The National Tax Tribunal grants permission for sale following tax-free restructuring before expiry of holding period

In December 2017, two capital owners carried out a tax-free share exchange of a hairdressing business without permission, followed by a tax-free demerger of the newly established holding company without permission. The restructuring was intended to create a basis for a later expansion of the business, including the establishment of several hairdressing salons, as well as to accommodate the capital owners' different dividend policies.

In the spring of 2018, disagreement arose between the capital owners, which led to one capital owner withdrawing from the cooperation as of 31 December 2018. The remaining capital owner's ("the Complainant's") holding company acquired the withdrawing capital owner's holding company in this connection.

On 17 August 2020, the Complainant's two-year-old son was diagnosed with a serious brain tumor. As a full-time working owner and daily manager in a small business, the Complainant did not have the opportunity to both manage the operations and handle the extraordinary private situation. The capital owner therefore found it necessary to dispose of the operating company ("the Company") as quickly as possible, which occurred on 7 September 2020.

When carrying out tax-free restructurings without prior permission, there is generally an absolute requirement not to sell capital shares during the first three years. If this happens anyway, the original restructuring becomes taxable. If it becomes necessary to sell before the expiry of the three-year period, one can at a later time apply for permission through the permission system to carry out the already completed tax-free restructuring. This will require that there was a business justification for the restructuring at the time of the restructuring. Under the permission system, it is then possible to apply for dispensation to sell within the first three years, without this triggering tax on the original restructuring.

The Danish Tax Agency refused the application for permission for the tax-free restructuring. The Authority found that there was no sufficiently weighty business justification.

The Danish Tax Agency emphasized that the justification regarding different dividend policies lost relevance, as the Complainant took over the other capital owner's holding company as early as approximately one year after the restructuring. Furthermore, the Danish Tax Agency found that there was no documentation that the group had realized or followed up on the plans for expansion of the hairdressing activities.

On this basis, the Danish Tax Agency found that the main purpose – or at least one of the main purposes – of the restructuring had been to enable a tax-free sale of the capital shares, which does not constitute a valid business justification under the merger tax directive and the Danish merger tax act.

The National Tax Tribunal found initially that the capital owners' different dividend policies generally relate to the capital owners' private financial interests and therefore do not on a stand-alone basis constitute a business justification. On the other hand, the tribunal considered disagreement between the owners as a matter of an operational nature, as such disagreements can affect the company's future operations. A restructuring with a view to preventing or handling owner conflicts can therefore be justified on business grounds.

The fact that one capital owner actually withdrew from the cooperation already one year after the restructuring as a result of disagreement was considered to support that this consideration was real and justified on business grounds at the time of the restructuring.

Regarding the purpose of expanding the business base, the National Tax Tribunal stated that such considerations are in principle justified on business grounds but require a certain degree of concretization. As it was documented that the capital owners in the second half of 2017 participated in a specific selection process regarding new premises, the tribunal found it probable that expansion of the business constituted a real justification at the time of the restructuring. It was furthermore given weight that the failure to realize the expansion was due to subsequent unforeseen events and the Company's financial development.

The National Tax Tribunal then referred to The Legal Guide (da: "Den Juridiske Vejledning"), according to which a sale resulting in a tax-free capital gain that follows relatively shortly after a tax-free restructuring may give rise to a presumption of tax avoidance, if the sale could not have been carried out tax-free prior to the restructuring.

However, the shares in the Company were not disposed of until two years and nine months after the restructuring, which could not be considered to be in immediate continuation thereof. The sale instead took place in close temporal proximity to a serious and unforeseen event in the Complainant's private life. Considering the ongoing and customary operational investments in the Company, the National Tax Tribunal found that the private event constituted the triggering cause of the sale.

At the time of sale, the Complainant was sole shareholder with full responsibility for the Company's operations and the employees' training. Under these circumstances, the sale was considered to be in the Company's interest and thus justified on business grounds.

As both the restructuring and the subsequent disposal before expiry of the holding requirement were considered justified on business grounds, the National Tax Tribunal found that tax considerations had not been the predominant factors. The Danish Tax Agency's decision was therefore amended, and permission was granted for the tax-free restructuring.

The decision emphasizes firstly the importance that a tax-free restructuring at the time of restructuring is justified on business grounds and can be documented as such, if there is to be an opportunity to sell within the first three years.

Secondly, the decision shows that if the sale is not considered planned from the start and if it can be considered to be justified on business grounds, there is a possibility to maintain the tax exemption. However, there is no doubt that the temporal aspect will be significant for whether permission is granted. The starting point is still that a sale within three years results in the original tax-free restructuring becoming taxable.