date | theme

12. May 2020 | Cross-border transfer to corporations

20. May 2020 | Tax neutral/ cross-border contribution to corporations

15. January 2021 | Cross-border conversion: German law violates fundamental freedoms

21. October 2021 | Transformation processes in the UmwStG: Overview of various cases (this article)

In conversion processes, in order to ensure their tax neutrality, various differences and different legal frameworks must be observed. In order to be able to recognize and observe these pitfalls, we provide tax information regarding the treatment, transfer and valuation of assets, companies and shareholder shares as well as, for example, other considerations in the context of conversions.

The Porsche/VW tax trick: How to save taxes when converting companies!

1st Introduction to the various transformation processes

1.1. Conversions in the corporate context

First of all, the question of why conversion processes occur at all and why it requires extra laws such as the conversion tax law or the conversion law. Now you look at different challenges that companies face today in the entrepreneurial life cycle. Because at the beginning, companies usually start with few employees and little capital. For this, partnerships are usually the first choice, since very little attention has to be paid to operate a trade. Because this is already possible without entry into the commercial register or even the registration of a company or the search for a company name, as it works for example with a GbR.

Furthermore, the question of the right legal form for a company reflects different factors in the final decision. This affects the complexity of raising capital for the company, the liability risk for the shareholders, publication obligations and the different forms of taxation for partnerships and corporations.

As these companies develop over the course of their life cycle, and new challenges such as expansion or a new strategic direction are imminent, the factors for choosing a legal form also change from time to time. As a result, transformation processes play an enormous role today, in a digital and rapidly changing world. We are happy to advise you, just come to us by phone or e-mail.

1.2 Consideration of specific transformation processes

Now the conversion tax law covers tax issues such as the taxation of hidden reserves, loss carry forwards, retained earnings and takeover profits. In the best case, restructuring helps to avoid the taxation of hidden reserves and to avoid the liquidation of the previously existing company.

In addition, the conversion tax law contains deadlines for retroactive effect of a conversion and blocking periods for avoiding creative conversions due to the tax advantage. In addition, the conversion tax law also provides information about the respective taxation of both the transferring and the assuming legal entity in a wide variety of cases. Subsequently, this contribution looks at the main cases, such as splitting, merger and change of form.

2nd condition of conversions according to the UmwStG

2.1. Scope of application of the UmwStG

§ 1 UmwStG regulates the scope of conversions, this refers to the conversions, which are described in more detail in the UmwG. It defines the civil changes in conversions, on which the tax requirements are based.

2.2. Transformation operations: The procedure

In the case of a conversion, regardless of the tax consideration of the individual cases, which is still carried out in the following, a certain scheme must be adhered to. This commercial law scheme is based on the UmwG. As a result, you need a conversion balance sheet, usually the balance sheet from the annual accounts is used for this, so that no additional effort arises in the determination of the assets. Furthermore, a conversion is always based on a conversion contract, which also sets the deadline for the conversion. From time to time, a conversion report according to § 192 Abs. 1 UmwG as well as a review thereof by external third parties, which is usually taken over by auditors. Relevantly, this report is needed for the transformation by a change of form. Finally, a conversion logically requires a resolution by the shareholders, a so-called conversion resolution, and an entry in the register. The deadline of 8 months applies here, which has been extended to 12 months for 2020 and 2021 due to the corona pandemic.

In the case of divisions, the divisions of corporations are of particular interest, since divisions of partnerships fall under the aspect of the later illuminated contribution.

Here it is necessary to distinguish into three different types. In the event of a split, the company being acquired disappears, so it is the opposite of the merger. Furthermore, in the event of a separation, the company being transferred shall continue to exist and the part of the operation being separated shall continue to exist elsewhere in the form of a new company or enter into an existing company. Finally, it is also necessary to address the spin-off, wherein this also represents an introduction from a control point of view and is therefore not further illuminated here. The shares for the transfer of the separated entity shall be transferred to the company being acquired and not to its shareholders.

Now to the prerequisites for division and separation, which are the same here. This is because according to § 15 Abs. 1 UmwStG requires at least two subsidiaries so that a company can be divided at all. This includes co-entrepreneur shares and 100 % share capital. In addition, these must be defined as essential operating bases.

In addition, according to § 11 para. 2 UmwStG the German taxation law is ensured and a taxation at the acquiring company is ensured. Furthermore, a consideration may only be made in company rights. In addition, there are still certain time limits for the participation, because this must have existed at least five years before the split and the new shares must be held for at least five years afterwards. Whereas there is an exception for a total sale of 20 % of the new shares. Otherwise, retroactive taxation will take place at the transferring company.

3.2. merger

In the case of a merger pursuant to § 11 ff. In principle, UmwStG must be distinguished into a merger by new foundation and a merger by incorporation. However, there are already enough other contributions on the subject of merger, so that the focus is on the other conversion processes.

3.3 Change of shape

Here it is important to distinguish between a change of form of a corporation into a partnership and vice versa.

In the case of a change of legal form of a partnership to a corporation according to § 25 UmwStG, an analogous application of §§ 20 ff. UmwStG, i.e. as in the case of the introduction considered below.

On the other hand, in the event of a change of legal form from a corporation to a partnership, the application of §§ 3 ff applies. UmwStG These also apply to mergers between partnerships. Here, on request, taxation based on the recognition of book values or intermediate values can also be avoided. In addition, the special feature of entering the legal status of the company being transferred applies. What tax consequences result from this and how you make this entire process tax-neutral, you can find out in a personal appointment.

3.4. Submission

3.4.1. Tax consideration of acquiring company

Since one differentiates between the partnership according to § 24 UmwStG and the capital company § 20 ff. UmwStG as an acquiring company is also subdivided in this way below.

In both legal forms, a right of choice applies to the operating assets to be recognised, whether the book value, an intermediate value or, as is customary without application by the company, the common value. For this purpose, the tax contribution usually requires a business, a part-business or a share of the company.

First of all, in the case of the acquiring company, if it constitutes a limited company, the taxation with corporate tax must be ensured in the future. Furthermore, the liabilities must not exceed the assets, except that the equity capital is therefore transferred only to valuable assets. In the case of partnerships, as with KapG, it also applies that the future taxation right of the BRD is not excluded.

3.4.2. Tax consideration in the case of a merged company

If a partnership now takes over the operating assets, it is necessary that the contributor becomes a co-contractor with the acquiring company. In the same way as in the case of a transfer to a limited liability company, there is a provision limiting the other consideration. This states that new company rights or Shares, which are usually mainly transferred, may be provided as compensation for a maximum of 25 % of the transferred book value of the operating assets or a maximum of TEUR 500 or the book value of the operating assets. In addition, in the case of a partnership, the supplementary balance sheets must be observed for operating assets.

In principle, the tax treatment of the contribution applies equally to the exchange of shares, whereby shares in corporations are contributed. The treatment of introducers was neglected in this case, but it must also be taken into account in a conversion process. In particular, any resulting contribution profit is taxable, and it is ultimately necessary to observe blocking periods in the resale.

Converting sole proprietorships into GmbH: Tax-neutral contribution

3.5 Treatment of loss carry forwards

Now it is also necessary for special situations such as loss carry forwards to consider the applicable tax regulations specifically for the respective conversions. A distinction is made between the regulation for the transferring entity and the regulation for the transferring entity.

If the transferring entity still has loss carry-forwards from previous business activities at the time of conversion, these are generally considered non-transferable. This applies to any conversions see §§ 4 para. 2 pages 2, 12, par. 3, 18, 1, 19, par. 2 and 23 para. 5 UmwStG. The scheme also covers interest carried forward, EBITDA carried forward, offsetting losses and unmatched negative income.

In the case of a corporation as an assuming legal entity, §8c KStG plays a special role. If new shares are issued in the context of a conversion, the cancellation provisions for losses not taken into account in § 8c para. apply from a transition of more than 50 % of these, namely a so-called harmful share acquisition. 1 KStG. Nevertheless, certain exceptions such as the silent reserve clause according to § 8c para. 5 KStG or the group clause according to § 8c para. 1 S. 4 KStG. In addition, the introduction of §8d KStG created a further exception for loss carry-forwards linked to continuation. Here, the further use of loss carry forwards should be possible as long as other use outside the original business operation is excluded.

Furthermore, loss carry-forwards can be used tax-neutrally in most conversion processes by using higher intermediate values at the assuming legal entities instead of the book value.

4th Conversion Processes: Our Conclusion

Finally, it can be taken into account that in most cases conversion processes are tax-neutral and can also be taken into account in the desirable even existing loss carry forward. In addition, we are happy to provide the advantages of different legal forms once again for you personally. If you need help with the tax implementation, you will find us experts who have a lot of experience in conversion tax law. If a certain holding structure is also desirable for a conversion, as we advise very often, this is also no problem.