Company established through conversion of sole proprietorship is a taxpayer starting business

A capital company formed by the conversion of a sole proprietorship is considered as a taxpayer starting a business.

On March 11, 2025, the Supreme Administrative Court issued a ruling (referenceII FSK 1412/24) that may significantly impact taxpayers arising from the transformation of sole proprietorships into limited liability companies or joint-stock companies. The ruling confirmed that a company formed through conversion can be considered as a taxpayer starting a business under the provisions regulating the lump-sum taxation of companies (estonian CIT), which allows for preferential treatment in relation to passive income thresholds, employment size, and the application of a lower tax rate (10%).

The oral justification of the ruling indicates that companies applying estonian CIT and formed through the transformation of civil partnerships or general partnerships may also be recognized as starting businesses.

Context of the case regarding company conversion

The case concerned a company formed from the conversion of a sole proprietorship. The company chose to apply the lump-sum taxation of companies income. The applicant inquired whether the company could benefit from the preferences available to taxpayers starting a business.

The Director of the National Fiscal Information Centre (KIS) in the issued tax interpretation stated that the company is not a new taxpayer but rather continues the activity of the previous entity. Therefore, in the tax authority’s opinion, the company cannot benefit from the preferences specified in Article 28j, Section 2 of the CIT Act.

Administrative Court and NSA’s argumentation in the case

The restrictive interpretation of the fiscal authority was challenged both by the Provincial Administrative Court (WSA) in Wrocław and by the Supreme Administrative Court (NSA) in the second instance.

The NSA pointed out that the legislator did not exclude taxpayers formed as a result of conversion from the group of entities eligible for preferences for new entrepreneurs. The provisions of the CIT Act do not contain a clear definition of “starting business,” and an analysis of the regulations indicates that the legislator treats taxpayers arising from the conversion of sole proprietorships as entities starting business, explicitly expressing in the provisions any limitations on the use of tax preferences that they should be subject to.

In its ruling, the NSA emphasized that a taxpayer starting business under the Estonian CIT provisions is also a company that, as a result of conversion, became the successor to an activity conducted by another entity not considered a taxpayer under the CIT Act.

Significance of the ruling for entrepreneurs

The NSA ruling is a positive signal for companies converted from sole proprietorships. The previous practice of tax authorities was stringent – in most cases, the tax office treated such companies as continuing the activity, which blocked their access to the preferences granted to new taxpayers concerning passive income thresholds, employment size, and the application of a lower tax rate (10%).

The ruling also provides a foundation for analogous rulings concerning estonian CIT-applicable companies resulting from the transformation of general or civil partnerships (entities that are also not taxpayers under the CIT Act).In light of the restrictive and legally unsupported approach of the tax authorities, the NSA has allowed companies formed from JDGs to apply preferential tax solutions, with the potential to increase the appeal of using the Estonian CIT. It also demonstrates to the tax authorities that tax interpretations must take into account the wording of the legislation and that the authorities themselves are not entitled to apply a pro-tax interpretation of the law.