30.11.2020 Taxes

[Czech Republic] Payroll paradoxes: how to increase net wage with help of taxation?

From time to time, the payroll accountant processes a wage calculation that at first glance seems like a nonsense. However, if we know the Czech legislation and think about how the payroll is processed, we will come to the conclusion that the calculation is correct – only, as it is usual in life, there are paradoxes. Today we will take a closer look at one of such paradoxes.

We all pay taxes and social and health insurance (hereinafter SHI). We all know that we will never receive the same amount, which we concluded in employment contract, from our employer. This is caused, among other things, by the fact that the employer is obliged to calculate and deduct tax and SHI from gross wage. Only what is left can be sent to the employee’s account.

What is taxation

However, not everyone is aware that the tax and SHI must also be calculated and deducted from the so-called non-monetary income. In payroll accounting circles, the calculation of levies on this non-monetary income is called “taxation”. What is such non-monetary income? It is anything that the employer (besides the gross wage) has paid in favor of the employee to a third party.

For example, an employer could agree with an employee that he would pay the rent of the employee’s apartment in addition to the basic gross wage. The employer thus sends, for example, CZK 15,000 per month to the landlord of the apartment. And why do employees have to “tax” these CZK 15,000? Because the employee receives the advantage from his employer in form of not having to pay rent. Employee’s net wage is basically CZK 15,000 higher, because he has no obligation to pay rent. And if the employer paid him CZK 15,000 gross, he would logically have to deduct and pay tax and SHI from this CZK 15,000. Therefore, even if the rent is paid by the employer directly to the landlord, we must tax this amount of rent. If we didn’t have to do this, many employees would like to avoid levies by concluding a minimum (or guaranteed) wage in an employment contract and the rest of their living needs would be covered indirectly by the employer.

Since the taxation is only an abstract amount in wages, which only serves to calculate additional levies, taxation in a standard situation reduces net wage. If we get an extra bonus, our levies will also increase, however, the gross wage will increase as well, and thus the final net wage will also increase. Nevertheless, if we add only taxation, the net wage will logically decrease, because the gross wage will not increase with the taxation, whereas the tax and SHI will.

What is the minimum assessment base for health insurance

Now that we know what taxation is, we can look at another concept, and that is the minimum assessment base. This institute applies only to health insurance (not to tax, nor social insurance).

The health insurance rate is 13.5%. However, the law stipulates that 1/3 of this amount will be deducted from the employee’s wage and 2/3 of this amount will be paid by the employer to the health insurance company on top of gross wage. In addition, the law stipulates that the minimum amount from which insurance must be paid is CZK 14,600 (for 2020). If the employee’s wage (incl. non-monetary income) does not reach such an amount, the insurance is calculated from the lower amount in the manner described above and the difference between the amount of 14,600 and the actual wage is the so-called supplement to minimum. However, full 13.5% of the supplement must be deducted from employee’s wage. Thus, the provision about thirds does not apply here and the whole 13.5% must be the employee’s burden.

How do these two things (taxation and minimum assessment base) relate to each other and what paradox can they create? It’s actually simple. The lower the employee’s gross wage (below CZK 14,600) is, the bigger part of the total paid health insurance is paid by the employee. However, if we add taxation to the employee’s wage, it means that the assessment base from which the insurance is calculated will increase, and thus there will be an actual shift in the payment of insurance from the employee’s to the employer’s side. If we are below the level of CZK 14,600, and the assessment base will be increased by taxation, a relatively large part of the insurance from the taxation amount is suddenly transferred to the employer’s burden, which may cause a real increase of the employee’s net wage.

Let’s take a look at a specific example. The employee has a basic gross wage of CZK 5,000. This month, however, the employer must also tax another CZK 5,000, because in this amount the employer paid private non-life insurance for his employee, which is not exempt from tax (and therefore nor from SHI). For the record, let’s state that the employee is obliged to pay health insurance from the minimum assessment base and that he applies a single tax relieve, namely the taxpayer relieve.

Wage calculation before taxation

Gross wage:        5000

Taxation:              0

HI employer:       5000 x 0,135 x (2/3) = 450 CZK

HI employee:        5000 x 0,135 x (1/3) + (14600 – 5000) x 0,135 = 225 + 1296 = 1521 CZK

SI employer:        5000 x 0,248 = 1240 CZK

SI employee:       5000 x 0,065 = 325 CZK

Tax base:             (500 + 450 + 1240) = 6700 CZK (rounding)

Tax:                      6700 x 0,15 – 2070 = 0 CZK (the relieve cannot be higher than the tax itself)

Net wage:           5000 – 1521 – 325 – 0 = 3154 CZK

Wage calculation after taxation

Gross wage:       5000

Taxation:             5000

HI employer:      10000 x 0,135 x (2/3) = 900 CZK

HI employee:      10000 x 0,135 x (1/3) + (14600 – 10000) x 0,135 = 450 + 621 = 1071 CZK

SI employer:       10000 x 0,248 = 2480 CZK

SI employee:      10000 x 0,065 = 650 CZK

Tax base:             (10000 + 900 + 2480)=13400 CZK (rounding)

Tax:                      13400 x 0,15 – 2070 = 0 CZK  (the relieve cannot be higher than the tax itself)

Net wage:           5000 – 1071 – 650 – 0 = 3279 CZK

In the example, we can see that the net wage is higher in the case of taxation than without it. If an employee’s net wage increases, there is usually no need for explanation. However, if the opposite is the case, when the removal of the taxation reduces the net wage, the payroll accountant needs to try to explain the situation to the employee in a similar way as described in this article. As one can image, it is not always easy.

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Martin Svoboda Payroll Business Development Manager

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