News on taxation of loans
In our newsletter of 16 May 2017, we issued an alert on a new “collateral income tax” which the government planned to impose on profit loans from subsidiaries to parent companies. After abandoning the idea of imposing this invasive tax, on 19 June 2017 the Parliament adopted an amendment to the Income Tax Act. This introduces new rules for long term upstream lending (ie loans from a subsidiary to any group company other than its own subsidiaries and other downstream companies) and sets an obligation to declare these loans quarterly on the tax return. In the case of upstream intra-group loans, the following should be taken into account:
- Income tax must be paid on a loan issued to a shareholder, owner or member if the circumstances of the transaction indicate that the loan is actually a hidden distribution of profits.
- If a subsidiary grants any upstream loan, then the lender must be prepared to prove that the borrower is able to repay the loan and intends to do so, provided the length of the loan period exceeds 48 months.
- Loans referred to in sections 1 and 2 above granted from 1 July 2017 or loans with modified substantial terms (in particular when the loan amount is increased or the loan repayment term extended) must be declared no later than 10 February 2018. After that, loans must be declared quarterly. The declaration itself does not incur tax liability.
Loans issued before 1 July 2017 or modifications in the material terms of loans made before that will not be subject to reverse burden of proof under the amendments. Therefore, it would reduce the administrative burden if entrepreneurs issue upstream loans before 1 July 2017. If the intention is to extend the term of loans or increase the loan amount in the nearest future, then it would also make sense to do so before 1 July 2017.
What steps should lenders consider when issuing a loan, in order to be ready to prove that the borrower is able to repay the loan and intends to do so:
- Analyse and document whether the borrower has a commercially reasonable and well-founded purpose for using the loan.
- Analyse and document whether the duration and amount of the loan is reasonable and justified to fulfil the purpose of the borrower.
- Document the decision to issue the loan and risk analysis on the borrower's solvency, as well as the negotiations preceding grant of the loan.
- Keep the documentation (eg, extracts from registers) on which the assessments mentioned above were based.
- Conclude a proper written loan agreement.
- Agree on interest rates meeting arm’s length requirements.
- Agree on how the loan repayment is guaranteed.
Prefer a single long-term loan rather than extending loans on an annual basis.