Transformation of Kata may Result in Major Labor Market Restructuring

According to a statement from the National Tax and Customs Authority, by the middle of August, almost one percent of the current Kata taxpayers had indicated they wanted to remain in the reformed Kata regime, which will be operating according to the new rules. Since the deadline for filling out and submitting the form required for this declaration is September 25, this will most likely increase, but it is not expected to exceed 10%.

Life after Kata

Based on the current legislation, those who can no longer opt for this form of taxation will not find an equally beneficial alternative. Because of the extra amount of tax payable and the additional administrative burdens compared to their current obligations, they can only choose from among less poor options. These small taxpayers cannot expect new options, significant tax relief, or substantive changes in the relevant tax legislation in the short term.

The last significant modification took place on August 10, when the Hungarian government amended several tax acts in the form of government decrees. One of the relevant changes is the elimination of the 13% Ekho (simplified contribution to public revenues) burden of disbursers as of September 1, which will significantly decrease the effective tax rate under the scheme. In the professions affected by this amendment, primarily in the creative and cultural industries, among others the film industry, it will be worthwhile to choose Ekho instead of the new Kata, especially since the disbursers must handle the administrative burdens. However, due to the restrictions on professions that can choose taxation by Ekho, this option will only be a solution for a few tens of thousands of small taxpayers.

As an alternative to Kata, flat-rate personal income taxation will be the most popular option. According to the Ministry of Finance, one of its advantages is that its administration is a breeze since those who choose this regime only have to keep records of income and do not have to deal with expense invoices. However, the picture is complicated by the fact that one has to declare personal income tax and social security contributions separately; thus, especially with the latter, the majority of taxpayers will need the help of an accountant.

The general entrepreneurial personal income tax regime is another alternative, but the administrative burden here is even more significant since, with this option, one has to collect the expense invoices.

Back to the Labor Market

There is a danger that the radical changes in the tax legislation will lead many to the grey or black economy. However, the proportion of those current Kata payers who give up their entrepreneurial status and establish re-registered employment will probably be even higher. Partly because the more complicated tax administration would be too much of a burden for them and partly because they simply will have no other choice. This could result in a significant restructuring of the labor market, the extent of which will first be revealed by the October statistics.

Winners?

In recent years, it has been observed in several professions that traditional employee schemes have competed with Kata. Examples include the advertising profession or the IT sector, where new market participants could secure a considerable price advantage over companies that worked with registered employees by recruiting skilled freelancers who chose the freedom Kata offered over full-time salaried positions. Here, the new rules will have a market-cleansing effect, as a result of which a healthier public burden structure may emerge in the affected areas. Companies that persisted in employing registered workers will benefit from the change. Those leaving the Kata system may offer an extra workforce at these companies.

Losers?

In the case of those industries where it was a common practice to employ Kata taxpayers, the changes will have a serious cost-increasing effect. One such is the film industry, where production costs can be expected to rise, reducing the sector’s international competitiveness (probably the Ministry of Finance recognized this and therefore simplified the Ekho rules).

The previously mentioned IT companies that have involved contractors on a project basis thus far may also fare badly. Some companies operating in specific segments of the sector will not be able to cover the increased cost of employing IT professionals, so there is a risk that professionals thus affected will accept well-paying foreign assignments instead. In the case of many of them, it is questionable whether they will stay in Hungary at all.

This article was first published in the Budapest Business Journal print issue of September 9, 2022.