Corporate mergers, consolidations, acquisitions and divisions recently have become quite often in Lithuania, therefore their tax implications should be carefully considered and effectively applied in line with the rules of Lithuanian tax legislation.

Applicable legislation

The tax regime for corporate deals and non-resident investors acquiring shares or assets of Lithuanian companies is mainly set out in the Corporate Profit Tax Law of 20 December 2001 and Law on Value-Added Tax of 5 March 2002. The Corporate Profit Tax Law establishes taxation rules on profit earned and/or income received by Lithuanian and foreign resident companies, including branches and permanent establishments. The Law on Value-Added Tax provides for taxable persons and objects, and the obligations of VAT payers and other persons. Tax authorities’ rulings and commentaries on tax laws do not have the status of legal acts and have no binding effect on taxpayers. But they have considerable influence on the application of tax legislation.

Corporate taxation of M&A and financial transactions

Reorganisations

According to Lithuanian company and civil law, reorganisation is described as the end of a legal entity without a liquidation procedure. According to Lithuanian law, a limited liability company may be reorganised in the following principal ways: (a) merging; (b) splitting (dividing). As a matter of transaction law, reorganisation typically involves M&A transactions or is the result thereof.

Nevertheless, regardless of how a reorganisation is described under company or civil law, the Lithuanian corporate tax system treats reorganizations as such, where the following parties are taking part: (1) the acquired or transferor company, (2) the shareholders of the transferor, (3) the acquiring or transferee company, (4) the shareholders of the transferee. Reorganizations can be distinguished according to whether or not a legal entity (a party to the reorganization) disappears as part of the transaction. In mergers, consolidations, and corporate divisions, one of the parties may disappear as a result of the transaction. In asset and share acquisitions, the transferor may or may not disappear depending on whether it is liquidated or not.

The Lithuanian corporate tax system is aimed at "neutralization" of tax consequences of business reorganizations so that reorganizations would involve neither tax advantage nor tax disadvantage. This is mainly because it is recognized that it would be economically inefficient to tax corporate reorganizations, as such taxation would discourage reorganizations. On the other hand, where there is a continuation of business activities and of the interest of the shareholders in the company, a corporate reorganization may be considered as legal restructuring of the same business, which does not constitute any operation subject to taxation.

The principle of tax neutrality implies (1) that no tax is imposed at the time of the reorganization and (2) that, after the reorganization, the taxable profits of the transferee company and its shareholders are calculated on the basis of tax elements that were present in the transferor company and its shares before the reorganization.

The conditions on a tax-free reorganization are provided by the tax law, rather than by company laws.

A reorganisation will qualify as tax free in Lithuania if the following conditions are met:

  1. both types of mergers are caught-up by the tax-free regime – both a merger where one company is consolidated to the company surviving the merger, and a merger where two companies are consolidated to form a new company and the former companies cease to exist;

  2. spin-off, split-off, and split-up can qualify for tax-free treatment as well;

  3. the shareholders of the transferring company receive free shares in the transferee in proportion to the assets of the transferring company transferred to the transferee;

  4. the part of remuneration to the shareholders of both the transferee and the transferor that can be paid in a form other than the shares of the acquiring company is limited to 10 percent of the difference in nominal value;

  5. in case of transfer of assets, which form the basis for autonomous business activities of the transferring company, such transfer can be effected only by way of a swap of shares; in any case the difference between the nominal values of shares of the acquiring and transferring company can be compensated to the shareholders of the transferring company only up to the amount of 10 percent of the nominal value of the shares issued by the transferring company;

  6. in case of transfer of a business (as a complex of rights and obligations), which economically constitutes an autonomous business entity, the transfer can be effected only by way of a swap of shares; the losses originating as a result of such transfer of business can be carried over to the transferee.

Thus, as it can be seen from the above-indicated instances of tax-free reorganisations, in case of an asset (business) acquisition, the tax law subjects a tax-free reorganization to the condition that all assets and liabilities attached to the autonomous economic entity must be transferred and that such transfer is compensated exclusively in voting shares.

If the merger goes through and the shareholders of the transferor (being the acquired company) do not wish to have a shareholding in the company surviving the merger and wish their rights to be bought out and to receive the fair market value of their shares in cash, such buyout of minority shareholders will result in a taxable merger.

The shareholders of the company undergoing procedures of restructuring may receive few or no shares in the surviving company.

Consequences of tax-free mergers

No tax is levied on the gain that is realized in exchange for shares. When the reorganization rules allow compensation to be offered partly in shares and partly in cash, the tax-free regime applies only to that part of compensation in cash, which does not exceed 10 percent of the nominal value of all the shares issued by the transferor. Thus the gains realized in the reorganization will be tax exempt to the extent that the transfer of assets by the transferor is compensated by the voting shares of the transferee and the compensation in cash paid to the shareholders of the transferor does not exceed 10 percent of the nominal value of all the shares issued by the transferor. The same rule should apply to the shareholders of the transferor company: to the extent that the reorganization is compensated for with voting shares, the gain realized by the shareholders of the transferor should be tax exempt.

The transferee company is not taxed in a merger unless it is at the same time a shareholder of the transferor company. The transferee company is not taxed for the assets received from the transferor, provided the above conditions are met.

Carryover of the loss and other tax-related characteristics

When a legal entity disappears in a merger or its assets are acquired, the question arises as to whether various tax attributes of the legal entity are carried over to the transferee. Lithuanian corporate tax laws stipulate that they are carried over in a tax-free reorganization, subject to certain limitations.

According to Lithuanian corporate tax laws, a full loss carryover is permitted only when the shareholders of the loss-making transferee company hold at least 66 percent of the shares both before and after the tax-free merger.

Additionally, Lithuanian tax law requires continuity of business activity of the transferee company so that the transferee company would carry y on business activity after the merger (necessarily the same business activity as before the merger) so that its revenues from such activity would amount to no less that 85 percent of its total turnover.

Although it is not specifically addressed in Lithuanian tax legislation, one may state that tax credits should also follow business activity. To the extent that such credits are related to particular assets, specific investment requirements (e.g., oil exploration, communication networks), or specific activities (research and development), the credits should follow either the assets or a specific activity to which they are linked, although it is not clearly established in the applicable tax laws. According to the practice of tax authorities, the methods of accounting used by the transferor must be continued by the transferee after a tax-free reorganization.

Noteworthy, drafters of M&A should always bear in mind that there may be certain rights of a taxpayer in the matters of tax procedure, such as appeals, collection, and litigation. The carryover of all rights and obligations in tax procedures is not so much determined by tax law. The carryover of all procedural aspects of taxation is determined by virtue of the Company Law and the Code of Civil Procedure.

No official approval for tax-free reorganisation is required

Lithuanian corporate tax laws do no require approval from the tax authorities before a tax-free merger transaction can be engaged into.

The change of corporate seat and corporate form

The change of corporate seat or form is a simple form of reorganization involving a change in the legal structure of the business but not its economic structure. A change in corporate seat should not have any tax consequence as long as the seat of the company stays within the Lithuanian tax jurisdiction.

A mere change in corporate form (e.g., from an individual company to a limited liability company (joint stock company) does not give rise to any tax liability. All assets and liabilities of the business remain within a single legal entity, although a different one and the shareholders maintain their equity interest unchanged.

Recapitalisation

Increases and decreases in the capital of a company as a rule do not result in any tax liability for the company concerned. The principal tax issue in a recapitalization is whether the receipt of a debt by the shareholders has the effect of the distribution of a dividend. If so, it should be taxable as a dividend absent a special rule.

Taxation of foreign companies under Lithuanian corporate tax laws

According to the Corporate Profit Tax Law, a foreign resident company must pay corporate tax on certain types of income the source whereof is in Lithuania. The types of such income include:

  1. interest income (with some exceptions, for example, from tax-exempt government securities);

  2. income in the form of distributed profit (dividends);

  3. royalties;

  4. remuneration for rights granted under a licence or franchise agreement;

  5. remuneration for information granted on industrial, trade or scientific experience (know-how);

  6. income received from the sale or any other transfer of ownership, as well as lease, of an immovable in Lithuania;

  7. indemnification for the breach of authors’ and neighbouring rights.

Acquisition of shares or assets of Lithuanian companies by foreign resident companies is not subject to corporate profit tax. Dividends due to foreign companies are subject to withholding tax at the rate of 15%.

Dividends

However, dividends paid by a Lithuanian company to a foreign company where the foreign company receiving the dividends holds shares granting more than 10% of votes continuously for at least 12 months are tax-free, except when the foreign company receiving the dividends is registered or otherwise organized in a low tax rate territory. This provision does not apply if the profit of the Lithuanian company paying out the dividends is not taxable with the standard corporate tax rates, except if this Lithuanian company is a company of a free economic zone. The tax is withheld from the income of the foreign company by the Lithuanian company paying the income.

However, on must note that in cases the share capital of a company is increased from the funds of the company and as a result the shareholders receive free shares in proportion to their shareholding in the company, such free shares should not be qualified as dividends.

Non-allowable deductions

According to the Corporate Profit Tax Law, any disbursement made by a Lithuanian company or permanent establishment to a foreign company organized in a low tax rate territory is treated as non-deductible for corporate tax purposes if such Lithuanian company or permanent establishment does not produce evidence to the local tax authority that:

  1. disbursements are related to the regular activity of the paying and receiving companies;

  2. the foreign company receiving the disbursements possesses property required to perform its regular activity;

  3. there is cohesion between the disbursement and an economically grounded transaction.

Permanent establishment

The commercial-business activities of an entity or any part of such commercial-business activities in Lithuania are qualified as permanent only if such activity is not temporary (lasts more than 6 months) and complete a full cycle of commercial operations. A permanent establishment is not a corporate body, but rather a structure for calculating and paying taxes by the foreign entity in Lithuania. It will have no legal personality; it will not be able to own assets, acquire rights or incur liabilities.

The Income of a foreign resident company carrying out activities in Lithuania through a permanent establishment is subject to the profit tax at the rate of 15%.

Stamp duties

Generally, according to Lithuanian law, M&A transactions are not subject to any stamp or equivalent duties or levies. However, a corporate reorganization often requires a formal capital contribution, which in some cases may impose some tax burden (e.g., duties payable to public notaries and public registry if a newly formed subsidiary is involved).

Applicability of value-added tax

According to the Law on VAT, transactions in securities are exempted from value-added tax, so transferring shares in Lithuanian companies in M&A transactions is not subject to VAT. This also applies to transferring a cluster or complex of economic activities that has not been established as a company.

It does not apply to the transfer of assets – a contribution in kind for the issued shares is subject to VAT. If a taxable person grants credit and manages granted credit, such services are exempted from VAT. The services related to the granting and management of a guarantee or suretyship are also exempted from VAT if performed by the taxable person granting the guarantee or suretyship. The services of taking and managing deposits and other repayable funds, clearing services between banks and/or other credit institutions, and other services connected with the arrangement of settlements, money transfer, the issue of letters of credit and related transactions, as well as transactions related to debts and debt obligations, are not subject to VAT. However, if a purchaser of financial services is a non-resident company registered as a VAT payer in Lithuania, the supplier of services can calculate VAT for the supply of services.

A non-resident company that supplies goods or services within Lithuania must register as a VAT payer, except if the law provides that the purchaser should calculate and pay the VAT charge. A non-resident company is obliged to register as a VAT payer from the first taxable transaction in Lithuania, with the exception of cases where such foreign company provides the services or products in respect whereof the obligation to calculate and pay VAT is imposed on the Lithuanian VAT payer (such services include consultancy, insurance, secondment, marketing, advertising, telecommunications, etc.). A Lithuanian company, on the other hand, only needs to register when the taxable turnover of the company exceeds LTL 100,000.

A foreign taxable person established in a EU member state may register as a VAT payer directly, otherwise the registration must be through its subdivision in Lithuania or, if it has no subdivision, through an appointed fiscal agent. A foreign taxable person is not required to register as a VAT payer if it only supplies goods and/or services that are not subject to VAT in Lithuania or if it supplies goods or services charged at zero-rate VAT, except some special cases set out in the Law on VAT.

A failure to register a non-resident company as a VAT payer will not release it from the obligation to calculate e VAT and pay it to the budget if the obligation to pay VAT has incurred according to the law.

The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.