Does an asset deal prevent the transfer of historical tax risks in Russia?

May 29, 2018

It is usually understood that an asset deal should safeguard the buyer from the historical tax risks of the target company. To what extent this is true we would seek to illustrate based on the arbitration court case No. A36-2394/2016. The court ruled that the tax authorities were entitled to claim outstanding tax liabilities from the audited company's affiliate to which, in the authorities view, the audited company's business was transferred.

There are three main ways in which an acquisition can be structured in Russia:

Through an asset deal;
Through a share deal; or
Through the acquisition of a property complex.

The tax authorities carried out a field tax audit of a company called PC Vtormet. As a result of the audit, the tax authorities assessed the company with additional taxes, related fines and late-payment interest. The company sought to litigate the tax authorities' claims in court but lost the litigation case. As can be seen from the court's decision after the claims were raised, the bankruptcy of the audited company commenced and ultimately no claims were paid to the authorities. The tax authorities pursued the company to which the audited company's business had been transferred.

In the authorities' view, the audited company deliberately transferred its business to an affiliate so that it would be unable to settle the claims. Thus, in particular: personnel employed by the audited company had been moved to another company with the same name which was established by an employee of the audited company; the audited company terminated contacts with its main suppliers and customers and the affiliate subsequently entered into similar contacts with the same counterparties; and so on. It is not entirely clear from the case whether assets were sold to the affiliate, but it might be fair to assume that this was the case.

The facts that the authorities presented to prove an affiliation and subsequently to claim outstanding taxes from the affiliate included the following:

The affiliate had the same name as the audited company;
The companies were registered at the same address;
The companies had the same telephone numbers and e-mail addresses;
The companies were engaged in the same business activity; and
The affiliate and the audit company used the same trademarks.

The court supported the opinion of the authorities that the transfer of business had been done in order to avoid payment of tax liabilities by the audited company and that the companies involved should be treated as affiliates.

This case demonstrates that even the acquisition of shares or participation interest in a newly created company does not automatically provide a guarantee that the company has no historical tax liabilities which can be transferred to the company from related parties. Thus, we recommend implementing the right due diligence procedures even in relation to a newly incorporated company, especially if it received a functioning business from a related party.