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In article no. 53, we reported on the dilemma of repairing so-called "covert" or "disguised" non cash contributions to capital. Essentially, the problem arises because of a collision of German corporation tax law with company law. Company law prescribes stiff formal requirements for increasing stated capital by means of non-cash contributions. Corporation tax law, on the other hand, has a lower corporation tax rate for distributed earnings than for retained earnings. Consequently, to obtain the lower tax rate, corporations (stock corporations and limited liability companies) frequently arrange with their shareholders for the shareholders to reinvest a dividend immediately after receiving it (so-called distribution-recontribution procedure). The problem arises when, instead of actually distributing a dividend, the corporation merely offsets the dividend payable to the shareholder against his subscription obligation. German courts have held this to be contribution of the dividend receivable instead of cash. Since, however, the formalities for non-cash contributions are not observed, the shareholders can be exposed to double liability for their contributions. Usually, it is a trustee in bankruptcy who sues to enforce this liability on behalf of the corporation after it has gone bankrupt.
In article no 53, we reported on action which can be taken by shareholders who realise their dilemma to put matters straight while there is still time (BGH DB 1996, 872 - 4 March 1996). Now, a more recent decision of the Federal Court of Justice identifies an avenue of escape which may be open to shareholders even in the bankruptcy stage. Likening a distribution-recontribution procedure to an increase in a corporation's stated capital using its own funds, the Court has now held that the contribution obligation may be satisfied if the more lenient procedures for this transaction are in essence observed. The most important requirement is for the Commercial Register with which the increase in capital is filed to have been aware that the increase was taking place pursuant to a distribution-recontribution procedure. Also necessary is a certified balance sheet showing that the corporation is entitled to pay a dividend in the amount in question.
This article treats the subjects covered in condensed form. It is intended to provide a general guide to the subject matter and should not be relied on as a basis for business decisions. Specialist advice must be sought with respect to your individual circumstances. We in particular insist that the tax law and other sources on which the article is based be consulted in the original, whether or not such sources are named in the article. Please note as well that later versions of this article or other articles on related topics may have since appeared on this database or elsewhere and should also be searched for and consulted. While our articles are carefully reviewed, we can accept no responsibility in the event of any inaccuracy or omission. Please note the date of each article and that subsequent related developments are not necessarily reported on in later articles. Any claims nevertheless raised on the basis of this article are subject to German substantive law and, to the extent permissible thereunder, to the exclusive jurisdiction of the courts in Frankfurt am Main, Germany. This article is the intellectual property of KPMG Deutsche Treuhand-Gesellschaft AG (KPMG Germany). Distribution to third persons is prohibited without our express written consent in advance.
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