Royalties

What it means

Royalties are payment for the right to use someone else’s intangible property: software, a copyright work, a patent, a trade mark or know-how. The payment is for use, not for acquisition, and that is the whole difference from a purchase.

Where the contract transfers the right permanently and exclusively, it is not a royalty but the acquisition of an intangible fixed asset that is then amortised. The entity sets its own capitalisation threshold in an internal rule.

A royalty can take different forms: a one-off payment for a time-limited licence, a regular monthly fee as with software licences, or a percentage of sales, as is common with trademarks and franchises. The form does not change the nature of the payment; what matters is what is being paid for, and that is read from the contract, not from the name on the invoice.

How it works in practice

A royalty paid from a Slovak source to a tax non-resident is subject to withholding tax. A double tax treaty may lower the rate, but the payer has to be able to prove the recipient’s residence, which in practice means holding the certificate of tax residence at the time of payment.

The payer remits the tax withheld and reports it to the tax office by the fifteenth day of the following month. A licence received from abroad is also a service supplied where the customer is, so reverse charge applies to it in the VAT return.

An annual licence paid in advance is not expensed in full in the month of payment. If its period runs past the end of the financial year, we book the part belonging to the next year through accruals and deferrals. With monthly software invoices this step falls away, and it is enough to assign the cost to the period it covers.

What to watch out for

The costliest mistake is to pay a foreign licensor in full and withhold nothing. The tax administrator then collects the withholding tax from the Slovak payer rather than the recipient, and adds a sanction; recovering it from the foreign partner depends on their goodwill.

Royalties paid to a related party, such as a foreign company of the same shareholder, are assessed under transfer pricing rules. If the fee is higher than an independent partner would pay, the tax administrator excludes the difference from tax-deductible expenses, and on top of the withholding tax the company pays additional income tax with a penalty.