Hong Kong, the US Virgin Islands and others.
3. Tax Rate Differentiation
The Bulgarian legislation differentiates tax rates and tax bases depending on the specific cases described in Sections I and II above.
The withholding tax rate is 5% on transactions involving dividends or liquidation shares. The tax base is the gross amount of dividends distributed or, in the case of liquidation shares, the difference between the market price and the actual price.
A 10% withholding tax rate applies to income, penalties, or indemnities described in Section II. The tax base is calculated according to specific rules that vary by the type of monetary obligation.
These tax rates may be adjusted in accordance with the provisions of a double tax treaty between Bulgaria and the relevant foreign jurisdiction.
The information provided above is intended for informational purposes only and does not constitute tax or legal advice. If you require guidance on a specific case or need advice tailored to your situation, please do not hesitate to contact us. We are available to offer professional tax and legal counsel based on the particularities of the specific case.
