CZECH REPUBLIC: An Introduction

Introduction to the Czech Republic - Kocián Šolc Balaštík

A buoyant and positive investment outlook has been evident in the Czech Republic since the start of 2021, with pent up investor demand and strong competition amongst buyers fuelling an upswing in deals as both domestic and international investors looked forward to getting on with a return to business operations post COVID-19. The Czech economy grew by a record 8.2% year on year in the second quarter of 2021 and there is strong appetite from foreign investors to identify deal opportunities.

Current investment trends and active sectors of the Czech economy

During the period of COVID-19 restrictions and continuing in 2021 there has been a great deal of investor activity in IT/technology and real estate. Czech tech entrepreneurs and systems developers have shown great innovation and gained a leading reputation, and are highly sought after by investors. Business information systems in the areas of ecommerce, logistics, data centres, cloud systems, cyber security, payments systems, learning and games are all areas which have seen strong activity with sustained potential for growth. The pandemic accelerated digitalisation in all sectors of the economy, and the excellence of the Czech tech sector as well as the motivation of companies not to fall behind in adopting digital solutions makes it likely that the tech sector will continue to be a key driver of M&A activity.

A strong trend in the last couple of years, despite the COVID era, has been a rising trend in the share of investments with high value added, i.e., investments focused on technology and R&D in strategic sectors. CzechInvest notes that in 2018, only 20% of investment projects it arranged fulfilled the high value-added criteria; in 2020 this jumped to 2/3 of investment projects.

There is currently a generational handover occurring on the commercial landscape in the Czech Republic as family firms are handed over after 25–30 years of development, or if there are no successors then the family firms are being sold. This tier of investment is predominantly medium sized enterprises and is keenly sought after by investors seeking high quality established companies.

Strategic reasons that make the Czech Republic attractive for investors:

• Central location 

The Czech Republic is conveniently located at the geographical centre of Europe.

• EU Membership since 1 May 2004 

The Czech Republic has been a magnet for large volumes of foreign investment since the country’s so called Velvet Revolution in 1989. The Czech Republic became a member of the European Union as of 1 May 2004 and in the lead up to the EU accession, Czech laws were harmonised with EU law.

• Access to EU markets 

The Czech Republic’s EU membership allows for total free movement of capital, goods, people and services within all EU member states. Located geographically within the heart of Europe, the Czech Republic is also very conveniently located from a logistical point of view for access of goods to other EU markets.

• Economic and Political Stability 

From the time of the Velvet Revolution in 1989, the Czech Republic has been acclaimed by investors for both its political and economic stability, which was particularly demonstrated in its quick recovery from the international financial crisis of 2008/2009. Economic commentators expect a similar strong recovery from the COVID era economic downturn, and growth rates and a strong bounce back in transaction levels already support this.

• Favourable labour costs 

The Czech Republic still enjoys lower labour costs than the “Western” or longer established EU members, thus investors and employers benefit from the same skill level at a lower cost.

• Skilled workforce 

The Czech Republic has a highly skilled workforce, particularly in technology and engineering. Educational and literacy levels are high. Companies report few difficulties in recruiting skilled and unskilled workers, particularly in industrial areas where unemployment is highest. Nevertheless, the total unemployment rate in the Czech Republic has been amongst the lowest in Europe for many years; in July 2021 it was 3.7%, despite the destabilising effects of the COVID pandemic on business for periods in 2020.

• Non-discrimination of foreign vs. domestic investors

Foreign and domestic companies are treated identically in all areas under Czech law. At present, review of foreign investment projects applies to certain cases in the banking and defence sectors. Foreign legal entities may acquire real estate in the Czech Republic without any restrictions and under the same conditions as Czech legal entities.

• Popular as an FDI destination 

The Czech Republic is one of the most successful CEE countries in terms of attracting foreign direct investment. According to the Czech National Bank, a total amount of more than EUR130 billion worth of FDI has been recorded since 1993. The Czech Republic hosts almost 100,000 foreign companies of all sizes. Famous multinational companies such as ABB, Continental, Ford, Nestlé, IBM, DHL, AstraZeneca, Rockwell, Procter & Gamble, Renault, Siemens, Tyco, Honeywell, Amazon and Volkswagen have significant subsidiaries in the Czech Republic.

• Competitive advantage 

According to the 2019 Global Competitiveness Report published by the World Economic Forum, the Czech Republic ranks 32nd among 141 world economies in terms of competitiveness, placing it at the top of the CEE countries in competitiveness.

The Czech Republic is characterised as a mature host country for FDI with low inflation, modest interest rates, a relatively stable and fully convertible currency (CZK – Czech koruna) and a good rate of economic growth providing favourable conditions for investors. The Czech Republic was the first CEE country to be admitted into the OECD and is a member of NATO, the WTO, IMF and EBRD.

• Investment protection 

The Czech Republic is a member of the Multilateral Investment Guarantee Agency (MIGA), an international organisation for protection of investments, which is part of the World Bank-IMF group. The country has signed a number of bilateral treaties which support and protect foreign investments, for example with the United States, Germany, the United Kingdom, France, Austria, Switzerland, Italy, Belgium, Luxembourg, the Netherlands, Finland, Norway, Denmark and China.

• Avoidance of double taxation 

The Czech Republic has treaties to prevent double taxation on dividends, interest and royalties with many countries, including all EU countries, the United States, Japan, Australia and Canada and numerous others.

• Possibility of Investor Visa for non-EU nationals

One of the categories of visa available in the Czech Republic is the so-called Czech "investor visa" (for third country nationals, i.e. non-EU citizens). The main conditions for granting of this investor visa are (i) creation of at least 20 full-time jobs (for EU citizens) and (ii) investment in the amount of at least CZK75,000,000 (approximately EUR2,850,000 or USD3,250,000), whereby the whole amount does not have to be invested in cash, up to 60% of this amount can be provided through assets (tangible or intangible) – e.g. machinery, real property, know-how etc.

• Repatriation of profits 

There are no restrictions on distribution and repatriation of profits by Czech subsidiaries to their foreign corporate parents, aside from the need to pay withholding tax, and for joint stock and limited liability companies, the need to maintain a mandatory reserve fund, which requirement applies to all Czech companies.

Foreign Exchange and Regulatory Aspects of Foreign Investment

The currency of the Czech Republic is the Czech koruna. Although eventual adoption of the euro is expected, there is currently no specific timetable for its adoption. There are no foreign exchange controls or restrictions; currency is freely exchangeable pursuant to the Act No. 219/1995, Coll., the Foreign Exchange Act, as amended, and several implementation decrees of the Czech National Bank.

Foreign Investment Screening Act 

From 1 May 2021, a new Foreign Investment Screening Act is in force, introduced as a result of the EU Foreign Investment Screening Regulation that entered into effect in April 2019. The Czech act introduces a level of vigorous screening for non-EU investments in the Czech Republic, overseen by the Ministry of Industry and Trade. The scope of investments or activities triggering review under FDI rules is considerably broad and foreign investors will need to stay vigilant to maintain compliance as even activities such as nominating new company directors may trigger FDI rules. The FDI rules require very particular assessment by all non-EU investors because in fact there is no simple financial threshold or any sector of the economy that can be 100% ruled out from the application of the rules.

The FDI rules apply not just to the standard “third country” non-EU countries but will apply also to include Switzerland and members of the European Economic Area, such as Liechtenstein and Norway, as well as post Brexit United Kingdom. FDI clearance now needs to be considered, where applicable, as an additional condition for effectiveness of a transaction. Accordingly, transaction negotiations will need to reflect the timeline obligations for FDI clearance, in a parallel fashion to the manner in which competition office clearance is already factored into timelines.

Choice of business entity 

Foreign investors will generally choose either a limited liability company (s.r.o.) or a joint stock company (a.s.) as their Czech corporate entity investment vehicle, although a branch office of the foreign company is also sometimes used.

The s.r.o. is a very popular legal form for small and medium-sized businesses in the Czech Republic because it requires a lower minimum capital investment and fewer corporate governance requirements than an a.s. The Czech joint stock company's minimum amount of the registered capital is CZK2,000,000. A limited liability company's minimum amount of the registered capital is CZK1 (however, every shareholder has a minimum contribution obligation of CZK1).

Neither a limited liability nor a joint stock company is required to keep a reserve fund to cover losses.

For the establishment of a Czech branch office, there is no registered capital required. It should be noted that a branch office does not have legal capacity on its own accord under Czech law, its authorisation and capability to act is based on the legal capacity of its founder under the respective foreign law of the founder.

Foundation and registration of s.r.o. and a.s. 

Both the s.r.o. and the a.s. are founded by conclusion of a founding document. It is also possible to conclude a founding document based on a power of attorney. There are no restrictions on who the founder can be (e.g. also foreigners). The founding document needs to be notarised by a Czech notary and any changes made to the founding document during the existence of the company shall be notarised as well.

Both the s.r.o. and the a.s. are created as legal entities upon their registration in the Commercial Register. The Commercial Register contains the most relevant information about the company, its shareholders (which does not apply to the a.s. except for when the a.s. has a sole shareholder) and the members of the company’s bodies. The founding document as well as other relevant documents (e.g. company’s financial statements) shall be filed in the Collection of Documents of the Commercial Register. The Commercial Register, including the Collection of Documents, is accessible to the public at www.justice.cz.

Ownership Interest/Shares/Bonds  

s.r.o. (limited liability company) 

A limited liability company does not issue shares, its participants acquire an ownership interest or a participation interest. The founding documents may, however, allow for the company to issue so called ownership/participation interest certificate to participants, which has the same function as shares in the a.s. The founding documents of an s.r.o. may also allow for the existence of various types of ownership interest (e.g. such as a fixed share in profit or with special rights/duties attached or without voting right etc.).

a.s. (joint stock company)

A joint stock company issues shares to its shareholders, which may be either registered shares or bearer shares. Registered shares are either issued as certified shares or can be maintained as book entry (computer entry) securities at the Central Securities Depositary or can be immobilised (physically deposited). Bearer shares may only be in the form of book entry securities or immobilised shares. The joint stock company may also issue preference shares (non-voting unless otherwise stated in the founding documents), and other types of shares (e.g. with special rights attached or without share in profit etc.) or shares with or without a nominal value.
The shares of a joint stock company may have separately transferable rights, for example, rights to distribution of profits, preferential subscription rights and rights to share in a liquidation surplus may be transferred separately from the share.

A joint stock company may issue convertible bonds and preference bonds.
 
Company and Shareholder Liability

As far as a company's liability is concerned, both the Czech joint stock company and limited liability company are liable with its entire property for its breach of obligations. However, shareholders of a joint stock company are not during the existence of the company liable for breaches of the company's obligations at all. Members of a limited liability company are jointly and severally liable for the company's obligations up to the unpaid contributions of all members to the registered capital. A branch office is not liable for breach of its obligations; the parent company is fully liable for it.

Management and corporate structure 

An s.r.o. must have at least one executive and also the general meeting (of all shareholders) as its obligatory bodies (supervisory board is only voluntary). The general meeting must take place once a year.

An a.s. must have, alongside the general meeting, one of the following structures:

• Board of directors and supervisory board (dualistic structure).

• Management board and statutory director until 31 December 2020, and only management board as of 1 January 2021 (monistic structure).

For an a.s., the Act on Commercial Corporations makes it possible to choose between a ‘monistic’ and ‘dualistic’ model of corporate governance. The monistic model is based on the Management Board appointed by the general meeting, in which the powers of both the Board of Directors and of the Supervisory Board are vested. Until 31 December 2020, the general meeting was allowed to appoint also a second body of the company, a Statutory Director. However as of 1 January 2021, the monistic a.s. can no longer create the body of a Statutory Director and the single permitted body of the monistic a.s. will be the Management Board, appointed by the General Meeting, unless the Articles of Association stipulate that the right to appoint and revoke the Management Board is a right connected with the share. All members of the Management Board will be entitled to act on the company’s behalf towards third parties.

In the case of a dualistic structure in a.s. which has more than 500 employees, 1/3 of the members of the Supervisory Board must be elected by the employees.

A Czech branch office must have a head of branch office who is entitled to act on behalf of the parent company as regards the branch office.

Investment incentives in the Czech Republic 

The Czech Republic offers a variety of investment incentives. The most prevalent in recent years have been incentives for investments in the manufacturing industry, but the range of eligible projects now include business support services, covering shared service centres, software development centres, high-tech repair centres and data centres. As incentives are considered state aid, they are granted in full compliance with EU state aid regulations.

Incentives are provided under the Act on Investment Incentives, and consist of:

• income tax relief for up to ten years for a new company established for an investment project and partial tax relief for up to ten years for an existing company which will be expanding an investment project

• cash grant for up to 20% of capital investment in certain strategic projects

• employment subsidies in the form of grants for job creation and training with respect to technology centres (available only in regions with high unemployment rates)

Register of Beneficial Ownership 

In 2018, compulsory registration of companies’ beneficial owners into the Register of Beneficial Owners was introduced. The Register is not public and the information in it is only accessible to selected public authorities.

Management restrictions 

Management rights, i.e. the right to act on the company’s behalf, can be restricted by the corporate documents of the company or decisions of the general meeting. However, it is possible that the manner of acting on behalf of the company is, for example, determined in such a way that certain executives are entitled to act solely in relation to some matters and for other matters, two executives must act jointly – if this is registered in the Commercial Register, then it will be effective in respect of third parties, this also applies in respective of a multi member board of directors in an a.s. Restrictions are not effective on third parties, so any breach only gives rise to managers’ liability. There are no specific restrictions on foreign managers.

Directors’ and officers’ liability 

Directors and board members must, in particular:

• Act with the duty of care of a prudent business manager.

• Act in the best interests of the company.

• Keep the shareholders informed about matters related to the company.

Directors/board members may be personally liable for:

• Damage caused to the company resulting from a violation of their duties (which also applies in the event of the company’s insolvency).

• Administrative or criminal offences.

• A director’s liability cannot be limited by agreement with the company, any such arrangement is null and void.

Taxes on corporate income and gains 

Corporate income tax 

Tax resident enterprises are subject to tax on their worldwide income. An enterprise is considered to be a tax resident enterprise if it is incorporated in the Czech Republic or if its management is located here. Czech non-resident enterprises are taxed on their income sourced in the Czech Republic only and such taxation may be limited by respective tax treaty. The standard corporate income tax rate in the Czech Republic is 19%.

Administration 

Companies may select a calendar year or a fiscal year as its tax year. Tax declarations must be filed within four months after the end of the tax year. Companies that are subject to a statutory audit or are using a certified tax advisor for preparation and submission of the declaration are automatically granted a two-month extension.

Capital gains 

Capital gains realised by a Czech or another EU parent company on the transfer of shares in a subsidiary established in the Czech Republic or another EU country are exempt from tax if the parent company maintains a holding of at least 10% of the subsidiary for an uninterrupted period of at least 12 consecutive months. Capital gains realised by a Czech or EU parent company on the transfer of shares in a subsidiary in a contracting country (that is a third country that has entered into a tax treaty with the Czech Republic) are also exempt from tax if the following conditions are met:

• The subsidiary has a legal form comparable to a Czech joint stock company, a limited liability company, a cooperative.

• The parent company has held an ownership interest of at least 10% in the subsidiary for at least 12 consecutive months (this condition may be fulfilled subsequent to the date of the transfer).

• The subsidiary is liable to a tax similar to corporate income tax at a rate of at least 12% in the tax period in which the parent company accounts for the respective capital gain and in the preceding tax period.

If any of the following circumstances exists the tax exemption does not apply:

• The parent company or the subsidiary is exempt from corporate income tax or similar tax applicable in its jurisdiction.

• The parent company or the subsidiary may opt for an exemption from corporate income tax or similar tax applicable in its jurisdiction.

• The parent company or the subsidiary is subject to zero corporate income tax or similar tax applicable in its jurisdiction.

Other realised capital gains are included with other taxable income and taxed at the regular corporate income tax rate.

Dividends  

Generally, dividends are subject to a final withholding tax at a rate of 15%. The tax rate is increased to 35% for dividends paid to Czech tax non-residents from countries outside the EU and European Economic Area that have not entered into a double tax treaty with the Czech Republic or a bilateral or multilateral tax information exchange agreement that is binding on both the Czech Republic and the respective foreign country. However, dividends paid by Czech companies to parent companies that are located in EU countries are exempt from withholding tax based on the EU Parent-Subsidiary Directive, i.e. if the parent company maintains a holding of at least 10% of the distributing company for an uninterrupted period of at least one year. Dividend distributions between two Czech companies are exempt from tax under similar conditions.

Interest and royalties 

Interest and royalties sourced in the Czech Republic are generally subject to withholding tax in the Czech Republic at 15% tax rate. However, the exemption applies if the recipient is a foreign corporation that is eligible for the benefits arising from the EU Interest-Royalty Directive. Moreover, recipients who are tax residents of countries with which the Czech Republic concluded a respective double tax treaty may usually benefit from a lower tax rate provided that they are actual beneficial owners of received interests or royalties.

In the absence of income tax treaties and also in the event that a person does not qualify for treaty benefits that would be otherwise available, the withholding tax rate is 35% of the gross interest or royalty income.

Personal income tax 

The income that is subject to taxation in the Czech Republic is all income for tax residents and all income from source in the Czech Republic for tax non-residents. Personal income tax is paid by employees, self-employed individuals and other individuals realising annual income higher than CZK15,000 which is not exempt from tax and not subject to a withholding tax. The personal income tax rate is 15% for annual income lower than 48 times the amount of the average wage in total (e.g. CZK1,701,168 for the year 2021) and 23% for the income exceeding this threshold. The tax rates are applied on both active and most of the passive income.

Individuals who received income exempt from personal income tax where such income was higher than CZK5 million in an individual case are required to notify the tax authority of such fact. Failure to announce such tax-exempt income is penalised.

Value-added tax (VAT) 

VAT is levied on all taxable supplies (goods and services), acquisitions of goods from other EU member states and imports of goods. Standard rate applicable to most goods and services is 21%. A reduced rate is applicable to specified goods and services (for example to food and beverages, plants) and it amounts to 15%. A second reduced rate of 10% is applicable in particular to accommodation services, books, pharmaceuticals and baby food.

Real estate tax 

Real estate located in the Czech Republic is subject to real estate tax which applies on a yearly basis. Real estate transfer tax has been abolished as of December 2019.

Road motor vehicles tax 

If the taxpayer uses a road motor vehicle registered in the Czech Republic for business purposes, as well as trucks with a maximum gross weight exceeding 3.5 tonnes regardless of their use, the taxpayer is liable to pay road tax.

Social security and health insurance contributions

Income from employment and self-employment activities is subject to social security and health insurance contributions. In the case of employees it consists of the amounts paid by the employee and the employer. The amounts are calculated from the gross wage of the employee. The person responsible for transfer of the contributions to the respective Czech institution is the employer. Self-employed persons pay the advances for social security and health insurance themselves to the relevant institution on a monthly basis.

Employees
Social security insurance
Employer 24.8%
Employee 6.5%
(maximum assessment base is CZK1,672,080 in 2020)

Health insurance
Employer 9%
Employee 4.5%
(no maximum assessment base applies.)

Self-employers
Social security 29.2%
Health insurance 13.5%