In an economy that increasingly operates without national borders and in order to be better equipped to face the challenges of the Single Market, corporate activities are often no longer limited to the territory of a single state. Groups of companies established in different Member States often have to deal with the complicated tax consequences of mergers and similar operations. In order to make these cross-border transactions easier, the Council of the European Communities adopted Directive 90/435/EEC of 23 July 1990 on a common system of taxation applicable to mergers, divisions, transfers of assets and exchanges of shares concerning companies of different Member States (the “Directive”).
The Directive was modified in 2005 in order to bring the European company (SE) and the European cooperative company under its scope of application. Most provisions of the Directive should have been transposed into Belgian law before 1 January 2006. However, as Belgium did not meet the transposition deadline, the European Commission filed a claim with the European Court of Justice, which rendered a judgment against Belgium. According to the Commission’s calculations, Belgium will have to pay a minimum amount of EUR 2,905,000 if the legislature does not take action. To this end, a new bill has been brought before the Belgian Parliament (the “bill”) and can be consulted on the Parliament’s website.
There are two aspects to the neutrality of cross-border mergers in the European Union:
The first aspect (corporate law) is governed by the Tenth Company Law Directive (2005/56/EC) of 2005, transposed into Belgian law by the Act of 8 June 2008. This legislation has been addressed in a previous newsletter. This newsletter covers the second aspect of neutrality (tax law). The bill (including its legislative history) numbers over 250 pages and is extremely complicated and technical. Those elements which are most relevant for legal practitioners are discussed below.
The Directive aims to allow tax-neutral cross-border mergers in the European Union: no party should sustain adverse tax consequences further to a cross-border merger (i.e., the inability to carry forward a loss, tax-exempt reserves become taxable, etc.). In order to determine which companies qualify for the advantages of tax neutrality, the 1992 Belgian Income Tax Code uses the term “intra-European company”.
What does this term cover? An intra-European company is one which is a tax resident of another EU Member-State, incorporated in a form mentioned in the Annex to the Directive and subject to a tax similar to Belgian corporate tax. Only transactions between a Belgian resident company (or permanent establishment) and an intra-European company fall within the scope of the Directive.
It appears from the bill that a separate section on cross-border mergers will not be introduced into the Belgian Income Tax Code. The legislature has indeed opted to apply the same rules to both purely domestic transactions and transactions with a foreign or cross-border aspect, as long as an intra-European company is involved.
What changes to corporate tax law will the bill bring about once it enters into effect?
The takeover of a Belgian company by an intra-European company from another Member State will be tax neutral. To date, such a transaction has been treated as a taxable dissolution. To benefit from tax neutrality, two conditions must be met:
- The acquired assets must be held by a Belgian establishment and must contribute to its taxable profit. In this way, the Belgian tax authorities do not lose their power to tax the assets, which keep their value for tax purposes. Capital gains and depreciation are calculated as if the transaction had not taken place, meaning there is no step-up.
- After the transaction, the exempt reserves must form part of the equity (own funds) of the Belgian permanent establishment. Without going into detail, suffice it to say that this is made possible through a capital endowment (dotation en capital), i.e., the means made available to the Belgian establishment by its headquarters.
If these conditions are not met, the transaction will have tax consequences (full or partial taxation). Moreover, a transaction will not be tax neutral if its main purpose is tax fraud or evasion.
Another factor which should be examined in cross-border situations is the transfer of Belgian-source losses. Currently, Belgian-source losses of a Belgian company cannot be taken into account when determining the taxable profit of the Belgian establishment that remains after a merger/division involving a foreign company. Such a transaction is, from a tax standpoint, treated as the dissolution of the Belgian company. Consequently, the losses cannot be carried forward and taken over by the acquiring company. In order for the losses to be carried forward, the acquiring company must be a Belgian entity. Under the new legislation, the carry-forward of losses will also be possible in cross-border situations.
The taxation of losses incurred by foreign establishments (known as “recapture”) can be described as follows: if the foreign establishment of the acquired company sustained losses that were taken into account to determine the profit that was taxable in Belgium, the amount of these losses is added to the Belgian taxable income of the year in which the foreign establishment is transferred. Moreover, the bill provides that the losses incurred by e.g., a Luxembourg establishment must be recaptured when its Belgian head office is acquired another Belgian company.
Another important change introduced by the bill is the tax treatment of capital gains realised by individuals upon the contribution of shares to a special purpose vehicle (so-called internal capital gains). Once the bill enters into force, the Court of Cassation’s advantageous (broad) reading of the law will be a thing of the past: according to the bill, the entire capital gain will be taxable, not only the “abnormal” portion thereof. In short, unless a temporary exemption applies, upon a subsequent transfer of the shares, the entire capital gain will be taxable (at a special rate of 33 per cent).
Finally, the bill also brings Belgian tax law into line with the ECJ’s judgment of 8 June 2004, in which the Court ruled that the Belgian tax treatment of the transfer of substantial shareholdings is contrary to Community law. From now on, taxation will no longer occur if the acquirer is established in the European Economic Area.