Upcoming individual income tax reform: forewarned is forearmed

Professor Mark Delanote, who was asked by the Minister of Finance to lead a team of experts with a view to make a proposal for a global personal income tax reform, released a preliminary report at the beginning of this week. The general idea is to reduce the tax burden on professional income and to compensate said reduction by a broadening of the taxable base. Not all compensatory measures may reflect per se the position of the Minister of Finance. While it is unlikely that a global reform will be adopted on a short-term basis, the Minister of Finance is expected to present some proposals to the Government. 

During the governmental negotiation, political parties agreed to work on a global personal income tax reform. The corporate income tax, which was reformed a couple of years ago, should remain out of scope. The expert appointed by the Minister of Finance released a first report at the beginning of this week.

The report concentrates on four pillars, i.e. household taxation, taxation of professional income, taxation of capital income and taxation of consumption. An objective has been assigned to each of the pillars, namely the neutrality of the family choices (household taxation), the reduction of the tax burden on professional income, the broadening of the taxable base subject to capital income taxes and the neutrality of consumption taxes, save for environmental taxation or taxation justified by public health objectives. 

In essence, the objective of the report is (i) to reduce the tax burden on professional income and (ii) to compensate such reduction by a broadening of the taxable base. The reduction of the tax burden on professional income should be implemented through a revision of the taxation rates (or a widening of the taxation brackets). Given the budgetary impact, the report is not specific on the amplitude of such reductions. 

This newsflash solely purports to draw your attention to measures which may have an impact on compensation plans; e.g.:

• the alignment of the notion of "remuneration" for individual income tax purposes and for social contributions purposes. This measure might have an impact on revenues which are currently not subject to social security contributions (such as meal vouchers or stock option grants);
• the revision of the valuation of some benefits in kind to get closer to their real value (i.e. no more lump sum approaches for company cars) and the end of lump sum reimbursement of so-called employers’ costs;
• the revision of the stock option law.

The report underlines that "the continuation of the scheme itself as a special incentive to reward executives in a more attractive way seems questionable from an economic point of view. Insofar as the reform may lead to a substantial reduction in the tax burden on labour (if necessary with accompanying measures for social security contributions), the argument of international competition loses its importance".

However, the report acknowledges that "it is often necessary to allow the most important executives to become shareholders of the company and thus to attach them to the company".

In this respect, three concrete proposals are made: (i) "limit the scope of application of the 'Stock Option Law' to options relating to shares of the employer and forbid the clauses providing a certain advantage to the beneficiaries", (ii) tax the options at their real value upon attribution (if unconditional) or upon exercise thereof (if the attribution is not final and unconditional) and (iii) assuming that capital gain on shares will be subject to taxation in the future (see infra), tax the capital gain realized upon exit as an "ordinary" capital gain on shares.

The report hence proposes to abolish the current favorable tax regime of taxation of employee stock options (with vesting schedules) upon grant:

• the abolition of deviating individual income tax regimes, such as authors' rights, flexi-jobs or taxation of sportsmen;
• the revision of the professional withholding tax exemptions. The report provides for multiple recommendations, including the possibility to cap the exemptions at a certain amount of gross pay or to replace the exemptions by a structural reduction of the social security contributions;
• the report also recommends to introduce a clear distinction between professional income and movable income. In this respect, the report draws attention to carried-interest and management incentive schemes: "it may also be proposed to determine that income from assets of any kind (as a rule, income from movable property and capital gains), which the person concerned would not have obtained without carrying out a professional activity linked to this income, is in principle taxable as professional income. This is also intended to respond to the phenomenon that is occurring more and more often today, whereby certain rights - to participate in 'profits' - are granted to a senior executive, which are causally linked to the professional activity exercised by the person concerned (cf. the carried interest regime and management incentive schemes). In order to align the 'activity income' (remuneration) with the real return on assets, the 'activity-related excess return' should be defined, if necessary. In the presence of passive shareholders, the effective return on assets logically corresponds, at least in principle, to the return of the passive shareholders on the amount invested";
• management companies (ManCos) are also targeted. The report does not provide for a general definition of "management companies" but insists on the fact that professional income should not be converted into movable income. In this respect, three alternatives are put forward:
  • increase the minimal remuneration for ManCos and the penalties in the case of non-compliance. The current minimal remuneration amounts to EUR 45,000 and the penalty is limited to the non-application of the favorable 20% corporate income tax rate; or
  • introduce a requalification rule according to which the positive difference between the actual profits of a ManCo and a "normal" return on its assets would be subject to individual income tax; or
  • introduce a deviating tax regime for companies which "could not carry out their activities without the active involvement of a significant shareholder";
• with respect to taxation of capital income, the report provides for a broadening of the taxable base. Notable changes include:
  • the taxation of property income based on the net rental income (in all circumstances), i.e. the end of the cadastral income;
  • property income would no longer be subject to the progressive income tax rates but would be subject to the same rate as movable income (i.e. withholding tax rate);
  • the report recommends to tax the income derived from branch 21 and branch 23 insurance contracts; and
  • taxation of the capital gain on shares.

As to the taxable rate, the report indicates that a 30% rate would be a maximum but that reduced rates could be foreseen (e.g. a 15% rate for capital gain on shares). The report finally indicates that the reduced 15% VVPRbis rate for dividends could be maintained "provided that effective measures to prevent the abusive conversion of income from work into income from assets are implemented"; and

• last but not least, the report recommends introducing an obligation to declare all investment income, thereby abolishing the liberating withholding tax at source.

These measures only represent the view of the experts and are not yet concrete proposals of the Minister of Finance. 

The Minister seems to acknowledge the fact that a global personal income tax reform cannot be implemented at once, without proper discussion with relevant stakeholders. Some political parties have also expressed their concerns. The Minister of Finance has however indicated his intention to present the main principles of the reform to the government before the summer holidays, i.e. 21 July. 

While at this stage, it seems unlikely that a global reform would be adopted it cannot be excluded that the Minister of Finance may select some measures and cherry pick the measures which are currently being discussed. This might encourage taxpayers to anticipate the implementation of specific schemes which are available today but might not be available in the future (or be available subject to less favorable tax conditions). 

We will keep you informed of the legislative proposals, if any, made by the Minister of Finance. We are available to discuss how any of the measures proposed by the experts might impact your business.