Equity repayment is an advantage
1. Term: Form of financing in which the shareholders of a corporation preferably do not give it additional equity beyond a minimum amount of required equity, but provide it with the required capital in the form of loans, i.e. as borrowed capital.
2. purpose Third-party financing is usually not the achievement of benefits under company law (unlike equity, third-party financing is not liable to the company's creditors, but this principle can be broken in the case of so-called equity-replacing loans). The main reason is rather to achieve tax advantages: a) Third-party financing by a natural person as a partner: Interest payments are business expenses for the paying corporation, so unlike dividend payments in the country of this company, they are not subject to corporation tax, but only the income tax in the country of the partner. Thus, one of the two taxes that would have to be paid if equity were granted is saved through shareholder financing. This effect is always advantageous, at least when interest and dividends are subject to the same income tax rate for the shareholder, and is therefore often used. Only in a credit system in which the shareholder receives the corporation tax fully reimbursed, arrangements for shareholder external financing make no sense.
b) Shareholder financing through a foreign parent company: In the case of the paying corporation, interest payments are an operating expense, in the case of the parent company a profit component; in the case of equity financing, on the other hand, the payments to the parent company would be dividends and would therefore be subject to tax in the country of the subsidiary, but not in the country of the parent company (box privilege). Consequently, shareholder borrowing makes sense in these cases if the corporate tax rate in the country of the parent company is lower than that in the country of the subsidiary.
3. Defense measures of the Fisci: a) principle: Because the tax base of corporate income tax can be reduced by the shareholder financing at the expense of the tax authorities, most states meanwhile set limits for the extent of the shareholder financing that they still recognize for tax purposes. If the tolerated limits are exceeded, the interest payments are no longer recognized for tax purposes as a deductible business expense. This then eliminates the tax advantage that could have caused the shareholders to grant loans instead of equity.
b) Applicable techniques to ward off shareholder debt financing: To deny the deduction of business expenses for the interest payments of a company can in principle be achieved in two ways:
(1) The interest payments are classified as non-deductible business expenses,
(2) the interest payments are treated like equity payments. The difference between these two methods lies in the fact that in the second case not only a business expense deduction is ruled out, but also all other conceivable advantages of replacing equity with debt are excluded.
c) Use of defense techniques in Europe: Which of the two conceivable defense techniques is actually used is decided by each country itself; The legal situation in the country of this subsidiary is decisive, since the subsidiary is concerned with the deduction of operating expenses.
d) Tolerance thresholds: So far, all known regulations have in common that the non-recognition of interest expenses as business expenses is not generally refused, but such measures only take effect when a certain amount of shareholder external financing is exceeded. However, since such tolerance thresholds can only be set arbitrarily, they differ considerably from country to country.
4. Legal situation in Germany: a) Basic technology: Since 2008, the German law has followed technology to treat interest payments as non-deductible business expenses (Section 4h EStG; interest barrier), previously there was a regulation in which interest payments could be treated as equity payments ("hidden profit distributions") (Section 8a KStG old version) . In principle, however, the new regulation no longer only affects cases of third-party financing, but rather all interest payments to everyone; consideration of the business requirements of external financing is now done via the tolerance threshold regulations.
b) Tolerance thresholds: How many interest payments are still permitted as deductible business expenses in Germany has been determined since 2008 by the so-called interest barrier (reference value: 30 percent of income before depreciation, interest and taxes); certain clauses reduce possible hardships. For corporations that belong to a group, the regulations are partially tightened when shareholder external financing comes into play (§ 8a KStG new version). The general rule under the new regulation is that interest payments that exceed the tax limit and therefore cannot be claimed as business expenses can be carried forward to later years and can be claimed there, provided that the business exceeds the tax limit (interest barrier) in these years then has not yet otherwise exhausted it (interest carried forward).
Under the old regulation (§ 8a KStG old version) there was a certain percentage of loans that a company with tax effect was allowed to take out from its shareholder (or the persons who were close to him); In this respect one spoke of the "safe haven" ("safe haven"), in which she could then move with the shareholder external financing.
5. Other types of taxes: Providing a corporation as a shareholder with borrowed capital instead of equity can theoretically promise advantages not only with income taxes, but also with other types of tax; therefore, there may also be defense mechanisms against such constructions for other types of tax. For example, when the capital tax (capital transfer tax), which taxes the contribution of equity capital in corporations, was still levied in Germany, there was also the phenomenon of shareholder debt financing there; in other European countries where this type of tax still exists, measures against third-party financing of this tax can be expected even today.
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