Many of us find that the tax authority as an institution and the process of filing taxes are just as overwhelming as cleaning up after a big New Year's Eve party.

Many of us also feel that we pay a lot of money in taxes – unfortunately, there is nothing to be done about that; taxes must be paid, whether we like it or not.  

But did you know that the rules for you as a private business owner are different from those for standard wage income?  

You have the option to choose between different tax schemes, such as the business tax scheme, which is an alternative to the general and well-known personal income tax law. Tax schemes like the business tax scheme will provide you and your sole proprietorship with various advantages when it comes to filing your taxes.  

Does that sound tempting? But also a bit complicated at the same time?

Don't worry – in this blog post, we will take a closer look at the business tax scheme, its benefits, and what you need to keep in mind.

And should you have any further questions, please don't hesitate to write to us in the chat or give us a call. Our accountants are ready to help you.  

What is the business tax scheme?

The business tax scheme – or VSO, as it is also called – is, in short, a tax arrangement where your sole proprietorship can achieve the same tax benefits as if you owned a limited company.  

Normally, the profit in your sole proprietorship is taxed based on your personal finances. This is because your sole proprietorship is not viewed as an independent legal entity, but is instead comparable to you as the founder.
Ultimately, this means that the profit in your business is seen as personal income, and you will therefore, by default, be taxed accordingly.

The business tax scheme is slightly different. With this scheme, it is possible to achieve a different form of taxation, where a distinction is made between money you withdraw for yourself and money that is saved within your business.  

However, it is important to be aware that, legally speaking, there is no separation between your business finances and your private assets. The distinction is purely accounting-based, which means you are still personally liable if debt should arise in the business.  

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‍The business tax scheme lets you save money in your business

There are several advantages to using the business tax scheme if you own a sole proprietorship. One of them is that you can save money in the business without having to pay personal income tax on the profit generated.

In concrete terms, this means you only have to pay 22% in corporate tax on the generated profit.

Let’s look at an example:

You have a sole proprietorship that had a profit of 500,000 DKK in 2020.
You withdraw 250,000 DKK for yourself, on which you pay personal income tax. You leave the remaining 250,000 DKK in your business account as savings.

And as we explained earlier, by using the business tax scheme (virksomhedsordningen), you pay corporate tax on those 250,000 DKK instead of being taxed according to the Personal Tax Act.
This means that you only pay personal income tax on the 250,000 DKK you withdraw for yourself – for the remaining 250,000 DKK that you save in your business, you pay business tax, which is 22% based on current rates.

If we assume that your business is not part of the business tax scheme, you would have to pay full personal income tax on the 250,000 DKK that you left as savings in the business.

As you can see, there is a lot of money to be saved with the business tax scheme.

More administrative work with VSO

On the other hand, there is also a fair amount of administrative work to take care of. You can read more about this under the heading "Requirements for using the business tax scheme" further down in this post.

Therefore, it is a good idea to sit down and consider whether the advantages outweigh the disadvantages, and whether it is actually the best solution for you.

We want to emphasize the importance of carefully considering your choice. It can end up being a costly affair if you decide to use the business tax scheme and then change your mind. In such a situation, you are required to pay personal income tax on the entire saved profit, as it will then be classified as your personal wealth.

If you want your business to transition to the business tax scheme, this must be stated in your tax return. If you find that it is not for you after all, you can reverse your decision up until June 30th of the calendar year following the end of the income year.

But lower interest expenses

Another advantage of using the business tax scheme is that your business's interest expenses will be significantly reduced compared to if your business were taxed under the Personal Tax Act.

You get a full deduction for your interest expenses through the business tax scheme, which gives you a high tax value for your interest costs. Therefore, the scheme is also very beneficial if you have debt in your business.

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The business tax scheme and top-bracket tax

We also need to briefly touch upon the top-bracket tax, because there are also advantages to be gained here by using the business tax scheme.
However, there are one or two rules that are very good to know.

Most of us would prefer to avoid paying the top-bracket tax if possible. By using the business tax scheme strategically, you can generally avoid exactly that.

By using the business tax scheme strategically, we mean that you consistently ensure your taxable income is leveled out from year to year, accounting for any profits or losses the business may incur.

In practical terms, this means that if you earn more in a given year than you withdraw for personal use, the surplus remains in the business and is taxed at the corporate tax rate. If, in the following year, you withdraw more than the business earns, you must pay full personal income tax on the amount withdrawn. In return, the previously paid corporate tax is refunded.

Let's look at an example:

That’s a mouthful – let’s take a breather and look at a simplified example:

Year one: Everything is running smoothly, people are out spending their pent-up corona savings, and you generate a profit of 800,000 DKK. You withdraw 600,000 DKK for personal use, leaving a surplus of 200,000 DKK in the business account. ‍

Taxation: You pay corporate tax (22%) on the 200,000 DKK.‍

Year two: Inflation has hit, people are being more careful with their money again, and you generate a profit of 400,000 DKK. Even so, you choose to pay yourself 600,000 DKK again, resulting in a 200,000 DKK loss for your business. ‍

Taxation: You have already paid corporate tax on the 200,000 DKK surplus from last year. You get that tax back because you are now required to pay personal income tax on that amount.

Even though this accounting is obviously very simplified, the advantage is clear. The business tax scheme has allowed you to save on the top-bracket tax for those 200,000 DKK by shifting the taxation from one year to the next.

Requirements for using the business tax scheme – the Danish Bookkeeping Act

As we touched upon earlier, the business tax scheme requires a fair amount of administrative work. We will now take a closer look at exactly what that entails.

If you have chosen to use the business tax scheme (virksomhedsordningen) for your sole proprietorship, your company's accounts must comply with the requirements of the Danish Bookkeeping Act.

This is very important, as failure to meet these accounting requirements can mean that your company may no longer be eligible for the business tax scheme.

Looking at the Bookkeeping Act, it is first and foremost established that your accounts must include a statement of your assets and liabilities. Furthermore, it is essential that you, as a business owner, keep your business finances and personal finances strictly separated in your accounting.

The easiest way to do this is by setting up separate accounts for each. This is a requirement because you must be able to provide a clear and transparent account of your company's business activities and financial position.

Another key point in the Bookkeeping Act is that your bookkeeping must be able to document all transactions between you and the "outside world." This applies primarily to transactions between your business finances and your personal finances. Additionally, such transactions also include the income and expenses related to your company's assets and liabilities.

Let us help you

If you use the business tax scheme as your tax arrangement, we can help you complete your annual report filing safely and easily.
It is both faster and cheaper than hiring an accountant. It is also less stressful and time-consuming than doing it yourself.

By using Reportability's online tool, you can generate your annual report quickly and easily yourself. Legislation, rules, and requirements are built into the tool, so you simply follow the steps, and we ensure that you generate an annual report that complies with all the rules of the business tax scheme.

Along with a complete annual report, you also receive a guide that tells you exactly what to enter in the fields on your tax return.

Create an account today and complete your annual report easily, safely, and quickly in accordance with the rules and requirements of the business tax scheme.