Regional court: tax exempt sale of shares financed by a tax exempt dividend is abuse of right

In the case in question (31 Af 29/2017), individuals sold their shares to an unrelated limited liability company. As the sale took place after the elapse of a “time test” period, the proceeds from the sale of the securities were exempt from income tax. Previously established by a spin-off of funds, the joint-stock company being sold then paid dividend to the limited liability company. Here, as well, the formal conditions for exempting the dividend paid between a parent and a subsidiary were met. From the divided received, the purchase price was paid to the original shareholders. Soon after that, both companies entered liquidation.

In the tax administrator’s opinion, the whole chain of transactions was motivated solely by an effort to transfer funds from the joint-stock company to its shareholders without paying any tax. The tax administrator could not see any other economic rationale for the sale of the shares and the subsequent dividend payment, therefore treated the whole situation as an abuse of right. Accordingly, a tax on the dividend paid was additionally assessed. The regional court agreed with the tax administrator that in the case in question, both the subjective and the objective criteria of the abuse of right test were met. Gaining a tax advantage was contrary to the purpose of the legal regulation, although formal criteria were met. Also, the circumstances of the case implied that tax savings were the primary purpose of the transaction.

The abuse of right concept is not yet explicitly regulated by Czech tax law; its incorporation in legislation is proposed within the 2019 tax package. Despite that, the principle has been already applied, based on the stable case law of Czech and EU courts, as the above judgement illustrates.