In Iceland, employers have several tax responsibilities. They are required to pay the majority of social security contributions, also known as national insurance contributions, at a rate of 6.35% of an employee's gross salary. Additionally, they contribute 0.1% of an employee's gross salary to the Icelandic Rehabilitation Fund (VIRK), which supports rehabilitation and disability services in the country.

Pension Fund Contributions

Employers are mandated to contribute at least 11.5% of an employee's gross salary to a pension fund. There is also an option for both employers and employees to contribute to private pension funds for additional retirement savings. In this case, employers contribute an additional 2% if the employee chooses to add 4% into a private pension scheme.

Other Employer Taxes

There are other taxes that employers are required to pay. These include a mandatory 0.05% Wage Guarantee Fund Fee on gross salaries, which funds a program that protects employee wages in case of employer bankruptcy. Employers also pay a 0.05% market fee on gross salaries to support Iceland's tourism initiatives. Financial and insurance firms are subject to an additional 5.5% payroll tax.

Income Tax Withholding

Employers are responsible for deducting income tax from employee wages and remitting it to the Icelandic tax authorities. Income in Iceland is taxed progressively in three brackets. Additionally, municipalities in Iceland levy their own income tax rate, with 14.45% being a common rate.

Tax Deductibility

Most of the employer tax contributions described above are tax-deductible as standard business expenses, which helps to reduce the overall tax liability for Icelandic employers.

Icelandic employees are subject to progressive income tax rates, levied by both the state government and their municipality.

State Income Tax

• Bracket 1: Approximately the first ISK 4,445,783 of yearly income taxed at 17%.
• Bracket 2: Approximately the next ISK 8,035,492 of income taxed at 23.5%.
• Bracket 3: Income exceeding approximately ISK 12,481,275 is taxed at 31.8%

Municipal Income Tax

An additional income tax rate is determined by each municipality, with a common rate of around 14.45%.

Social Security Contributions

Employees in Iceland contribute 6.35% of their gross salary to social security (national insurance) programs.

Pension Fund Contributions

• Mandatory Contributions: A mandatory 4% of an employee's gross salary is contributed to a pension fund.
• Voluntary Contributions: Employees can choose to contribute a further 2% or 4% to a private pension fund for additional retirement savings. If they do so, their employer must match that contribution with an additional 2%.

Personal Tax Credit

All Icelandic taxpayers receive a personal tax credit that works to reduce their overall income tax liability. This credit is proportionally reduced if an individual resides in Iceland for only part of the year.

Additional Possible Deductions

• Union Fees: Union fees may be tax-deductible for some employees.
• Charitable Contributions: Donations to certain charities or causes may also be tax-deductible.

The standard VAT rate in Iceland is 24%. This rate applies to most goods and services sold within the country.

Reduced VAT Rate

A reduced VAT rate of 11% applies to specific types of services, including:

• Accommodation: Hotel rooms, guesthouses, and rentals for periods shorter than a month.
• Camping: Campground facilities and trailer spaces.
• Transportation: Passenger transportation services like whale watching, guided tours, and snowmobile excursions.
• Entertainment: Subscription to radio and television.
• Services from Travel Agencies: Travel agent services that are used within Iceland.

VAT Exemptions

Some services are exempt from VAT in Iceland, including:

• Healthcare services
• Social services
• Educational services and operations of schools
• Cultural activities
• Sports activities

VAT Registration

Businesses providing taxable services in Iceland must register for VAT if their annual turnover exceeds ISK 2,000,000. It's important to consult the Icelandic Directorate of Taxes for the latest turnover thresholds for VAT registration.

VAT on Imported Services

Iceland uses a reverse-charge mechanism for VAT on imported services. This means that Icelandic businesses receiving services from foreign providers are generally responsible for self-assessing and paying the VAT due.

VAT Deductions

Businesses registered for VAT can generally deduct VAT paid on their business expenses (input VAT) from the VAT they collect on their sales (output VAT). This helps reduce the overall VAT burden.

Filing VAT Returns

Businesses registered for VAT must file regular VAT returns and remit any VAT owed to the Icelandic tax authorities. The frequency of VAT returns can vary depending on a business's turnover. Information and guidance are available on the Icelandic Directorate of Taxes website.

Iceland offers a variety of tax incentives to stimulate business growth, research and development, and regional development.

Research & Development (R&D) Tax Credits

Companies in Iceland can benefit from a generous tax credit for eligible R&D expenses. Small and medium-sized enterprises (SMEs) can avail of a 35% tax credit, while larger companies are eligible for a 25% tax credit. There is an annual ceiling of ISK 1,100 million (approximately USD 8.6 million) in eligible R&D costs, which includes up to ISK 200 million (approximately USD 1.6 million) for outsourced expenses. These tax credits are administered by the Icelandic Centre for Research (RANNÍS).

Incentives for Initial Investments

The Act on Incentives for Initial Investments in Iceland is designed to promote large-scale investments exceeding €50 million and boost regional development. It provides various incentives, including tax exemptions, reduced tax rates, and custom duty waivers. Applications under this scheme are processed by the Ministry of Industries and Innovation.

Training and Job Creation Support

Financial support is available for businesses that provide training for their employees, particularly in digital skills or addressing labor shortages. Incentives may also be available for companies creating new jobs, especially in economically disadvantaged regions. These types of incentives are typically managed by the Icelandic Directorate of Labor and regional development agencies.

Regional Incentives

Businesses operating in designated regional development zones may be eligible for additional tax breaks and financial support. These incentives aim to promote economic activity and job creation outside the capital region.

Green Investment Incentives

Iceland offers numerous incentives that support environmentally conscious businesses, particularly those involved in renewable energy and energy-efficient technologies. These may include tax reductions, grants, or low-interest financing.