Under current law, distributions made by corporations may – for tax purposes – be treated either as dividends or as a tax-neutral repayment of capital to the extent that sufficient paid-in capital exists despite being in the form of a dividend distributions. Dividends result in (taxable) income on the level of the shareholders. In contrast, a repayment of capital reduces the shareholder’s tax basis of the shareholding. Pursuant to the draft tax bill of the Tax Amendment Act 2015/2016, distributions shall primarily be treated as dividends (subject to withholding tax) to the extent undistributed profits exist. As a result, the new rules considerably restrict the possibility of deferring (taxable) dividends by introducing priority rules for distributions.
Distribution of Dividends vs Repayment of Capital
Capital contributions by shareholders to a corporation generally increase the shareholder’s tax basis of the shareholding, while such contributions are tax-neutral on the level of the corporation. These tax-neutral contributions are currently recorded in a paid-in capital account (Einlagen-Evidenzkonto).
Currently, the corporation may freely choose to declare distributions either as dividends or as repayment of capital to the extent there are sufficient amounts of equity in the paid-in capital account. While dividends result in income at the level of the shareholders, a repayment of capital merely reduces the shareholder’s tax basis of the shareholding. Only amounts exceeding such tax basis result in a deemed (taxable) gain from the disposition of shares at the level of the shareholder. Therefore, in case of a sufficient level of paid-in capital, it is currently possible to defer income from dividends by declaring payments as a repayment of capital. Such deferral is in particular beneficial for non-resident corporations and individuals, since resident corporations generally do receive dividends tax-free due to the participation exemption.
Introduction of priority rules
The draft tax bill implements priority rules for dividend payments and in doing so restricts a corporations’ ability to freely manage dividend distributions for Austrian tax purposes. Pursuant thereto, distributions will primarily be treated as dividends, to the extent undistributed profits exist. Any hidden profit distributions will always be deemed to constitute dividend payments. Only if the corporation has no undistributed profits, will distributions be treated as a repayment of capital to the extent the paid-in capital account has sufficient balance. Any additional amount will be treated as a dividend.
Given the specific structures which have been implemented in the past in the context of reorganizations where the tax treatment (eg roll over of book values) deviates from the accounting treatment (eg step up), certain additional restrictions have been introduced to reflect such differences.
In addition to the paid-in capital account, new compliance obligations for corporations are triggered, such as the necessity to record undistributed profits (Innenfinanzierung) as well as certain balances arising due to a deviating treatment of specific reorganizations for tax purposes and accounting purposes (umgründungsbedingte Differenzbeträge).
The new rules will generally be applicable to accounting periods ending after 31 July 2015. Based on the restrictions being introduced, injections of equity will become less attractive from a tax perspective. Furthermore, particularly for companies undergoing a reorganization, these new restrictions pose significant obstacles for investors buying a stake in the company with the aim of implementing a reorganization.