Corporate income tax: what is it, how do you calculate it and when do you pay it?

What is Corporate Income Tax?

Corporate Income Tax (IRC) is a tax levied on the profits of organizations with commercial, industrial or agricultural economic activity in Portugal. This tax is also applied to income earned in Portuguese territory by foreign companies.

The IRC aims to tax companies' profits, i.e. the positive difference between the income earned and the costs and expenses incurred during a given period of time. It is a direct tax, i.e. it is levied directly on companies and not on end consumers.

If you've read other articles and found yourself confused, in this article you'll find everything you need to know about the subject in a practical and simple way.

Types of Entities Subject to Corporate Income Tax

In addition to companies, there are various types of entities that are subject to corporate income tax:

• Associations;
• Foundations;
• Cooperatives;
• Among others.

Entities that are not legally considered legal persons but have autonomous assets or income aimed at making a profit may also be subject to IRC.

How IRC works (IRC Code and Law no. 2/2014)

The operation of income tax is governed by Law no. 2/2014, also known as the Corporate Income Tax Code.

This tax is calculated on the basis of the previous year's profits and companies are obliged to file an annual corporate income tax return (Modelo 22) which must be submitted by electronic data transmission during the period between February 1st and May 31st of each year.

Who pays corporate income tax in Portugal?

Corporate Income Tax (IRC) must be paid by entities that carry out economic activities in Portugal, in all their different forms. As established in Article 3 of the IRC Code, the following are subject to the payment of income tax:

• Companies resident in Portugal that carry out a commercial, industrial or agricultural activity as their main source of income are subject to IRC.

• Resident companies that do not carry out activities in these areas as their main activity: some entities resident in Portugal may not carry out a commercial, industrial or agricultural activity as their main activity, but they are still subject to IRC. This group can include service companies, consultancies, digital service providers, among other types of activity.

• Non-resident entities earning income in Portugal, even without a permanent establishmentNon-resident entities, i.e. those that do not have a tax residence in Portugal, can also be subject to IRC if they obtain income in Portuguese territory as a result of their activity. This income can come from various sources, such as:
  
  
  • Property rental;
  • Provision of services;
  • Royalties;
  • Among others.

• Non-resident entities with a permanent establishment in PortugalFinally, non-resident entities that have a permanent establishment in Portugal are also subject to IRC. A permanent establishment can be one of the following:
  
  
  • Subsidiary;
  • Branch;
  • Office;
  • Factory;
  • Or any permanent place where the entity carries out economic activity in Portugal. Yes: you are subject to IRC!

How much corporate income tax do you pay?

When determining taxable profit, the standard corporate income tax rate is 21%, calculated on the basis of the company's taxable profit.

Taxable profit is determined by subtracting deductible costs and expenses from the total income earned by the company.

e.g. Taxable profit = Income - (Costs + Deductible Expenses)

However, it is important to note that there are some exceptions to the standard rate of 21%:

• There is a 17% rate applicable to the first 50,000 euros for small-medium capitalization companies (Small Mid Cap - less than 500 employees);

• If a company's taxable profit exceeds €1,500,000, additional taxes are levied, ranging from 1% to 9%.

The additional rates of the latter are progressive, meaning that the higher the taxable profit, the higher the additional rate to be applied. This rate is known as the state surcharge and is determined annually by the Portuguese state.

The state surcharge is applied to the taxable profit that exceeds €1,500,000. For example, if a company's taxable profit is €2,000,000, the additional rate of 1% would only be applied to the amount that exceeds €1,500,000, i.e. €500,000. We'll return to the subject of the state surcharge later in this article.

How is corporate income tax calculated?

Calculating corporate income tax is a process with several steps and concepts involved. We'll explain each of them so that you can understand how the amount of corporate income tax to be paid by a company is determined:

1 - Taxable Profit

Taxable Profit is the first concept that must be understood: it is the difference between the income obtained from the company's activity and the expenses incurred.

Income includes all the revenue generated by the company, while expenses represent the expenses necessary for the operation of the company, such as:

• Wages
• Expenditure on raw materials
• Renting premises
• Among others

It is important to note that not all expenses are deductible for the purposes of calculating taxable income: there are specific rules defined by tax legislation.

2 - Collectible Matter

For tax purposes in Portugal, the taxable amount is determined by simple arithmetic: the amount of taxable profit, minus tax benefits and tax losses that can be deducted. Confused?

• These benefits are incentives granted by the state to encourage certain activities or behaviors by companies;

• Tax losses, on the other hand, refer to previous years in which the company made losses and which can be used to reduce taxable income in subsequent years.

3 - Corporate Income Tax

Once the taxable income has been calculated, the corporate income tax rate is applied. The standard corporate income tax rate in Portugal is 21%, and in the case of Small Mid Cap companies it is 17% for the first €50,000 of taxable income.

However, there are some exceptions: for example, if the taxable profit is more than €1,500,000, additional taxes of up to 9% apply. This is the case with the state surcharge which, as I promised, we'll talk about later.

4 - Municipal surcharge

The Municipal Surcharge is a tax levied on the taxable profits of companies located in a given municipality.

The municipal surcharge rate is set annually by the municipality and can vary between 0% and 1.5% of taxable income.

5 - Autonomous Taxation

Autonomous taxation is a tax payable on certain costs that the company may have, regardless of the net result for the period.

These costs include, for example:

• Expenses for light passenger vehicles;
• Representation expenses;
• Undocumented expenses

The rates of autonomous taxation vary between 10% and 50%, depending on the type of expenditure.

6 - State Surtax

In addition to the Municipal Surtax, some companies may be subject to the famous State Surtax. This applies when turnover exceeds a certain amount. The rate varies between 3% and 9% and is levied on the taxable profit that exceeds the limits defined by law.

Don't confuse State Surtax with Municipal Surtax!

And on the islands: is there a special tax regime?

In the context of corporate income tax in Portugal, it is important to address the situation of the islands, namely the Autonomous Regions of Madeira and the Azores. Due to their status as island territories and their economic and fiscal specificities, the islands have some particularities when it comes to CIT:

1. Autonomous Region of Madeira: the Autonomous Region of Madeira has a specific tax regime known as the International Business Center of Madeira (IBCM). This regime was created in order to promote economic development and attract investment to the region.
   
   The IBC offers significant tax benefits for companies based in Madeira, including a reduced corporate income tax rate of 5% on profits from eligible activities. This rate is applied to income considered to be "profits from relevant activities", while all other income is subject to the normal corporate income tax rate - which for the Autonomous Region of Madeira is 14.7%, although in the case of Small Mid Cap companies, 11.9% applies for the first 50,000 euros of taxable income;
   
   
2. Autonomous Region of the Azores: in the case of the Autonomous Region of the Azores, income is subject to a corporate income tax rate of 14.7%; in the case of Small Mid Cap, 11.9% applies for the first €50,000 of taxable income.

It is important to note that tax regimes on the islands have specific requirements and are subject to conditions and limitations established by legislation. Companies interested in benefiting from these regimes must comply with the established criteria and obtain the appropriate authorizations and approvals from the competent bodies.

In addition to the specific tax regimes, companies on the islands are also subject to the same general tax rules and obligations that apply to income tax in mainland Portugal. This includes submitting the annual corporate income tax return (Modelo 22) and complying with the deadlines set for paying the tax.

IRC Payment Methods and Model 22

According to the Corporate Income Tax Code and Decree-Law no. 2/2014, income tax is paid using Modelo 22: a tax return that companies must submit to the Tax and Customs Authority - on their website, not by email.

Below are some important details on how to pay IRC and how to fill in Modelo 22:

• Model 22Modelo 22 is the specific document for the annual corporate income tax return. In it, companies must include relevant information such as:
  
  
  • Income earned;
  • Costs and expenses;
  • Applicable tax benefits;
  • And other relevant financial information.
    
    
• Submission deadline: Model 22 must be submitted by the last working day of May of the year following that to which the income relates. It is essential to respect this deadline in order to avoid fines and penalties for late submission.

• Payments on account: in addition to the annual Model 22 declaration, companies must also make payments on account throughout the year. These payments are made in July and September of the year to which the income relates. Payments on account are advance payments of income tax that must be made based on the estimated taxable profit for the period in question. These advances are then adjusted against the final amount of IRC due.

• Self-assessment: It is important to mention that the Portuguese tax system adopts the principle of self-assessment. This means that companies are responsible for correctly calculating the IRC due and making the appropriate payments. It is essential to keep accurate records, make correct calculations and comply with tax obligations related to IRC.

Delays and fines

It is essential that companies comply with the CIT payment deadlines set by the tax authorities in Portugal. Otherwise, they may be subject to penalties and fines. The amount of the fine depends on the length of the delay in payment and the company's financial situation.

In the event of late payment of income tax, a rate of compensatory interest is applied to the amount owed and can be fixed or variable:

• Generally, the fixed percentage is applied when the delay is less than 30 days;
  
• The variable percentage is applied when the delay is more than 30 days.

The company's financial situation can also influence the imposition of fines. In cases where the company is facing proven financial difficulties, the tax authorities may grant a payment plan in installments, thus avoiding harsher fines.

Exemptions

In addition to the fees and fines related to Corporate Income Tax (IRC) in Portugal, it is important to note that some entities are exempt from paying this tax under the IRC code. These exemptions apply to specific organizations that carry out certain activities or have certain characteristics.

Public entities such as:

• the state;
• the municipalities;
• and other public administration bodies.

They are generally exempt from paying income tax. In theory, the CIT exemption for public entities aims to ensure that financial resources are directed towards fulfilling public obligations and services.

In addition to public institutions, social institutions are also eligible for CIT exemption. These institutions play a crucial role in social protection and assistance to citizens, providing services such as:

• pensions;
• unemployment benefits;
• and social benefits.

Other entities that carry out activities of a cultural, recreational, sporting or scientific nature may also be eligible for IRC exemption.

These organizations play an important role in promoting culture, sport and scientific advancement, contributing to the enrichment of society as a whole. The CIT exemption for these entities is intended to encourage and support their activities, facilitating the allocation of financial resources for the development of these areas.

Requirements for Exemptions

According to the Corporate Income Tax Code and Law 2/2014, income tax exemptions are subject to certain requirements which vary depending on the type of exemption. Companies wishing to benefit from exemptions must check that they meet the requirements established by tax legislation.

In addition to criteria related to the nature of the activities carried out by the company, there may be requirements related to the non-profit purpose of organizations seeking CIT exemptions. In some cases, it is necessary to demonstrate that the profits obtained by the organization are not distributed to the shareholders or owners, but are reinvested in the entity itself to fulfill its purpose.

How to Reduce IRC?

There are a number of legal ways to reduce your income tax payments. Some of the most common strategies include taking advantage of tax benefits offered by the government, such as deductions for investments in specific areas or for certain types of spending. It is also possible to reduce the tax burden by efficiently managing tax losses.

It is advisable to consult an accounting professional for more detailed advice on this matter. But for now, here are some simple tips:

Tax Benefits and the Reduction of Corporate Income Tax

Tax benefits are instruments that allow a reduction in the tax payable in return for an investment made. There are different types of benefits that companies can take advantage of, such as:

• Investment Support Tax Regime (RFAI);
• Encouraging the capitalization of companies (ICE)
• System of Tax Incentives for Research and Business Development (SIFIDE II);
• Tax benefits applicable to Inland Territories;
• Patent Box.

These benefits can translate into substantial gains in terms of competitiveness for companies, since:

1. They encourage innovation and accelerate investment;
2. They encourage research and development activities;
3. They promote the appreciation of Industrial Property and Copyright;
4. They encourage companies to increase their capital;
5. They affect productive and innovative investment,
6. They can be used for an extended period,
7. And they are cumulative with financial incentives.

Remember that in order to gain access to tax benefits, certain requirements must be met:

• Have organized accounts;
• Not being considered a "company in difficulty";
• Be up to date with the Tax Authority and Social Security;
• Taxable profit is determined by direct methods.

Sanctions and Inspection Procedures

Within the scope of Corporate Income Tax (IRC), there are sanctions and inspection procedures aimed at ensuring that companies comply with their tax obligations.

It is important that companies are aware of these measures and understand the possible consequences of not complying with the rules and regulations relating to income tax. Below is some information you should know about the subject:

1. Tax Inspection: The Tax and Customs Authority (AT) has the power to carry out tax inspections to verify compliance with companies' tax obligations, including IRC. During an inspection, the AT can request documents, accounting records, information and carry out audits at the company's premises.
   
   
2. Consequences of infringementsIf irregularities or non-compliance with income tax are identified, the AT can apply sanctions and penalties. These penalties may vary depending on the seriousness of the infraction and may include:
   
   
   • Fines;
   • Interest on arrears;
   • Fines;
   • Additional tax assessments.
     
     
3. Rectification and voluntary payment: If a company identifies errors or omissions in its tax returns relating to IRC, it is possible to rectify them voluntarily. This rectification must be carried out before any inspection procedure or AT notification. Voluntary rectification can help avoid more severe penalties, provided it is carried out in an appropriate and transparent manner.
   
   
4. Challenge procedure: If a company disagrees with a tax decision made by the AT in relation to income tax, it is possible to resort to a challenge procedure. This process allows the company to formally challenge the decision and seek a review or annulment. The impugnation process follows a specific set of rules and deadlines established by tax legislation.

Corporate Income Tax in the European Economic Area and the European Union

A few comments on this matter, very briefly, so that we can finish.

Corporate Income Tax (IRC) is a tax applied not only in Portugal, but also in other countries in the European Economic Area (EEA) and the European Union (EU). These economic blocs influence tax rules and relations between member states in terms of corporate taxation.

Within the EEA, which includes all EU countries as well as Iceland, Liechtenstein and Norway, there are guidelines and agreements aimed at promoting tax harmonization and avoiding double taxation. These agreements aim to facilitate economic activity between member countries, providing a more favorable environment for companies to operate in different jurisdictions.

Discover other articles on our blog here.

An important example is the Mother-Daughter Directive: an EU directive that aims to eliminate double taxation of profits distributed between parent companies and daughter companies located in different member states. This directive establishes rules for the elimination or reduction of withholding tax on dividend payments between related companies.

In addition, there are other EU directives and regulations that indirectly affect corporate income tax and company taxation. For example, the Interest and Royalties Directive establishes rules for the elimination of withholding tax on interest and royalty payments between related companies in different Member States.

In the event of a country becoming a member state of the European Union: the accession of a member state to the EU implies the adoption of a series of rules and regulations, including the common tax rules, which directly affect corporate income tax and other tax issues. However, each member state retains a certain autonomy in defining its specific rates and rules within the limits set by the EU agreements.