Thin capitalisation is a consideration in cases where loans are obtained from related parties, the loans are continuously used within the company and the ratio of the loans to the shareholders’ equity is high in comparison to similar companies in the same sector.
Under the current legislation, according to Corporate Income Tax Law, if a loan fulfils the three conditions listed below, it may be classified as thin capital:
- Direct or indirect corporate relationship, or close and permanent economic relations with the lender,
- Continuous use of the loan,
- Ratio of the loan to the shareholders’ equity is excessive in comparison to similar companies in the sector.
The outcome of a loan being deemed as thin capital is that interest expenses incurred on the loan will be treated as non-deductible expenses for corporate income tax purposes. Any foreign exchange losses occurring on such a loan may also be treated as non-deductible in the determination of taxable income by the tax authorities.
In the meantime please note that, the thin capitalisation issue has been re-arranged in a new draft law. According to the draft law, if the ratio of the borrowings from shareholders or from persons related to the shareholders exceeds three times the shareholders’ equity of the borrower company at any time within the relevant year, the exceeding portion of the borrowing will be considered as thin capital. For the loans received from credit institutions that provide loans only to related companies, half of the loans received from related banks and similar institutions will be taken into account during thin capitalisation calculations.
Based on the draft law, in addition to the interest paid or accrued, foreign exchange losses and other similar expenses calculated over loans considered as thin capital will be treated as non-deductible expense items for corporate income tax purposes. Interest payments over thin capital will be treated as dividend distributions.
The draft law also regulates borrowings not considered within the scope of thin capitalisation. These borrowings are:
- Loans received from third parties based on non-cash guarantees provided by shareholders or persons related with the shareholders.
- Loans obtained by related parties from banks and other finance institutions or from capital markets wholly or partially on-lent with the same conditions.
- Loans obtained by banks and other finance institutions
- Loans obtained by leasing institutions, financing and factoring companies, and mortgage financing institutions from related banks and other finance institutions.
How can PricewaterhouseCoopers Turkey help you?
PricewaterhouseCoopers Turkey can help you in the determination of the thin capitalisation limits of your company and the debts which should be considered in the determination of thin capital amounts. PwC can warn you before you walk into the thin capitalisation trap, thus ensuring that you have a well-balanced debt/equity ratio in your company. Our experts will guide you with the aim to of achieving the best compliance status with regulations and will monitor how close you are to thin capital limits.
