Ukrainian tax laws allow for tax-free transfer of assets to successors in corporate restructuring procedures.
Read more in the article of Andriy Reun, head of tax practice, and Vitaliy Ivashin, associate, tax practice, in “Юридична газета“.
Corporate restructuring (reorganization) is an effective tool that can help business to adapt to new economic conditions, optimize business processes and even protect assets. It is also important that, subject to proper planning, the reorganization may be carried out without tax leakages and even allow reducing the tax burden.
For instance, upon merger or accession of profitable and loss-making businesses, the corporate income tax base of the business can be reduced. The spin-off may allow for a tax-exempt transfer of a part of assets to launch a new business, to protect assets, or to transfer part of the current activities to a separate legal entity.
Corporate income tax
In terms of corporate income tax (CIT), the reorganization of companies is a neutral transaction. Reorganization transfers of assets and liabilities are not covered by the definitions of income and expenses provided for by the national accounting regulations (standards). The Tax Code of Ukraine (TCU) also does not provide for any adjustments to the financial result of companies involved in the reorganization. Accordingly, no corporate income tax is due as a result of the reorganization.
Transfer of losses
The fact that the TCU does not provide for reorganization adjustments also means that the TCU does not expressly provide for the transfer of the predecessor’s tax losses to the successors (subparagraph 140.4.2 of the TСU).
Albeit the tax authorities object from the taxpayers’ right to transfer the tax losses to the successors, there is a positive tax jurisprudence supporting such transferability. For example, a tax payer cancelled the relevant tax assessments denying the transferability of tax losses from a successor in a court of law (the ruling of the High Administrative Court of Ukraine dated November 28, 2017 in case No. 806/713/17). Other taxpayers managed to cancel private tax rulings restricting the possibility for the successor to account the tax losses of the absorbed company in the court (decision of Dnipropetrovsk District Administrative Court dated January 25, 2017 upheld by the decision of Dnipropetrovsk Administrative Court of Appeal dated June 8, 2017 in case No. 804/410/17).
Similarly to the situation with tax losses of predecessors, the TCU does not provide for the right of the successors to reduce the CIT base by the amount of interest unutilized by the predecessors due to thin-capitalization rules (clauses 140.2 – 140.3 of the TCU). Therefore, presenting such unutilized interest in the tax return of the successor may give rise to additional tax assessments.
However, if company that has such unutilized interest is a surviving entity (for example, upon absorption of another company) and the ratio of the debt liabilities provided for by clause 140.1 of the TCU to its own equity changes, this can help to use the appropriate interest to reduce the CIT base.
As regards CIT advance payments, the TCU does not provide for any instructions on the possibility of their transfer and use by successors either. Tax authorities also deny such a possibility. The position of tax authorities is illustrated by Letter of the State Fiscal Service No. 10576/6/99-99-15-02-02-15 dated May 16, 2016: “taking into account that payment of CIT advance installments upon dividend distribution does not result in overpaid taxes, the CIT liability of the successor is not reduced for the advance CIT installments made by the taxpayer ceasing to exist upon reorganization by way of accession.”
However, certain advance installments may have given rise to a negative CIT value in the CIT returns. In this case, such negative value shall also be recorded in the taxpayer’s integrated card maintained by the tax authorities. First of all, this relates to the advance installments recorded in the tax returns for three quarters of 2016, as well as monthly advance CIT installments (monthly advance payments are no longer due since 2016, while tax authorities denied the possibility of forming a negative corporation tax value due to monthly advance payments, as exemplified by the infamous Letter of the Ministry of Revenues and Duties of Ukraine No. 3194/7/ 99-99-19-03-01-17 dated February 7, 2014).
The tax authorities are to transfer the overpaid CIT amounts recorded in the taxpayer integrated card to the integrated card of the successor. The transfer of values of the predecessor’s integrated card to the successor is provided for by Clause 3 of Chapter 1 of Section II of the Procedure for Maintenance of Prompt Record of Taxes and Duties, Customs and Other Payments to the Budgets, Single Contribution for Compulsory State Social Insurance by the State Fiscal Service of Ukraine approved by Order of the Ministry of Finance of Ukraine No. 422 dated April 7, 2016.
Overpaid CIT amounts reflected in the taxpayer integrated card, must be transferred by the tax authority to the integrated card of the successor on the basis of the above provisions of the Order of the Ministry of Finance of Ukraine No. 422 dated April 7, 2016.
Corporate income tax: summary
Even though there are issues with the transfer of certain tax assets, from a corporate income tax perspective the reorganization may be an appropriate option for merger of profitable and loss-making businesses. Such reorganization does not, of itself, entail any tax liabilities for the companies involved. However, upon completion, the surviving company may continue utilizing the tax losses carry-forwards and reduce the CIT base from profitable activities or, alternatively, utilize the tax losses of the absorbed company. It should be noted that merger of a profitable business with and into unprofitable business is safer from a CIT perspective as far as utilization of tax loss carry-forwards is concerned.
The transfer of assets to the surviving company in the course of reorganization of a legal entity is not subject to VAT. Upon such transfer, the transferring company is not required to charge compensating VAT liabilities or to apportion relevant input VAT. According to sub-clause 196.1.7 of clause 196.1 of Article 196 of the TCU, reorganization procedures (“merger, acquisition, split-up, spin-off, and transformation”) are not subject to VAT. In turn, sub-clause “a” of clause 198.5 of Article 198 of the TCU directly provides that no compensating VAT liabilities are to be charged as a result of such procedures. And under clause 199.6 of Article 199 of the TCU, such procedures do not trigger an obligation of the transferring company to apportion the relevant input VAT to taxable and exempted transactions.
From a VAT perspective, reorganization procedures should also be considered in terms of transferring to the surviving company or utilizing by the surviving company of such tax attributes as:
- input VAT (“the negative VAT amount eligible for input VAT in the next reporting (tax) period”);
- the registration limit that enables a taxpayer to register VAT invoices in the Unified Register of VAT Invoices;
- the balance of the taxpayer’s account in the Electronic VAT Administration System;
- eligibility to VAT refund;
- overpaid VAT.
Transfer of the negative VAT amount
In the course of reorganization procedures, such tax attributes as negative VAT amount and the registration limit do not disappear, but shall instead be transferred to the surviving company. The relevant statutory provisions are stipulated by clause 198.7 of Article 198 and clause 200-1.3 of Article 200-1 of the TCU. The technical issues regarding the recording of these two attributes in the VAT return are also envisaged by the legislation, specifically, in the VAT return form (and Appendices 2 and 4 thereto), approved by Order of the Ministry of Finance of Ukraine No. 21 dated January 28, 2016.
Interestingly, in respect of the reorganization carried out even before the entry into force of the above statutory provisions, the Zhytomyr District Administrative Court in the ruling dated November 9, 2016 upheld by the ruling of Zhytomyr Appellate Administrative Court dated January 18, 2017 in case No. 806/1771/16, concluded that it was possible under the legislation then in force to transfer the negative VAT amount to the surviving company, based on clause 98.9, clause 184.9 and sub-clause “b” of clause 200.4 of the TCU. Since 2017, the express provision set forth in clause 198.7 of Article 198 of the TCU allows the transfer of the negative VAT amount to the surviving company.
It is worth noting that the negative VAT amount and the registration limit claimed by the successor company must be confirmed by a tax audit.
It is also important that the successor company must be a registered VAT payer in order to utilize the abovementioned tax attributes. In such a case, the successor company may find useful an option to file a VAT payer registration application as an appendix to the business registration application.
In respect of split-up and spin-off procedures, the negative VAT amount and the registration limit are divided pro rata between the entities, being re-organized, taking into account the value of assets received.
The balance of the taxpayer’s account in the Electronic VAT Administration System
While the law is clear on the possibility to transfer the negative VAT amount and the registration limit to the surviving entities, the idea of transferring the balance of the taxpayer’s account in the Electronic VAT Administration System appears questionable. Under the law, a taxpayer may receive a VAT refund from the state budget within the balance of such account if the taxpayer’s VAT payer registration was cancelled and the balance from the said account was remitted to the state budget (clause 27 of the Resolution of the Cabinet of Ministers of Ukraine “Certain Issues of the Electronic Administration of Value-Added Tax” No. 569 dated October 16, 2014). The legislation is silent on any possibility for the surviving company to claim and utilize the balance of the terminating company’s account in the Electronic VAT Administration System.
Therefore, if the merging entity has non-zero balance in its account in the Electronic VAT Administration System, filing an application to remit the balance to the taxpayer’s bank account (only within the registration limit) or ordinary goods and services supply may appear more reliable options to utilize this tax attribute.
VAT refund from the budget
Clause 98.9 of Article 98 of the TCU allows the “transfer for the benefit of the surviving entities” of the non-refunded amounts of taxes. However, clause 184.9 of Article 184 of the TCU, which envisages rules for VAT refund for the final tax period of a taxpayer, is mute on whether the successor company may receive such a refund. Therefore, in respect of merger, acquisition and split-up procedures, the preferable option appears to be carrying the available negative VAT amount forward rather than applying for a VAT refund as the former allows to transfer this tax attribute to the successor company. If such carrying forward is not possible or not preferable for any reasons, the surviving company will likely have to defend its right to claim the VAT refund due to the terminating company in a court of law.
In respect of overpaid tax, if recorded in the taxpayer’s name in the electronic tax records system (administered by the tax authorities), the relevant amounts shall be transferred to the record of the successor company as envisaged in clause 3 of chapter 1 of part II of the Regulation on Maintaining Real-Time Records on Taxes and Duties, Customs and Other Payments Due to Budgets, Unified Social Security Contributions, approved by the Order of the Ministry of the Finance of Ukraine No. 422 dated April 7, 2016.
Along with useful tax attributes, the merging company may be in a tax debt position. Article 98 of the TCU provides that, in case of “merger of two or more taxpayers”, or in case of a split-up, the transfer of tax liabilities and tax debt applies as well.
However, under clause 98.3 of Article 98 of the TCU, in the spin-off procedure, no transfer of tax burden applies, except where the tax authorities conclude that such a reorganization may result in improper settlement of tax liabilities or tax debt by the reorganized entity. This rule applies primarily to taxpayers that have a tax pledge imposed upon their property or where the taxpayer “exercised the right to restructure the tax debt”.
Therefore, taking into account the VAT exempt treatment, the spin-off procedure may be the preferred option, where the taxpayer is willing to transfer, for whatever reasons, a portion of its assets to another entity.
Although the Tax Code of Ukraine is silent on transferability of certain tax attributes to the successors within corporate restructurings procedures, subject to proper planning, the corporate reorganization procedures can be neutral from the Ukrainian CIT and VAT perspectives. Still, certain technical issues related to the transfer of tax assets to the successor companies may arise. It should also be noted that the tax implications relating to reorganizations may be “adjusted” by the tax authorities as the latter are empowered to conduct a tax audit if a taxpayer starts a reorganization. These factors require thorough analysis and preparation to the contemplated corporate restructurings depending on the specific circumstances and goals of such corporate changes.