Many freelancers in Georgia take advantage of the Small Business Status (SBS), allowing them to reduce their income tax to just 1% on turnover.
For those freelancers and solo entrepreneurs that qualify, it can be an amazing deal. While Georgia’s standard tax rates are very affordable as they are, 1% is a lot less than 20%, even if applied to turnover, rather than profit.
The problem you face however, is that the RS will often easily grant the status but simply having it granted does not mean you definitely qualify. It is your responsibility to know if you qualify. Asking a front desk operator at the RS if you do, is NOT legally binding.
So, if in fact you do not qualify, then in the event of an audit you will be liable for having obtained the status fraudulently and the upshot will be retroactive 20% tax + penalties going back 3 years.
Some of the most common scenarios that will land you back in the 20% tax bracket are described below.
Are You REALLY a Freelancer or Contractor?
Whenever there’s an attractive tax scheme, there will always be plenty of people looking for loopholes to take advantage of. Georgia’s IE+SBS scheme is no exception.
Soon after the scheme started, many employees (or their employers) quickly realized that it would be a much better deal to terminate their existing employment agreement, and to instead sign a “contractor agreement”, so that the employee would become a contractor and their income would be eligible for 1% tax, rather than 20%.
But the Revenue Service didn’t lag far behind.
Georgia’s Tax Code provides the tax authorities with a powerful weapon: Article 73.9.b which, simply put, allows them to retroactively reclassify any transaction, if the form of the transaction doesn’t correspond to its substance.
In plain English, it means that if the Revenue Service believes that you’re trying to pull their leg, they have the right to cut yours off. Or metaphors aside – that if your “freelancer” relationship is really just an employer-employee relationship in disguise, they have the right to re-classify it, which in practice means charging you 20% tax (plus significant penalties), going back 3 years.
Freelancer or an Employee – How to Tell the Difference?
For better or for worse, Georgian legislation provides no absolute certainty to determine whether a particular relationship qualifies as that of a service provider-service recipient or that of an employee-employer. This means that it’s down to the tax authorities to interpret it exactly how they wish, and if you disagree, it will be down to the court to decide whose interpretation to go with.
What we can do, however, is turn to common sense and establish the usual characteristics of an employer-employee relationship, making sure that these characteristics are not present in the freelancer-service provider relationship we’re trying to qualify for the 1% tax status with.
A non-exhaustive list of these characteristics would be:
- Having defined work hours;
- Only having a single “client”;
- Being listed on the “client’s” website or other documentation with a job title;
- Getting paid leave, medical insurance, Christmas bonuses, or other benefits normally associated with employment;
- Having non-compete clauses in the contract;
So if you’re claiming to be a contractor, but in reality, the above characteristics apply to your relationship, it’s likely that upon investigation, the authorities will choose to swiftly reclassify and issue you a tax notice.
Are You a Consultant?
Even if you figured out you are genuinely a contractor, not an employee, you’re not fully in the clear just yet. The Revenue Service has another ace up its sleeve to slip you back to paying 20%… Consultants do not qualify.
The legal act that regulates Small Businesses (Resolution 415) lists certain business activities that are excluded from the scheme. Most of these activities are very specific and uncommon, such as providing currency exchange services or gambling services, but consulting activities are also included in this list.
To make matters worse, the law doesn’t go on to specify what kinds of consulting it applies to, meaning it applies to any and all consulting activities, or activities that could reasonably viewed as consulting.
A very important consideration here is that calling your activities something other than consulting, while the true nature of them is consulting, doesn’t make a difference. In such cases, the RS will be quick to refer to the same “substance-over-form” law discussed above, and reclassify your “internet marketing service contract” as a consulting agreement, in a heartbeat.
Remember, the status is granted based on what you claim your activities to be, while during an audit, the true nature of these activities will be scrutinized.
Keep Your Tax Card Up To Date Or You Could Still End Up Paying 20%
One final problem that catches out a lot of SBS registrants. When you set up your online account with the RS, you must include any and all of your business activities on your online Tax Card (Info Card). Any activities you perform that were not listed will be subject to 20% tax, rather than 1%, even if they are activities that qualify.
Once again, this tax could be applied retroactively if you begin new activities and do not update your Tax Card each month – or never even knew in the first place that listing those activities was mandatory from day one, in order to qualify for the 1%.
Because the Tax Card is in Georgian and does not translate properly, it’s a step many people miss. Remembering to keep it up to date is also easy to forget. For ExpatHub Accounting clients, we fill out the Tax Card for you when we setup your account, and keep it up to date, on your approval, if we see from your monthly invoices that you are offering new services.
The Common Myth of “I Won’t Be Audited Anyway”
There are many myths and misconceptions making rounds on social media and various blogs about Georgian tax setup, but one of the nastiest one is the “I won’t be audited anyway” line of thinking.
This couldn’t be further from the truth. Contrary to what some appear to believe, the Georgian Revenue Service does conduct audits, and much more often than the tax authorities of many Western countries. That’s especially true in the current, post-Covid times, with the Revenue Service appearing to have significantly ramped up the frequencies of their audits, as well as their interpretation of vague regulations.
And it’s not just large businesses that get audited, either. The authorities are well aware of the IE+SBS “strategies” that a lot of de-facto employees are trying to pull and are therefore auditing IEs on a regular basis.
So these warnings are not just a pedantic interpretation of the law, but very much a reality – and one that, when ignored, can be very painful indeed, with back-tax penalties of 50% of the owed tax + 0.05% interest per day on top of it.
When you apply those penalties to 3 years of back taxes where you should have been paying 20% rather than 1%, that can be a huge amount.
Can You Trust The RS Quiz For Employment?
The Revenue Service has an online quiz which allows you to determine if you are really self employed, or actually engaged in employment. In many countries, web quizzes like this, if provided by the tax department, may seem like something you can have 100% confidence in.
However, the RS quiz is not legally binding and is inadequate. Essentially, there are things that may get you a “you don’t qualify” response, that could easily be argued in court as never proving you don’t qualify.
For example, ticking the option saying you “represent the brand” of the company you freelance for, can contribute to failing the test. Clearly freelancers, like a blogger being a brand ambassador for some social media posts, for example, are representing a brand. However, it would be highly unlikely that a blogger who has multiple income streams from lots of different brands they represent, would ever be classed as anything but an entrepreneur.
There are other examples but from this alone, it is clear that this tool offers an approximation of some typical indicators that may show you are employed rather than self employed. That is all it does.
The other thing it shows is the sort of criteria, if you were audited, the RS is likely to use to judge your status. So, yes, if you fail the quiz and you know you really are not self employed, you should be concerned. Audits of this nature are actively happening right now, and affecting foreigners who are here on the 1% tax rate.
If, however, you are 100% certain you are self employed, then you would just need to be aware of the sort of questions the RS will ask in an audit and have definitive legal proof to back up your position.
Still Unsure? We’ll Help You for Free
If you are left unsure by any of the above, we can help clarify your situation.
In some circumstances, people who call themselves consultants aren’t actually consulting, and of course, some freelancer’s with only 1 client are definitely not employees. It depends.
One of our experienced tax advisers will be able to better assess your risk level based on your activities, contracts and more. Then you can make an informed decision.
You can book a free 30 minute consultation (first time clients only) with ExpatHub (Online consultations available).