When an entrepreneur quits his business voluntarily, he usually seeks to sell his company. Often, however, the buyer wants to buy only the business, leaving the entrepreneur with an old limited liability company, where the largest asset is the transaction price obtained from the disposal of the business. Sometimes the business is also identified with the entrepreneur to the extent that no buyers can be found for it. In this case, entrepreneurs who sold or quit the business will have to, on one hand, decide what to do with the remaining limited liability company, and on the other hand to think about how to draw the purchase price out of the LTD in the most tax effective way.
If the entrepreneur does not have the need to get the purchase price immediately for his personal use, he can keep the LTD as his “piggy bank” by using it as his own investment company, withdrawing annual dividends. However, in this article I will focus on the liquidation of a limited liability company and its tax treatment on a general level. In case of dissolution, the entrepreneur should always consult his own auditor or lawyer on the tax implications and, if necessary, ask the tax authorities for an advance ruling.
Voluntary dissolution of limited liability company as a procedure
Once a limited liability company has decided to cease its operations, it is usually liquidated. The liquidation decision is made by the shareholders’ meeting by a qualified majority vote. In the light of corporate law, a company that has ceased operations does not cease to exist unless it is dissolved through a liquidation process.
Liquidation may also result from other provisions of the Finnish Limited Liability Companies Act or the Articles of the Association. The purpose of the liquidation procedure is to liquidate the company’s assets and to settle the company’s liabilities. The shareholder will then receive a share of any surplus, i.e., a share of the net assets remaining in the company. If the company’s assets do not cover its debts, the liquidator must place the company into bankruptcy. A limited liability company shall be deemed to have dissolved after the liquidator has issued a final account at the shareholders’ meeting. The Trade Register must also be notified about the dissolution. It is possible to carry out the dissolution procedure in about six months, provided that the creditors do not object and the shareholders are unanimous.
Putting the Company into Liquidation
A limited liability company is placed in liquidation for dissolution. Provisions on the procedure are in the Chapter 20 of the Companies Act. Liquidation can be voluntary or a forced liquidation. This article deals only with voluntary liquidation.
The purpose of the liquidation procedure is to determine the assets of the company, the conversion of a necessary amount of assets into cash, the payment of debts and the payment of surplus to shareholders or others as provided for in the Articles of the Association. The liquidation procedure ends with the dissolution of the company when the liquidators present a final account at the shareholders’ meeting. The dissolution will then be notified to the Trade Register to register the dissolution of the undertaking.
In the dissolution procedure, the normal operation of the company is driven down. During liquidation, the Company will be eligible to enter contracts and assume new debt. As a rule, however, the company’s business must be terminated when the company goes into liquidation, since the procedure is aimed at liquidating assets and paying off debts and calculating savings to pay the proportional shares.
The decision on the voluntary dissolution of the limited liability company is made by the shareholders’ meeting. The decision requires a majority of at least two-thirds of the votes cast and shares represented at the meeting, unless a larger majority is required by the Articles of Association. At the same time, one or more liquidators are selected to take care of the dissolution procedure. Liquidators will manage the company’s affairs during liquidation.
Commencement of the Liquidation Procedure
The dissolution of a limited liability company leads to the termination of the company, thereby extinguishing its legal existence, i.e., legal personhood. The liquidator notifies the register of the commencement of the liquidation procedure and makes an application to the Finnish Patent and Registration Office (FIN: Patentti- ja rekisterihallitus, PRH) for a public summons to the company’s creditors. A public summons may already be applied at the same time as the notice of liquidation and liquidators is made, or later, but it must be applied without delay. In this summons, the company’s (unknown) creditors are assigned a due date (so-called “fixed date or date of appearance”) when they must notify the registration authority of their due or undue claims from the company at the latest. In addition, the public summons alert will be published in the Official Journal no later than three months before the due date. The purpose is to find out the amount of the company’s debts and liabilities. If the creditor fails to notify the claim, and the claim was not previously known to the company, the right to claim ceases.
If it is necessary, the liquidator shall draw up a financial statement for the period before the liquidation period for which the financial statements have not yet been presented at the shareholders’ meeting. The financial statements will be submitted for a review by the auditors and then presented at the shareholders’ meeting together with the audit report.
The liquidator must liquidate the necessary assets to pay off the liabilities. To do this, after the due date of the public summons, the liquidator will convert the company’s assets into cash in the necessary amount to pay off the debt. All known debts will be paid. If a debt is contested, undue or cannot yet be paid for any other reason, the necessary funds shall be put aside.
After the date of the public summons, when debts have been paid or as mentioned, funds have been set apart for this purpose, the liquidator distributes the residue of the company’s assets. Shareholders shall have the right to receive a share of the company’s net assets for their shares unless there is any other provision in the Articles of the Association concerning the use of the company’s assets.
Finishing the Liquidation Procedure
The liquidator shall draw up and issue a final account to the shareholders’ meeting after completing his duties. The final account shall comprise a report on the administration of the liquidator and a description of the division of the company’s assets, as well as the auditor’s report on the closing statement and final accounts. Following these actions, the liquidator invites the shareholders to a shareholders’ meeting to audit and approve the final account.
The final account will be notified for registration within two months after the meeting. The liquidator must also file a dissolution declaration in the Trade Register. However, the company is already considered to have been dissolved once the liquidator has submitted a final statement at the shareholders’ meeting. After removal, the dissolved company cannot acquire rights or make commitments. If new funds are available to the company, the liquidation must be continued.
Paying the Shareholders Their Shares
Shareholders have the right to receive a share of the company’s assets in accordance with their ownership proportion. The Articles of Association may also contain a provision that funds should be distributed to an entity other than shareholders.
The liquidator shall liquidate the company’s assets to the extent necessary to pay the Company’s debts and liquidation costs. The liquidator can decide what assets to sell and how the sale of the property will take place. The share in the distribution is paid in money unless all shareholders agree to the allocation of other assets, in other words, the in natura part. Liabilities can also be transferred to shareholders. This requires both the shareholders and creditors consent. Similarly, with the shareholder’s consent, a company’s receivable can be transferred to the shareholder as a part of their share in the distribution.
As a rule, the shares in the distribution are paid at the final stage of the liquidation procedure. However, for a security, the liquidator may give an advance on the shareholder’s share. Payment of such an advance requires that the liquidator carefully evaluates and anticipates the amount of the final shares and requires the shareholder to set a security.
Voluntary dissolution of limited liability company as a procedure
The Taxation of a Dissoluting Company
Dissolution of a limited liability company engaged in business activities is dealt with below. The taxation of the dissolving LTD takes place for the last time for the tax year of the ending of the dissolution. The dissolution means the cessation of the company’s business activities, in connection with which the company will dispose of all its assets.
For the purposes of taxation of a liquidated limited liability company, all assets are measured at a fair value; the price of exchange-, investment-, disposal- and other assets shall be regarded as the amount equivalent to the likely disposal price of the property, i.e., fair value.
The calculation of the disposal price normally generates taxable income for the Company in three ways:
- prior expense entries — depreciation − revert to taxable income
- The so-called passive value gain that is gained after the acquisition of the assets — the difference between the likely disposal price and the cost — is taxed as the company’s income
- Reservations are cancelled
Similarly, dissolution may realize losses on the sale of assets if the undepreciated portion of acquisition cost is likely higher than the disposal price.
The company’s business may also be disposed of with assets and liabilities as an advance on the share in distribution. In such cases, the transfer shall be deemed to have taken place when the business has actually been disposed of as an advance of the share in distribution. The fair value of the assets to be disposed of in advance shall be considered to be the profit of the tax year in which the disposal has actually taken place.
In case-law, goodwill, business name or customer register arising from the undertaking’s own activities have not been regarded as assets whose fair value should be considered as income at the time of the company’s liquidation. However, if a portion of goodwill consists of separately disposable intangible assets (such as cost rights, patents, trademarks or manufacturing-, model- or license rights), the fair value of these assets shall be entered as an income. The company’s tax losses and unused corporate tax credits are not transferred to the shareholder. Reservations made by the Company are entered in for the taxation on the year of dissolution.
Taxation of a Natural Person as a Shareholder of a Dissoluting Limited Liability Company
From the perspective of the shareholder of the dissolved company, the receipt of the share in distribution is a taxable transfer equated to an exchange in which the shares of the dissolved company are exchanged for the share in distribution. The share in distribution can be money or other property. The transfer price of the shares of the dissolved company shall be considered to be the fair value of the assets to be obtained as the share in distribution.
The amount of the capital gain or loss shall be calculated by deducting from the fair value of the share in distribution the acquisition cost of the shares, with the exceptions set out below. If the fair value of the share in distribution is greater than the cost of the shares, not written off for taxation, the shareholder will generate a capital gain. If the cost of the shares, that is not written of for taxation is greater than the share in distribution, the shareholder incurs a capital loss. In taxation, these are also commonly referred to as dissolution gain and dissolution loss.
In the shareholder’s taxation the acquisition cost of the share in distribution is considered to be the fair value of the transferred property. Unlike, for example merging or fusion, the dissolution of a LTD is not considered as a universal succession in taxation, due to which holding period of the transferred shares and other property is calculated from the date of the acquisition of the share in distribution. This date is usually the date of the shareholders meeting where the liquidator has presented the final statement. If assets have been allocated as an advance of the share in distribution, the time of acquisition shall be considered to be the time of receipt. If real estate or securities have been obtained as part of the share in distribution, the shareholder is subject to a transfer tax obligation.
If the fair value of the share received is greater than the cost of the shares, the difference shall be shareholder’s income. The profit resulting from the dissolution of a LTD is taxable capital income. In 2022, the tax rate on capital income is 30% up to 30.000 euros. On capital income over EUR 30.000, the tax rate is 34%.
According to the Finnish Income Tax Act, the true acquisition cost is deducted from the fair value of the share in distribution when calculating the shareholders’ capital gain. Other way of calculating the capital gain is through a so-called presumption of cost: if the ownership of the shares has lasted longer than 10 years a presumption of cost of 40 % or if the ownership has lasted less than 10 years a presumption cost of 20 % is deducted from the fair value of share.
If the distributed share is worth less than the cost of the shares and the shares are private property, there will be a capital loss. For the purposes of taxation of a personal owner, capital loss is subject to the provisions of Article 45 and Article 50 of the Income Tax Act, whereby the capital loss can be deducted from pure capital income in the tax year and the five subsequent years as profit accrues.