In brief: tax on acquisitions in Malta

Acquisitions (from the buyer’s perspective)

What are the differences in tax treatment between an acquisition of stock in a company and the acquisition of business assets and liabilities?

Asset and share purchases have different tax consequences for the purchaser. An asset deal generally presents advantages as the tax depreciation is calculated on the amounts at which assets are acquired, avoiding the need to undertake extensive due diligence regarding the assets, liabilities and obligations inherent in acquiring a company. An advantage of an asset purchase over a share purchase is that the tax cost base of depreciable assets may increase and new intangible assets (eg, intellectual property rights internally generated by the target) may be created on which the acquiring company may claim tax deductions. Where a purchase of assets is financed by debt, the interest expense is incurred by and deductible for the operating company, thus ensuring that it is immediately utilised against operating profits. Where a purchase of assets is financed by equity, a notional interest deduction should be available for the operating company (various conditions apply).

The advantages of asset purchases are as follows:

• an unrelated purchaser can claim tax depreciation and other tax deductions based on the cost at which the assets were acquired. Such assets may include intangible assets generated by the seller that would not be recorded on the book of the target;
• an asset purchase is ideal when acquiring a part of a business or upon the non-acquiring of core business and assets, thus avoiding a split of the target prior to a share purchase deal;
• in an asset purchase deal, the purchaser does not acquire the target along with its liabilities and obligations (some of which could be unknown or contingent);
• interest incurred to finance an asset purchase is deductible against the operating income generated from the business or assets acquired, thus avoiding the need for debt pushdown planning at a later stage; and
• a step-up in the cost base of assets for tax purposes is obtained.

The disadvantages of asset purchases are as follows:

• a possible need to renegotiate supply, employment and technology agreements;
• a higher capital outlay is usually involved (unless debts of the business are also assumed);
• unutilised tax losses and depreciation are not taken over;
• where an asset purchase deal results in higher tax for the seller, the purchase price may be higher;
• the purchaser may need to reapply for licences; and
• higher transfer duties may apply, especially in the case of real estate.

The advantages of share purchases are as follows:

• usually involves a lower capital outlay (in purchase of net assets only);
• purchaser normally benefits from unutilised tax depreciation and tax losses; and
• contractual continuity, as there is only a shareholding change in the target, which avoids the need to renegotiate contracts.

The disadvantages of share purchases are as follows:

• the buyer effectively becomes liable for any claims or previous liabilities of the entity (including tax);
• the buyer misses out on potentially higher depreciable asset values in an asset purchase deal;
• if debt-financed, interest expense is not immediately deductible against operating profits of target but only against dividends with the right refund of underlying tax, creating cash flow disadvantage and thus a need for debt pushdown strategies (eg, merger of target with acquisition company, forming a fiscal unit); and
• where an exemption from transfer and document duty is not available, additional duty on the value of the shares may be incurred.

In what circumstances does a purchaser get a step-up in basis in the business assets of the target company? Can goodwill and other intangibles be depreciated for tax purposes in the event of the purchase of those assets, and the purchase of stock in a company owning those assets?

In principle, the purchase of assets may increase the cost base for the buyer (while a gain from the sale is taxable for the seller). However, Maltese tax law only imposes a tax on transfers of certain prescribed capital assets and the transfer in whole or in part of a business, but not a general capital gains tax. For tax purposes, it is necessary to apportion the total consideration among the assets acquired. Where the purchase agreement specifically stipulates the purchase price for each asset acquired, the allocation generally is accepted for tax purposes. Although Malta does not have transfer pricing legislation, the amounts stipulated in the purchase agreement should approximate fair value in accordance with International Financial Reporting Standards (IFRS), as the IFRS accounting values are generally recognised for tax purposes. Certain intangibles such as intellectual property can be amortised for tax purposes in the event of their acquisition, while if the company is acquired, such assets will continue to be amortised in a seamless manner. Where a transfer of assets takes place pursuant to a merger or division under the terms of the Companies Act, the acquiring company succeeds to all the assets, rights, liabilities and obligations of the companies being acquired, including any domestic unutilised tax depreciation and tax losses. In other acquisitions and share exchange transactions, unutilised tax depreciation and tax losses cannot be transferred between different legal entities (unless a fiscal unit can be formed).

On a share deal, the tax base cost of the assets of the target company remain unchanged. The acquiring company generally inherits unutilised tax depreciation and tax losses. However, where the shares in a company are acquired solely or mainly for the purpose of acquiring a tax advantage, unutilised tax depreciation and tax losses may be lost.

A company resulting from a cross-border merger in Malta, which merger is governed by the Cross-Border Mergers of Limited Liability Companies Regulations, is entitled to claim a step-up in the tax base cost of assets situated outside Malta without any adverse Malta tax consequences. Such a company may opt, for Malta tax purposes, to revalue the assets from historical costs to fair market value at the time of continuation to Malta provided that none of the assets owned by the company on the day of the merger was owned by any merging company that is domiciled or resident in Malta at any time prior to the date of the particular merger. The revaluation will apply for the purpose of determining gains on a subsequent disposal of the assets. Such a step-up may also be available upon a change in domicile or residence to Malta.

Is it preferable for an acquisition to be executed by an acquisition company established in or out of your jurisdiction?

Several potential acquisition vehicles are available for achieving a merger or acquisition. The tax implications ultimately influence the choice of vehicle.

A Maltese holding company is taxed as an ordinary company at the standard corporate tax rate of 35 per cent. However, under Malta’s imputation tax system, no tax is payable on dividends received from resident companies. Moreover, on the receipt of dividends from other resident companies, the holding company may claim tax refunds, which generally reduce the Maltese tax to between zero and 6.25 per cent. These tax refunds may also arise as a consequence of debt financing as the interest expense is deductible against dividends received, thus releasing all or part of the underlying tax on the dividends as a tax refund. Where certain conditions are met (ie, 5 per cent holding), a participation exemption should apply to any income derived from non-resident companies and to gains arising from the disposal of shares in resident and non-resident companies.

Where Malta is chosen as the domicile of an acquisition vehicle that will acquire non-resident companies, it is beneficial to use a company not domiciled (incorporated) in Malta but resident in Malta by virtue of the exercise of central management and control (effective management) in Malta. Such a company is only subject to Maltese tax on Maltese source income and gains and on foreign income actually received in Malta; the company is not taxed on foreign source capital gains even if received in Malta. Such a company may thus benefit from Malta’s network of tax treaties.

The use of a foreign company as the acquisition vehicle does not create any advantages or disadvantages from a Maltese tax perspective. The foreign company is entitled to any dividends, interest or royalties without any Maltese withholding tax. The foreign company is also entitled to tax refunds paid by operating distributing companies in the same way as a Maltese holding company, thus reducing the Maltese tax liability to between zero and 6.25 per cent. However, the receipt of dividends and tax refunds by the foreign company may expose it to tax on the dividend or tax refund in its country of residence. The use of a foreign company may create a tax advantage in cases where the Maltese company owns Maltese immovable property and the treaty between Malta and the foreign jurisdiction restricts the taxing rights of Malta. However, Malta upon signing the Multilateral Instrument has opted to change the provision of these treaties and this should be considered in more detail.

The use of a Maltese company for the acquisition of shares in a Maltese target company could give the possibility to form a fiscal unit between the acquisition company and the company acquired (various conditions apply). To form a fiscal unit, the acquisition parent company (the principal taxpayer) would need to hold at least 95 per cent of two of the following rights in the company acquired (the transparent subsidiary): voting rights, profits available for distribution or assets available for distribution upon winding up. Such an election is possible provided that the accounting periods of all the members are the same and subject to the consent of minority shareholders, if any. The fiscal unit provides for a full integration of the tax position of its members. As a result, intragroup transactions (excluding transfers related to immovable property situated in Malta) are disregarded for tax purposes and, as such, any interest expense on acquisition can be used against the profits of the acquired company. Another benefit of the fiscal unit arises from the cashflow advantage when compared to the current operation of the partial shareholder tax refunds. Through the fiscal unit, the group may achieve an identical effective tax rate without the time lapse between the payment of the standard corporate income tax rate of 35 per cent and the receipt of the shareholder refund at the level of the shareholder, as the new rules will immediately reduce the tax due by the principal taxpayer to the lower effective tax rate. From a practical perspective, tax shall be payable by the principal taxpayer on behalf of all members of the group and only one tax return will be filed. Principal taxpayers are also responsible for the preparation of a consolidated balance sheet and a consolidated profit and loss account covering all the companies in the fiscal unit. The fiscal unit is subject to certain anti-abuse measures.

Joint ventures do not have a specific legal form under Maltese law and can be conducted through partnerships, limited liability companies or contractually. Where a legal form is not established or a partnership (that does not opt to be treated as a company) is established, the partners are generally assessed on their share of the profit of the joint venture. The partnership may elect to be treated as a company, thereby allowing the application of the tax refund system, reducing the Maltese tax burden to between 0 and 6.25 per cent.

Are company mergers or share exchanges common forms of acquisition?

Mergers and share exchanges are a common occurrence, with tax law facilitating such reorganisations and company law regulating the amalgamation or merger of companies. In summary, an amalgamation or merger is the process whereby a company (the acquiring company) acquires all the assets, liabilities, rights and obligations of another company (the company being acquired) in consideration for the issue by the acquiring company of shares to the shareholders of the company being acquired, plus a cash payment not exceeding 10 per cent of the nominal value of the shares issued. The acquiring company may either be an existing company or a new company incorporated as part of the merger process. The company or companies so acquired then cease to exist by operation of law without having to be wound up. Through the application of the implemented EU company law Merger Directive, mergers (and division) of companies may also be carried out cross-border with companies incorporated in other EU member states. The general rule is that the company law procedure that is usually followed in a cross-border merger is the company law of the country in which the resultant company or companies (acquiring company or recipient companies) will remain.

Is there a tax benefit to the acquirer in issuing stock as consideration rather than cash?

There is no tax benefit to the acquirer in issuing stock as consideration rather than cash per se, other than the transfer qualifying as a reorganisation under company law and thus also for tax purposes where no loss or gain is deemed to have arisen from such transfer with said exemption, however, only available where the exchange of the shares does not produce any change in the individual direct or indirect beneficial owners of the companies involved or in the proportion in the value of each of the companies involved represented by the shares owned beneficially, directly or indirectly, by each such individual. In cases when the Maltese target company is issuing shares in exchange for a no-cash consideration, company law generally requires a valuation report from an expert (auditor) to ensure the proper valuation of the issued shares with an intention to protect the company’s creditors. Issuing stock could also increase the risk capital of the acquirer and increase the entitlement of the acquirer to a notional interest deduction.

Are documentary taxes payable on the acquisition of stock or business assets and, if so, what are the rates and who is accountable? Are any other transaction taxes payable?

Where the acquisition involves the transfer of immovable property or shares in companies having 75 per cent or more of the value of fixed assets being Maltese immovable property, a duty of 5 per cent is normally payable unless the immovable property group exemption applies. Further, where the acquisition involves the transfer of shares, a duty of 2 per cent may be payable unless one of the numerous exemptions apply. The duty is payable on the higher of the consideration or market value. In practice and in accordance with the Civil Code, the purchaser normally pays the duty. However, the law provides that the seller and the purchaser are jointly and severally liable for the payment of the duty.

If the seller has charged VAT on the asset transfer, the purchaser may or may not be able to recover the VAT, depending on the nature of the purchaser’s business, but a transfer of a going concern would fall outside the scope of VAT.

Are net operating losses, tax credits or other types of deferred tax asset subject to any limitations after a change of control of the target or in any other circumstances? If not, are there techniques for preserving them? Are acquisitions or reorganisations of bankrupt or insolvent companies subject to any special rules or tax regimes?

Under previous Inland Revenue practice, unutilised losses or capital allowances of a merging entity were generally preserved and consolidated at the level of the acquiring entity. As from the year of assessment 2017, losses of a company can only be availed of by another company, other than by way of group loss relief, if a ruling under the Rulings (Income Tax and Duty Treatment of Mergers and Divisions) Rules is successfully procured from the Commissioner of Inland Revenue (subject to a commercial bona fide justification being in place).

Does an acquisition company get interest relief for borrowings to acquire the target? Are there restrictions on deductibility generally or where the lender is foreign, a related party, or both? In particular, are there capitalisation rules that prevent the pushdown of excessive debt?

Maltese tax law provides for the deductibility of interest incurred on money borrowed, provided that the interest is payable on capital employed in acquiring income. This deduction rule has the following implications for the purchaser:

In an asset purchase deal partly or wholly financed by debt, the acquisition vehicle acquires the business or business assets and becomes the operating entity, in which case the interest expense is deductible against income derived from the business or business assets.

In a share purchase deal partly or wholly financed by debt, the acquisition vehicle acquires shares in a Maltese operating company or companies. Whichever acquisition vehicle is used, the relative interest expense is not deductible against the profits of the Maltese operating companies, but is tax-deductible against dividends received by the acquisition vehicle from the operating companies. As a result of this deduction, the Maltese underlying tax attaching to the dividends received is wholly (where the interest expense is equal to or exceeds the dividend received) or partially refunded. Any interest expense in excess of dividends received does not constitute a tax and is lost. For these reasons, it is normally beneficial to form a fiscal unit or merge the acquisition vehicle with the operating company or companies so the operating companies can deduct the interest expense. Also, as a result of the tax refund system, the Maltese tax on distributed profits after the deduction of interest expenses would range between zero and 6.25 per cent.

Malta implemented the EU’s Anti-Tax Avoidance Directive (ATAD, 2016/1164), and specifically the interest limitation rules came into force on 1 January 2019. Exceeding borrowing costs shall be deductible in the tax period in which they are incurred only up to 30 per cent of the taxpayer’s earnings before interest, tax, depreciation and amortisation (EBITDA). Exceeding borrowing costs refer to net interest expense (broadly, interest income less interest expense on all forms of debt and other costs economically equivalent to interest and expenses incurred in connection with the raising of finance). The legislation includes opt-outs in relation to a de minimis threshold (exceeding borrowing costs up to €3 million can be deducted), a standalone entity exemption (not being part of a group of companies), grandfathering of loans concluded before 17 June 2016, an exclusion from scope of long-term infrastructure projects that are considered to be in the general public interest, as well as allowing a group equity ratio carve-out. This limitation does not apply to financial undertakings (credit institutions, insurance and reinsurance companies, occupational retirement pension funds, EU social security pension schemes, Alternative Investment Fund Managers, alternative investment funds, Undertakings for the Collective Investment in Transferable Securities funds and over-the-counter derivative counterparties). Taxpayers may carry forward, without time limitation, exceeding borrowing costs and, for a maximum of five years, unused interest capacity, which cannot be deducted in the current tax period.

Further, Malta does not have transfer pricing rules, although a general anti-avoidance provision may apply in certain circumstances. Under Maltese tax legislation, interest paid to a non-resident is not subject to tax (by withholding or otherwise), provided that the debt claim in respect of which the interest is paid is not effectively connected with a permanent establishment of the non-resident in Malta.

Notional interest deduction (NID) was introduced to achieve an equal treatment of debt and equity financing, by granting an additional deduction for the return on equity financing. In addition, the NID may simplify matters within Malta’s full imputation system in view of the resulting reduction in the imputation credits resulting from claiming the NID.

The NID is optional and can be claimed by companies and partnerships resident in Malta (including Maltese permanent establishments of foreign entities) against their chargeable income for the year. The NID is calculated by multiplying the deemed notional interest rate by the balance of risk capital that the undertaking has at year end. The notional interest rate is the risk-free rate set on Malta Government Stocks with a remaining term of approximately 20 (which is currently approximately 1.95 per cent) years plus a premium of 5 per cent. The NID would thus currently be expected to be about 7 per cent. Risk capital includes share capital, share premium, reserves, interest-free loans and any other item that is shown as equity in the financial statements as at year end, excluding risk capital employed in the production of exempt income. The maximum deduction in any given year cannot exceed 90 per cent of chargeable income before deducting the NID. Any excess can then be carried forward to the following year. Any remaining chargeable income is subject to tax at the standard rates. When a company or partnership claims a NID, the shareholder or partner is deemed (for tax purposes) to have received the corresponding notional interest income from the company or partnership. Distribution of profits relieved from tax by the NID, however, will not be charged to tax. The legislation includes an anti-abuse provision to prevent abuses of the NID. Malta’s NID has been declared as not constituting a harmful practice by the EU’s Code of Conduct Group (Business Taxation).

What forms of protection are generally sought for stock and business asset acquisitions? How are they documented? How are any payments made following a claim under a warranty or indemnity treated from a tax perspective? Are they subject to withholding taxes or taxable in the hands of the recipient? Is tax indemnity insurance common in your jurisdiction?

Stock and business asset acquisitions may be protected by agreement between the parties under warranties, indemnities and tax warranties, generally included in the share purchase and asset purchase agreements. Where tax indemnity insurance is included in a transaction, it is taken up through foreign carriers.

Subject to the terms of the sale-purchase agreement, an amount received or payment pursuant to warranty provisions is normally regarded as capital in nature and constitutes an adjustment to the agreed purchase price.