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by Simone Rupp
Tax-neutral restructuring often triggers tax-related claw-back/holding periods (e.g. Section 15 (2), Section 18 (3), Sections 22 and 24 German Reorganisation Tax Act (UmwStG [Umwandlungssteuergesetz]), Section 6 (5) Income Tax Act (EStG [Einkommensteuergesetz]). In addition to holding periods for income tax purposes, holding periods for real estate transfer tax purposes in accordance with Sections 5 (3), 6 (5), 6a of the Land Transfer Tax Act (GrEStG [Grunderwerbsteuergesetz]) must be observed.
Subsequent transactions occurring within the claw-back period generally lead to retroactive taxation of the restructuring and thus to an additional tax burden. Due to this a review of past restructuring is usually carried out in the course of a company acquisition Depending on the view taken of the transaction, there are different areas to focus on.
Subject to certain conditions, it is possible to transfer a business operation, parts of a business operation and interest in a partnership to a corporation at book value, and therefore tax-neutral. In return, the person or entity making the contribution (contributor) receives new shares in the corporation.
Contributions below the fair market value generally trigger a 7-year claw-back period. The period starts on the date of the contribution.
In this case, retroactive taxation of the contribution transaction may arise at the level of the contributor, if the contributor sells the new shares (subject to tax restrictions) within a period of seven years (Section 22 (1) UmwStG, so-called “Einbringungsgewinn 1”).
The following practical example should illustrate this:
The contributor – Corporation 1 (KapGes 1) - receives, in return for the tax-neutral contribution of a part of its business operation (independent branch of activity; “Teilbetrieb”) at book value (here: a spin-off to create a new establishment) into KapGes 2, “new” shares in Corporation 2 (KapGes 2).
If KapGes 1 is the seller, then the sale of the shares in KapGes 2 (the shares received in exchange) would lead to retroactive taxation of the contribution at the level of KapGes 1. The reason for this is that the sale of the shares in KapGes 2 is subject to a tax privilege (Section 8b (2) and (3) Corporation Tax Act (KStG [Körperschaftsteuer-gesetz])), whereas the sale of a part of the business operation would have been subject to regular taxation as current income . The received shares in KapGes 2 are therefore subject to a 7-year claw-back period.
The sale of the shares in KapGes 2 within this claw-back period leads to retroactive taxation of the gain from the contribution (“Einbringungsgewinn I”) at the level of KapGes 1, whereas a reduction of 1/7th for each full year since the date of the contribution is applied. At the same time, the acquisition costs of the received shares in KapGes 2 increases.
The sale of the shares in KapGes 1 has no direct effect on the claw-back period for tax purposes. However, the claw-back period is not irrelevant for the buyer of KapGes 1.
If KapGes 1 is the target company, it must be examined in the context of the acquisition of the company whether the conditions for the tax-neutral contribution were fulfilled; in the present example, especially whether an independent branch of activity (“Teilbetrieb”) was given. Should it be determined during a later tax audit that those conditions were not met, retrospective taxation would take place at the level of KapGes 1.
This risk can be covered within the framework of the share purchase agreement by means of a corresponding tax indemnity or tax guarantee in favour of the buyer.
If the buyer plans a restructuring after acquisition of the target companies (KapGes 1 and KapGes 2) that affects KapGes 2, it must also be checked whether the planned restructuring would lead to a violation of the holding period and thus to retroactive taxation of the contribution at the level of KapGes 1. In practice, this risk is usually not covered by a tax indemnity/tax guarantee, since the retroactive taxation is only triggered by an action on the part of the buyer.
Company transactions occurring within claw-back periods can lead to not insignificant additional tax burden. For this reason, the tax risk due to existing claw-back periods should always be determined as part of a tax due diligence. If restructuring of the target company is necessary from the buyer's perspective, possible claw-back periods that exist due to previous restructurings must be taken into account or the tax implication should be included in the negotiations.
Dr. Susanne Kölbl
Partner
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