Many investors and entrepreneurs, who are carrying around the idea of exiting their investments and putting the money they earn into new investments in the form of Venture Capital, think about an Alternative Investment Fund (AIF). They think… because in practice they deal with business and its development on a daily basis, which is simply time consuming. It is hardly surprising that the last thing they dream of is sitting down to an arduous trial with lawyers on a Friday night. That is why in 7 out of 10 cases, the client’s contact comes at a time when they are wondering whether it is too late and whether AIF is for them at all.
In order to benefit from the exemption offered by the legislator, the AIF must have been operating and holding shares in its companies for at least 24 months. In addition, time must be allowed for the establishment of the AIF and the contribution of assets to it, which could mean an additional 6 or even 9 months. Which constitutes a total of… How much? 33 months? Yes, it does not sound encouraging. Therefore, I present in a nutshell our experience and a short scenario accompanying the registration process of the last AIF, which we carried out with an investor in… 1.5 months.
As we approach the process, each investor, despite having read a lot of material about how AIF works, still has specific questions and concerns. We answer what steps to take so that your AIF can manage your assets and that you get the result which is a tax-safe investment and then your AIF’s exit from such an investment. It is certainly tax free, because that is the purpose of an AIF.
Here, in a nutshell, are the answers to the most important client questions about the Alternative Investment Found, its establishment and operation:
Q1. Will every asset contribution transaction be exempt from taxation?
The contribution of company shares to an AIF should be exempt from taxation when certain conditions are met, namely: (i) there should be a transfer to the AIF of at least an absolute majority of the voting rights in the company and (ii) the contribution was made for legitimate business reasons.
What are legitimate business reasons? It is when cost and result account makes us take certain, and no other, decisions, and it is not just due to tax considerations.
Q2. Under what conditions will my AIF be eligible for tax exemption?
In the event of a subsequent disposal of shares by an AIF, it will be able to benefit from the tax exemption of the income derived therefrom. The main conditions for the exemption are to hold at least 5% of the shares in the company for at least 2 years prior to the moment of disposal (yes! from 2022 there is only 5%). The two-year period should be counted from the moment the in-kind contribution is registered to the moment the shares are sold. The sale of shares before the end of this period will be taxed at 19% on the part of AIF.
Distributions from an AIF to an individual shareholder will be taxed at 19%, regardless of the amount distributed.
Q4. How is the dividend received by AIF taxed?
The operating company will be taxed according to general principles. An AIF will be able to take advantage of the exemption for dividends received, it will be necessary to hold 10% of shares for at least two years in order to obtain the exemption, however this exemption, unlike in the case of disposal of shares, may be used immediately (provided that the two-year period is observed, of course).
With regard to the length of time an AIF has held the shares, two years are required for both the exemption from dividends and the sale of shares, except that the exemption from dividends is available immediately.
Q6. Will there be any difference in the taxation of dividend from a company in which AIF has a stake in case AIF holds less than 5% or before 2 years.
Such a dividend will be taxed, i.e. there will be no exemption. For the exemption from dividends 10% of the shares for two years are needed. If an AIF sells the shares before two years and loses 10%, the dividends will be taxed (including those previously exempted)
Q7. What information and documents are needed to set up an AIF?
To start the process of founding an AIF we need to know what the company will do and what its investments will be. It is also important who will manage such an AIF. The documents that we will need to start the project are usually obtained in a few days.
Q8. How long will I have to wait to set up my AIF?
The process of AIF registration is carried out in the Polish Financial Supervision Authority and in the National Court Register (in that order). The processes cannot be conducted simultaneously. An application for registration of an AIF with the KRS can only be submitted after its registration with the PFSA. Many factors have an impact on the time of AIF registration. The smooth cooperation of the client is very important; in practice, the subject matter of the AIF’s activity is also important. Certain types of AIF investments may generate more penetrating questions from the PFSA.
At this point we can boast that AIF’s registration time averages 3 months. Our record was much shorter. By setting up more AIFs for clients we have learnt how to streamline the process – when time is of the essence to your plans, we invite you to contact us.
Q9. Once we have a registered AIF – how do we set up an operating company under the AIF?
An AIF can set up a new entity with funds raised from investors or with funds earned from investments, e.g.: from dividends or the sale of shares.
When making a contribution/exchange of shares, it is important to properly value the contribution to an AIF. Since it is likely to be a transaction between related parties, the value of the shares made as a contribution to the AIF should be valued at market value as at the date of the contribution. Otherwise, there is a risk of overestimation of costs by the company, which in turn may lead to overestimation of the AIF’s income in case of control.
At the same time, in the case of a contribution in kind that will take the form of an exchange of shares, it should be borne in mind that the conditions for exemption, in addition to the acquisition of 50% of the voting rights in the company by the AIF, in 2022 will also be:
- the business justification of the entire transaction (i.e.: obtaining the tax exemption cannot be the main or one of the main purposes for making the transaction in the form of an exchange of shares),
- the original obtaining of the shares contributed by the existing shareholder in a form other than a share exchange or merger (i.e., the shares in the company you currently hold should not have been obtained by you through a prior share exchange or merger)
Q11. How has the AIF changed under the New Deal?
The AIF, after the New Deal regulations has come into force, works the same way. The changes that have been made are in favour, i.e. the AIF investment threshold has been lowered from 10% to 5% which allows for exemption from capital gains tax. From now on, the exemption will cover transactions in which the AIF disposes of shares (stocks) if they represented not less than 5% in the capital of the company whose shares (stocks) are disposed of.
The second change concerns the relief for AIF investors. This relief does not apply to the AIF itself. The investor will be able to deduct from the tax base 50% of the expenses (max. PLN 250,000) incurred for the purchase or acquisition of shares in AIF or directly in the company in which AIF holds shares.
Q12. What is the difference between an AIF and a holding company in the New Deal?
From January this year, we can set up a limited company or a holding company, which will have analogous tax exemptions for income from the disposal of shares (100% exemption) and for dividends (95% exemption). The use of holding companies will need to be tamed by the market as the new regulations provide for many conditions for the application of the exemption. There are no such conditions for AIF. In addition, an important difference between an AIF and a holding company is that an AIF can be used for “managing someone else’s capital”. Thus, an AIF is used to also raise capital of other investors who will not later be involved in the investment process. That is, in an AIF, unlike a holding company, we make investment decisions on behalf of investors, with the aim of continually multiplying capital in their interests.
How to set up an AIF in a few weeks – summary
An AIF is a vehicle for people who plan to undertake investment activities using their own or someone else’s funds. The new simplified method of operation of such a company – fund significantly reduces the costs of its maintenance and management, compared to Closed-End Investment Funds (non-public CEFs), which we have known for many years. On the other hand, if we want to use a special purpose vehicle for one or two private investments, it may turn out that an ordinary limited liability company – a holding company – will be sufficient.
Thus, in every investment process the decision concerning the choice of an investment company is important, and even before that it is important to plan the mode of supplying such a company with capital or target assets. This aspect is equally important, due to the complexity of tax regulations. Especially after 1 January 2022, such an aspect requires special analysis.