Navigating the new tax-transfer rules in Poland
Janusz Dzianachowski and Monika Lerka from Linklaters law firm explain how to tax transfers these days
Until very recently, the VAT tax treatment of commercial real estate sale transactions in Poland was a common and stable practice, confirmed by an almost uniform approach by the tax authorities. Those who bought commercial real estate paid the 23% VAT on top of the purchase price, and the VAT was subsequently refundable – subject of course to specific conditions. In mid-2016, after around ten years of uniformity, the tax authorities started questioning the VAT treatment of commercial real estate sales and claimed that such transactions should be subject to a fixed 2% non-refundable transfer tax, rather than 23% refundable VAT (sometimes in contradiction to individual tax rulings issued for a given transaction in order to legally protect the purchaser).
It would be too simple to say that it’s all about money, but it is difficult to ignore that the main driver behind the change was the need to fill a gap in the state budget. The problem is that a real estate transaction volume and related VAT is not even close in terms of numbers to what is really needed. The Polish government decided to act against VAT-related fraud and carousels based on forged VAT invoices – apparently a ruse common in the oil & gas sector, where it is difficult to measure the quantity of the product. Commercial real estate seems to have fallen into the same basket, but for no good reason. The Polish property market is, and has always been, transparent and professional. Unlike the oil industry, real estate is perfectly measurable. It is simply not possible to cheat on tax.
When some investors started facing problems with reclaiming their VAT from the tax authorities, the rest of the property industry slowed down their projects and looked carefully at how acquisitions could be structured to avoid risk. Neither lawyers nor tax advisors were keen to advise pursuing asset acquisitions subject to VAT any longer. That meant a new approach had to be found in order to maintain investor interest in the market. The reaction was very quick, and transaction structuring moved from asset acquisitions to so called “enterprise deals”. The number of share deals also increased significantly.
Share deals are nothing new, but have become increasingly popular in real estate, and are fairly standard if the property is held by a special purpose vehicle (SPV). Obviously, things can always get more complicated if the holding company has a long history or conducted activities other than just holding the property. In such a case, a comprehensive due diligence is required, including on tax matter. This means extra cost and time. Although such acquisition of real estate does not benefit from certain statutory extra-protection, which is available in the case of asset deals, it seems that professional legal due diligence is valued highly enough and both purchasers and financiers accept this. Additionally, a full scope title insurance is offered on the market by a few global brands, often seen as an additional layer of protection. Tax treatment of share deals could be considered a “safer” option, not only because of clear and stable tax legislation in that respect, but most importantly because of the actual tax the investor needs to pay: 1% of the net asset value in the case of a share deal, against 2% of the deal value in the case of an asset or enterprise deal.
Enterprise acquisitions have also become one of the most popular structures and are, to a large extent, designed to manage the expectations of the tax authorities. In enterprise acquisitions, the investors are acquiring the entire operating business of the seller, or relevant organised parts, which covers not only the properties but also the contracts, rights attached to the assets, receivables, know-how, trademarks and licenses as well. The purchaser will remain jointly and severally liable with the seller for the seller’s undisclosed business liabilities. The good thing is that the liability for seller’s tax can be excluded by obtaining so-called “tax certificates” from the authorities before the transaction closes. The downside is the 2% non-refundable transfer tax payable by the purchaser on top of the price. This is still one of the lowest real estate transfer tax rates, compared to those applicable in other EU member states!
Manage the risk
Although the trust vested with the individual tax rulings has been questioned when the VAT deals have become challenged, it should not be forgotten that this is still a powerful instrument and offers protection guaranteed by law. It is very important that the application for the individual tax rulings clearly corresponds to the way the underlying transactions are structured. This is because the tax ruling would only allow protection if there are no material deviations from what was stated in the application and what was eventually acquired.
Another solution which investors use, applied in both asset and enterprise deals, is to economically split risk related to potential challenges of the transaction. The parties often agree to share the costs of penalty interest, VAT-related penalty payment and even the amount of the transfer tax, despite the fact that some of these by law should be payable by the purchaser only. It seems that the execution of additional contractual “rules of conduct” in such cases has become a new standard in real estate transactions.
We have also encountered tax risk insurance, which is a new product available to investors. It is designed to secure the risk of challenging the transaction after the closing. There are several options available, offering cover for the entire VAT amount or the VAT amount together with penalty interest and VAT additional or any mixture thereof. It is still not very popular, but this will surely change. Increasing popularity may also bring some more flexibility with pricing which remains high.
Despite the asset deals-related risks, the market has offered alternative ways for completing transactions. Obviously, there is no one-size-fits-all solution and each transaction should be examined individually to find a structure that match investors’ expectations and guarantees necessary protection. But with just a little effort, this can all be achieved.
Janusz Dzianachowski is a Partner at Linklaters Warsaw Real Estate Practice with many years experience in advising international and domestic corporations, investors and developers on major real estate transactions in Poland and the CEE region. He has particular knowledge of the logistical, retail and office space sectors.
Monika Lerka is senior associate in the Linklaters Warsaw Real Estate Practice, with over six years’ experience in advising foreign and domestic investors in real estate transactions including sales and acquisitions of office buildings, shopping centres and logistics parks as well as property development and leasing.