KHO: 3342/2/15 case report – sequential operations in company arrangements

In the case resolved by the Supreme Administrative Court, a statement was made on the tax evasion and tax planning of the series of corporate transactions.

The company was divided to architectural design activities (A Oy) and real estate, securities and investment activities (B Oy). B Oy had two shareholders after the division, and several people working in the company became shareholders of A Oy. The other shareholder of B Oy retired and wanted to give away his shares. The Tax Administration considered that the transferring party would have got forbidden advantage in form of tax evasion if the company had acquired his shares when he retired. The Administrative Court agreed. The Supreme Administrative Court considered that there was no tax evasion.

The question was, when a shareholder is selling his share, whether the purchase price would be taxed on the basis of capital gain or tax evasion.

The financial risks of the case for the entrepreneur were high because the planned purchase price was significant. In that case, a slight change in the direction or another might effect on tax treatment substantially.

On the other hand, it was possible to be subject to progressive earnings-related income tax, on the other hand, it was possible to get the purchase price taxed as capital income as usual.

The central issue was to convince the court that the company did not have disguised dividend, but the purchase price of the shares was normally taxable as capital income in trading on shares.

How do I identify the risk of a tax evasion?

The disguised dividend is illegal distribution of funds so that the company, for example, acquires shares to avoid taxed dividends. In other words, the disguised dividend is the distribution of money or cash benefits from the company to its beneficiary, whereby the tax can be afterwards adjusted if the taxman decides to intervene. Tax evasion is a case where measures are taken solely to avoid tax.

Business arrangements must have genuinely tax-independent business grounds. Stable business goals protect the entrepreneur.

Business-economic reasons as protection

In the present case, for example, the fact that the company had distributed a regular, significant dividend in previous years was, spoke against tax evasion. The intention was also to carry out a change of genration. Thus, it was not apparent that, in the case at hand, the measures, namely the transfer of shares, were taken solely for the purpose of tax evasion.

Based on the KHO’s decision, the acquisition price was taxable capital income, not disguised dividend.

Case-specific assessment

Because the tax evasion did not appear to be the case, the entrepreneur’s purchase price was taxed as capital gain instead of disguised dividends.

The decision of the Supreme Administrative Court, however, reminds us of how even the preliminary ruling can be annulled. Even when it is best to “be prepared for everything” by asking even in advance from the Tax Administration for a complete answer, i.e. a preliminary ruling, it is possible to find oneself fighting for one’s rights with the Tax Judicial Unit on interpretations regarding the same question. Enterprise arrangements can often be interpreted in many ways even among the experts on the field!

According to the Law on Taxation Procedure, if to a circumstance or measure has been given a legal form which does not correspond to the actual nature or purpose of a case, it must be taxed as if the right form would have been used.