Portugal private clients series, part two: Opportunities on the sale of shares of small and micro companies
Ana Carrilho Ribeiro and António Queiroz Martins of Morais Leitão, Galvão Teles, Soares da Silva & Associados report opportunities on the taxation of capital gains arising from the sale of SMCs, in the hands of resident and non-resident individual shareholders.
The Portuguese start-up and entrepreneurial scene has been blooming in recent years, which frequently leads to founders and investors needing to plan their exit in companies and investments which have matured. In those cases, Portuguese tax opportunities may be hiding in plain sight.
This article intends to highlight the beneficial tax treatment that may apply to the sale of small enterprises and microenterprises (SMCs) in the hands of Portuguese tax resident shareholders (and their extent, according to the latest case law), as well as to identify opportunities that may apply to the sale of shares in such companies by individuals resident in other EU or EEA jurisdictions.
The rules applying to resident individual shareholders
Generally, in the hands of Portuguese tax resident shareholders, gains arising from the sale of shares are taxed at a special 28% rate. Furthermore, the Personal Income Tax Code sets forth a tax benefit applying to capital gains arising from the sale of shares of SMCs, consisting of a reduction of the taxable basis of the capital gain – which shall be considered as only 50% of its value (the ‘Special Regime’).
As such, this Special Regime allows for a 50% reduction of tax payable on such capital gains, as the applicable effective tax rate will decrease to 14% (compared with a tax rate of 28% applied to capital gains arising from the sale of shares of companies not fulfilling the conditions to be considered an SMC).
According to Decree Law 372/2007 of November 6 (and as amended by Decree Law 13/2020 of April 7), which refers to the Commission Recommendation of May 6 2003 concerning the definition of micro, small and medium-sized enterprises, a small enterprise is defined as an enterprise which employs fewer than 50 persons and whose annual turnover and/or annual balance sheet total does not exceed €10 million (about $10.6 million), while a microenterprise is defined as an enterprise which employs fewer than 10 persons and whose annual turnover and/or annual balance sheet total does not exceed €2 million.
An overview of case law relating to the tax benefit
The Portuguese tax authorities (PTA) took the stance that the Special Regime should only apply to capital gains arising from the sale of Portuguese tax resident SMCs. However, the Portuguese Tax Arbitral Court (CAAD) has issued decisions upholding taxpayers’ claims, which, in summary, sustain that the EU principles of free movement of capital and right of establishment between EU member states must preclude this restrictive interpretation.
As such, and as of today, five decisions have been published by the CAAD sustaining that the Special Regime must also apply to gains arising from the sale of shares of non-resident companies, and deeming the PTA’s tax position as illegal. A request for a preliminary ruling has been submitted to the Court of Justice of the European Union on this matter (Case C-472/22).
An opportunity for non-resident individual shareholders
Generally, non-resident individual shareholders realising capital gains from the sale of shares of Portuguese companies are able to benefit from an exemption from Portuguese personal income tax, either under the terms set forth by domestic tax law or as provided for in a double taxation agreement (DTA).
Notwithstanding, the exemption from Portuguese tax may not apply in certain cases, such as if the company whose shares are being sold holds Portuguese real estate assets of a given nature or of a certain value, in which case the domestic exemption may not apply, and the DTA may allow Portugal to tax such gains.
In such a case, the law sets forth that a capital gain derived by a non-resident shareholder is subject to tax at a 28% PIT rate, regardless of whether the company qualifies as an SMC.
In the authors’ view, and relying on comparable case law, there are strong arguments in favour of the EU principles of free movement of capital and right of establishment precluding Portuguese law from not making the Special Regime available to non-resident individual shareholders in such cases. Thus, the latter should also benefit from a 50% exemption on capital gains derived from the sale of shares of Portuguese SMCs. Successfully upholding such a claim may reduce the effective taxation of the taxable gain by half.
Founders and entrepreneurs invested in SMCs should carefully plan their divestment, namely through examining whether an opportunity to significantly reduce income taxes is available, which should be carefully analysed on a case-by-case basis.
Click here to read the first article in this series, on the proposed changes to the taxation of stock options in Portugal.