The amendment to the Business Corporations Act brings, among other things, some changes in the rules that concern the distribution and payment of a share in profit and other own funds and that came into effect on 1 January 2021. This article briefly sums up these changes.

Approval of financial statements and profit distribution deadline

A share in profit and other own funds continues to be determined based on regular or extraordinary financial statements approved by the highest body of a business corporation (i.e. by the general meeting or the sole partner).

The law now states that it is possible to distribute profit and other own funds based on approved financial statements until the end of the accounting period following the accounting period for which the financial statements were prepared.Thus, if the accounting period is a calendar year, the 2021 profit must be distributed by the end of 2022.

Profit distribution tests

The statutory body of a business corporation decides on the payment of a share in profit or other own funds, and such a decision is subject to approval by the highest body. However, the members of the statutory body must be sure that such a decision is in compliance with the law, in particular with the following profit distribution tests:

Balance sheet test

Based on the balance sheet test, the amount to be distributed in a capital company (i.e. a limited liability company and joint-stock company) or a cooperative may not exceed the sum of the profit or loss from the last ended accounting period, the profit or loss from previous years and other divisible funds, reduced by additions to reserve and other indivisible funds and by non-written-off development costs.

The amount to be distributed must be at least equal to the non-written-off part of development costs.

The balance sheet test, which is now included in the amended Business Corporations Act, has been adopted as a rule that limits profit share payments from Section 28 (7) of the Accounting Act. However, contrary to the Accounting Act, the balance sheet test applies not only to profit share payments (as stipulated in the Accounting Act) but also to the distribution of profit and other own funds. Thus, the balance sheet test is now used in the situation where development costs are not fully written-off, but the amount to be distributed is higher than non-written-off costs. In such a case, it will be necessary to reduce the amount to be distributed by non-written-off development costs.

Equity test

A capital company or cooperative may not distribute profit or other own funds if its equity before or after profit distribution drops below the subscribed registered capital increased by indivisible funds.

The equity test was previously regulated in Section 350 (1) of the Business Corporations Act and applied to joint-stock companies only. Based on current legislation, this test now also applies to limited liability companies and cooperatives.

Insolvency test

A business corporation may not pay out a share in profit or other own funds or an advance on such a share if it would result in its bankruptcy.

If profit shares cannot be paid out by the end of the accounting period due to a failed insolvency test, the right to profit share payment will expire.

The balance sheet test and the equity test are thus performed before the decision on profit distribution based on the financial statements is made. The insolvency test is performed right before profit shares are to be paid out.

Consequences of a profit distribution decision that is in violation of the law

If profit is distributed in violation of the law (especially in violation of some of the aforesaid tests), the statutory body will not be allowed to pay out any share in profit or other own funds. At the same time, there is a rebuttable presumption that those members of the statutory body who agreed to pay out such shares in violation of the law did not act with due care and are therefore liable for damage caused by such payment.

Furthermore, a profit distribution decision of the highest body that is in violation of the law and/or the articles of association, i.e. the aforesaid tests, has no legal effect.

If a profit share was paid illegally, i.e. based on an ineffective decision, the partner must pay back such a profit share, regardless of whether he was in good faith. This does not apply to joint-stock companies, where it is assumed that shareholders have in general less control over whether or not a profit payment decision is in compliance with the law and are therefore allowed to invoke good faith at the detriment of the members of the statutory body who, in such a case, bear the consequences of the illegal profit payment decision.

Profit share payment deadline

A share in profit and other own funds must be paid within three months of the day the company’s highest body made the profit distribution decision, unless otherwise specified by law, the articles of association or the highest body.

Profit or other own funds not paid out by the end of the accounting period due to a failed insolvency test will be transferred to the account of retained earnings of previous years.

Advance payment rules

A profit share advance can be paid only based on interim financial statements showing that the business corporation has sufficient funds to distribute profit. The sum of profit share advances may not exceed the sum of the profit or loss from the current accounting period, the profit or loss from previous years and other distributable funds, reduced by additions to reserve and other indivisible funds. A passed insolvency test is another requirement for paying out profit share advances.

Contrary to a regular profit distribution, it is possible to pay out profit achieved during the current accounting period that has not yet ended, in the form of advances.

The profit share advance must be paid back within three months of the day the regular or extraordinary financial statements were or should have been approved, unless the profit to be distributed based on the regular or extraordinary financial statements amounts at least to the sum of profit share advances paid in compliance with the law and the highest body decided to distribute such an amount.

Prohibition to provide any gratuitous consideration to the partner or a person close to the partner

A new requirement, which significantly tightens the rules concerning profit share payments in order to prevent circumvention of the law, prohibits business corporations from providing gratuitous consideration to the partner or a person close to the partner, with the exception of:

1. Usual occasional gifts;
2. Reasonable donations provided for public benefit purposes;
3. Consideration that satisfies a moral commitment or decency aspects; or
4. Benefits provided by a business corporation by law.

Any legal act made in violation of this prohibition will be found invalid, and it is therefore good to keep this prohibition in mind.

Act on Registration of Beneficial Owners

With regards to the rules concerning profit share payments, we should also mention new Act no. 37/2021 of Coll., on registration of beneficial owners, that will come into effect on 1 June 2021. It prohibits business corporations from paying out a share in profit or other own funds to a legal entity or trust fund that has no beneficial owner listed in the register of beneficial owners. Furthermore, it prohibits business corporations from paying out a profit share to a natural person – beneficial owner – if such a person is not listed in the register of beneficial owners as the beneficial owner. This prohibition to pay out a profit share also applies to legal entities or trust funds of which such a natural person is also the beneficial owner.

Therefore, if a business corporation is to pay out a profit share after 1 June 2021, its statutory body must make sure that both the business corporation paying out the profit share and the legal entity or trust fund receiving the profit share have their beneficial owner registered and that the person – beneficial owner – to whom the profit share is paid out, either directly or through other legal entities, is registered as the beneficial owner of the business corporation. If not, it means that the profit share was paid out illegally and with the consequences described above.

Just like in the case of a failed insolvency test, the right to a share in profit or other own funds, which was not paid out in compliance with the aforesaid rules by the end of the accounting period during which the decision on such payment was made, will expire.

And the prohibition also applies to voting in the highest body. A beneficial owner of a business corporation, who is not listed in the register of beneficial owners, cannot vote or make decisions in the highest body of this business corporation as its sole partner, nor can a legal entity or person acting on behalf of a trust fund of which he is also the beneficial owner.

A legal entity or a person acting on behalf of a trust fund that has no beneficial owner listed in the register of beneficial owners is not allowed to vote or make decisions in the highest body of the business corporation as its sole partner.

This would actually mean that no profit can be paid out to a beneficial owner who is not listed in the register of beneficial owners, or to a legal entity whose beneficial owner is not registered and also that such a person may not vote in the highest body on profit distribution (or any other matter).