What is Income Tax and How Does It Work?

Income tax is a tax imposed by the government on the income of individuals, businesses, and other entities within its jurisdiction. Income tax is one of the primary sources of revenue for the government, used to support public services and various projects. There are two main types of income tax: individual income tax and corporate income tax. Generally, individual income tax is more relevant to the general public, as not everyone is a business owner.

1. Business Operations Model

1.1 Operating a Business as a Sole Proprietorship

A small business with a single owner, who can manage everything independently. In cases where there are two or more individuals who have agreed to run a business together, sharing profits but without forming a company, all partners must pay taxes as individuals.

Advantages of Operating a Business as a Sole Proprietorship

• 1. High flexibility, as decisions can be made by the owner alone without waiting for shareholders' input.
• 2. The owner keeps all profits for themselves.
• 3. Easy to establish with no complicated procedures.
• 4. No need to maintain accounts, reducing the costs associated with document management.

Disadvantages of Operating a Business as a Sole Proprietorship

• 1. Limited to the capital invested by the owner, making it difficult to raise funds due to a lack of credibility.
• 2. The business may be viewed as lacking financial stability and strong management.
• 3. Taxes are paid in a lump sum, meaning even if the business incurs a loss, no expenses can be deducted, leading to tax payments regardless of profitability.

Businesses Suitable for Operating as a Sole Proprietorship

This model is suitable for simple businesses with low revenue. Since individual tax rates are progressive, with the highest rate at 35%, the more income a business generates, the higher the tax burden. Therefore, businesses that are best suited to operate as sole proprietorships should have net annual income of no more than 1 million baht, as they will only pay 20% tax on the portion exceeding 750,000 baht. In contrast, companies that are not SMEs must pay a 20% tax on net profits starting from the first baht. As a result, many small businesses are motivated by tax incentives to remain as sole proprietorships, as changing to a corporate entity may increase both costs and taxes.

1.2 Operating a Business as a Legal Entity

A legal entity business refers to a group of individuals or organizations who agree to run a joint venture. This includes general partnerships, limited partnerships, and limited companies, all of which are registered with the Department of Business Development, Ministry of Commerce.

Advantages of Operating a Business as a Legal Entity

• 1. Ability to raise capital from partners, providing more working capital.
• 2. Greater credibility with external parties due to proper registration, which increases trustworthiness.
• 3. Easier access to funding from investors or loans from banks, with lower interest rates.
• 4. Taxes are based on the company's profit. If the business incurs a loss, it may be exempt from paying taxes, provided there is sufficient evidence to prove the loss.

Disadvantages of Operating a Business as a Legal Entity

1. Decision-making may be slower and more prone to conflicts due to diverse viewpoints and group discussions.

2. The process can be complicated, requiring proper documentation and accounting according to the Revenue Department's standards. As a result, some businesses may need to hire an accountant to handle this paperwork, adding to operational costs.

Businesses Suitable for Operating as a Legal Entity

Legal entity operations are more suitable for larger businesses with higher revenues, where there are sufficient records of purchases and receipts that can be used as evidence to deduct expenses. This model provides more benefits in terms of accounting and taxation compared to sole proprietorships, as legal entities are subject to a flat tax rate of 20% on all profits, whereas individual income tax is progressive, with rates as high as 35%. Furthermore, if a business is registered as an SME, it can benefit from government policies such as tax deductions for employee training, insurance premiums, and employee life insurance. Therefore, registering as a legal entity is more appropriate for businesses of this type.

1.3 Corporate Tax Filing Guidelines

The law requires the filing of corporate income tax returns in two periods:

• – Form PND.51 for the mid-year period, which must be filed and paid within 2 months from the last day of the first 6 months of the accounting period.
• – Form PND.50 for the end-of-year period, which must be filed and paid within 150 days from the last day of the accounting period.

The calculation of corporate income tax is based on the formula: (Revenue – Expenses) = Net Profit. The net profit is then taxed according to the corporate income tax rate for businesses with capital not exceeding 5 million baht and annual revenue not exceeding 30 million baht, as follows:

Profit	Conditions
First 300,000 Baht of Profit	Tax Exempt
Profit between 300,001 and 3 million Baht	Tax at 15%
Profit over 3 million Baht	Tax at 20%

If the business does not meet the above conditions, it will be subject to a tax rate of 20% from the first Baht of profit. Since expenses can be deducted from revenue, this results in a lower net profit and, therefore, lower taxes to be paid.

1.4 Corporate Tax Saving Strategies

• The best and legal way to save corporate taxes is to deduct expenses related to business operations from the taxable income, which can help reduce the tax burden. Some examples include:
• – Business-related expenses should be purchased in the name of the company only.
• – Employee training expenses: If the company's employees attend educational or training programs and have receipts, and then return to work to improve the organization, these expenses can be used as evidence to deduct taxes.
• – Off-site seminars: If the company holds off-site seminars for employees with clear rules that benefit the development of the business, these can be used as evidence to deduct taxes.
• – SMEs can deduct asset depreciation at a special rate: If an SME purchases assets after January 31, 2002, it can deduct depreciation at a special rate.
• – Hiring senior employees: Expenses can be deducted up to 2 times the wages paid to employees who are 60 years or older, up to a limit of 15,000 Baht.
• – Hiring persons with disabilities: If the company hires persons with disabilities beyond the legal quota, it can deduct expenses for hiring persons with disabilities that exceed the required quota at double the rate.

2. Income Tax for Sole Proprietorships and Corporations

2.1 Taxation for Sole Proprietorships

The maximum tax rate for a sole proprietorship is 35%. There are two methods to calculate the tax:

If the tax calculation by Method 2 results in less than 5,000 Baht, tax should be calculated using Method 1.

For calculating expenses, you can choose between two methods:

1. Standard deduction: No need to provide evidence of expenses. It is simple and convenient, but the deductions are usually lower than actual expenses.

2. Actual deduction: You must provide evidence of the actual expenses.

2.2 Taxation for Corporations

Calculation Method

For SMEs, tax rates are exempted/reduced in a tiered structure, with a maximum rate of 20%. If the business incurs a loss, no tax is due, and the loss can be carried forward to offset future profits for up to 5 years.

Expense Deductions

For SME operators who are registered as a corporation, some types of expenses can be deducted at a higher rate than actual costs. For example, hiring elderly employees allows for double deductions of their wages.

Depreciation and amortization on certain types of assets, such as temporary buildings, can be deducted at an accelerated rate (e.g., 100% deduction for temporary buildings).

Now that we have covered the details of both business types, let's take a look at which business structure will help entrepreneurs save the most on taxes.

2.3 Differences in Taxation Between Individuals and Corporations

1. Individual Taxpayer

• Income from 0 – 150,000 Baht is tax-exempt.
• Income from 150,001 – 300,000 Baht is taxed at a rate of 5%.
• Income from 300,001 – 500,000 Baht is taxed at a rate of 10%.
• Income from 500,001 – 750,000 Baht is taxed at a rate of 15%.
• Income from 750,000 – 1,000,000 Baht is taxed at a rate of 20%.
• Income from 1,000,001 – 2,000,000 Baht is taxed at a rate of 25%.
• Income from 2,000,001 – 3,000,000 Baht is taxed at a rate of 30%.
• Income from 3,000,001 – 5,000,000 Baht is taxed at a rate of 30%.
• Income above 5,000,001 Baht is taxed at a rate of 35%.

2. Corporation

2.1 SME Corporation

• Net profit from 0 – 300,000 Baht is tax-exempt.
• Net profit from 300,001 – 3,000,000 Baht is taxed at a rate of 15%.
• Net profit above 3,000,001 Baht is taxed at a rate of 20%.

2.2 Non-SME Corporation

Net profit from 1 Baht is taxed at a rate of 20%.

Comparison of Taxation between Individuals and Corporations

	Individual	Corporation
Taxation when income exceeds 1 million Baht	Progressive tax rates up to 35%	SMEs pay progressive tax rates up to 20%, if not an SME, a flat 20% rate applies
Accounting submission to the Revenue Department	No need to prepare accounts according to the Revenue Department's format, but it is recommended to maintain cash flow reports for the business’s financial data	Must establish accounting systems, hire accountants and auditors, and obtain certifications to comply with accounting standards
Tax payment when the business incurs a loss	If the business incurs a loss, tax must still be paid due to the flat-rate calculation	If the business proves it has incurred a loss, no tax is required, and the loss can be carried forward to offset profits in future years
Expense deductions	Can choose between two methods for expense deductions: flat-rate or actual expenses	Actual expenses can be deducted, but proof of payment is required. Depreciation of certain assets can be accelerated for deductions
Funding acquisition	Has lower credibility, making it harder to obtain funding from banks, and loan interest rates are higher	Has higher credibility, allowing easier access to funding from investors, and bank loan interest rates are lower
Risk in case of bankruptcy	The business owner assumes all risks alone	Partners assume risks only to the extent of their investment