In our article entitled Challenges during transformation of companies we provided a general overview of transformations, in the subsequent summary The transformation process of companies we generally dealt with legal regulations, deadlines and related schedules, while our article on Accounting tasks during the transformation of companies detailed the related accounting measures. The transformation of companies raises many different taxation issues too. We will now explore these in the article below.
There are countless factors and economic necessities that can trigger the transformation of companies; one thing is certain though: the taxation aspect is always worth examining before making any decision on transforming.
Which tax types require attention during a transformation?
Corporate tax and property acquisition duty are the two main focal points in relation to transformations. The taxation benefits can be simplified in as much as most of them in this context are related to preferential transformations. Implementing preferential transformations is subject to numerous conditions.
What are preferential transformations?
According to the rules of Act LXXXI of 1996 on Corporate and Dividend Tax (hereinafter referred to as: Corporate Tax Act), preferential transformations are transformations (including mergers and demergers), in which both the predecessor and the successor are companies, if
- during the transaction the members or shareholders of the predecessor company receive a share in the successor company as well as a cash payment not exceeding 10 percent of the aggregate nominal value of the acquired share in connection with the transformation (for lack of a nominal value, the percentage represented in the registered capital), and
- in the case of a demerger, the members or shareholders of the predecessor company acquire shares in the legal successor that are proportionate relative to one another,
- merging with the sole proprietor or shareholder of a single-person company.
From 2017 the law has tightened the rules in this respect. A transformation can only be considered preferential if it is based on genuine economic or commercial reasons, and the taxpayer has to verify this.
The special rules under the Corporate Tax Act for adjusting tax bases define further conditions for taking advantage of this opportunity. Accordingly, preferential transformations are also subject to the legal successor’s articles of association containing a commitment to determine its tax base following the transformation as if the transformation had not taken place, and to keep the revalued assets and liabilities separate; furthermore, the legal predecessor (or in the event of a demerger, the legal successor) must notify the tax authority of the decision in its tax return on the fiscal year of the transformation.
What are the benefits of preferential transformations?
The Corporate Tax Act as well as the Act on Duties provide tax allowances if preferential transformations are chosen and the conditions are met.
One of the real advantages in terms of corporate tax is that any revaluation differences arising in the market valuation during the transformation do not have to be taxed at the legal predecessor in the tax return prepared as of the day of the transformation. This is in fact a tax deferral because the legal successor has to determine its tax base deductibles as if the transformation had not taken place. Namely, the tax base deductible items are based on the figures prior to the market valuation, while the disallowed items are based on the revalued carrying amounts. Consequently, the corporate tax on the revaluation difference not paid at the time of the transformation is paid over the duration of the asset’s useful life.
The other major benefit is that any property acquisition during preferential transformations is exempt from the duty on the onerous transfer of property. The taxpayer still enjoys duty exemption if the transformation meets the general conditions for preferential transformations but the special rules on tax base adjustments in the Corporate Tax Act are not complied with.
What happens with using any loss carry-forwards of the legal predecessor?
In the event of a transformation the successor can use the loss carry-forwards accumulated at the predecessor in proportion to its share in the predecessor’s assets as recognised in the transformation balance sheet.
Conditions for using loss carry-forwards received during a transformation:
- During a transformation, a majority influence is obtained in the successor company by an owner who (or whose related company) previously held such an influence in the predecessor before the transformation.
- In the two fiscal years after the transformation the successor generates income or sales revenue in at least one of the activities pursued by the predecessor company, except if it is terminated without succession within two fiscal years, or if the predecessor’s activity related solely to asset management.
- Loss carry-forwards can only be used in each fiscal year at the successor up to the proportion of the fiscal-year revenue from the continued activity relative to the average revenue in the preceding three fiscal years.
What is the NAV’s role during transformations?
Registering transformations at the court is subject to the tax authority (NAV) notifying the Court of Registration that there are no pending tax authority procedures against the company. If no information is forthcoming, the transformation can be registered on the 90th day from the submission of the transformation request and from the availability of all the company documents at the Court of Registration.
In light of the above, transforming companies is a very complex process and it is worthwhile considering the help of experts to plan and implement the steps carefully.
