Participation in a company other than a legal person – a change in the proportion of the profits of the limited partnership

The article presents a case study on whether the change during the financial year and after the end of the financial year the proportion in which the subsidiary participates in the profits of the limited partnership is linked to the correction of the advance on income tax and the calculation of interest on late payment.

The authors describe the facts and, in the justification of their position on the solution to this problem, draw attention, among others, to the issue of tax transparency and interpret specific provisions concerning the payment of advances on corporate income tax.

In relation to the issue of the change in the proportion of the share in profit, reference is made to the provisions of the Law of 15 September 2000 – Commercial Companies Code 1 (Further k.s.h.), and in their commentary also refer to tax interpretations and case law.

1. Facts

Alfa sp. z o.o. is a partner (complementary) of the limited partnership Alfa sp. z o.o. sp.k., which conducts business in the field of furniture production and sales. second The deputy is Jan Kowalski. The consultants in the company are Beta sp. z o.o. and Zygmunt Nowak.

The financial year of the limited partnership corresponds to the calendar year. The partnership agreement lays down the rules on which partners participate in the profits and losses of the company.

Initially, the share of shareholders in the profit of the company was determined proportionally to their contributions (provisional proportion). Complementaries Alfa sp. z o.o. and Jan Kowalski were awarded a share of the profits of 35%, and the share of profits of the consultants Beta sp. z o.o. and Zygmunt Nowak amounted to 15%.

Under the agreement of the limited partnership, the proportion of the share of profits may be changed by shareholders during the year by means of a resolution.

On 15 July 201X the partners adopted a resolution on the change in the proportion of the share in the profits of the limited partnership from 1 August 201X in such a way that the participation of the subsidiary Alfa sp. z o.o. was increased to 40%, and the participation of the associate Jan Kowalski was reduced to 30%.

The shares of the consultants remained unchanged.

The agreement of the limited partnership also provides that, after the end of the financial year in question and after consideration and approval of the financial statements of the company for the previous financial year, depending on the financial result and the extent to which the individual partners contributed to the income, a resolution on the determination of the so-called final proportion may be adopted, i.e.

the proportion in which the profit of the company will be divided. After the end of the financial year (from 1 January 201X to 31 December 201X) a resolution was adopted to determine the final proportion resulting in the share of profits of the subsidiary Alfa sp. z o.o.

45%, and the participation of the associate Jan Kowalski was reduced to 25%. The shares of the consultants remained unchanged. According to this proportion, the profit of the company which amounted to 1,000,000 PLN. Alfa sp. z o.o. operates a marketing business. The financial year of the company corresponds to the calendar year.

The company pays monthly advance payments for income tax.

1.2. Problem

Is the change in the financial year and after the end of the financial year in which the subsidiary Alfa sp. z o.o. participates in the profits of the limited partnership necessary to correct the advance payments made during the financial year (tax) on income tax from legal persons and the potential payment of interest for late payment?

1.3. Authors' position

The change during the financial year and after the end of the financial year in which the subsidiary participates in the profits of the limited partnership does not entail an adjustment of the advance on income tax and does not result in interest on late payment.

1.4. Reasons

1.4.1. Tax transparency

The limited partnership is transparent from the point of view of tax law, which means that the tax payers are partners who are natural or legal persons (complementaries and limitedaries), not the company itself.

Depending on whether a partner of a limited partnership is a taxpayer of income tax on natural or legal persons, the provisions of the Act of 15 February 1992 on corporate income tax 2 (Next the Corporate Income Tax Act) or Act of 26 July 1991 on personal income tax[3]. Complementary Alfa sp. z o.o. is a taxpayer of corporate income tax.

1.4.2. Rules for attributing income from participation to shareholders

The implementation of the transparency principle requires the definition of the rules for assigning to shareholders income from participation in the company.

In Polish tax law, there is a model of attributing to shareholders the tax revenues and costs established at the level of a company which is not a legal person, and the tax income, as an excess of revenue over the cost of obtaining them, is determined with the shareholders[4].

On such an established income, the partner of the company (here: limited partnership) is obliged to pay advances on income tax.

Revenues from participation in a company which is not a legal person (including a limited partnership) in each taxpayer (shareholder) shall be determined in proportion to its right to participate in profit (share). In the absence of contrary evidence, the rights to share in profit (share) shall be deemed to be equal.

These rules shall apply mutatis mutandis to the accounting of, inter alia, revenue and loss costs[5]. By due income[6] for the participation of a legal person (here: Alfa sp.

z o.o.) in a limited partnership, for the purposes of calculating the amount of income tax advances, the share of income generated during the settlement period by such a company that corresponds to the ratio to the share of profits in the interest in advance is to be understood by the relevant shareholder.

1.4.3. Advances on tax

According to Article 25(1) the Corporate Income Tax Act taxpayers are, in principle, obliged to pay monthly advances to the tax office's account in the amount of the difference between the tax due on income generated from the beginning of the tax year and the sum of the advances due for previous months.

The tax liability in income tax is settled during the annual periods, therefore from the aforementioned regulation Article 25(1) the Corporate Income Tax Act it follows that the advances are paid to a tax receivable not yet settled, but that they are in principle equivalent to the tax due on revenue generated since the beginning of the tax year.

Advances on a monthly basis 20. the day of each month for the previous month. Advance payment for the last month of the tax year 20. day first the month following the tax year.

The taxpayer shall not pay the advance for the last month if, before the expiry of the time limit for its payment, the taxpayer makes a statement and pays the tax resulting from the statement.[7]. Therefore, Alfa sp.

z o.o., for the calculation of advance payments on income tax for individual months 201X, including the share in a limited partnership, was required to calculate on an ongoing basis the income for those months, taking into account the proportion in which it participates in the profits of the limited partnership.

Tax payers shall in principle be obliged to provide the tax offices with a statement, according to the established formula, of the amount of income earned (loss incurred) in the tax year to the end third the month of the following year and within that time limit, pay the tax due or the difference between the tax due on the income shown in the statement and the sum of the advance payments due for the period from the beginning of the year[8].

In the light of that provision, the tax resulting from the annual statement is the tax due for a given year. Where there is a difference between the tax due and the advance payments paid for that tax, the taxable person shall not be obliged to settle the ‘early advance’ but the difference in the tax due.

The settlement of advances on tax can only be made until the end of the tax year, which means that the advance on tax loses its legal status at the end of the tax year. The end of the tax year gives rise to an obligation to settle annual and finalise the amount of income tax due.

1.4.4. Change in the proportion of profit

The share of shareholders in the profits (and losses) of the limited partnership may, in principle, be determined by the shareholders in the partnership agreement.

On the basis of k.s.h., the principle was adopted (which may be modified by partners in the agreement) that each supplemental has the right to equal share in profit and participates in losses in the same ratio, regardless of the nature and value of the contribution[9].

In the event of doubt set out in the contract, the subsidiary’s share of profit also refers to the share of losses. In the case of the consultants, the determination of the level of interest in profits and losses was dependent on the contributions made and the contractual contributions.

The contributions were made to those actually transferred to or made available to the company. The contractual contributions, on the other hand, include those for which the partners have agreed in the company agreement. According to Article 123 k.s.h.

the limited partnership participates in the profit of the company in proportion to its contribution actually contributed to the company (unless the articles of association provide otherwise). In the event of doubt, the consultant shall participate in the losses only up to the value of the agreed contribution[10].

From a legal point of view, it is permissible to change the proportion of profit during the tax year. Such a change may take place by amending the articles of association or by virtue of the resolutions of shareholders, if the articles of association so provide.

The question then arises of the impact of this change on the tax settlements of partners. There is no doubt that it reflects advances on income tax from the moment it is effectively implemented[11].

When the partners during the financial year (tax year) adopted a resolution whereby the temporary proportion was replaced by a revised proportion, Alfa sp. z o.o. was required to calculate and pay advances on the income tax established on the basis of the revised proportion.

The change in proportions during the tax year has consequences for the future, meaning that the revised proportion should be taken into account from the month of the amendment (here: from 1 August 201X).

The determination of the amount of the next (after a change in proportion) advance requires the determination of the amount of income generated from the beginning of the year according to new rules and deduction from this value of the advances paid for previous months.

Where a change in the proportion of profit has taken place retroactively, e.g.

since the beginning of the current tax year (here: final proportion), the question arises whether the amount of advance payments on the tax of individual shareholders that relate to the settlement periods prior to the change in the proportion shall be corrected and, if it is found that the amount of advance payments calculated on the basis of the current proportion is lower than that after the change, the interest on tax arrears should be paid.

The positions of tax authorities in this respect are not uniform. For example, in an individual interpretation from 7 March 2012 12 The Director of IS in Warsaw considered that since the increase of the taxpayer’s share of the profits of a passenger company was to apply retroactively, i.e.

Since the beginning of the calendar year, it should be considered that the advance payments he has paid for income tax have been unduly paid.

The chronology of the events did not allow advances to be paid during the period up to a change in the proportion of the share of the profit in the appropriate amount, but the taxpayer, as a partner of a company, agreed to establish new rules for the distribution of profits with effect from the beginning of the calendar year and must bear the resulting tax consequences.

The Authority considered that the taxpayer should correct the advance payments paid before the change in the proportion of the company’s profit share of the company’s income tax contribution, and that if this adjustment results in a tax arrears, it should compensate it with interest on late payment.

The tax arrears are also considered to be a non-payment advance for the tax (Article 51(1)(2) Act on 29 August 1997 - Tax Ordinance, Further: (p)[13].

In an individual interpretation of 8 May 2013[14] The Director of IS in Katowice considered that as a result of the change in the taxpayer's share of the profit of the company after the end of the year (for the entire tax year) there would be no obligation for him to adjust the advance on income tax for the past tax year.

However, the loss of the legal status of advances is not an obstacle to the calculation of interest on late payments from the unpaid advances in due amount.

If the taxpayer's share of the profit of the company for the whole tax year changes, the amount of the tax base on which the advance payments should be calculated and paid and, consequently, their amount will also change.

1.4.5. Reverse adjustment of advances on income tax

The view of the absence of an obligation should be accepted, in the event of a change with retroactive effect of the proportion of the company’s profits, to adjust the advance on income tax retroactively.

If the taxable person has made an advance of the amount determined on the basis of the proportion agreed, the advance shall be deemed to have been paid in time and at the appropriate amount.

As a result of later events, it is not necessary to assume that the advances that were calculated and paid correctly on the day of removal were paid at the wrong amount. Advances constitute contributions to an outstanding tax liability.

The definitive determination of the basis for calculating the tax shall only take place after the end of the tax year in the annual statement.

Thus, if the total amount of advance payments paid by the taxpayer during the year is lower than the amount of tax due for the year in question, there will be a difference which the taxpayer is obliged to pay to the tax office within the time limit for the submission of the annual statement.

Otherwise, the excess payments made in the annual statement shall be reimbursed to the taxpayer by the tax office.

1.4.6. Tax arrears arising

The position cannot be accepted that, where the profit share of the company for the whole tax year, determined on a retroactive basis, will be higher than that assumed during that year on the basis of the existing proportion, there will be tax arrears.

It is only possible to speak of the coming if the taxable person is definitely available, i.e. when a given delivery is already or is to become a part of it. In the event of a change (increase) in the profit share of the company with retroactive effect, the revenue resulting from the increased share will only occur upon that change.

Therefore, it is only from the moment of the change that we can talk about increased income and, as a result, higher advances on income tax.

There is no reason to believe that, when making advance payments for periods prior to the change in the proportion (increase in the share), the shareholder defined them at a lower level than was due to his power as a partner of a partnership.

The fact that the amendment resulted in an additional retroactive claim should not lead to the conclusion that the partner remained in delay in making advances on income tax and that he should pay interest on that delay. This is also confirmed by tax authorities[15]. It also prevails in judicial and administrative caselaw[16].

In a company that is not a legal person, it is not necessary for the shareholders to adopt a resolution on the allocation of profits to be paid to certain shareholders (as opposed to capital companies). The gross profit of such a transparent entity shall be equal to the net financial result.

These units do not hold an account of ‘Awards tax and other mandatory financial outturn charges’.

The financial result of the company, determined in accordance with the general principles for the financial year in the ‘Financial outturn’ account, shall be transferred, after approval of the financial statements, to the ‘Financial outturn settlement’ account. The breakdown is therefore subject to gross profit or loss.

1.4.7. Transfer prices

The tax authority may verify the level of the distribution of the profits of such a company by related entities. The concept of a controlled transaction is broad and covers economic activities between related parties. The formation of a limited partnership, in order to carry out business ventures, will constitute a controlled transaction. The possibilities of using the benchmark are limited due to the inaccessibility of comparative data.

1.4.8. Summary

The change in the course of the financial year and after the end of the financial year the proportion in which the subsidiary Alfa sp. z o.o. participates in the profits of the limited partnership does not require it to adjust the advances paid during the financial year (tax year) on corporate income tax and payment of interest on late payment. In order to assess whether there has been a delay in the payment of advances, the time when these advances were paid is valid.

Legal basis

Article 51(103) k.s.h., Article 51(1)(2) o.p., Article 5(1-2), Article 12(3), Article 25(1)(1a), Article 27(1) the Corporate Income Tax Act ______________________________________________________________________________________