The Polish Supreme Administrative Court once again addressed the tax treatment of contractual penalties. In its judgment of 9 June 2026 (case no. II FSK 989/23), the Court confirmed that a contractual penalty paid in connection with the termination of an economically unprofitable agreement may constitute a tax-deductible expense.
The case concerned a company engaged in the generation of electricity from renewable energy sources (RES). The company had accepted an electricity sales offer submitted by an energy distributor. After re-evaluating the terms of cooperation, however, it concluded that performing the agreement would be economically disadvantageous and therefore decided to withdraw from it. Pursuant to the contractual provisions, the company was required to pay a contractual penalty, which it duly settled.
The company argued that paying the contractual penalty was more economically beneficial than performing the unprofitable contract, allowing it to avoid greater losses and focus on more profitable business opportunities. Consequently, it applied for an individual tax ruling asking whether a contractual penalty paid for terminating the agreement could be treated as a tax-deductible expense under Article 15(1) of the Polish Corporate Income Tax (CIT) Act and, at the same time, would not be excluded from deductible expenses under Article 16(1)(22) of the CIT Act.
According to the company, the contractual penalty qualified as a tax-deductible expense. It argued that the penalty did not fall within the exclusions listed in Article 16(1)(22) of the CIT Act, as it was unrelated to defects in goods or services or delays in their delivery or rectification. The company further explained that its decision to terminate the agreement had been made on sound commercial grounds. Performing the contract would have generated higher costs than paying the contractual penalty and could also have limited the company’s ability to undertake more profitable projects. In the company’s view, incurring the penalty helped minimise losses, safeguard its source of income and create conditions for generating higher revenues in the future. It also emphasised that fulfilling its contractual obligation to pay the penalty enhanced its credibility in business relationships, which could positively affect future cooperation with business partners.
The Director of the National Revenue Information Service (KIS) disagreed with the company’s position. Although the authority acknowledged that the contractual penalty paid due to termination of the agreement was not covered by the exclusions provided for in Article 16(1)(22) of the CIT Act, it stressed that this alone was insufficient for recognising the expense as tax deductible. According to the tax authority, an expense may be treated as tax deductible only if there is a causal link between the expenditure and the generation, preservation or safeguarding of a source of income. In its view, payment of the contractual penalty resulted solely from the business risk assumed by the company. The fact that terminating the agreement was more economically advantageous than performing it did not automatically mean that the expense had been incurred to generate or protect taxable income.
The authority further argued that the consequences of incorrect business decisions and the related commercial risks should not be shifted to the State Treasury by recognising such expenditures as tax-deductible costs. Consequently, it concluded that the contractual penalty did not satisfy the conditions set out in Article 15(1) of the CIT Act and therefore could not be recognised as a deductible expense. For this reason, it did not analyse whether the exclusion provided for in Article 16(1)(22) of the CIT Act would apply.
In its judgment of 16 March 2023 (case no. I SA/Po 840/22), the Provincial Administrative Court in Poznań set aside the tax ruling, holding that the tax authority had failed to consider all relevant circumstances presented by the company. The Court emphasised that the taxpayer had demonstrated the commercial rationale for terminating the agreement, explaining that payment of the contractual penalty was less costly than performing the unprofitable contract and allowed the company to pursue more profitable business opportunities.
The Court also noted that Article 16(1)(22) of the CIT Act contains a closed list of contractual penalties excluded from tax-deductible expenses. Consequently, a contractual penalty not expressly listed in that provision may constitute a deductible expense if it is incurred for the purpose of generating, preserving or safeguarding a source of income. According to the Court, the assessment of such expenses should take into account commercial realities and the reasonableness of business decisions, including actions aimed at limiting losses and protecting the profitability of the business, as was the case here.
This position was subsequently confirmed by the Supreme Administrative Court in its judgment of 9 June 2026 (case no. II FSK 989/23). The Court held that a contractual penalty paid in connection with the termination of an economically disadvantageous agreement may constitute a tax-deductible expense, provided that the expenditure was incurred to preserve or safeguard the source of income and does not fall within the exclusions set out in Article 16(1)(22) of the CIT Act. The Supreme Administrative Court therefore confirmed that, when assessing the tax treatment of such expenses, the decisive factors are the commercial reasons behind the taxpayer’s decision and the impact of that decision on protecting and maintaining the source of income, rather than the mere fact of terminating the agreement.
The judgment is also consistent with the established case law concerning contractual penalties not listed in Article 16(1)(22) of the CIT Act. Administrative courts have consistently held that the catalogue of exclusions provided for in this provision is exhaustive and cannot be extended to other types of contractual penalties. At the same time, they emphasise that contractual penalties not covered by this provision may qualify as tax-deductible expenses where they are incurred in connection with generating, preserving or safeguarding a source of income, particularly where they serve to minimise losses or protect the profitability of the taxpayer’s business activities (see the judgments of the Supreme Administrative Court of 19 December 2024, case no. II FSK 409/22, and 14 November 2024, case no. II FSK 209/22, as well as the judgment of the Provincial Administrative Court in Gliwice of 18 March 2025, case no. I SA/Gl 756/24).