Estonia: Income tax assessment based on incorrect valuation of non-monetary contribution to share capital struck down

The Supreme Court held (No 3-19-2244/19) that the tax authority did not have the right to impose an additional income tax assessment based on the taxpayer’s valuation of a non-monetary contribution to its share capital at higher than fair market value.

The taxpayer purchased liquefied petroleum (LPG) tanks from a related person for €60,000, of which €10,000 was paid by bank transfer and the remaining amount was deemed to be paid on the basis of a non-monetary contribution (capital increase).

The tax authority found that the sales price of the LPG tanks (and thus the amount of the non-monetary contribution) was not in conformity with market conditions. Accordingly, the tax authority issued a tax assessment that income tax must be paid on the amount between the sales price and the alleged fair market price under § 50(4) of the Income Tax Act, which provides that if the price of a transaction between a resident legal person and a related person differs from the market value of the transaction, income tax will be imposed on the amount that the taxpayer would have received as income or the amount that the taxpayer would not have incurred as expenses if the transfer prices had corresponded to the fair market value of the transaction.

The Supreme Court held that:

• The transfer of a non-monetary contribution is by its nature a transaction to which section 50(4) of the Income Tax Act does not apply, because, irrespective of the value of the transaction, neither party to the transaction receives any income or incurs any expense.
• The taxation of contributions to and payouts from a company’s share capital is governed by special provisions in section 50(2) of the Income Tax Act, under which a resident company pays income tax on the difference between contributions to and payouts from its share capital.
• The tax authority has the right to revalue the non-monetary contribution and to exclude situations where the recognition of the contribution at a higher value than the fair market value creates an unjustified increase in the company’s share capital, but the tax authority does not have the right in that situation to impose an additional income tax assessment under section 50(4) of the Income Tax Act.

Read an October 2023 report prepared by the KPMG member firm in Estonia