In a previous article, we outlined some of the factors it is important to consider before deciding on the best financing option for our business. We noted that the impetus for what was written (and is being written here) is the issue—which frequently arises in practice—of intra-group liquidity transfers. However, the information provided is also highly useful for individual businesses.
In the first part, we discussed simple lending and the issues—primarily regarding stamp duty—that arise. We also discussed the concept of cash pooling. With today’s second part, we complete “the picture” regarding some of the most commonly used financing methods in practice and, in particular, their advantages and disadvantages, as well as the points that deserve our attention, so that we can avoid unpleasant surprises in the future (see tax audits).
I. The Bond Loan
When discussing methods of business financing, we cannot fail to mention the bond loan. This is a method of providing liquidity which, for legal reasons (e.g., favorable tax treatment) as well as practical reasons (e.g., foreign investors are much more familiar with this method of financing, making their participation easier and the respective companies more attractive), is one of the most popular in business practice.
First of all, the following observation is essential from the outset: a bond issue, particularly given the tax incentives provided by law (exemption from all types of taxes and fees—see, e.g., stamp duty), may be issued only by a public limited company (S.A.).
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 loan may also be issued by a Limited Liability Company (LLC) (issuance of bonds and underwriting in their entirety, e.g., by a credit institution). However, such a bond loan will not be eligible for the tax benefits provided for in Article 14 of Law 3156/2003. This is precisely why the impression has taken hold that bond loans are issued exclusively by SA companies. This is the most common (and arguably the only) scenario encountered in practice.
Therefore, the factors that make a bond loan an attractive solution apply only when it is issued by a SA. A company with a different legal form cannot benefit from the tax relief provided by the law.
Of course, a business of any form can be converted into a public limited company (SA). Under the new Law 4601/2019 on corporate transformations, the principle of conversion in both directions is introduced: thus, including conversion into a public limited company (SA). On the other hand, the tax framework for the conversion varies—in each case, the option with the lowest tax burden is selected.
The bond loan solution, as outlined by law, with its tax incentives, as well as the extensive practical experience of legal and financial advisors due to the frequency of this financing method, is therefore a truly excellent (and well-established) solution.
II. Financing a corporation in the context of a future share capital increase
Pursuant to Article 11(4)(a) of Law 1079/1971: “The following are exempt from stamp duties, fees, charges, or other levies in favor of the State or third parties, as amended by Articles 15 and 47 of the Stamp Duty Code: the articles of incorporation of all types of public limited companies, together with the ancillary agreements contained therein (assumption of debt, etc.), and any act relating to the increase of their capital.”
Based on its content alone, this provision appears quite attractive due to the exemptions it provides (“Exempt from stamp duty, contributions, fees, or other charges in favor of the State or third parties […]”). When choosing to finance a capital company through payments for a share capital increase—which, however, will take place in the future and not immediately—caution is required regarding certain details, as things are not as simple as they may seem.
The reason is basically this: this beneficial provision has been established to serve certain purposes. If things were that simple, nothing would prevent entrepreneurs from invoking a payment for a future share capital increase (so as to also benefit from the tax-neutral treatment of the transaction). However, many points require attention in this case—here are some of the most significant ones, in the form of Q&A:
Question 1: Is it necessary to first adopt a resolution to increase share capital so that it can be determined (e.g., by a future tax audit) that the payment is indeed made for this purpose?
According to established case law and administrative practice, no prior action is required for the payment of amounts toward a future share capital increase. For example, both the Council of State in its decision No. 1470/2002 (see also CoS 174/1982, CoS 211/1983) and the Athens Dispute Resolution Directorate (Athens DDS) in its decisions No. 2323/2019 and No. 1318/2019, ruled that a decision by the General Meeting or the Board of Directors is not required for a (future) share capital increase. The reasoning is relatively simple: the law provides for neutral tax treatment without requiring any preparatory work.
However, we must also note the opposite (though extremely rare in practice) scenario: the isolated contrary decision of the Athens Administrative Court of Appeal 891/2020, which requires even the publication in the General Commercial Registry (GEMI) of the decision by the competent body to approve a share capital increase.
Given these circumstances, it is considered that the more prudent choice would be, at the very least, the issuance of a decision—e.g., by the Board of Directors—which would refer to the initiation of, at least, a share capital increase.
But why does the above concern us? The explanation is as follows: if the tax audit is not convinced that these are indeed amounts intended for a future share capital increase, there is a risk that the corresponding amounts will be treated as deposits (1.2%) or loans (2.4%) and the corresponding stamp tax will be imposed. Therefore, for evidentiary purposes, it is advisable to have documents that, should the need arise, can support this claim (e.g., a board resolution referring to this future share capital increase).
Question 2: Must the share capital increase actually take place within a specific timeframe in order to exclude/limit the risk that the payment will be considered a deposit or a loan (and thus have the corresponding stamp duty imposed—depending on the audit evidence) to the company?
It has been observed that the favorable tax treatment of contributions toward a future share capital increase makes the following “scheme” attractive to 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 raised, therefore, is this: for how long is it possible for the funds to remain in the entity without a capital increase taking place and without, at the same time, stamp duty being imposed on a loan or cash facility?
The positions expressed regarding 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 was adopted, for example, by Athens Tax Court Decision 225/2020. However, it is not correct. This is for the following reason: it is based on the text of the ELTE (Accounting Standardization and Auditing Committee) Directive regarding Law 4308/2014 on Greek accounting standards, which regulates the accounting treatment of such payments. However, the ELTE directive was issued to address the accounting treatment (financial presentation) of these issues and not to regulate them from the perspective of other legislation.
As also ruled by the Council of State (CoS 3251/2012), “The provisions of Law 2190/1920 [the previous framework for SA] and Presidential Decree 1123/1980 (the previous framework for accounting standards) are intended for the internal accounting presentation of the financial data of public limited companies and do not constitute tax provisions.”
Therefore, the requirement for the year set forth in the ELTE Directive is not a “one-way street.” On the other hand, of course, the amounts cannot remain in the company for extended periods without a capital increase having taken place, as it thus becomes increasingly obvious that they were not paid for that purpose. Such a claim in a potential audit, therefore, is very likely to be rejected. The reasonable timeframe within which the increase must have taken place will be determined based on the specific case and the particular circumstances.
For example, in the Athens Tax Court decision No. 1318/2019, the three-year period following the payment was deemed a reasonable timeframe, whereas in the Athens Tax Court decision No. 2323/2019, a public limited company was vindicated was upheld regarding the retention of €40,000,000 in account 43.00 (shareholder deposits), which was deposited on December 31, 2013, and the capital increase had not been completed by July 18, 2019 (date of the decision).
The examination of certain specific parameters in the latest decision is of some interest, as it contains certain details that are, however, significant in the event of a tax audit.
First, it is noted that the amount was provided to bolster the SA’s liquidity, to cover its loan obligations “through amounts earmarked for a capital increase,” with a relevant reference to this in the Board of Directors’ annual management report.
Second, regarding the accounting treatment of the amount, it is noted that it remained in account 43.00 (Shareholder Deposits) until December 31, 2016, at which point it was transferred to account 45.98 (Other Long-Term Liabilities). It is worth noting here that regarding this accounting treatment (transfer to account 45.98), the DED expressed reservations as to whether “this transfer altered the nature of the deposit into a cash facility.” However, since the tax audit concerned a different fiscal year (and not that of 2016), it correctly ruled that it was not competent to audit it.
The findings of Decision No. 2323/2019 of the Athens Tax Court highlight certain points of concern, in order to significantly limit the risk that amounts paid in anticipation of a future share capital increase will be subject to stamp duty, even if the increase is delayed—for a certain period of time—from taking place.
However, if the tax authority determines that the payment was not made in anticipation of a future capital increase, what tax will be imposed?
At this point, we refer to what we wrote in our previous article (Part 1) regarding the distinction between a loan and a cash facility. In summary, we note the following: if the audit identifies the necessary “evidence” to establish a loan, a 2.4% tax will be imposed on the amount. Otherwise, that is, if the audit does not gather “sufficient” evidence, the stamp tax will amount to 1.2%.
Indeed, there will be cases in which the audit will determine that the failure to withdraw the amount and the failure to increase the share capital (after the expiration of a reasonable period following the payment) constitutes tacit consent to the payment of these amounts for the purpose of a cash facility. This was the ruling (i.e., cash facility) in Decision No. 1942/2019 of the Thessaloniki Administrative Court of Appeal.
Another interesting issue here is the application of Article 38 of the Code of Tax Procedure (CTP), which introduces a general anti-abuse rule (GAAR) into Greek tax law.
The rationale behind this specific article can, in simple terms, be found in the explanatory memorandum of Law 4607/2019, which amended Article 38 of the TPC, stating that “The general anti-abuse rules (GAAR) are included in tax systems to address abusive tax practices that have not yet been addressed by specifically targeted provisions.”
Thus, arrangements whose primary purpose, or at least one of their primary purposes, is to obtain a tax advantage that frustrates the object or purpose of tax provisions, are identified and taxed as they would have been taxed had this “scheme” not taken place.
If, for the specific arrangement, there are valid commercial reasons that reflect economic reality, then this supports the view that the “arrangement” is genuine and therefore Article 38 of the Tax Procedure Code will most likely not apply. As also noted in Decision No. 2167/2019, “The form of the transaction, action, act, agreement, etc., that is, whether it is written or oral, does not affect its classification as an arrangement, provided that its existence is objectively established”. However, each case is unique and is judged as such. There are no one-size-fits-all solutions. The audit will assess the overall picture and determine whether the actual purpose, or one of the primary purposes, was, for example, to avoid paying stamp duty through the “scheme” of payments toward a future share capital increase.
Conclusions
We have analyzed some of the most popular corporate financing vehicles, whether within a group or not. We have addressed the most important issues, highlighted their advantages, and drawn attention to potential risks. One could therefore draw the following conclusions:
1. A bond loan currently proves to be the safest and most tax-neutral option. Of course, a bond loan that qualifies for the favorable tax provisions of the law can only be issued by a public limited company. That said, the conversion of any entity into a public limited company is currently possible. Care must be taken in selecting the tax law under which the conversion will take place. The choice will be made based on the specific characteristics of each entity, and in any case, the decision will be made after a careful review of these (e.g., it better serves the specific entity to defer taxation of any goodwill, or to use a favorable basis for calculating depreciation of the contributed assets, or to exempt the contract, the contribution and transfer of assets, and any transaction related to the transformation from any tax or fee, without specific conditions regarding real estate, or whether it is advantageous to retain the ability to carry forward losses, etc.).
2. Provided that the relevant clarifications are issued by the Administration, the loan option is also expected to be very attractive, with certain points, of course, requiring attention and which have been outlined in the relevant section. The provision of liquidity—especially in the case of a group—through Cash Pooling is considered preferable.
3. Of course, the above does not mean that other financing methods are not useful tools for a business. However, in such cases, careful and nuanced legal (drafting of any contracts) and accounting (recognition of amounts) handling will be required, in order to avoid the possibility that the tax audit will be convinced of the truth of the audited entity’s claims.
4. In any case, seeking legal advice beforehand is a good option for the entrepreneur. Often, it will be necessary. We saw, for example, in the case of a loan versus a cash facility, that there is no one-size-fits-all answer regarding the more advantageous option: if it involves “revolving” financing, the loan is the more advantageous solution, despite the 2.4% stamp duty (note that for a credit facility, the stamp duty is 1.2%). This is because, with revolving credit through a checking account, the stamp duty is levied on the maximum balance for each fiscal year, which is quite likely to be extremely low. Conversely, in the case of payments made through cash facilities, a 1.2% stamp duty will be levied on each payment (and not on the maximum balance for each fiscal year).
* Yannis Psarakis (Ph.D. candidate, Law School of the National and Kapodistrian University of Athens – M.A. III) is an attorney, partner at the law firm Psarakis | Kefalas (www.psarakislegal.com), founder of Psarakis Trademarks (www.psarakis-trademarks.com), and administrator of the IP portal “The Trademark Hoop” (www.thetrademarkhoop.com).