Taxation of income from shares

1. I hold shares (dividends, holding-period test for exemption),
2. I buy and sell entire shareholdings (record-keeping, threshold for filing a tax return),
3. I already trade shares regularly, buying more and selling in portions (FIFO and arithmetic-average valuation methods).

• I hold shares

If you buy shares as an investment and hold them long term, your main concern will be how to tax dividends correctly. Dividend income is income from capital assets, governed by completely different rules from share trading itself. 

The vast majority of dividends reach your account with tax already deducted. If you invest in Czech companies, the 15% income tax withheld by the dividend payer is final. This means that you have no obligation to file a tax return and, if an obligation arises for another reason, for example because you are self-employed, you do not include these dividends in your return. A more complicated situation, and one more common in practice, is investing in a foreign company and receiving a dividend from abroad. Even in these cases, the foreign entity will probably withhold tax and you will receive a dividend that has been “taxed”. However, it has not been taxed from the Czech tax office's perspective. 🙂 In these cases, you must file a tax return and settle the tax treatment of your worldwide income individually in the Czech Republic as well. This is where double taxation treaties between our country and other states come into play. There are two methods for reflecting dividends in your return: the credit method and the exemption method. I will not go into further detail, because I recommend that anyone in this situation file their return with someone who understands it. 🙂 

During 2020, a client received 4 quarterly dividends from Disney shares in the USA. These dividends were taxed at 15% in the USA and the client received the payment after tax. Under the agreement between the Czech Republic and the USA, the credit method applied. The Czech tax return calculated income tax of 15% on the gross dividend (the dividend before tax), and the tax already paid abroad was credited in full against this Czech tax. As it happened, the USA also withheld 15%, so there was no difference. Ultimately, the client paid no further tax on this income to the Czech state. Nevertheless, he had to fulfil the obligation to declare the dividend in his tax return and settle its tax treatment under the international treaty between the Czech Republic and the USA.

If the time comes when you need to sell your shares, you will be interested in the 3-year holding-period test. If 36 months pass between purchase and sale, you are in luck: the sale is exempt from income tax. This means you pay no tax on this type of income and do not even have to file a tax return. But if your income from selling these shares, which you have held for more than 3 years, exceeds CZK 5 million, you must report this income in your tax return — you will not pay tax. 🙂

• I buy and sell entire shareholdings

If you buy and sell securities occasionally, I recommend keeping records in Excel and regularly entering when you bought the shares, how many and for how much. If you paid from a Czech koruna account, record the value in Czech korunas; if you paid for the securities from a foreign-currency account (euros or dollars), record the value in that currency. Some investment platforms allow you to export these data without keeping separate records.

If you subsequently sell the securities, again record when, how many shares and for how much. Because if your sales in that year in total exceed CZK 100 thousand, you must file a tax return and calculate your profit. That is when carefully maintained records come in handy. 🙂

Each year, therefore, these records must track whether income (not profit!) from sales exceeded CZK 100 thousand. Unfortunately, sales of exempt shares also count towards this threshold. This does not mean they stop being exempt above it, but they “bring along” the non-exempt shares, which might not reach CZK 100 thousand on their own but exceed the threshold together with the exempt shares and must have their tax treatment settled in the return.

If you exceed CZK 100 thousand, you must report the sales income and the related expense in your return. The expense is the acquisition cost + ancillary fees. If the fees are not included in the acquisition cost, remember to record them in your Excel records too. The tax base will, of course, be the difference between income and expenses: a profit or a loss (a zero tax base). Profits and losses from individual share sales are added together, so ultimately you really pay tax only on, what you earned from the sales. However, if the overall result is a loss, it will not affect income tax from other sources in any way (employment, business, capital income, rental income, etc.), nor can it be claimed as a tax expense in the future, as losses in other areas (business, rental) can.

And what about foreign currencies and exchange rates? There are two ways to convert to Czech korunas: using the daily exchange rate published by the Czech National Bank or the uniform exchange rate published by the Ministry of Finance. Choose whichever benefits you more, but be careful! Your choice must be applied consistently throughout the return. This means that all foreign-currency income and expenses in that year must be converted using either the daily or the uniform rate!

• I already trade shares regularly, buying more and selling in portions

If you actively trade securities , it is essential to keep records in Excel, as I described in the previous section. Excel allows you to track movements in your securities systematically — I recommend keeping it up to date and being really thorough.

If your approach is to buy shares in, say, Google, Amazon and Disney and then sell them all, calculating the profit from these transactions will not be too difficult. It gets harder if you buy more shares in these companies gradually or sell them in portions. Here, the tax office specifies exactly how to determine the expense as the acquisition cost. 

There are two methods, and once again you may choose whichever you consider appropriate:

• FIFO (first in, first out) — the Google share you bought first is also the one you sell first
• arithmetic average — you calculate the average price you paid for your Google shares

Using these two methods, you must calculate, for your tax return, the expense associated with the income generated by the sale. 

A client bought 20 Disney shares in January at USD 170 each. A few weeks later, the share price fell to USD 120, so he decided to buy another 30. He just likes Mickey. At the end of the year, however, he needed to fund Christmas presents, so he decided to sell 35 Disney shares. As the shares had by then climbed to a full USD 200 each, his income for the year was USD 7,000. He uses the daily exchange rate in his business, so he converted the share income using the Czech National Bank's daily rate and found that his income was CZK 153,454. He sighed because he had exceeded the CZK 100 thousand threshold and had to report the sales income in his return. As it was not exempt income — he had not held the shares for 3 years — he sighed again and went off to calculate the tax.

*Purchase price in CZK = purchase price per share (USD) * daily exchange rate

**Sale price per share — FIFO: the principle is that we sell what we bought first (first the 20 shares from the first purchase, then the remaining 15 from the second purchase)

(20 * 3836,39 + 15 * 2695,08) / 35 = 3347,26 CZK

***Sale price per share — arithmetic average: before each sale, you calculate the average price per share of all your Disney shares

(20 * 3836,39 + 30 * 3695,08) / 50 = 3151,6 CZK

The bold figures in the table are what the shares you are selling cost you (valued under the individual methods) — so, to calculate the profit: 

Sale of 35 shares * USD 200 * 21,922 (daily exchange rate) = CZK 153 454 (total income)

FIFO: 153 454 – 117 154, 1 = CZK 36 299,9 (profit, tax base)

or

Arithmetic average: 153 454 – 110 306 = CZK 43 148 (profit, tax base)

In this example, FIFO is clearly more advantageous, because the smaller the tax base, the lower the tax burden. Naturally, circumstances vary, so it is always best to calculate both options. However, here too you must be consistent and stick with your chosen method, just as with the choice of exchange rate. 

To conclude

1. keep careful, ongoing records of some kind,
2. watch the share-sales income threshold of CZK 100,000 / year; if you exceed it, check whether everything is exempt or whether something taxable is included,
3. if you have to pay tax, explore the exchange rate and valuation methods (FIFO and arithmetic average),
4. get advice if you are unsure. 🙂