Intra-group (and not only) financing (vol. II)

Legal Insight

March 2022

Ioannis Psarakis, Lecturer, LL.M (III), PhD  Cand.

(Republished from Euro2day)

Summary: In a previous article we set out some of the facts that it is good to keep in mind before coming up with the best way to finance your business. We noted that the reason for what was written (and is written herein) is the -often arising in practice- issue of liquidity transfer within a group. However, the information provided is also very useful for individual companies.

In the first part, we discussed simple lending and the mainly stamp duty issues that arise. We also referred to the concept of cash pooling. With today's Part 2 we complete "the mosaic" on some of the most frequently used financing methods in practice and, in particular, the advantages and disadvantages they present, but also the points that deserve our attention in order to avoid unpleasant surprises in the future (see tax audits).

Ι. The bond loan

When talking about ways of financing businesses, we could not fail to mention the bond loan. It is a way of providing liquidity, which for legal reasons (e.g. favourable tax treatment) and for real reasons (e.g. foreign investors are much more familiar with this type of financing, which makes it easier for them to participate and therefore more attractive for the companies concerned), is one of the most popular in business practice.

First of all, the following observation should be made at the outset: a bond loan, with the tax facilities provided for by law (exemption from all taxes and charges - see, for example, stamp duty), can only be issued by a public limited company (SA).

It is often said and written that a bond loan is issued exclusively by an SA, but this is not accurate. For example, a bond can also be issued by an IPE (issuing bonds and withdrawing them in full, e.g. from a credit institution). This bond loan, however, will not benefit from the aforementioned tax advantages provided by Article 14 of Law 3156/2003. This is the reason why the impression has been created that a bond loan is issued exclusively by an SA. It is the most common (and probably the only one) found in practice.

Therefore, the elements that make the bond solution attractive are found only in the case of a bond issued by an SA. A company with a different legal form cannot benefit from the tax advantages provided for by the law.

Of course, any type of company can be converted into an SA. With the new Law 4601/2019 on corporate transformations, the principle of conversion from and to any direction is introduced: therefore also to an SA. On the other hand, the tax framework of the transformation varies - the option with the lowest tax burden is chosen in each case.

The bond solution, as outlined in the law, with its tax concessions and the extensive experience in practice of legal and financial advisers due to the frequency of this type of financing, is therefore a very good (and well-worked) solution indeed.

II. The financing of the capital company in the context of a future capital increase

Pursuant to Article 11(1)(b) of the Articles of Association, the financing of the capital increase is subject to the following conditions. 4 a' of Act No. 1079/1971: 'The articles of association of all types of public limited companies and the ancillary contracts contained therein (underwriting of debt, etc.) and all acts relating to the increase in their capital are exempt from stamp duty, levies, royalties or other charges in favour of the State or third parties, as amended by Articles 15 and 47 of the Stamp Duty Code'.

From its very content, this provision seems quite attractive because of the exemptions it provides ('Exempt from stamp duty, levies, duties, royalties or other charges in favour of the State or third parties [...]'). Where the financing of the capital company by means of payments for a capital increase is chosen, but which will take place in the future and not immediately, attention must be paid to certain details, as things are not as simple as they may seem.

The reason is basically this: this beneficial provision has been introduced to serve certain purposes. If things were that simple, there would be nothing to prevent entrepreneurs from claiming a payment for a future share capital increase (so that they could also benefit from the neutral tax treatment of the transaction). However, many points need attention in this case - here are some of the more typical ones, in the form of question and answer questions:

Question 1: Is a prior decision to increase share capital necessary in order to be able to determine (e.g. by a future tax audit) that the payment is actually made for this purpose?

According to settled case law and administrative practice, no prior action is required in order to pay amounts towards a future increase in share capital. For example, both the Council of State in its decision no. 1470/2002 (see also Ste 174/1982, Ste 211/1983) and the Dispute Resolution Directorate (Athens Dispute Resolution Division) in its decisions no. 2323/2019 and 1318/2019, held that no decision of the General Meeting or the Board of Directors is required for a (future) share capital increase. The reasoning is that relatively simple: the law provides for tax neutral treatment without requiring any pre-treatment.

However, we should also note the opposite (but nevertheless extremely rare in practice) case: the individual contrary decision of the Athens BPA 891/2020, which requires up to and including the publication in the G.E.M. of the decision of the competent body to decide on a share capital increase.

In view of this, it is considered that the most prudent option would be at least the adoption of a resolution, e.g. by the Board of Directors, which would refer to the launch of, at least, a share capital increase.

But why are we concerned with the above? The explanation is as follows: if the tax authorities are not convinced that these are indeed amounts for a future share capital increase, there is a risk that the corresponding amounts will be regarded as deposits (1.2%) or loans (2.4%) and that the corresponding stamp duty will be imposed. Therefore, in terms of evidence, it is useful to have documents which, when the need arises, are capable of supporting this true claim (e.g. a board resolution referring to this future capital increase).

Question 2: Must the share capital increase actually take place within a certain period of time in order to exclude/limit the risk of the payment being considered a deposit or a loan (and thus the corresponding stamp duty - depending on the audit evidence) to the company?

It has been observed that the favourable tax treatment of deposits for future share capital increases makes the following "method" attractive for many: paying the amount under the pretext of a future share capital increase, which, however, will never actually take place.

The question that is often asked is therefore: how long is it possible for the money to remain in the entity without a share capital increase and, at the same time, without stamp duty being imposed on a loan or cash facility?

The views expressed on this question are as follows:

The share capital increase must be completed within one year of the payment of the amount. Otherwise it is not considered to have been made for the purpose of a (future) share capital increase. This position has been adopted, for example, by the Athens BIF 225/2020. However, it is not correct. This is for the following reason: it is based on the letter of the ELTE (Accounting Standards and Audit Committee) Guideline for the law. 4308/2014 on Greek accounting standards, which regulates the accounting treatment of the amount of these payments. However, the ELTE directive was issued for the accounting treatment (financial presentation) of the issues and not for the regulation of these issues from the perspective of other legislation.

As the Council of State (Council of State 3251/2012) had also ruled "The provisions of the Law 2190/1920 [the prevailing framework for SAs] and the Decree 1123/1980 (the prevailing framework for accounting standards) are aimed at the internal accounting presentation of the financial information of limited liability companies and are not tax provisions".

Therefore, the one-year requirement provided by the ELTE Directive is not a 'one-way street'. On the other hand, of course, the amounts cannot remain in the company for long periods of time without an increase in share capital having taken place, since it is becoming increasingly obvious that they were not paid for that purpose. Such a claim in a potential audit, that is to say, is very likely to be rejected. The reasonable time within which the increase should have taken place will be judged according to the particular case and the specific circumstances.

For example, in the Athens BPA decision no. 1318/2019 the three years after the payment was considered a tolerable period, while in the Athens BPA decision no. 2323/2019 a company was entitled to the amount of 40.000.000€ remaining in account 43.00 (shareholders' deposits) which was deposited on 31.12.2013 and the AMK was not completed until 18.7.2019 (date of the decision).

The examination of some more specific aspects in the latter decision is of some interest, since it contains certain details which are, however, important in the event of a tax audit.

Firstly, it is noted that the amount was granted to strengthen the liquidity of the company, to cover its debt obligations 'through amounts earmarked for an AMC', with a reference to this in the annual management report of the Board of Directors.

Secondly, as regards the accounting treatment of the amount, it is noted that it remained in account 43.00 (Shareholders' Deposits) until 31.12.2016, when it was transferred to account 45.98 (Other Long-Term Liabilities). It is useful to note here that as regards this accounting treatment (transfer to account 45.98), the BPA reserved reservations as to whether 'this transfer changed the character of the deposit to a cash facility'. However, since the tax audit concerned another financial year (and not that of 2016), it correctly considered that it was not competent to audit it.

The findings of the Athens BIA decision no. 2323/2019 delete certain precautionary points in order to significantly limit the risk that the amounts paid against a future share capital increase will be subject to stamp duty, even if the increase is delayed - for a certain period of time - to take place.

But if the tax authority determines that it was not a payment against a future capital increase, what tax will be imposed?

Here we refer to what we wrote in our previous article (part 1) on the distinction between a loan and a cash facility. In summary, we only mention the following: if the audit identifies the "evidence" necessary to establish the existence of a loan, a tax of 2.4% will be imposed on the amount. Otherwise, i.e. if the audit does not gather 'sufficient' evidence, the stamp duty will be 1.2%.

Indeed, there will be cases in which the audit will find that the failure to withdraw the amount and the failure to increase the share capital (after the expiry of the reasonable period of time from the payment) constitutes implied consent to the payment of these for the purpose of cashing out the cash facility. This was held to be the case (i.e. cash facility) in the decision of the Thessaloniki Court of Appeal No. 1942/2019.

An interesting issue here is also the application of Article 38 of the Code of Tax Procedure (KFD), which introduces a general rule of prohibition of abuse (GAK) in Greek tax law.

The logic of this article can, in simple terms, be illustrated by the explanatory memorandum of the law. 4607/2019, which amended article 38 of the CCT, stating that "General rules prohibiting abuses (GAK) are included in tax systems to address abusive tax practices that have not yet been addressed by specifically targeted provisions".

Thus, tactics which have as their main purpose, or at least as one of their main purposes, the acquisition of a tax advantage that frustrates the object or purpose of the tax provisions, are caught and taxed as they would have been if this 'manipulation' had not taken place.

If, for this particular formulation, there are valid commercial reasons that reflect economic reality, then this works in favor of viewing the "tactics" as genuine and therefore, most likely, the a. As also noted in E. 2167/2019, "The type of transaction, action, deed, agreement, etc., i.e. whether it is written or oral, does not affect its characterization as an arrangement, as long as it is objectively established that it exists". However, each case is separate and is judged as such. There are no horizontal solutions. The audit will assess the overall picture and determine whether the purpose, or one of the main purposes, was indeed to avoid paying stamp duty through the 'ploy' of payments towards a future increase in share capital.

III. Conclusions

We have analysed some of the most popular corporate finance vehicles, whether in a group environment or not. We raised the most important issues, exposed their positives and drew attention to potential risks. One could therefore come to the following conclusions:

1. The currently safest and most tax-neutral option is the bond issue. Of course, a bond loan which can benefit from the favourable tax provisions of the Act is issued only by a joint stock company. Having said this, the conversion of any entity into an SA is currently possible. Care will be needed in selecting the tax law under which the conversion will be made. The choice will be made on the basis of the particularities of each form and in any case the decision will be taken after careful consideration of these (e.g. whether it is in the best interest of the entity to defer the taxation of any goodwill or to have a favourable basis for calculating the depreciation of the transferred assets or to exempt the contract, the contribution and transfer of assets and any transaction relating to the transformation from any tax or fee and without any special conditions as regards real estate or whether it is in the best interest of the entity to retain the assets or to retain the assets).

2. If the relevant clarifications are issued by the Administration, it is envisaged that the loan option will be very attractive, with the points, of course, which need attention and were set out in the relevant place. The structuring of liquidity provision - especially in the case of a group - through cash pooling is considered preferable.

3. Of course, the above does not mean that other methods of financing are not useful tools for a company. However, in those cases, care and delicate legal (drafting of any contracts) and accounting (recognition of amounts) handling will be necessary in order to avoid the possibility that the tax audit may be convinced of the truth of the claims made by the audited entity.

4. In any case, prior legal advice is a good option for the entrepreneur. In many cases it will also be necessary. We have seen, for example, in the case of a loan and a cash facility, that there is no horizontal answer as to the most advantageous option: if it is a "revolving" financing, the loan solution is more advantageous than the 2.4% stamp duty (recall that in the case of the loan facility the stamp duty is 1.2%). This is because in the revolving credit facility with a current account, the stamp duty is levied on the maximum balance of each use, which is not unlikely to be extremely low. Otherwise, in the case of cash facility payments, a 1,2 % stamp duty would be levied on each payment (and not on the maximum balance of each use).