Promotional Product Giveaways: Taxable or Not?

Continuing to answer the questions posed to us during audits, we would like to raise the following topic:

Client's question:

Does an object for accrual of VAT, PIT, and military levy arise when an enterprise distributes advertising-related inventory (brochures, flyers, branded pens, cups, umbrellas, etc.) for free?

Our answer:

Just a few years ago, tax authorities required the accrual of tax liabilities (hereinafter – TL) for VAT upon free distribution of advertising-related inventory by a taxpayer only if such inventory had characteristics of "dual-purpose goods" – meaning, if, in addition to advertising purposes, they could also be used by recipients of such inventory for other (including personal) purposes: for example, pens, diaries, T-shirts, caps, etc. Accordingly, free distribution of brochures, flyers, calendars, etc., for advertising purposes did not lead to the emergence of an object for the accrual of VAT TL.

However, since then, the tax legislation of Ukraine and the viewpoint of tax authorities' representatives on this issue have undergone certain changes. Unfortunately, as of today, regulatory bodies do not have a single, established position on this matter. Having analyzed the relevant information, we have identified at least the following views of "tax officials" on similar operations:

1. For these operations, in any case, a VAT tax base arises based on sub-clause "a" of clause 185.1 of the Tax Code of Ukraine – see, for example, Letter of the Main Directorate of the SFS in Zhytomyr region dated 13.06.2016 No. 558/6/06-30-12-01-19, Letter of the SFS of Ukraine dated 19.04.2016 No. 8819/6/99-99-19-03-02-15, etc.
2. For these operations, a double VAT tax base arises: according to sub-clause "a" of clause 185.1 of the Tax Code of Ukraine, and also according to clause 198.5 of the Tax Code of Ukraine – see, for example, Letter of the Interregional Main Directorate of the SFS – Central Office for Servicing Large Taxpayers dated 11.11.2015 No. 25227/10/28-10-06-11.
3. For these operations, a VAT tax base arises based on sub-clause "a" of clause 185.1 of the Tax Code of Ukraine only if the value of freely distributed advertising-related inventory is not included in the cost (value) of goods (works, services) sold by the taxpayer – see, for example, Letter of the SFS dated 06.10.2016 No. 21760/6/99-99-15-03-02-15.

Thus, given the absence of an unambiguous position of regulatory bodies on this issue, the risk of certain conflict situations arising with these bodies regarding the taxation of similar operations will always exist. Moreover, for example, according to the requirements of legislation on accounting and financial reporting, the value of inventory freely distributed during advertising campaigns is, as a rule, always attributed to selling expenses (i.e., a priori cannot be included in the cost of goods (works, services) sold by the taxpayer).

Unfortunately, given the norms of sub-clauses 14.1.191, clauses 185.1 and 188.1 of the Tax Code of Ukraine, we are forced to state the existence of legal grounds for recognizing operations involving the free distribution of advertising materials by a taxpayer as falling under the definition of an object for the accrual of VAT TL. If you still decide not to accrue VAT for similar operations, we recommend, to reduce the risk of future conflict situations with regulatory bodies, to indicate at least the following information in the relevant primary documents (order, estimate, and report on the advertising campaign, Regulation (SOP) on conducting advertising campaigns at the enterprise, etc.):

• that the purpose of conducting advertising promotions (campaigns) is to increase sales, awareness of potential buyers, etc.,
• that the value of advertising-related inventory used during such promotions (campaigns) will be taken into account when forming the selling prices for the taxpayer's products (additionally, this norm can also be enshrined, for example, in the enterprise's Pricing Policy).

As for the possible emergence of an object for the accrual of PIT and military levy (hereinafter – ML) for similar operations, the position of the SFS of Ukraine on this issue is more or less unambiguous – the payment of any "non-personified" income is not an object for the accrual of PIT and ML (see, for example, letters of the Main Directorate of the SFS in Kyiv dated 02.04.2015 No. 5524/10/26-15-17-01-12 and dated 20.10.2016 No. 22563/10/26-15-13-01-12, etc.). However, we want to draw your attention to the fact that recently, tax clarifications have begun to appear in which "tax officials" see the emergence of an object for the accrual of PIT and ML even for "non-personified" incomes – see, for example, Letter of the SFS of Ukraine dated 13.10.2017 No. 2233/6/99-99-15-01-01-15/IPK.

In any case, you can always use the norms of sub-clause 165.1.39 of the Tax Code of Ukraine, according to which the value of gifts (as well as prizes to winners and prize-takers of sports competitions) is not included in the total monthly (annual) taxable income of the taxpayer if their value does not exceed 25% of one minimum wage (calculated per month) established as of January 1 of the reporting tax year, with the exception of monetary payments in any amount.