Denmark - Taxation of cross-border mergers and acquisitions
Taxation of cross-border mergers and acquisitions for Denmark.
Taxation of cross-border mergers and acquisitions for Denmark.
Danish tax rules and practice have changed fundamentally in recent years. A number of rules have been introduced to prevent erosion of the Danish tax base, and the Danish tax authorities have adopted a restrictive attitude toward structures aimed at reducing the Danish tax base. However, the Danish parliament has also introduced a number of specific tax initiatives that make it more attractive to invest in Danish companies and jobs. This report starts with a brief description of the most important recent developments.
This report also addresses three fundamental questions facing a prospective buyer.
- Should the target’s shares or assets be acquired?
- What will the acquisition vehicle be?
- How will the acquisition vehicle be financed?
At the end of the report, we briefly describe some accounting, company law and tax issues that may be relevant for a potential buyer.
Generally, the discussion in this report is restricted to Danish incorporated companies, namely, public limited companies (A/S) and private limited companies (ApS). The information is based on Danish legislation as of 1 January 2021.
Danish tax law and practice is constantly changing, and amendments are usually comprehensive, complex and detailed. Generally, structures that were tax-efficient 5 years ago may now be either inefficient or exposed to tax audits and contingent tax liabilities.
Developments in the mergers and acquisitions (M&A) tax area over the past 5 years amount to a tightening of anti- avoidance rules and a more aggressive approach by the tax authorities to arrangements that erode the Danish tax base. These developments make it difficult for investors to establish robust, tax-efficient structures, so it is important to consider all aspects of a transaction or acquisition structure to avoid adverse and unintended tax consequences. A number of structures still work, but local advice should be sought when planning a structure involving Danish companies and foreign holding companies, particularly when debt is incurred or increased in the Danish companies.
Aggressive approach to preventing tax erosion
The tax authorities are challenging dividend and interest payments routed through intermediate holding companies resident in countries with a tax treaty with Denmark (e.g. Luxembourg) that is more favorable than the country of residence of the investors/lenders (e.g. Jersey or another tax haven). The tax authorities claim that the intermediate holding companies are conduit companies (not the beneficial owners) and therefore should be disregarded for Danish tax purposes. So far, the tax authorities are not putting too much focus on substance but focusing on (deemed) flow of funds. Thus, irrespective of substance at the level of an intermediary holding company, the tax authorities have in some cases viewed entities with significant substance as conduit entities for Danish tax purposes. One factor that is usually awarded significant importance is whether the recipient has real authority to control the Danish proceeds received (as opposed to, for example, a recipient that immediately on-pays the funds to a company in a back-to-back type of arrangement). In several cases, intermediate holding companies have been denied European Union (EU) directive or treaty protection, and dividend and interest payments have been subject to Danish withholding taxes even though the de facto beneficial owner is resident in a tax treaty country.
The European Court of Justice (ECJ) gave its judgment in the Danish beneficial ownership cases (ECJ cases C-116/16, C-117/16, C-115/16, C-118/16, C-119/16 and C-299/16) in February 2019. The cases are still pending in the Danish court system but the ECJ established that there is a general principle of anti-abuse in EU Law that obliges the member states to deny benefits according to EU law in case of abuse even if no anti-abuse provision is implemented in national law. While waiting for the Danish court’s judgment, the legal position is still unclear and legal practice in this area seems to be fast-moving. Thus, KPMG in Denmark recommends considering holding structures carefully before buying a Danish company in order to avoid or reduce exposure to withholding tax (WHT).
In 2012, the Danish Parliament passed a bill in an attempt to prevent the use of Danish companies as conduit companies. As a result of this bill, dividend payments from a Danish company to a foreign parent company are subject to 27 percent WHT where dividend payments are a redistribution of dividend payments received from a subsidiary outside Denmark and the Danish company is regarded as a conduit company and therefore not the beneficial owner of the dividends received. However, this anti-abuse rule does not apply if the distribution from the Danish company is tax-exempt under the EU Parent-Subsidiary Directive (90/435).
Thus, the Danish WHT on dividend payments from Danish conduit companies is only levied on payments to parent companies in tax treaty countries outside the EU.
Finally, the Danish WHT is reduced in accordance with a relevant tax treaty, provided this company is for Danish tax purposes regarded as beneficial owner of the dividend payment.
As of 1 May 2015, Denmark adopted two general anti-avoidance rules (GAAR) with the aim of preventing abuse of tax treaties and EU direct tax directives.
As background, on 27 January 2015, the EU Council amended the EU Parent-Subsidiary Directive by adopting a GAAR that must be implemented in national law by 31 December 2015. Further, the Organisation for Economic Co-operation and Development (OECD) has proposed a general anti-avoidance rule in the context of the Base Erosion and Profit Shifting (BEPS) Action 6.
The bill introduced a directive GAAR and a tax treaty GAAR in sections 3(1) and (3), respectively, of the Danish Tax Assessment Act. The scope of the directive GAAR encompasses the EU’s Parent-Subsidiary Directive (2011/96/ EU), Interest-Royalty (2003/49/EC) and Merger Directive (2003/133/EF), whereas the tax treaty GAAR is applicable to income tax treaties entered with Denmark. Under both rules, a taxpayer cannot obtain the tax benefits of a directive or tax treaty if obtaining such benefit was one of the main purposes of any arrangement or transaction resulting in that benefit.
The GAARs with effect from 1 January 2019 were amended. Thus, the scope of GAARs is no longer limited to the EU Directive and treaty benefits. Instead, the scope of the ‘new’ GAAR was broadened and it is now relevant to consider for all non-genuine arrangements both domestically and in cross-border situations.
During the past 5 years, the Danish tax authorities issued a number of binding rulings, on the application and interpretation of the domestic GAAR. However, the legal position still seems to be unclear, and more cases and binding rulings are expected, so KPMG in Denmark recommends a close review to determine whether a structure may be subject to the GAAR.
The ‘new’ GAAR applies as of 1 January 2019 to existing and new arrangements and transactions (i.e. no grandfathering).
Current focus on incentives for growth
The aim of some of the most recent developments in Danish tax law is to create incentives for growth.
The corporate income tax rate has not changed since 2016, and remains at 22 percent for 2021.
Further, capital gains on unquoted portfolio shares (i.e. shareholdings below 10 percent) are tax-exempt.
Finally, businesses that have had research and development (R&D) expenses resulting in tax losses are currently entitled to a cash reimbursement of 22 percent of the losses. As of income year 2015, the upper ceiling of the reimbursement is the tax value of 25 million Danish kroner (DKK) (i.e. DKK5.5 million).
Further, from 2018, a ‘super deduction’ rule regarding R&D expenses was introduced in section 8(4) of the Danish Tax Assessment Act. In accordance with this rule, R&D expenses can be deducted or depreciated with the following rates:
- 101.5 percent in 2018–2019
- 103 percent in 2020
- 105 percent in 2021–2022
- 108 percent in 2023–2025
- 110 percent in 2026 and onwards.
As of 1 January 2021, additional deductions of 27 percent and 25 percent in 2020 and 2021 respectivelywere allowed. However, the deductions can only be made on expenses amounting to maximum DKK845 million for the income year 2020 and DKK910 million for the income year 2021. The limitation on super deductions in 2020 and 2021 applies on a consolidated level for companies that are part of the same Danish tax group.
The definition and content of R&D expenses are being challenged by the Danish tax authorities and it is expected that the tax authorities will continue to have focus on what is included as R&D expenses.
Asset purchase or share purchase
A buyer may acquire a Danish company (the target company) by purchasing either the assets or the shares in the company. Most transactions involving Danish target companies are share transactions because the capital gain realized by the seller on the sale of shares is often tax-exempt. By contrast, the Danish target company is liable to tax on gains realized on the sale of the assets. However, a purchase of assets may still be attractive in a number of situations, such as where the target company has tax losses carried forward in the tax group that can offset the capital gains tax, or where the buyer wishes to acquire a part of the target company’s business. Also, when acquiring the assets of a company, the buyer will not take over any historical tax liabilities relating to the assets.
Please note that the Danish government is contemplating introducing taxation of certain real estate companies based on a market-to-market principle. This is to ensure taxation of the underlying real estate as transfer of shares in real estate companies are tax-exempt under the Danish participation exemption.
Purchase of assets
Even though the historical tax liabilities remain with the seller, a buyer may still wish to carry out some due diligence before purchasing the assets. This could be done to reveal any non-compliance practice or procedures in relation to the assets or the nature and tax depreciation profile of the assets for valuation purposes, etc.
A foreign company that acquires the assets of a Danish company and continues the business activity in Denmark is normally regarded as having a permanent establishment (PE) in Denmark after closing. The income derived by the PE is taxable in Denmark in accordance with Danish tax legislation as well as any tax treaty with the country in which the foreign company is resident.
As of 1 January 2021, the definition of a PE in the Danish tax legislation was updated and is now in accordance with the OECD's recommendations.
When selling depreciable assets, the buyer and seller must allocate the total cash value of the transfer to each category of depreciable assets included in the sale. The agreed allocation serves as the basis for capital gains taxation of the seller and as the depreciation basis/acquisition price for the buyer.
The Danish tax authorities may challenge either the total cash value or the allocation between depreciable assets. Where no allocation is made, the tax authorities may assess an appropriate allocation and both the seller and buyer are obliged to apply the assessed values.
The transfer agreement should carefully consider the purchase price allocation between the categories of assets because the depreciation profile for the various categories varies, as explained later in this report.
Goodwill acquired by a Danish company may be amortized by up to one-seventh annually.
The various categories of assets have different depreciation profiles. Consequently, the purchase price allocation in an asset deal is of major importance for the estimate of future free cash flow.
Most operating assets, such as plant, machinery, equipment and motor vehicles, may be depreciated by up to 25 percent per year in accordance with the declining-balance method. The depreciation rate can vary from year to year at the taxpayer’s discretion. The price of minor assets (DKK14,400 2021-level), software and certain equipment for R&D may be written off in full in the year of acquisition, whereas certain heavy fixed assets and infrastructural facilities are subject to a reduced depreciation rate.
Buildings, other than, for example, office buildings, are depreciated individually using the straight-line method by up to 4 percent a year. Office buildings are generally not depreciable unless integrated with, or closely related to, a manufacturing or depreciable building.
Intangibles acquired by a Danish company may be depreciated by up to one-seventh annually. Knowhow and patents are subject to favorable rules that allow immediate write-off of the purchase price in the acquisition year.
Generally, the annual depreciation charge for tangible and intangible assets is computed on the basis of the cash equivalent of the cost price. The cash equivalent price is the actual cost price less the excess of the nominal value of loans (taken over from the seller) over market value.
Tax losses and the tax balances of the target are not transferred to the buyer in an asset acquisition. They remain with the company or are normally used at the time of the transaction.
The Danish value-added tax (VAT) rate is currently 25 percent and applies to most supplies of goods and services by VAT-taxable entities.
The transfer of a business (or part of a business) as a going concern is outside the scope of VAT provided that the following conditions are met.
- The buyer continues the transferred business.
- The seller no longer continues the transferred business.
- Both seller and buyer are registered for VAT purposes in Denmark.
A transfer of a going concern must be notified to the Danish tax authorities by the seller within 8 days of the transfer.
A transfer of a going concern may also lead to a transfer of the VAT adjustment liability under the capital goods scheme when certain investment goods are included in the transfer. Alternatively, the VAT adjustment liability must be calculated and settled with the Danish tax authorities.
Where receivables from VAT-taxable supplies are transferred as part of the business transfer, there is a risk that the buyer would not be entitled to adjust the output VAT if the receivables become irrecoverable debt. Local advice should be sought to ensure that the output VAT can be adjusted for such irrecoverable debt by the buyer.
As a main rule, where the transfer does not qualify as a transfer of a going concern for VAT purposes, then the transfer generally is treated as a sale of assets subject to Danish VAT.
When the transfer of a business consists of a sale of shares, the transaction is VAT-exempt.
No stamp duty is payable on a transfer of assets or shares.
Registration of a change of ownership of land and buildings is subject to a duty of DKK1,750 plus 0.6 percent (as of 2021) of the fair market value.
Mortgage instruments are subject to a duty of DKK1,750 plus 1.5 percent (as of 2021) when the loan is raised or refinanced.
Purchase of shares
There are no immediate Danish tax consequences for a foreign company that acquires the shares of a Danish company.
Apart from the carry forward of losses described later in this report, the tax position of the acquired Danish company remains unchanged. Consequently, there is no possibility for a tax-free step-up in the tax basis of the assets of the acquired company.
It is not possible to obtain assurance from the tax authorities that a potential target company has no tax liabilities or whether a potential target post-closing may become involved in any tax disputes.
Tax indemnities and warranties
As the buyer takes over the target company together with all related liabilities, including contingent liabilities, the buyer normally requires more extensive indemnities and/or warranties about any undisclosed tax liabilities of the target company. The extent of the indemnities or warranties is a matter for negotiation.
The buyer usually initiates a due diligence review where significant sums or complex tax affairs are involved. A normal part of the due diligence process involves an in-depth review of the historical tax affairs of the target company by the buyer’s advisors.
Generally, carried forward tax losses may be carried forward indefinitely subject to certain limitations.
Thus, tax losses carried forward can fully offset taxable income up to DKK8,767,500 (2021-level), but they may only reduce taxable income over the threshold by up to 60 percent. Losses generated during the income year may be offset in full.
On a change of ownership, a tax loss carried forward may become restricted and consequently cannot be used to reduce the taxable income to less than the net financial income (interest and similar income and expenses), including lease income from operating assets and ships that are subject to tax depreciation. As such, the tax losses carried forward can still offset operating profits.
A change of ownership takes place where more than 50 percent of a Danish company’s share capital or voting power at the end of any income year is held by shareholders other than those who owned it at the beginning of the year in which the loss arose. In certain circumstances, the assessment of the change in ownership is made at the ultimate parent level, which means indirect change of ownership may trigger the restriction. Where the company is inactive at the time of the change of ownership, the loss carry forward may be forfeited.
Tax losses carried forward by the target company at closing generally are not available for companies participating in the buyer’s tax group.
Taxpayers generally may apply to the tax authorities for a binding ruling regarding the tax consequences of a specific transaction. A ruling is generally binding for 5 years.
Choice of acquisition vehicle
A wide range of acquisition vehicles is available to a foreign buyer who wishes to acquire the shares or assets of a Danish target. The advantages and disadvantages of the different acquisition vehicles must be considered on a case-by-case basis. The tax value of the interest deductions and the tax treaties entered into by the relevant countries are often decisive in determining the optimal jurisdiction or acquisition vehicle.
Local holding company
A Danish holding company may be used as the acquisition vehicle where the foreign buyer wishes to benefit from the Danish rules on tax consolidation and offset tax losses (due to financing costs) of the acquisition vehicle against taxable profits of other companies in the Danish tax group. The Danish rules restricting interest tax deductions should be analyzed to ensure that financing costs will be deductible for tax purposes and thus can reduce taxable profits in the other operating companies.
A foreign buyer may also consider using a Danish acquisition vehicle to act as a dividend trap. This may be beneficial where the profits are to be reinvested in the Danish or foreign subsidiary since dividends can generally be received tax-exempt if the Danish holding company holds at least 10 percent of the shares in the subsidiary.
Another benefit of using a Danish acquisition vehicle is the relatively low Danish corporate tax rate of 22 percent (2021).
Special attention is advisable where the foreign buyer acquires or incorporates a Danish limited company that is considered transparent for foreign tax purposes (as with US check-the-box rules). Up to 1 January 2020, Denmark had specific legislation that would requalify the Danish limited company so it also was considered as a transparent company and treated as a branch of the foreign company for Danish tax purposes.
As a result, interest paid on loans to the shareholders can be disregarded for Danish tax purposes. It is irrelevant whether the treatment of the Danish limited company as a transparent company is due to foreign legislation or an election by the foreign buyer.
This legislation has been abolished with effect as per 1 January 2020 and special regulation on hybrid mismatch has been introduced effective from 1 January 2020. See below under ‘Hybrids’ for further details.
Foreign parent company
A foreign buyer may choose to purchase the target directly instead of using an acquisition vehicle where the tax value of the interest deductions is higher in the jurisdiction of the buyer.
Generally, the Danish WHT rules favor a structure with a foreign holding company because capital gains realized by the foreign acquisition vehicle on a sale of the shares to a third party are not subject to Danish WHT. Additionally, dividends and interest are generally exempt from Danish WHT provided the foreign parent company holds at least 10 percent of the shares and is resident in the EU or in a country that has a tax treaty with Denmark. However, there are exceptions that should be considered in each case.
Non-resident intermediate holding company
Where the foreign buyer would be subject to tax on capital gains and/or dividends received from the target, an intermediate holding company resident in another country with more attractive taxation could be interposed to benefit from tax treaties or EU directives. However, the intermediate holding company would have to be considered as the beneficial owner and meet the requirement on business substance.
As described in ‘Recent developments’, business substance in foreign intermediate holding companies is currently a high priority area for the Danish tax authorities. It is therefore advisable to pay attention to the substance requirement to avoid the possibility that an intermediate holding company would be disregarded for Danish tax purposes.
Rather than a direct acquisition of the shares or assets of a target, a foreign buyer may wish to use a Danish branch of a foreign company as the acquisition vehicle. Shares may be allocated to a Danish PE where the return relates to the Danish branch.
The buyer should ensure that the Danish branch has sufficient operating activity to constitute a PE for Danish tax purposes.
A Danish branch of a foreign company is not a commonly used acquisition vehicle.
The calculation of taxable income generally is the same for a subsidiary as for a branch since both vehicles are considered as taxable entities for Danish tax purposes. Generally, transactions between the Danish branch and the head office should be based on the arm’s length principle.
However, special attention must be paid to transactions between a Danish branch and the head office because it is not entirely clear from case law which terms should apply.
Basically, there are three types of joint ventures:
- corporate joint venture, where the joint venture partners hold shares in a Danish company
- unincorporated joint venture, where, for example, the joint venture partners enter into a partnership
- strategic joint venture, where the joint venture partners cooperate on specific strategic objectives.
A corporate joint venture is treated as a corporate entity for Danish tax purposes, while unincorporated and strategic joint ventures are treated as transparent entities for Danish tax purposes.
The choice of joint venture primarily depends on the most beneficial tax positions with regard to, for example, the offset of losses or interest expenses against profits subject to corporate or personal income tax.
Choice of acquisition funding
A buyer using a Danish acquisition vehicle that pays cash consideration for the purchase of a Danish target must decide whether to fund the vehicle with debt, equity or a hybrid instrument. The principles underlying each are discussed below.
The principal advantage of debt is the potential tax deductibility of interest (see ‘Deductibility of interest’) as the payment of dividends does not result in a tax deduction.
Where it is decided to use debt, a further decision must be made as to which company should borrow and how the acquisition should be structured.
Tax losses incurred by a Danish acquisition vehicle as a result of tax-deductible financing costs may offset the positive taxable income in the Danish target group, as described in the section on group relief/consolidation. Tax losses incurred by the acquisition vehicle prior to closing are either entity-specific or only available for offset against any taxable income from companies participating in the buyer’s tax group prior to closing. Thus, the timing of income and expenses should be considered.
It is possible to introduce or increase leverage in a Danish company after the transaction (debt pushdown). There are various ways to complete the debt pushdown, and the Danish interest limitation rules should be considered. As these rules are complex, local advice should be sought to ensure that a debt pushdown will be effective.
Deductibility of interest
Generally, interest expenses are deductible for corporate income tax purposes. However, the Danish tax system includes a number of rules that may limit the tax-deductibility of interest and other financial expenses. The primary limitations relate to three sets of rules:
- thin capitalization rules
- interest ceiling rule
- earnings before interest, tax, depreciation and amortization (EBITDA) rule.
The thin capitalization rules apply to Danish companies and branches with controlled debt, restricting the deductibility of interest expenses. Danish companies or branches may be thinly capitalized where the debt-to-equity ratio exceeds 4:1 at year-end. The assessment is based on fair market value, including non-booked goodwill. The effect of the rules is that any deduction is denied for interest expenses and capital losses on the part of the controlled debt that should be recharacterized as equity to meet the 4:1 debt-to-equity ratio. However, the rules do not apply where the controlled debt does not exceed a threshold of DKK10 million or where the company is able to document that similar financing can be obtained from an independent party.
According to the interest ceiling rule, Danish companies may only deduct interest costs and other net financing expenses to the extent that the expenses do not exceed a standard rate of return of 2.3 percent (2021) on the tax values of certain qualifying assets (mainly operating assets). The limitation applies only to expenses exceeding a threshold of DKK21.3 million. The standard rate of return is adjusted on an annual basis. The interest costs exceeding the interest ceiling are lost permanently and cannot be carried forward. However, capital losses may be offset against capital gains in the following 3 income years.
In accordance with the EU Anti-Tax Avoidance Directive (ATAD), an EBITDA rule was introduced on 1 January 2019. The EBITDA rule replaced the otherwise existing EBIT rule. Under the EBITDA rule, the net financing expenses may be deducted up to 30 percent of the net earnings before interest, tax, depreciation and amortization after any restrictions due to the thin capitalization and interest ceiling rules. However, net financing expenses of less than DKK22,313,400 (EUR3,000,000) are deductible without restrictions, and any net financing expenses restricted under the EBITDA rule may be carried forward for tax deduction indefinitely.
The three sets of rules must be applied in the above order of priority. Restricted interest costs and capital losses due to thin capitalization are not included in computing limitations under the other two sets of rules.
Unlike the thin capitalization rules, the interest ceiling rule and the EBITDA rule apply to all types of debt, both controlled debt and debt to third parties.
These three sets of rules restricting deduction of interest and other financial expenses are very complex. Local advice is recommended where a Danish company’s right to deduct interest and other net financing expenses is an issue.
Note also that shareholder loans are covered by the Danish transfer pricing rules. Thus, the terms of the loan must reflect market terms and must be documented.
Withholding tax on interest payments and methods to reduce or eliminate it
Generally, no Danish WHT obligation exists on interest payments on debt to third parties. However, a 22 percent WHT is levied on interest payments to related parties.
There are a number of exemptions from the WHT. The most important apply in the following instances.
- The foreign company is already taxable on the interest due to a PE in Denmark, that is, where the interest relates to and is received by the PE.
- The receiving company is resident in the EU, the European Economic Area (EEA) or a country with a tax treaty with Denmark. The companies must be at least 25 percent related in terms of shares for at least 12 months during which the interest must be paid.
Certain other exceptions imply that Danish WHT is imposed where the interest income is taxed at a low rate in a foreign jurisdiction.
WHT protection requires that the receiver be considered as the beneficial owner of the interest and not a mere conduit/flow-through company. Otherwise, Danish WHT is levied on the interest payment. As stated earlier, the concept of a ‘beneficial owner’ is a high-priority focus area with the Danish tax authorities — and they generally do not accept stepping-stone arrangements. Several rulings are pending on this issue. It is too soon to draw any definite conclusions until further legal precedence has been established. The question of whether the receiver of the interest payments should be considered as the beneficial owner must be analyzed on a case-by-case basis. Local advice should be sought.
The WHT obligation should not apply where the debt is structured as a zero-coupon convertible bond or a similar instrument. (See ‘Aggressive approach to preventing tax erosion’ earlier in this report.)
Checklist for debt funding
- The use of bank debt may prevent thin capitalization and transfer pricing problems and eliminate the requirement to withhold tax from interest payments. (The use of bank debt does not affect a restriction of the tax deduction of interest under the interest ceiling rule or the EBIT rule).
- Consider the amount of debt funding in order to avoid limitations on the deductibility of interest payments due to the Danish interest limitation rules.
- Consider whether the level of profits would enable tax deduction for interest payments to be effective.
- As a general rule, 22 percent WHT applies to interest paid by a Danish company to a company resident in a country outside the EU that has no tax treaty with Denmark.
A buyer may use equity to fund its acquisition or to capitalize the target post-acquisition. There is no capital duty on the introduction of new capital into a Danish company or branch (or to a Danish-registered societas Europaea), regardless of the nature of the contribution to equity.
There is no Danish WHT on dividends on subsidiary shares or group company shares, that is, where the recipient holds at least 10 percent of the share capital and where the parent company is resident in the EU/EEA or a country that has a tax treaty with Denmark and is considered as the beneficial owner of the distributed dividends. (See ‘Recent developments’ on the use of intermediate conduit companies.)
A Danish WHT of 27 percent (subject to treaty protection) is levied on dividends on portfolio shares, that is, investments of less than 10 percent of the share capital in the Danish company (main rule). The effective taxation of the dividend may be reduced to 22 or 15 percent depending on the circumstances.
The use of equity may be more appropriate than debt in certain circumstances, for example.
- Where the target is loss-making, it may not be possible to obtain immediate tax relief for interest payments.
- A number of restrictions on Danish tax relief for interest may eliminate the principal advantage of using debt.
- There may be non-tax reasons for preferring equity. For example, it may be desirable for a company to have a low debt-to-equity ratio for commercial reasons.
Where the transaction is structured as a share exchange in which the seller receives shares in the purchasing company in exchange for shares in the target company, the seller may roll over the capital gain on the shares in the target company to the new shares. The rollover may be carried out either with or without preapproval from the tax authorities. Various conditions must be met, depending on whether or not preapproval is obtained, and local advice should be sought.
No preapproval is required where the transaction is structured as a tax-exempt merger, but special conditions must be met to obtain the rollover of capital gain for the seller and the tax values for the merging companies.
The Danish rules also allow for tax-exempt demerger and contribution in kind of assets. The reorganizations may be carried out without preapproval from the tax authorities in certain circumstances; however, a number of conditions must be satisfied and the shares received in the transaction generally cannot be sold for a period of 3 years. KPMG in Denmark recommends seeking local advice to avoid adverse tax consequences of such transactions.
With the introduction of the Danish GAAR, no exemption is granted for tax-exempt cross-border mergers, demergers, share exchanges and contributions in kind if an arrangement or series of arrangements have been put into place for the main purpose or one of the main purposes of obtaining a tax advantage that is not in accordance with the object or purpose of the EU Parent-Subsidiary Directive, which are not genuine having regard to all relevant facts and circumstances. Furthermore, arrangements or series of arrangements shall be regarded as not genuine to the extent that they are not put into place for valid commercial reasons that reflect the economic reality.
Generally, amounts registered with the Danish Register of Companies are classified as equity. If an amount is not registered as equity, it is characterized as a loan even when it carries a right to participate in profits. Conversely, registered preference shareholders are always considered equity investors even where they are not entitled to participate in excess liquidation proceeds.
Convertible notes are normally regarded as loans until conversion. As a general rule, payments made before conversion are taxed as interest. After conversion, the yield is taxed as a dividend.
In effect from 1 January 2020, Denmark has implemented the EU ATAD2 directive; however, the interpretation of the rules is unclear due to lack of general guidance.
The existing Danish anti-hybrid rules (no interest deduction for hybrid debt that is being regarded as equity for foreign tax purposes) were abolished from 1 January 2020.
From 1 January 2020, Danish companies (as a main rule) are not allowed a deduction, if a particular transaction (e.g. an interest payment under a hybrid financial instrument) leads to ‘non-inclusion’ in the other jurisdiction. The new rules also cover hybrid entities and double deductibility.
The tax treatment of discounted securities issued to third parties depends on the principle applied. Where a mark-to-market principle is applied, the discount accruing over the life of the security is deductible for Danish tax purposes for the issuer and the corresponding profit is taxable for the lender. Where the realization principle is applied, deduction and taxation, respectively, are deferred until redemption.
Where the issuer and lender are related parties or consolidated for Danish tax purposes, the discount is not deductible for tax purposes if the corresponding profit is tax-exempt.
An acquisition may involve an element of deferred consideration, the amount of which can only be determined at a later date on the basis of the post-acquisition performance of the business. The right to receive an unknown future amount is regarded as an asset that must be valued for Danish tax purposes where either the duration of the payments or the actual amount paid each year is uncertain at the time of transfer. The transferring parties are then obliged to calculate a capitalized value of the expected future payments at the time of the transfer. The capitalized values serve as a basis for calculating a preliminary taxable capital gain. The capital gains tax is due at the time of the transfer as in normal taxable transfers.
A recipient of a deferred settlement of the consideration for goodwill and other intangible assets can apply for a tax reprieve until actual payments are received.
Concerns of the seller
The tax position of the seller may greatly influence any transaction, and one of the first concerns is often the tax liability triggered by the transaction.
The taxation of the seller depends on the rules of the country in which the seller is resident and the legal form of the seller. Capital gains realized by a Danish company are generally tax-exempt. Only capital gains on shareholdings of less than 10 percent in listed companies are subject to Danish corporate tax.
Sellers resident outside Denmark are generally not taxable in Denmark on capital gains (except on certain disposals by non-resident companies with a PE in Denmark).
Danish companies, PEs located in Denmark and Danish immovable property owned by non-resident companies are subject to the Danish rules on mandatory national tax consolidation. Where there is a qualifying group relationship between the entities (i.e. a Danish or foreign parent company holds a controlling influence), a Danish tax group must be formed.
The group consolidation means losses of one company are immediately set off against profits of the other companies. However, losses originating from tax years before the commencement of the tax group may only set off profits in the same company or companies participating in the tax group at the time the loss arose.
All the companies included in the tax group must apply the same financial year, and the rules prescribe which company should be appointed as the administration company for the tax group.
A company’s exit from a tax group may give rise to a number of challenges and should be discussed with local tax advisors. Under many share transactions, a target company exits the seller’s tax group during a financial year. In this case, income from the first period must be consolidated in the seller’s tax group, and income from the second period must be consolidated in the buyer’s tax group. The administrative challenges related to the tax consolidation (and exit from the tax group) should be considered carefully by the seller and the buyer at the time of a transaction and duly reflected in the share purchase agreement.
It is possible for a Danish company to elect international tax consolidation. However, this implies that all companies including foreign companies with the qualifying relationship must be included in the Danish tax group for a minimum of 10 years. Danish companies within a Danish tax group are jointly and severally liable for corporate tax and WHT.
The joint and several liability ends where a company ceases to be a member of a Danish joint taxation group. Accordingly, sold companies do not inherit any liability from other companies in the former Danish tax group.
The remaining part of the selling group remains jointly and severally liable for tax claims against the sold company related to income years before the transfer.
Generally, Danish resident companies are subject to the Danish transfer pricing rules. These rules prescribe that all transactions between a Danish company and related companies must satisfy the arm’s length principle (i.e. the prices and terms must reflect those that could be applied in a transaction with a third party). In most cases, the company must prepare documentation that supports the basis for the pricing. As of the income year of 2021, transfer pricing documentation must be submitted to the Danish tax authorities no later than 60 days after the deadline for submitting the tax return.
The transfer pricing rules are relevant in relation to many aspects of a transaction, such as shareholder loans, intercompany guarantees, cash pool arrangements, and transfer of goods, services and assets. The practice of the tax authorities is somewhat unclear, and each case must be examined on its specific facts and circumstances. Caution is advisable when determining the basis of the prices, especially where large amounts are involved.
Under Danish tax law, a company is resident in Denmark where it is registered in Denmark or it is a foreign-registered company with an effective place of management in Denmark. There are generally no advantages in seeking to establish a dual resident company.
Foreign investments of a local target company
The original aim of the Danish controlled foreign company (CFC) legislation was to reduce the tax benefits of transferring financial income to low-tax countries. The rules no longer take foreign tax rates into consideration, so they may also be relevant for a Danish parent with a subsidiary in a high-tax country.
The Danish CFC rules apply to a Danish parent company with a controlling influence in a subsidiary whose income is mainly of a financial nature. The effect of the CFC rules is that the income of the subsidiary is apportioned to its Danish parent company and subject to Danish corporate tax. Denmark grants credit for the foreign taxes on the subsidiary’s income.
The CFC rules should be considered in many situations, including where:
- the business functions of an entity change
- a transaction could lead to additional financial income in the subsidiary
- a transaction would lead to a significant capital gain
- the tax rate of the subsidiary country is low.
In late 2019, the Danish parliament proposed a bill to bring the Danish CFC rules in line with ATAD. However, it is uncertain when the bill is expected to be passed and it has already been postponed several times. In any case, the current proposal contains broader CFC rules than those introduced in ATAD.
It is not possible to provide an exhaustive list of the situations in which the CFC rules have implications. Each transaction should be examined based on its facts, and local tax advice should be sought.
Company law and accounting
The Danish Companies Act prescribes how Danish companies may be formed, operated, reorganized and dissolved, and is largely based on EU company law directives. In 2009, the Danish company laws were modernized and amended so that both public limited companies (A/S) and private limited companies (ApS) are now regulated in the same act, the Danish Companies Act. (Previously, these two types of companies were regulated by two separate acts.) This allows considerable flexibility, for example, for the payment of the subscribed capital and financial assistance. Company law has significant importance for a buyer investing in a Danish company, as outlined briefly below.
The Danish Companies Act allows for the restructuring of a Danish company through such transactions as mergers, demergers and contributions in kind. Generally, such restructuring may be carried out as tax-exempt transactions, provided certain requirements are met.
A distribution of dividends from a Danish company is subject to the company having sufficient distributable profits, retained earnings, etc., available. Dividends may be distributed at the end of the financial year based on the financial statement or as interim dividends during the financial year. The company’s financial situation must be taken into consideration at the time of the declaration of an interim dividend, and certain administrative requirements must be satisfied.
Occasionally, the structuring of a transaction raises financial assistance issues. There have been public discussions on whether dividend distributions from a target company used for the repayment of the buyer’s acquisition debt or a merger of the target company and the acquisition vehicle is a violation of the prohibition against self-financing/financial assistance.
Previously, the prohibition against financial assistance stated that it was illegal for a Danish target company (A/S or ApS) to grant direct or indirect financial assistance for the purpose of financing the acquisition of the target company’s shares. However, the Danish Companies Act has removed this prohibition by allowing for such assistance within the limitations of the available distributable reserves. Each case must be examined based on its facts, and a number of administrative requirements must be satisfied. Local advice should be sought before providing any such financial assistance.
A number of M&A accounting issues should also be considered. A ‘business combination’, which is defined under International Financial Reporting Standards (IFRS) as a bringing together of separate entities or businesses into one reporting entity, may be categorized as either a merger or an acquisition.
In essence, a combination is regarded as a merger where it results in a pooling of business interests (i.e. where one company’s equity is exchanged for equity in another company) or where shares in a newly incorporated company are issued to the shareholders in the merging companies in exchange for their equity, with both sides receiving little or no consideration in the form of cash or other assets.
In Denmark, non-listed companies can freely choose to adopt either the Danish Accounting Act or IFRS when preparing their accounts. According to Danish generally accepted accounting principles (GAAP), most business combinations are to be accounted for as acquisitions.
Merger accounting is restricted in the Danish Accounting Act to a small number of genuine mergers. One major requirement for a genuine merger is that the fair values of the entities are not significantly different. Further detailed conditions must be met. Merger accounting can always be used for intercompany combinations. Merger accounting is not allowed under IFRS.
Where acquisition accounting is applied, the transaction may give rise to goodwill. The net assets are brought onto the consolidated balance sheet at their fair values, and goodwill arises to the extent that the consideration paid exceeds the aggregate of the values. Where the accounts are prepared according to the Danish Accounting Act, goodwill is amortized through the profit and loss account over its useful economic life. Where IFRS is adopted, the goodwill is not amortized, but its value is subject to impairment tests.
The new mandatory disclosure requirements (MDR) are effective as of 1 January 2021 in most member states, including Denmark. Following COVID-19, Denmark has implemented Directive 2020/876/EU of 24 June 2020, to meet the urgent need to postpone certain deadlines for the submission and exchange of information.
DAC 6 (European Directive Mandatory Disclosure Rules) imposes an obligation on intermediaries to disclose information on cross-border arrangements that meet certain criteria to their domestic tax authorities and rules for the subsequent exchange of this information between tax administrations.
In order to be reportable, an arrangement must be cross-border and contain one of the hallmarks set out in an Annex to the Directive.
KPMG in Denmark recommend a close review to determine whether an investment/transaction may be reportable under the MDR regime.
Comparison of asset and share purchases
Advantages of asset purchases
- The purchase price (or a proportion) can be depreciated or amortized for tax purposes.
- A step-up in the cost base for tax purposes is obtained.
- No previous liabilities of the company are inherited.
- No acquisition of a tax liability on retained earnings.
- Possible to acquire only part of a business.
- Greater flexibility in funding options.
- Profitable operations can be absorbed by loss-making companies in the buyer’s group, thereby effectively gaining the possibility to use the losses.
Disadvantages of asset purchases
- Possible need to renegotiate supply, employment and technology agreements, and to change stationery.
- A higher capital outlay is usually involved (unless the debts of the business are also assumed).
- May be unattractive to the seller, thereby increasing the price.
- Accounting profits may be affected by the creation of acquisition goodwill.
- Benefit of any losses incurred by the target company remains with the seller.
Advantages of share purchases
- Lower capital outlay (purchase net assets only).
- Likely to be more attractive to the seller, so the price is likely to be lower.
- May benefit from tax losses of the target company.
- May gain benefit of existing supply or technology contracts.
Disadvantages of share purchases
- Acquire unrealized tax liability for depreciation recovery on the difference between market and tax book value of assets.
- No deduction for the purchase price or for underlying goodwill.
- Less flexibility in funding options.
- Losses incurred by any companies in the buyer’s group in years prior to the acquisition of the target cannot be offset against any profits made by the target company.
KPMG Acor Tax
KPMG Acor Tax Tuborg Havnevej 18
T: +45 3078 6780
This country document does not include COVID-19 tax measures and government reliefs announced by the Danish government. Please refer below to the KPMG link for referring Jurisdictional tax measures and government reliefs in response to COVID-19.
Click here — COVID-19 tax measures and government reliefs
This country document is updated as of 31 January 2021.