Tax free per diems are not always tax free

19 December 2014

In a recent ruling, the National Tax Board decided that per diems cannot be paid tax free if the agreed salary is of minor size.

Years ago, the rules on payment of tax free per diems were tightened. It was decided that an absolute condition for per diems to be paid tax free was that the per diems were not part of the salary. On the contrary, per diems were only supposed to cover expenses incurred during business travel.

Hence, if per diems are to be paid tax free to employees, salary cannot be redistributed as per diems in the way that employees accept lower salary than otherwise obtainable against payment of tax free per diems in addition to the lower salary.

In the preparatory work concerning the rules, an example of non-compliance with this condition was provided; an employee accepted not to be compensated for overtime against receiving tax free per diems.

The recent ruling by the National Tax Board concerned a Danish temporary employment agency providing labour from Lithuania to Danish businesses – primarily to construction businesses.

The Lithuanian workers were to be employed by the Danish temporary employment agency at a salary subject to negotiation but at least equal to the minimum salary according to Lithuanian law. It was expected that the hourly salary would amount to approx. 18 – 23 DKK. Overtime was to be remunerated according to hourly rates of approx. 60 - 83 DKK. In addition, the Danish temporary employment agency would pay per diems to the employees amounting to 360 DKK per day.

The National Tax Board ruled that the per diems could not be paid tax free. This was in part due to the insignificant size of the salary and in part because the salary was deemed redistributed as per diems by the National Tax Board. In the ruling, the National Tax Board referred to the size of the salary compared to the size of the per diems.

The ruling is notable due to the fact that the Danish tax authorities in fact suggested that the National Tax Board ruled that per diems could be paid tax free under the described circumstances. Unsurprisingly, the National Tax Board declined to do so.

It would have been appropriate had the ruling indicated a sufficient level of salary in order for per diems not to be deemed salary redistributed as per diems - consequently making the per diems taxable in the hands of the employees. The ruling undoubtedly leaves many businesses with uncertainty concerning how to comply with the rules. If businesses pay tax free per diems, they are liable to pay the missing withholding tax should the Danish tax authorities later decide that the per diems are not tax free.

BDO can assist your business if you require an assessment of whether the conditions for paying tax free per diems are met.

The above article is taken from tax:watch, our electronic English newsletter on Danish Tax and VAT matters. tax:watch is issued on the last Friday of each month and is free of charge.