08.03.2017

Challenges during transformation of companies

Challenges during transformation of companies

The Hungarian Civil Code (Act V of 2013) prescribes the main rules of transformation of companies, while the detailed regulation is prescribed by Act CLXXVI of 2013 on the Transformation, Merger and Division of Legal Entities (hereinafter referred to as: transformation of companies). Transformation of companies involve an extremely complex and multi-faceted process, giving rise to legal, tax law and accounting problems.

What can motivate owners to make such decisions?

Reasons for changing a company’s form can relate to managing owner responsibilities, emphasising the significance of the firm by evolving into a company limited by shares, bringing in new shareholders, or due to solving situations of capital loss. Mergers can be triggered by wanting to exploit presumed or hoped-for synergies, acquiring greater market share, or even just reaching better economies of scale. Separations of companies are generally motivated by wanting to remove divisions with a view to subsequently selling them.

What types of transformations are there?

According to relevant laws, transformation of companies can occur in the following forms:

  • With a change of company form, a decision is made on changing the type of company (partnership, limited liability, company limited by shares).
  • The two main kinds of mergers are the takeover and forming a new company (consolidation).
    a) With a takeover only the legal entity being absorbed is wound up.
    b) Following a consolidation both participating companies cease to exist and a new legal entity is created.
  • The two main kinds of separation are the spin-off and the division.
    a) With a spin-off, the separating company becomes a new legal entity, while the company it separated from continues operating in the same form.
    b) In the case of a division, the original legal entity is wound up and its assets are transferred to new legal entities.
transformation of companiesTransformation plan: the most important document of transformation of companies

The most important document of transformation of companies is the transformation plan, which includes the draft statements of assets and liabilities and the draft inventory of assets and liabilities as well as the merger agreement and the separation agreement.

The owners determine the course of the transformation in the transformation plan. As part of the transformation plan, decisions are reached, among other things, on the transformation method, date, company form, the exiting and joining members, the method for settling up with those leaving, the senior executives of the new company, the capital structure of the new and the continuing companies, and the auditor of the business transformation.

The draft statement of assets and liabilities is designed to present how they wish to distribute the assets and liabilities of the continuing company after the transformation, while the draft inventory of assets and liabilities details the draft statement of assets and liabilities as a supporting document.

The final statement of assets and liabilities and the final inventory of assets and liabilities provide the opening balances for the accounting records at the companies as of when the transformation is registered.

The merger or separation agreements contain the detailed rules for the merger or the separation.

What is the general process for a transformation in Hungary?

Transformation of companies are triggered with one or two decisions by the owners. With the first decision, the owners decide based on the proposal of the management if they agree with the intention of the transformation and what the type of the transformation should be. In the second decision they resolve to carry out the transformation based on the audited and approved draft statement of assets and liabilities. If the audited and approved draft statement of assets and liabilities are available at the time of the first decision, the two decisions can be combined. The decision on the transformation of companies must thereafter be published twice in the Hungarian Official Gazette.

The Court of Registration makes its decision on the transformation among others based on the submitted plan and the draft statement of assets and liabilities. The companies have to prepare their final statement of assets and liabilities and final inventory of assets and liabilities as of the registration date, as the reporting date. It is possible to request that the transformation be registered on a given date, which is advisable because it is better to prepare an accounting closure as of the end of a month.

A new feature in relation to the registration at the court is that the tax authority (NAV) has to notify the Court of Registration that there are no pending tax authority procedures.

The audit of the transformation must be conducted by an independent auditor of the audit firm appointed by the company.

What else should you look out for during a transformation?

Transformation of companies in Hungary require very thorough planning. There are many deadlines to meet during the transformation, the various options provided by tax law can impact on the tax payment obligations that arise during the transformation, while several reports have to be published and several tax returns filed.

In light of the above, the transformation of companies constitute a very complex process; planning and implementing them carefully requires proper preparation and experience in various fields as well as knowledge of legal regulations. It is worthwhile considering the help of experts for all this. 

Special rules

Under a preferential transformation, the Act on Corporate and Dividend Tax as well as the Act on Duties provide tax allowances, but there are stricter measures too if the transformation is not based on real economic and commercial reasons.

A new element is cross-border transformation, during which a company is merging into a foreign enterprise, thereby terminating its legal personality and economic activity in Hungary.

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