Whether works done on fixed assets should be considered repair or technical upgrading is a question asked frequently in tax and accounting departments. Although it might not seem obvious to everybody at first sight, answering this question correctly is very important for the company. Repair is recognized as expense which has an impact on the economic result of the year in which the repair was done; on the other hand, technical upgrading increases the value of fixed assets and thus the value of the company’s assets and money spent on the upgrading is expensed gradually in the form of depreciations. If the initial question is answered incorrectly, it can bring about doubts about the accuracy and honestly of the company’s accounts but also about the tax eligibility of its expenses.

This is why the terms technical upgrading and repair must be viewed from two different angles: from the point of view of taxation with regard to tax eligibility of expenses, and from the point of view of accounting with regard to an accurate and honest image of the accounts.

TECHNICAL UPGRADING FROM TAXATION POINT OF VIEW

For tax purposes, technical upgrading is defined in § 33 Act on Income Tax (in the case of intangible assets in § 32a section 6). According to this definition, technical upgrading means expenses on a performed (i) reconstruction or (ii) modernization done on finished assets if with individual assets they exceed the sum of 40 000 CZK in total[1] for a tax period, while reconstruction or modernization are recognized as interventions which lead to a change of purpose, technical parameters, equipment, or usability of the assets.  

What the law says about technical upgrading may sound simple and seem clear-cut, however, in practice we are often met with cases that are quite ambiguous and it is not that easy to determine. In these unclear cases it is necessary to give good reasons for your answer and provide strong and logical arguments. At the same time, the tax subject should be able to show and prove the state of the assets before and after the modifications took place so that it may be determined whether it was a repair or a reconstruction or modernization of the assets.

REPAIR EXPENSES

According to accounting provisions, a repair removes the impacts of partial material wear or damage in order to return to the previous operable state. A repair means bringing the assets to their original state or switching old parts for new ones while even other materials, components, or technologies than those used previously can be used unless that leads to technical upgrading. Typical examples of repair are:

• Painting of interiors and outdoor spaces including substitutions of regular plaster with tadelakt and other special kinds of plaster;
• Changes of doors of the same dimensions, changes of wiring, changes of spot lighting for different spot lighting;
• Replacement of old carpets fixed in the immovable property with new carpets, also fixed.

TECHNICAL UPGRADING EXPENSES

Technical upgrading, complying with the definition in Act on Income Tax, are for example expenses on:

• Installation of a tow instrument to a vehicle;
• Installation of partitions to build smaller offices in bigger spaces (so called fit-out);
• Replacement of traditional cabling with optical fiber cables.

However, there are cases where expenses aren’t neither for repair nor for technical upgrading. These include installation of a system of cameras in a building, because such a system is from the point of view of Act on Income Tax a separate movable property.

ASSESMENT

If a tax subject is still not able to determine this, there is an option to ask the tax administration for an assessment of whether the modification of property is a repair or technical upgrading. The request for assessment can regard already conducted, currently being conducted, or planned modifications, and it must contain requisites required by the Act on Income Tax. The fee for submission of the request and for the assessment is 10 000 CZK.

TECHNICAL UPGRADING FROM ACCOUNTING POINT OF VIEW

As has been already mentioned, technical upgrading is defined in Act on Income Tax and in regard to accounting it is considered a fixed asset. Technical upgrading can be done on both fixed tangible and intangible assets. Technical upgrading can be displayed in accounts in two different ways:

• The company records technical upgrading as increase in acquisition price of its own assessed property.
• The company records technical upgrading as separate fixed assets if the modification is done on property that is not owned by the company but only rented out and at the same time this technical upgrading is not included in the acquisition price of the property.

To be able to conduct technical upgrading on property rented out by the company, the company needs consent of the owner. This consent should include information about who will account for this technical upgrading, in other words who will be paying the expenses which will be put in the accounts and deducted from tax.

Technical upgrading must be identified pretty early on during its realization, that means during its planning. The reason for this is that it leads to the correct way to account for technical upgrading. Because technical upgrading is considered a fixed asset it is necessary to account for it in accounts for property acquisition, accounts 041x – acquisition of fixed intangible assets, or accounts 042x – acquisition of fixed tangible assets.

In the moment the technical upgrading is done and the property is back in working order, it’s time to put it in use. Subsequently, this putting in use should be accounted for in the accounts in the following way: accounting/transferring the technical upgrading from accounts 04x – acquisition of fixed assets into accounts of the 01x group – fixed intangible assets (technical upgrading of this kind usually concerns account 013 – software) or the 02x group – fixed tangible assets based on the classification protocol.

Classification protocol

Just like with other kinds of fixed assets, one has to put together a classification protocol prior to putting the technical upgrading to use. The protocol should contain at least a list of items making up the final purchasing price of the upgrading and the moment of finalization of the technical upgrading. A correct estimation of the purchasing price and of the moment of finalization/putting into use has an impact on the amount of depreciations of fixed assets and the amount for a given tax period.

Technical upgrading is put into expenses via depreciations which are calculated based on the lifetime period of the property. If the result of the upgrading is a longer lifetime period, then it is calculated based on the prolonged lifetime period of the property.

REPAIR EXPENSES FROM ACCOUNTING POINT OF VIEW

If the modifications made to the fixed assets do not have the character of technical upgrading, the expenses are classified as expenses on repair and on maintenance of fixed assets. The fact that it doesn’t meet the requirements for technical upgrading can be caused by the technical works if they don’t lead to an improvement of technical parameters as they are defined in the part of this article which deals with taxation. But it can also be caused by the financial part in those cases where the finalized technical upgrading has a lower value than the one stated by the law

These expenses are accounted for by the accounting entity directly into expenses as the total sum.

Written by: Štěpán Hrubý, Karolína Vernerová

Edited by: Dagmar Hadrabová

[1] In the case of fixed intangible assets it is considered technical upgrading if expenses payed at once for improvement of equipment or usability of an asset exceed the sum of 40 000 CZK – for one payment, not in total.