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Tax Exemption for Software Development Services


12 March 2024 - Stj. Av. Mustafa Göktaş, YMM

Tax Exemption for Software Development Services

Earnings obtained by real persons only by exporting services after software development are supported with some advantages in terms of tax laws.

However, this article does not examine the taxation of gains derived from the sale of inventive software or software products as goods/products within the scope of industrial property rights.

Basis of Taxation:

1- Aaccording to Art. 3 of the Income Tax Law real persons, those who are resident in Turkey are taxed on all of their earnings and revenues earned in and outside of Turkey.

Real persons may earn income by providing services abroad in 3 types as follows:

a) As wage earners

b) As a freelancer

c) By establishing a company (ordinary partnership/personal company)

a) As a paid employee:

The Income Tax Law defines some exemptions for the earnings of paid employees (Art. 23/(1)-14-a: "Wages paid in foreign currency to employees working for limited taxpayer employers whose legal and business headquarters are not located in Turkey, over the earnings of the employer outside Turkey"

When we examine this text, the following conditions must be met for a real person who works as a paid employee in a company resident abroad and engages in software development activities:

- The employer company must be resident abroad (limited taxpayer).

- The wage must be paid out of the employer's earnings generated abroad (outside Turkey).

- The wage must be paid to the employee/software developer in foreign currency.

- The employee must have a paid employee status, the payment must be in the nature of wages and these conditions must be certified when necessary.

- Such wage payments to the employee must not be recognized as an expense in the employer's company books in Turkey, if any.

In addition to these conditions, it must be taken into consideration that the software developer with employee status should provide all kinds of documents such as payroll, social security number and documents in the foreign country in case the tax administration requests.

When all these conditions are met, social security premium (SSI) is not paid in Turkey due to this activity of the software developer working as salaried employee for a foreign resident company.

However, it should be evaluated within the scope of social security legislation that this issue, which is seen as an advantage for the cost of the employee, will have a negative impact on the retirement period and retirement monthly earnings of the employee in the future. The salaried employee may then have to pay personal premiums to the Social Security Institution (SSI) in order to include these overseas services in the scope of the SSI in Turkey.

Earnings in the nature of wage income obtained from abroad that do not meet these exemption conditions should be subject to annual declaration in accordance with Article 95 of the Income Tax Law and are subject to taxation. 

b) As a self-employed person/freelancer

Income Tax Law (Income Tax Law) Art. 65 defines self-employment income:

(1) "Earnings arising from all kinds of self-employment activities are self-employment earnings."

(2) "Self-employment activity is the performance of non-commercial works based on personal work, scientific or professional knowledge or specialization rather than capital, on one's own behalf and account under personal responsibility without being subject to an employer."

According to the expressions used in defining self-employment activity and self-employed persons, the following conditions must be met:

- It must be based mainly on personal labor (work).

- Unlike tradesmen, it must be based on scientific or professional knowledge or expertise.

- It must not be of a commercial nature.

- Must be carried out under personal responsibility and on one's own behalf and account.

It is clear that software development service is based on professional knowledge and expertise. Conducting it on its own behalf and account without being subject to an employer will also be evaluated according to the provisions of the Labor Law, SSI legislation and the Law of Obligations.

In the event that the software activity / service is performed / provided on an incidental (non-continuous, temporary) basis, Income Tax Law Art. 82/(1)-4 "Income collected due to incidental self-employment activities" will be subject to income tax. For the year 2023 (2024), if the net income obtained in a calendar year is over 129.000 TL (200.000 TL), an annual declaration will be submitted and will be subject to tax. During the calculation of the net income, the expenses incurred to obtain the income permitted by the income tax law, the costs incurred can be deducted from the gross income provided that the costs incurred are documented in accordance with the legislation.

However, if the income obtained is not incidental, but continuous in a calendar year, the income obtained will be considered as self-employment income in accordance with Income Tax Law Art. 65, the income will be considered as self-employment income and will be declared and taxed after deducting expenses, discounts and exemptions from the entire income.  

c) By establishing a company (ordinary partnership/personal company)

Software developers in Turkey can continue their activities by establishing a sole proprietorship according to the provisions of the Turkish Commercial Code (TCC) or an ordinary partnership according to the provisions of the Turkish Code of Obligations (TCO).

At least 2 persons must come together for an ordinary partnership. Considering that collective companies and limited partnerships, which are defined as sole proprietorships according to the TCC, must be established with at least 2 persons, it is generally seen as a more common way for the software developer to continue his/her activities as a self-employed person (freelancer).

In sole proprietorships and ordinary partnerships, real persons are subject to the increased rate according to the tariff in Income Tax Law Art. 103, real persons are liable to pay tax on their net earnings between 15% and 40% on a progressive basis according to the tariff. According to the relevant provisions of the Income Tax Law, the net income/tax base is calculated after deducting the expenses and costs incurred to obtain the taxable income as deductions and exemptions from the gross income.

However, it should not be forgotten that the real persons providing software services who are taxpayers must register and pay premiums to the SSI in 4-b status within the scope of the SSI legislation in Turkey.

Software services provided to companies established abroad are exempt from VAT within the scope of export exemption. Companies operating in Turkey for this purpose have the right to request a refund from the tax administration if they cannot deduct the VAT paid for the services they receive.

Tax advantages/exemptions for young entrepreneurs

The Repeated Art. 20 of the Income Tax Law introduced some tax advantages for full taxpayer real persons who have not completed 29 years of age, as of 29.1.2016.

"Full taxpayer real persons who have been registered as income taxpayers for the first time due to their commercial, agricultural or professional activities and who have not completed the age of twenty-nine as of the starting date of the taxpayer, the part of these earnings obtained for three taxation periods starting from the calendar year in which they started their activities, up to the amount in the second segment of the tariff written in Article 103 (150.000 TL for 2023), is exempt from income tax under the following conditions."

"1. The commencement of work must be notified within the legal period (10 days),

  2. Actual employment in one's own business or the management and direction of the business by oneself,

  3. If the activity is carried out within an ordinary partnership or sole proprietorship, all partners must meet the conditions in this article as of the date of commencement of the business,"

When the condition that the taxpayer has not completed 29 years of age as of the date of commencement of employment is met, it allows the taxpayer to benefit from this exemption for 3 calendar years. In addition, according to the SSI legislation, it will be exempt from insurance premiums within the scope of 4-B for 1 year.

Tax Exemption for Software Exports

Article 10 of the Corporate Tax Law No. 5520 and Article 89 of the Income Tax Law have been amended to increase the tax exemption rate for software services provided to non-residents by full-fledged taxpayers in Turkey to 80% as of the 2023 taxation period. The relevant text of both laws is basically the same.

 

- Software services must be provided to non-residents.

- Software services must be utilized abroad.

- The taxpayer in Turkey (software developer) must bring all of the earning derived exclusively from this activity to Turkey in accordance with the legislation.

- Bringing it to Turkey means depositing it in a bank established in Turkey. The collected amount must be brought to the country in foreign currency and must be proved with a foreign currency purchase certificate (DAB).

- An invoice or similar document must be issued on behalf of the foreign customer receiving the service.

When these conditions are met, the taxpayer in Turkey will be able to deduct 80% of the net income obtained within the scope of GVK or KVK from the tax base within the scope of export exemption.

Can Young Entrepreneur Exemption and Software Export Exemption be combined?

In case the young entrepreneur exemption in Income Tax Law Repeated Art. 20  and the conditions listed in Article 89/(1)-13 are met together, there are various opinions (mukteza) given by the Revenue Administration that it is possible to benefit from both exemptions.

Conclusion and Evaluation

This regulation, which increases the tax exemption for the export of software services to 80%, appears to be an incomplete incentive mechanism since it does not include the sale of software products and the transfer of the rights related to them. Although Article 5/B of corporate tax code (CTC) under the heading of Exemption in Industrial Property Rights, 50% of the portion of the income attributable to the "invention" is exempted from corporate tax if the products resulting from software activities are considered as "inventions" and have a "patent or utility model" certificate.

There is no export requirement in this article. However, the restriction that the software produced/developed must qualify as an "invention" within the scope of the Industrial Property Law (IPL) makes it difficult to apply the exemption.

In this context, we can say that the income tax and corporate tax laws only encourage the export of services within the scope of providing export exemption, but do not provide a special incentive mechanism for the export of software products.

Limitation of liability:

The assessments in this article are provided for informational purposes and are not binding; no liability is accepted. Taxpayers should contact their tax advisors or our office for an advisory opinion.