Establishing a limited liability company or public limited company and subsequent increases in share capital raise several tax issues, both for the company and for the shareholders. This is particularly important when the shareholder makes contributions with assets other than money. In this article, we examine the tax consequences for both shareholders and the company in such transactions.
Main Forms of Capital Contributions
The default rule in company legislation is that capital contributions (share capital and share premium) are made in the form of money (Norwegian kroner). However, the law also allows contributions in the form of other assets, known as contributions in kind. These can be real estate, business operations, intangible rights, or foreign currency.
For an asset to be used as a contribution in kind, it must be possible to recognize it on the company's balance sheet. An obligation to perform work or services for the company cannot therefore be used as a share contribution. For capital increases, share contributions can also be settled by offsetting claims, or through bonus issues (transfer of other equity in the company to share capital).
Tax Consequences for the Shareholder
Contributions in the Form of Money
Establishing a company or increasing capital where the shareholder contributes money normally does not raise any specific tax issues for the shareholder at the time of contribution. The shareholder's tax basis and paid-in capital correspond to the share contribution, i.e., share capital and any share premium.
It is possible that the subscription price (especially for capital increases) is higher or lower than the actual value of the issued share. If the share subscription is made in the same proportion as the shareholders already own shares, there is no tax liability or deduction right for any discount or premium.
Contributions in the Form of Assets (Contributions in Kind)
When contributing assets, this is considered a realization of the assets for consideration in the shares. The contributor must therefore calculate a gain or loss for each asset contributed, and the question of tax liability/deduction right is regulated by the general rules.
This also applies when the shareholder owns or becomes the owner of all shares in the company, as the shareholder and the limited liability company are considered independent tax subjects. This principle was established in the Supreme Court judgment Rt. 1925 p. 624 (Oscar Larsen).
When calculating gain or loss, the assets' exit value is set to the market value of the shares at the time of recognition. Normally, this also corresponds to the market value of the assets being contributed. When multiple assets are contributed, the consideration must be allocated between the assets in the same proportion as the market value for each asset.
The gain or loss is recognized according to the realization principle, based on when the contributor gets an unconditional right to the shares. In practice, this will normally be when the asset is considered delivered to the company, often at the time of the auditor's declaration that the contribution has been received.
Offsetting Claims
A claim against the company in which shares are subscribed cannot be used as a contribution in kind, but can be used to offset a contribution obligation. Offsetting is considered a realization of the claim, and a gain and loss settlement must be carried out by the creditor (share subscriber) if realization of the claim is taxable.
For gain and loss calculation, the exit value is normally the value of the shares issued. In practice, it is assumed that the exit value of the claim should be set to the real value of the shares, especially in refinancing of companies in financial difficulties where the real value of the claim is often lower than the nominal value.
Tax Basis and Paid-in Capital
The shareholder's tax basis for shares is initially what the taxpayer has paid for the shares, plus any acquisition costs. For contributions in kind, the tax basis of the shares and paid-in capital should generally be set to the market value of the transferred assets at the time of transfer.
For bonus issues, the shareholder's tax basis is distributed over a larger number of shares without any payment. The tax basis of a bonus share should be set to a proportional part of the tax basis of the shares to which the bonus share relates. However, the paid-in capital is not distributed in the same way, as essentially no capital has been paid in on the bonus shares.
The Choice Between Issuing New Shares or Increasing the Nominal Value
For capital increases, one can choose between issuing new shares or increasing the nominal value of existing shares. This choice can have tax consequences.
When issuing new shares, the tax basis is allocated to the new shares. When increasing the nominal value, the tax basis is added to the shareholder's previous tax basis on the existing shares. The same applies to the paid-in capital.
Since the shielding deduction is determined separately for each individual share, a capital increase by issuing new shares may result in the shareholder having different shielding bases on their original and newly issued shares. This can also lead to different taxation of dividends and gains on the shareholder's shares. In most cases, it is therefore advantageous to make a capital increase by increasing the nominal value rather than issuing new shares.
Deduction Right for Expenses
The shareholder does not have a direct deduction right for the establishment costs in cases where the shareholder incurs these, but must capitalize these on the shares. For shareholders covered by the shareholder model, the expenses are deducted through gain calculation upon realization of the shares. The costs are also included in the shareholders' shielding basis.
Tax Consequences for the Company
Contributions Are Not Taxable Income
Contributions to a limited liability company (share capital and share premium) in connection with establishment or capital increase are not considered taxable income for the company. This applies regardless of whether the subscription price deviates from underlying values. The principle was established by the Supreme Court already in Rt. 1917 p. 627 (Tromsø Privatbank).
When Does Tax Liability for the Company Begin?
A limited liability company is considered established when all founders have signed the founding document. In practice, the Tax Act has been interpreted such that subjective tax liability arises at this time, even though the company may later acquire rights and incur obligations to third parties.
Distribution of Results Between Contributor and Company
When transferring assets or business operations as contributions in kind, each party shall be taxed for the income that according to the timing rules falls within their ownership period. This principle was established in Rt. 1966 p. 1470 (Tomren). In practice, however, January 1 of the transfer year is often used as the effective date for practical reasons.
Tax Basis on the Assets
The Supreme Court has in Rt. 1995 p. 1674 (Viking Supply) established that the company's tax basis on contributed assets should correspond to the market value of the objects being contributed, and not the value of the shares issued. This may lead to a situation where there is not necessarily tax continuity between the contributor's exit value and the company's tax basis.
Deduction Right for Expenses
It is established in practice and theory that expenses for establishment and capital increase are deductible if the company itself covers the expenses. The company can choose between expensing the costs immediately or deducting them gradually as income allows.
If the expenses are part of a larger transaction/acquisition, it is necessary to distinguish between costs related to the establishment or capital increase, and costs related to the transaction/acquisition. Transaction expenses for acquisition of shares should be capitalized as part of the company's tax basis on the shares.
Special Cases and Exceptions
Tax-Free Conversion and Merger/Demerger
When converting a sole proprietorship or partnership to a limited liability company, or in the case of a merger and demerger, it may under certain conditions be carried out with tax continuity. This also applies to tax positions such as losses, positive gain and loss accounts, and negative balance.
Deduction Right for Share Contributions in Start-up Companies
Personal taxpayers have, under certain conditions, the right to deduct up to NOK 500,000 for share contributions in connection with the establishment or capital increase in start-up companies. The conditions for obtaining such a deduction are quite detailed and place several limitations on which companies are eligible for the scheme.
Summary
Establishing a limited liability company and increasing share capital raise several tax issues that must be carefully considered. This is particularly true when the share contribution is made with assets other than money. A thorough understanding of the tax consequences is important for both the company and the shareholders, and may influence the choice between different methods for capital contribution.
