date | theme

25. April 2017 | Use loss carry forward in the GmbH purchase

23. August 2018 | GmbH loss carry forwards: § 8c KStG unconstitutional -> objection & deadline

11. November 2018 | Save the loss carry forwards at the GmbH: the new § 8d KStG helps!

17. February 2019 | Buy loss carryforwards from GmbH: 6 new strategies for the use of losses

31. December 2015 | Corporate valuation of GmbH with loss carry forwards (this contribution)

The purchase of a GmbH with loss carry forwards is only suitable under certain conditions to save the loss carry forwards. In the past, an acquisition of more than 25 % of the shares within five years was considered an exclusion criterion for obtaining the loss carry forward. Since 2019, however, a limit of 50% applies, because the previous regulation was, according to the ruling of the Federal Constitutional Court, unconstitutional. In this thesis, we expect a loss carry-forward of EUR 1,000,000 in order to demonstrate the impact of the statutory regulation according to the old legal situation on both the acquirer and the seller of the GmbH shares.

Buying GmbH with loss carry forward: Paying out profits tax-free

1st introduction

Corporations with income-tax loss carry forwards can in principle offset them against future profits and avoid the outflow of financial resources to the Treasury until the loss carry forwards are exhausted. This tax relief allows higher amounts to be distributed to shareholders, thus increasing their subjective income value. [] 1]

With the introduction of §8c KStG within the framework of the 2008 corporate tax reform, the limited liability company can only use the loss carry forward proportionally or even no longer if there is a harmful shareholding acquisition of more than 25 % or more than 50 %. The consequence of the loss of unused losses is that the increased tax burden reduces the distributions to the shareholders and thus the subjective income value decreases[2].

The aim of this work is to examine the effect of the (proportional) loss carry-forward on the subjective return value on the part of the seller and the acquirer. It is also examined which advantages and disadvantages in the presence of a loss carry forward an asset deal compared to a share deal has. In addition, the tax effects at shareholder level are considered.

Chapter 2 clarifies the valuation bases, in particular the dependence of the subjective value of the company on future returns. In addition to the basic principles of §8c KStG, Chapter 3 also discusses the tax effects of an asset deal and share deal on the part of the acquirer as well as on the part of the seller in order to be able to examine the subjectivity of the two transaction possibilities in more detail.

2nd Assessment Basis

2.1 Delineation of objective and subjective enterprise value

The objective of the company valuation is to determine the value from the point of view of the valuation object and thus to determine a generally valid value that attaches to the valuation object as a property[3]. Since the objective theory of value evaluates detached from persons, individual situations and interests of the persons involved are not taken into account[4]. The objective enterprise value is rather a market price that can be realized by everyone[5].

In contrast to the objective theory of value, the value finding of the subjective theory of value takes place taking into account the subjective goals, possibilities and ideas of the acquirer and the seller[6]. In addition to, for example, the individual risk assessment[7], possibilities of synergy effects[8], the personal income taxes[9] of the investor must also be included in the assessment. This results in a tailor-made enterprise value for each person involved, which is valid only for them[10].

An income tax loss carry-forward under §8c KStG can therefore have a significant influence on the subjective company values of the seller and the acquirer and thus diverge their individual marginal prices[11]. A higher marginal price of the vendor may result in the non-performing of the transaction.

2.2 Income value method

2.2.1 Basics

Income value method is the most important method for determining the value of companies in valuation practice. In 39 % of cases, auditors, investment banks and M&A consultancies use the income value method. Tax consultants use the income value method in 24 % of their valuation processes[12]. [] 13]

The basis for the income value method is the formula of the “eternal pension”[14]:

K = E / i[15]

K = principal amount

E = financial surplus

i = interest rate

This formula answers the question: “What amount of capital must be invested in order to realize the corresponding annual net profit at a given interest rate?” Where the principal amount is equal to the enterprise value.

Based on the net financial surplus that the shareholder receives after personal income taxes. At the same time, the capitalisation rate must also be set net.

The corresponding peculiarities are discussed in the following chapters:

2.2.2 Estimation of future financial surpluses

The forecast of future success is based on an in-depth past analysis of the last 3 to 5 years[16]. Since results for the planning period immediately after the valuation date can be predicted more accurately, the individual cost and income parameters are forecast individually and in detail using a plan profit and loss statement for a period of three to five years (Phase I)[17]. Profit-influencing factors such as economic fluctuations, industry and competition development are taken into account[18]. Phase II assumes constant surpluses and a trend update of the detailed planning phase[19].

Figure 1: Evaluation time and phase orientation of the evaluation[20]

Since net surpluses are always to be used, the detailed planning phase must be continued until the loss carry-forward is exhausted. Only then can a constant net surplus be assumed.

2.2.3 Tax consideration

2.2.3.1 Company level

An unrestrictedly taxable corporation is subject to both corporate tax plus tax in Germany. Solidarity surcharge and business tax. If a business tax rate of 400 % is applied, the limited company is charged with 29,825 %[21]. The remaining surplus at company level is thus 70.175 %.

If, on the other hand, there is a corporate tax and trade tax loss carry forward, a tax burden at company level is avoided and the shareholders accrue 100 % of the company income.

2.2.3.2 Shareholder level

At the shareholder level, the capital gains are subject to withholding tax of 25 % plus tax. Solidarity surcharge (26,375 %) or on request the partial income procedure[22]. For reasons of simplification, this work is based on the withholding tax. Thus, the profit distribution after tax of the corporation and the shareholders amounts to:

> 51.666% without using a loss carry forward

> 73.625 % if there is a loss carry forward

However, loss carry forwards can only be up to 1 million. EUR are fully offset with profits. The 1 million only 60 % of the profit exceeding EUR can be offset against a loss carry forward.

2.2.4 Capitalisation of future surpluses

In the second step, the present value of the individually determined surpluses from the detailed planning phase and the perpetual pension must be determined by capitalization on the valuation date. The capitalisation rate can be determined by the following scheme: [23]

Base rate

+ risk premium

= Capitalization rate before tax

– Tax burden at shareholder level

= Capitalization interest rate after tax (relevant for Phase I)

Growth discount

= Capitalization Rate of Return (relevant for Phase II)

Every entrepreneur bears entrepreneurial risk. For this reason, a risk premium must be applied at the base rate, which corresponds to the return on a risk-free investment[24], in order to offset the entrepreneurial risk[25]. The sum of both values must be reduced the shareholder’s income taxes (25 % plus the solidarity surcharge) in order to obtain the capitalisation rate for the detailed planning phase. If the company is expected to grow steadily in Phase II, the capitalisation rate of the second phase shall be reduced by a corresponding discount on growth[26].

§8c of the Corporate Income Tax Act regulates the abolition of a tax loss carry-forward due to a harmful share acquisition.

Criteria:

> Share acquisition by an acquirer or a related party

> within 5 years

> of at least 25% or at least 50% of the subscribed capital, member rights, participation rights or voting rights

Legal consequences:

> Proportionate loss carry-forward (for acquiring 25% to 50%)

> complete elimination of loss carry forward (for acquisition from 50%)

Figure 2: Elimination of loss carry forward

3.2 Share-Deal

3.2.1 Basics

A share deal in the sense of tax law exists in the sale of shares in a limited company[27]. In principle, a share deal separates between the company level and the shareholder level[28]. However, this principle is an exception if there are tax loss carry-forwards that can no longer be used proportionally or fully after a harmful share acquisition.

3.2.2 Viewing angle of the vendor

Without a change in the ownership structure, the seller can make full use of the loss carry forward. Its required purchase price is correspondingly high, which is determined by its subjective earnings value.

For the following example it is assumed that the company A GmbH

> generates a preliminary profit before tax of EUR 1,000,000 in the detailed planning phase, which will grow by EUR 20,000 per year until 2014, and will grow steadily with 1% from 2015,

> the capitalisation interest rate before tax is 10 % or after withholding tax is 7,625 % (as of 2015: 6,625 %) and

> a loss carry forward in the amount of EUR 5.000.000,-.

Table 1: Example of the share deal from the perspective of the vendor[29]

The above example shows that in 2010 there is a tax burden only at shareholder level. This is – due to the high gross dividend – higher than without loss carry forward, but the total tax burden for company and shareholders is lower. As of 2011, it is noticeable that profits over one million. EUR 60 % are taxable and 40 % are subject to corporate and business tax, so that the company will also suffer a small tax burden from 2011 onwards. In 2014, the remaining loss carry-forward amounts to only 928,000 euros.

The example shows that the seller’s subjective marginal price is around 8.8 million. It is the euro. When selling at a lower price, the seller is economically worse off.

Even through the sale of half of the shares (at half the seller’s marginal price of 4.4 million). Euro) makes the old shareholder worse. If there is only one person on the acquirer's side, this justifies the proportional abolition of the loss carry-forward i.e. 2.5 million. Euro. The higher tax burden at company level therefore also reduces the subjective income value of the old shareholder from his remaining 50 % of the shares.

3.2.3 Viewpoint of the acquirer

Up to a share acquisition of 25%, the company can continue to make full use of the loss carry forward and the new shareholder can benefit from the tax relief. In the case of a shareholding of more than 25 % or even more than 50 %, the (proportional) abolition of loss carry-forward is reflected to the same extent in their subjective earnings values for both old shareholders and new shareholders.

The following table shows the change in taxation at company and shareholder level when the loss carry forward is no longer usable:

Table 2: Example of the share deal from the perspective of the acquirer[30]

If a detrimental acquisition of a shareholding justifies the complete cancellation of the loss carry-forward of A GmbH, the earnings value will be reduced to approximately 7.9 million by the increased tax burden. Euro reduced[31]. The subjective yield value, i.e. The marginal price of the buyer is thus approximately one million euros lower than the marginal price of the seller. The cancellation of the loss carry-forward does not create any room for negotiation, since the purchase price, which the purchaser is willing to pay, is one million. Euro is below the selling price requested by the seller. A transaction would only make both parties better off if

> the personal tax rate[32],

> the possible synergy effects[33]

> the forecast of future development[34],

> the return on investment of the alternative investment[35],

> or subjective risk assessment[36]

the acquirer differs significantly from the seller and thus the subjective income value of the buyer is above the seller’s marginal price.

3.3 Asset deal as a transaction alternative

In order to avoid the loss carry forward due to a harmful share acquisition, the assets can be sold instead of the shares. The acquirer may acquire the property in the legal form of his choice. The following illustration illustrates the sale by the merchant’s GmbH to the merchant’s GmbH:

Figure 3: Sale of assets

The income from the discovery of hidden reserves is not tax-advantaged. However, since they are subject to current profit, they can be offset against loss carry-forward[37]. On the seller side, the profit is generally liable to corporate and trade tax and can only be offset to a limited extent with loss carry forwards. However, the advantage of this model is the creation of depreciation volumes on the buyer side.

Another design model is the combination of asset deal and share deal. In this case, assets with high hidden reserves are sold to the acquirer in advance in order to offset the income against the loss carry forward. The company is then sold.

Using loss carry-forward in the GmbH purchase: 6 new design models

4th conclusion

Any acquisition of more than 25% of the shares has a negative impact on existing loss carry forwards. The impact on the subjective enterprise value cannot be flat-rate and must be calculated on a case-by-case basis. In the present example, the difference was approximately 1 million. EUR and thus more than 10 % of the value of the company. This may result in the transaction not being economically meaningful for either party and the transaction not being executed.

An alternative course of action is the asset deal. In this case, capital gains of up to EUR 1 million can be offset in full and, in addition, 60 % against loss carry forwards. The disadvantage of this procedure is the subsequent tax burden at shareholder level with 25 % withholding tax. For the acquirer, however, this approach is preferable, since the acquired assets generate depreciation volume that reduces his future tax burden.