The Slovenian Financial Administration has recently provided clarification on the tax treatment of share buybacks conducted through intermediaries. This article offers valuable insights for companies and tax professionals navigating the complexities of corporate restructuring and employee incentive programs.
A sale of shares is usually considered a sale of capital. Under certain conditions, Slovenian tax law provides for a 50% capital gains exemption on the sale of shares. Only 5% of the exempt capital gain is added back to taxable income. Slovenian tax law also contains a special provision on deemed dividend income. It applies in cases of acquisition of own shares. The value of shares paid on acquiring company shares is taxed as a deemed dividend and is fully tax-exempt for the seller under the Slovenian Corporate Income Tax Act. Similar to the exempt portion of capital gain, 5% of the exempt dividend income is added back to taxable income. In summary, capital gains and deemed dividend income have distinct tax treatments, and it is more beneficial for the seller for the income to have the tax treatment of a dividend rather than capital gain.
The scenario in question involves a Slovenian taxpayer selling shares in a non-resident subsidiary, with the ultimate goal of the subsidiary acquiring its own shares for employee rewards or equity participation. Due to temporary capital constraints, the shares are initially purchased by an intermediary company acting on behalf of the subsidiary.
At the heart of this arrangement lies a critical question: whether the income received by the selling shareholder should be treated as capital gains or as dividend-like income. The answer depends on the economic substance of the transaction, which is a fundamental principle of Slovenian tax law. The substance-over-form doctrine in tax law allows the financial administration to look beyond the legal form of a transaction and examine its actual substance. Essentially, it focuses on the true economic intention behind a transaction rather than just adhering to its formal legal structure.
The financial administration emphasizes that while they generally respect validly concluded legal transactions, they will scrutinize the economic reality behind complex arrangements. In this case, two key factors will determine the tax treatment:
Economic Ownership: Despite the formal transfer to an intermediary, does the subsidiary effectively become the true economic owner of the shares? This assessment will consider factors such as the existence of option agreements, the relationship between parties, and the management rights exercised by the intermediary.
Capital Adequacy: Does the subsidiary have sufficient resources and profit reserves to acquire its own shares within the same tax period? This is crucial, as the timing of the transactions impacts the economic substance assessment.
If these conditions are met – establishing the subsidiary’s economic ownership and capital adequacy – the payment to the selling shareholder may be treated as dividend-like income rather than a capital gain. This classification can have significant tax implications, potentially allowing for exclusion from taxable income under certain circumstances.
However, the financial administration cautions that they will closely examine all facts and circumstances surrounding such transactions. They will be on alert for sham arrangements or potential abuse of tax rules, particularly in cases involving cross-border elements where hybrid treatments might be sought.
For companies considering share buybacks through intermediaries, this guidance underscores the importance of careful planning and documentation. Ensuring that the economic substance aligns with the desired tax treatment is crucial. Companies should be prepared to demonstrate: (a) the clear intention and purpose behind the share buyback; (b) the relationship and agreements between all parties involved; (c) the subsidiary’s capital position and ability to acquire the shares; and (d) the timing and execution of all related transactions.
While this clarification provides a framework for understanding the tax treatment of such arrangements, it is important to note that each case will be assessed on its individual merits. It is advisable that companies engaging in complex share buyback structures seek professional advice in order to navigate the often-complex landscape of Slovenian tax law.
As corporate structures and employee incentive programs continue to evolve, we can anticipate further refinements to tax guidance in this area. Companies operating in Slovenia or with Slovenian subsidiaries should monitor these developments to ensure compliance and optimize their tax positions in share buyback scenarios.
By Janja Ovsenik, Tax Partner, and Lucijan Klemencic, Tax Director, Law Firm Senica & Partners
This article was originally published in Issue 11.9 of the CEE Legal Matters Magazine. If you would like to receive a hard copy of the magazine, you can subscribe here.
