Is it unfair to sell a company with its cash?

Is it unfair to sell a company with its cash?
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Is it unfair to sell a company with its cash?

The courts may now regard this as tax abuse. Caution is therefore advised.

 The tax treatment of a sale of a company’s shares containing cash is in turmoil. And for good reason. Two recent court rulings have overturned the commonly accepted view that this situation was not taxable.

 

  1. The turnaround of jurisprudence

In a ruling handed down on 6 September 2022, the Antwerp Court of Appeal held that the portion of the price corresponding to the cash available in the target companies, which had been monetised with a bridge loan and a post-merger dividend distribution, was taxable in the hands of the seller. In this case, the cash amounted to around €6.3 million compared with the total price of around €14 million. The seller, who had used professional advisers, therefore committed a “tax abuse” insofar as it would have been more normal to withdraw the cash before the sale and to be subject to the withholding tax.

This position has now been confirmed by the Court of Cassation in its ruling of 11 January 2024. This was an appeal in cassation for the same case as the one mentioned above. The Court ruled that the tax abuse was proven even if the seller was not personally involved in all the legal acts performed. All that is required is a “unity of intent”, i.e. the link between the various legal acts.

These rulings, which for the first time apply the anti-abuse measure to the sale of a business, mark a real U-turn for M&A practitioners (1).

 

  1. The legal and practical context

In order to better understand the scope of this change, it is useful to review the legal and practical context governing this area.

Why include cash in the sale price? When the seller is a natural person, an outflow of cash in the form of a dividend is subject to withholding tax (2). On the other hand, by including them in the sale price, the purchaser who has incorporated a company will be able to dispose of them at a later date under the parent-subsidiary or RDT (Revenue definitively taxed) regime, exempt from all tax.

It’s easy to see why this is important…

Capital gains on securities are only exempt from taxation if they are realised as part of the “normal management of private assets”.  This exemption, regarded as a pillar of our tax system, is in reality an exception, albeit one recently confirmed by the Constitutional Court (3).

The concept of tax abuse (art. 344 § 1 CIR) was added to the legislative arsenal in 1993. The principle of the least taxed route is now limited by this other principle, which is tax abuse. Often brandished as a threat but less used in practice, the concept of tax abuse is therefore tending to be strengthened. While the sale of a cash company (a company that contains only or predominantly cash) has long been considered abusive, this was not the case when a target company held a reasonable proportion of cash. The notion of net cash or excess cash is, moreover, a common ratio used in valuation exercises (4). Arrangements for financing this cash and getting it out were legion, the main safeguard being financial assistance (5). The two above-mentioned rulings therefore put a rather brutal stop to a practice that was not very controversial.

 

  1. What can we learn from this?

What lessons can be drawn from this in practice? Should it be considered abusive if a “normally diligent” shareholder sells a company that holds liquid assets needed for working capital? In any case, schemes aimed at evading the withholding tax normally due if there had been no sale, seem open to criticism. It’s all a question of circumstances, and prudence is more important than ever.

 

 

(1) See in particular the articles by Denis-Emmanuel Philippe (Bloom Law) and Huu-Toan Nguyen (cabinet Afschrift).

(2) In principle at a rate of 30%. This rate may be reduced in the case of the constitution of a liquidation reserve subject to compliance with strict conditions.

(3) Article 90,1° CIR. This principle was confirmed by the Constitutional Court in a ruling handed down on 24 February 2022.

(4) One of the main valuation methods is to apply a multiple to Ebitda and remove net debt. When net debt is negative (due to the presence of cash), it is added to the price.

(5) This civil law concept limits the possibility of using the target’s assets to protect the company’s creditors.

 

 

An article for La Libre Eco by Tanguy della Faille, Managing Partner at FB Transmission

 

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