The Civil Division of the Spanish Supreme Court, in its judgment dated 26 February 2018, has analysed the directors’ remuneration system for the first time following the changes introduced by Law 31/2014 of 3 December, which amends the Spanish Companies Act to improve corporate governance. The judgement offers an interpretation of the remuneration of directors of non-listed companies different from that defended by the Spanish General Directorate of Registries and Notaries and the majority of scholars.

According to this new interpretation:

  • The bylaws of non-listed companies, when determining whether or not a position is to be remunerated, must take into consideration the remuneration of the executive director(s), and must establish the system for remuneration, including compensation for the performance of executive functions (which, until now, should only be reflected in a contract to be entered into between the company and the executive director(s)).
  • Remuneration corresponding to the performance of executive functions must be included in the maximum amount of remuneration to be determined by the shareholders at the general meeting, along with any other directors’ remuneration. This is without prejudice to the fact that the management body may further resolve, if the shareholders themselves have not already done so, the distribution of the corresponding amount among the directors, with regard to their respective functions and responsibilities.

The Supreme Court’s judgement has created a stir among legal experts, given that it reinterprets the legal provisions regarding remuneration of directors of non-listed companies, in particular as regards remuneration of executive directors, in a way which is contrary to how the promoters of the amendments to the Spanish Companies Act of 2014 wanted them to read, and based, not on new grounds or grounds beyond the amendments, but on the literacy of the amended provisions themselves.

The main argument alleged is that article 217 of the Spanish Companies Act, when regulating the remuneration of directors “in their capacity as such”, refers to all directors, including, in the case of a board of directors, the executive directors, given that all the deliberative, representative and executive powers (without prejudice to the possibility that the latter may be delegated) are inherent to all the company’s directors in their capacity as such.

Although this is a single judgment, and we will, therefore, have to wait for the Civil Division of the Supreme Court to reconfirm this interpretation, it is foreseeable that it will be maintained. This is both because of the elaborated arguments -the judgment contains a detailed analysis of the remuneration system for directors of unlisted companies, and rejects the interpretation accepted by the majority until now- and because it is in line with the so-called link theory (“teoría del vínculo”) defended by the Labour Division of the Supreme Court. In addition, it is also foreseeable that, in view of this interpretation, other authorities will adapt their criteria to bring them into line with what is advocated in this judgment.

Tax implications

In addition to the above concerns from a corporate law perspective, the judgement could also have a significant tax impact. The failure to comply with all the formalities to regulate the director’s remuneration stated in the Spanish Companies Act may lead tax authorities to consider the expense as non-deductible for Corporate Tax purposes, under article 15.f) of the Corporate Tax Act. This section provides for the non-deductibility of those expenses arising in connection with acts contrary to the law.

Additionally, tax authorities may also try to challenge the deductibility of director’s remuneration on the basis that it should be deemed a liberality. This position would be based in the unenforceability of article 15.e) of the Spanish Corporate Tax Act, due to the impossibility to remunerate the directors executive functions independently from the rest of their remuneration as directors. All in accordance with the link theory, the literal interpretation of Companies Act by the Supreme Court and its finding that it is impossible to separate the executive functions from the remainder of the director’s functions.

The above leaves companies in the same situation of uncertainty and subject to the same formalities in connection with executive directors’ remuneration that existed before the entry into force of the current Corporate Tax Act in 2015. This is precisely what the legislator intended to avoid when section 15.e) was amended.

Conclusions

The foregoing makes it advisable for non-listed companies to:

  • Review and, as the case may be, amend the bylaws, to establish the paid or unpaid nature of the position (in the latter case, either expressly, or through the absence of any provision in this regard), taking into account that, if managing directors are to be remunerated for the performance of executive functions, this must be mentioned. Further, if the position is to be remunerated, the bylaws must establish the remuneration system, which will determine the remuneration items to be perceived by the directors for the performance of their functions (including the executive functions), and that may consist, among others, of one or more of those provided by law (roughly, fixed amounts, attendance allowances, profit-sharing schemes, bonuses, delivery of shares or stock options or other share-based compensations, severance payments and savings schemes).
  • Consider hereinafter submitting for approval by the shareholders at the general meeting the maximum amount of annual remuneration of the directors, including the compensation for performance of executive functions, which shall remain in force until the shareholders approve a new limit.
  • Review the contracts entered into with the managing directors to confirm that they are in line with the remuneration set out in the bylaws and to generally make sure that the remuneration agreed is consistent with the maximum annual amount set out by the shareholders at the general meeting.