In order to bring Hungarian tax law in line with OECD’s recommendations delivered in “Action 5” of the “BEPS-package”, Hungary’s special tax regime on intellectual properties has been amended as of 1 July.
The revised, “BEPS-proof” rules provide a flexible framework for building up IP structures in Hungary. With appropriate planning, both the development, the acquisition and the utilisation of intellectual property rights can be carried out at the level of a Hungarian company with zero or minimum tax burden. Furthermore, the resulting profit can be repatriated tax neutrally. Therefore, it is foreseen that Hungary will keep its importance in the future as a centre of international IP investment and distribution structures.
The amended regulation has removed trademarks, know-how, business secret and copyrights from the definition of qualifying IPs with the exception of software, which is a copyright but expressly kept in the amended regime. The new definition now specifies the qualifying industrial intellectual properties, namely patents, utility models, plant variety protections, supplementary protection certificates (SPC), topographies of microelectronic semiconductor products and protection of medicine products for rare diseases.
Special tax incentives
The “half-deduction” incentive
Half of the profit resulting from licensing and sublicensing of a qualifying IP is deductible from the corporate tax basis and is fully exempt from local business tax. This incentive has been left intact; only technical rules have changed in its respect. Taking into account the low general corporate income tax rate, this incentive can still lead to a 5% effective tax rate on licensing income.
Tax exemption of “reported IPs”
The so-called “reported IP” regime will also remain in force. According to such rules, a qualifying IP acquired or developed by a Hungarian entity can later be sold free from both corporate tax and local business tax, provided that the taxpayer acquiring the IP has reported the acquisition to the tax authority within 60 days and the sale is completed after a one-year holding period.
This incentive makes Hungary an ideal location for such IP structures where the acquisition, creation or value increasing development of the IP is realised in a project company, while the utilisation of the IP is carried out by other group companies. In such case, if the IP is acquired or developed by a Hungary company, the asset can be transferred subsequently at a high value to the distribution companies without tax payment obligation, while the distribution companies, due to the high capitalised value of the IP, can account for a significant amortisation, deductible against their profits. As it appears, a tax-free ‘step-up’ can be achieved by the simple insertion of a Hungarian project company into the structure.
If meeting the holding period is not an option for the IP owner due to any commercial or legal consideration, it is still possible to apply the half-deduction regime to the gain on the sale.
Limitation to local added value
Both the half-deduction for royalties and the full exemption for the gains on sale have become limited by the amended rules but only in situations where the Hungarian company purchases a qualifying IP or R&D service from a related company. In such cases the incentives apply only in proportion to the ratio represented by the taxpayer’s “own” direct R&D costs in its total direct R&D costs, which also includes the costs of R&D services and qualifying IPs purchased from the related companies. The so resulting percentage can nonetheless be increased by 30 percentage points (up to 100%).
Under the new rules the former tax advantages remain available, without any limitation, if the Hungarian company:
- purchases the qualifying IP from independent persons;
- develops the IP by itself without purchasing any IP or R&D services from group companies (but possibly purchasing IP or R&D services from independent companies); or
- develops the IP by using intra-group qualifying IP or R&D services with the so incurred expenses not exceeding 30% of its total direct R&D costs (and possibly purchasing IP or R&D services from independent companies to any extent).
As an important additional feature of the Hungarian IP regime, Hungary does not levy withholding tax on royalty payments based on its domestic law.
Furthermore, the almost 90 double tax treaties concluded by Hungary plus the EU Interest-Royalty Directive ensure that no (or only limited) withholding tax is levied on cross-border royalties received by a Hungarian entity.
It is to be noted that interests, dividends and liquidation proceeds are also all exempt from withholding tax in Hungary. This makes an easy way for tax efficient repatriation of the profits realized from the IPs by Hungarian companies.
The former Hungarian IP tax regime remains applicable until 30 June 2021 with respect to IPs created or acquired by the Hungarian companies before 31 December 2015.
As regards IPs created or acquired between 1 January and 30 June of 2016 different transitional rules apply depending on the source of the IP. If it was created by the Hungarian company itself or acquired from an unrelated party, the benefits remain available until 30 June 2021. If, however, the IP was obtained from a related party, it may enjoy the benefits of the old regime until the end of 2016 only.