Capital contribution without share issuance does not increase acquisition price for purposes of participation exemption
The Luxembourg Higher Administrative Court issued a decision on 31 March 2022, ruling that capital contributions made to a Luxembourg company without receiving shares in return (also known as “115 account contributions”) are not taken into account when computing the acquisition price of a shareholding for purposes of the Luxembourg participation exemption. The court confirmed a lower court decision dating from May 2021.
Under the participation exemption in Luxembourg’s income tax law (LITL), no tax will be withheld on dividend distributions if the parent company meets the following requirements:
- It holds at least 10% of the subsidiary or the acquisition price of the participation is at least EUR 1.2 million; and
- The participation is held for an uninterrupted period of at least 12 months on the date the dividends are distributed or the taxpayer commits to hold the participation for at least 12 months.
If tax is withheld on dividends that qualify for the exemption, the taxpayer may request a refund.
The case involved a Luxembourg company (AB) that purchased shares in another Luxembourg company (FE) in 2014 and 2015. When purchasing the shares in 2014, AB also made a contribution to FE’s 115 account. AB ultimately held a 4.5% participation in FE. In 2016, AE received dividends from FE, on which FE withheld 15% tax and paid it to the Luxembourg tax administration because the 12-month holding period had not been met and AB did not formally commit to retain its shareholding in FE for at least 12 months. AB subsequently claimed a refund of the withholding tax because it considered that the requirements to benefit from the participation exemption were met, but the tax authorities disagreed and rejected the refund claim.
Since AB held less than 10% of FE’s shares, it had to rely on meeting the EUR 1.2 million acquisition price requirement to benefit from the participation exemption. At issue specifically was whether the amount contributed to the 115 account should be counted in determining whether the acquisition price threshold was met. AB took the position that the acquisition price of its shareholding in FE exceeded EUR 1.2 million and that the contribution to FE’s 115 account should be considered. In computing the acquisition price, AB used the actual price it paid for the shares, increased by the 115 account contributions to FE’s equity. The tax authorities disagreed on the grounds that without including the 115 account contribution in the computation, the EUR 1.2 million acquisition price threshold was not met. The case was referred to the lower administrative court, which sided with the authorities, concluding that the contributions to FE’s 115 account did not constitute a participation in FE’s capital and, consequently, the requirements to qualify for the participation exemption were not met. The taxpayer then appealed to the Higher Administrative Court.
Decision of the Higher Administrative Court
The Higher Administrative Court rejected AB’s arguments on appeal and confirmed the lower court’s decision. The taxpayer argued that the 115 account contributions should be a component of the purchase price of a shareholding based on the following:
- Hidden capital contributions are consistently treated as equity for Luxembourg tax purposes, so actual but informal contributions (i.e., not hidden) should receive the same tax treatment;
- In computing the acquisition price of its shareholding, AB should follow the principles in the LITL and take into account all costs and expenses incurred to acquire the participation. In this respect, the contributions to FE’s 115 account should be added to determine the “effective acquisition price”; and
- From an accounting perspective, contributions to the 115 account would be recorded by the parent company as being part of the acquisition price. Article 40 of the LITL requires the tax balance sheet to be linked to the commercial balance sheet and because a participation must be valued at its acquisition price for tax purposes in accordance with the LITL, it would be contrary to article 40 not to consider the 115 account contributions.
The Higher Court dismissed the taxpayer’s appeal, based mainly on the following facts:
- Increases to the capital of a public limited company are governed by the amended law of 10 August 1915 on commercial companies. That law does not provide for a capital increase through informal contributions, such as contributions to the 115 account, so the contributions to that account should not be taken into consideration;
- The price paid by AB to acquire its 4.5% participation in FE and AB’s subsequent contributions to FE’s 115 account were not linked (even if both transactions occurred on the same day) and, consequently, the contributions to the 115 account should not be part of the acquisition price of the shareholding; and
- A contribution to the 115 account forms part of the equity of a target company, since it remains unconnected to the target’s share capital and does not confer on the contributing shareholder any rights to direct consideration (e.g., shares in the share capital or an increase of the nominal value of shares held), so a 115 account contribution is not sufficiently linked to the share capital to be considered part of the acquisition price of a share participation.
The court added that, even if AB had made its contributions to FE’s 115 account with the intention of increasing the value of its participation, FE’s articles did not provide that such contributions should be exclusively allocated to AB, particularly for purposes of reimbursement. It is therefore not possible to determine the extent to which AB’s contributions to the 115 account would have increased the value of its participation.
Luxembourg companies holding a less-than-10% participation in another Luxembourg company and that rely on the alternative acquisition cost of the participation requirement to benefit from the participation exemption should carefully review their structure if the acquisition cost includes contributions made to a 115 account. Taxpayers in this position should consider seeking professional advice to obtain help in reviewing their financing structure and take appropriate action where necessary. One possible way to avoid the risks outlined in the Higher Court decision would be to modify the target company’s articles so that the 115 account contributions are converted into share capital and share premium. However, this course of action would need to be weighed against the loss of administrative simplifications since this is one of the benefits of using account 115 (i.e., minimal corporate paperwork and no requirement for a notary deed).