Cross-Border Mergers between Cyprus Companies and EU Registered Companies

Cross-border mergers have become an essential component of the modern business landscape, enabling companies to expand their reach, access new markets, and achieve synergies. In the European Union (EU), the legal framework governing cross-border mergers has evolved significantly over the years, facilitating the merger process and reducing tax barriers.

This article explores the legal and regulatory framework for cross-border mergers between Cyprus companies and other EU registered companies, with a particular focus on the tax implications and relevant legislation. It also examines the differences in the process and tax implications when merging with a non-EU company.

Legal Framework and Relevant Legislation

European Union Merger Directive

The EU Merger Directive (Council Directive 90/434/EEC, as amended by Council Directives 2005/19/EC and 2009/133/EC) sets the foundation for the legal framework governing cross-border mergers within the EU. Its primary objective is to eliminate tax obstacles in the area of mergers, divisions, partial divisions, transfers of assets, and exchanges of shares involving companies from different EU Member States. By providing for tax neutrality in qualifying mergers, the Merger Directive promotes cross-border reorganisations and the functioning of the EU single market.

Key features of the EU Merger Directive include:

Deferral of taxation: The Directive allows for the deferral of taxation on the gains resulting from a qualifying cross-border reorganisation. This means that any gains derived from the transaction are not taxed immediately but are rolled over and taxed when the assets involved are subsequently disposed of.
Neutrality principle: The Directive adopts a tax neutrality principle, which means that a qualifying cross-border reorganisation should not result in any additional tax burden compared to a purely domestic transaction. This ensures that the tax consequences do not create a barrier to cross-border reorganisations within the EU.
Exchange of shares: One of the conditions for a qualifying merger under the Directive is that the transaction must involve an exchange of shares in the acquired company for shares in the acquiring company. Any cash payment made as part of the merger should not exceed 10% of the nominal value of the shares issued.
Step-up in basis: The Directive provides for a step-up in the tax basis of the assets and liabilities transferred in a cross-border reorganisation. This means that the acquiring company takes over the tax basis of the assets and liabilities at their market value at the time of the transaction, which may result in a higher tax basis and lower future capital gains taxation.
Losses: In certain situations, the Directive allows for the transfer of losses from the transferring company to the receiving company, subject to specific conditions and limitations.
Withholding taxes: The Directive provides for the elimination or reduction of withholding taxes on dividends, interest, and royalties paid between companies involved in a cross-border reorganisation, subject to specific conditions.

It is important to note that the EU Merger Directive sets minimum standards for the tax treatment of cross-border reorganizations. EU Member States may provide more favourable tax conditions in their national laws, and the Directive must be implemented and interpreted in conjunction with local legislation in each Member State.

EU Directive on Cross-Border Mergers (CBMD)

The EU Directive on Cross-Border Mergers (Directive 2005/56/EC, as amended by Directive 2017/1132) provides the procedural framework for cross-border mergers between limited liability companies incorporated in the EU. The CBMD establishes a harmonised set of rules for the approval, execution, and registration of cross-border mergers, ensuring legal certainty and reducing administrative burdens.

Key provisions of the EU Directive on Cross-Border Mergers include:

Scope: The Directive applies to cross-border mergers involving limited liability companies from two or more EU Member States. It does not cover mergers between companies from the European Economic Area (EEA) or non-EU countries.
Types of Mergers: The Directive recognises three main types of cross-border mergers:
- Merger by acquisition: An existing company acquires the assets and liabilities of one or more other companies, which are dissolved without going into liquidation.
- Merger by the formation of a new company: Two or more companies transfer their assets and liabilities to a newly formed company and are dissolved without going into liquidation.
- Merger by absorption of a wholly-owned subsidiary: A parent company absorbs its wholly-owned subsidiary, which is dissolved without going into liquidation.
Common Draft Terms: The merging companies must prepare common draft terms of the merger, which include essential information such as the share exchange ratio, the terms for the allotment of shares, and the proposed merger’s effective date.
Disclosure and Information: The merging companies must disclose the common draft terms and other required documents, such as management reports and expert reports, to their shareholders and, if required, to the public. This disclosure must occur at least one month before the shareholders’ meeting to approve the merger.
Shareholders’ Approval: Each merging company must hold a separate shareholders’ meeting to vote on the proposed merger. The approval requirements for the merger may vary depending on the national laws and the companies’ articles of association.
Employee Participation: The Directive includes provisions for employee participation in the merged company, based on the principles of the European Company Statute (Directive 2001/86/EC). This ensures that employee rights and involvement are maintained during and after the merger process.
Regulatory Approvals: The merging companies must obtain any necessary approvals from courts, regulators, or other competent authorities in their respective countries before completing the merger.
Protection of Creditors: The Directive provides for the protection of creditors during the merger process, ensuring that their rights are preserved and that they have an opportunity to raise objections if their interests are at risk.
Registration and Completion: The merger is completed once it has been registered with the relevant commercial registers or other competent authorities in both countries involved. This registration signifies the legal transfer of assets and liabilities and the dissolution of the merging companies, as applicable.

Cyprus Companies Law

In Cyprus, the Companies Law (Cap. 113, as amended) incorporates the provisions of the CBMD and governs the process of cross-border mergers involving Cyprus companies. The law sets out the procedural requirements for the merger, such as the preparation of the draft terms of the merger, the approval of the merger by the shareholders, and the registration of the merger with the Cyprus Registrar of Companies.

The Companies Law (Amending) (No. 3) Law of 2007 (Law No. 186(I)/2007) transposes the EU Directive on Cross-Border Mergers (Directive 2005/56/EC) into national law, thereby facilitating cross-border mergers between Cypriot and other EU companies.

The provisions of the Companies Law (Amending) (No. 3) Law of 2007 address similar requirements as those highlighted in the EU Directive on Cross-Border Mergers, such as:

Scope and Applicability: The law applies to cross-border mergers involving a Cypriot company and one or more companies registered in other EU Member States.
Types of Mergers: The law recognises merger by acquisition, merger by the formation of a new company, and merger by absorption of a wholly-owned subsidiary.
Common Draft Terms: Merging companies must prepare common draft terms of the merger, including essential information such as the share exchange ratio, terms for the allotment of shares, and the proposed merger’s effective date.
Disclosure and Information: Merging companies must disclose the common draft terms and other required documents to shareholders and, if necessary, the public, at least one month before the shareholders’ meeting to approve the merger.
Shareholders’ Approval: Each merging company must hold a separate shareholders’ meeting to vote on the proposed merger, requiring a majority of at least 75% of the votes cast at the shareholders’ meeting in Cyprus.
Employee Participation: The law incorporates provisions for employee participation in the merged company, in line with the EU Directive on Cross-Border Mergers.
Regulatory Approvals: Merging companies must obtain necessary approvals from relevant authorities, such as the Registrar of Companies in Cyprus, before completing the merger.
Protection of Creditors: The law provides protection for creditors during the merger process, ensuring that their rights are preserved, and they have an opportunity to raise objections if their interests are at risk.
Registration and Completion: The merger is completed once registered with the relevant commercial registers or other competent authorities in both countries involved.

Execution of Cross-border Mergers

Cross-border mergers can be executed in various ways, depending on the structure of the companies involved and their strategic objectives. The three common methods for carrying out cross-border mergers are:

Merger by Acquisition

In a merger by acquisition, one or more existing companies (the target companies) are dissolved without going into liquidation, and their assets and liabilities are transferred to another existing company (the acquiring company). The acquiring company issues shares to the shareholders of the target companies in exchange for their shares in the target companies. As a result, the acquiring company becomes the owner of all the assets and liabilities of the target companies, and the target companies cease to exist as separate legal entities.

Merger by Formation of a New Company

In a merger by the formation of a new company, two or more existing companies (the merging companies) are dissolved without going into liquidation, and their assets and liabilities are transferred to a newly formed company (the new company). The new company issues shares to the shareholders of the merging companies in exchange for their shares in the merging companies. Consequently, the new company becomes the owner of all the assets and liabilities of the merging companies, and the merging companies cease to exist as separate legal entities.

Merger by Absorption of a Wholly-Owned Subsidiary

In a merger by absorption of a wholly-owned subsidiary, a parent company absorbs its wholly-owned subsidiary (the target company) without the need for an exchange of shares. The target company is dissolved without going into liquidation, and its assets and liabilities are transferred to the parent company. As the parent company already owns 100% of the shares in the target company, no new shares are issued, and the target company ceases to exist as a separate legal entity.

These three methods of cross-border mergers can be adapted to different situations, depending on factors such as the size and structure of the companies involved, their respective industries, and the strategic goals they aim to achieve through the merger. Each method has its own advantages and challenges, and the choice of the most suitable method will depend on the specific circumstances of the merger.

Tax Implications

Tax Neutrality under the EU Merger Directive

The EU Merger Directive allows for tax neutrality in qualifying cross-border mergers, deferring taxation on the gains resulting from the transaction. To qualify, the merger must primarily be a share-for-share exchange with no cash payment exceeding 10% of the nominal value of the shares issued. This ensures that the merger does not trigger immediate taxation on capital gains.

In summary:

Tax neutrality: If the merger meets the criteria outlined in the EU Merger Directive, the transfer of assets and liabilities from the target companies to the acquiring company can be tax-neutral. This means that no immediate taxation on the capital gains should arise.
Deferred tax liabilities: Any unrealised capital gains in the target companies’ assets at the time of the merger may be deferred and taxed only when the assets are subsequently disposed of by the acquiring company.
Continuity of tax attributes: The acquiring company may inherit tax attributes of the target companies, such as tax losses, which could be used to offset future taxable income.

Cyprus Taxation

Cyprus has a favourable tax regime for cross-border mergers, with no withholding taxes on dividend payments to non-resident shareholders and an exemption from capital gains tax for the disposal of shares in certain cases. However, the tax consequences of a cross-border merger will depend on factors such as the assets held by the companies, the tax residency of the shareholders, and any applicable double taxation treaties.

What Constitutes as a Qualifying Merger?

A qualifying merger is a term used in the context of the European Union Merger Directive to describe a cross-border merger transaction that meets specific conditions to benefit from the Directive’s tax-neutral treatment. These conditions ensure that the merger is primarily a share-for-share exchange and not a cash-driven transaction, which could trigger immediate taxation. By meeting the requirements of a qualifying merger, companies can defer taxation on the gains resulting from the transaction, promoting cross-border reorganizations within the EU.

The following are some of the key conditions and characteristics of a qualifying merger under the EU Merger Directive:

Companies involved: The companies participating in the merger must be incorporated in, and subject to the tax laws of, different EU Member States. This condition ensures that the Merger Directive applies only to cross-border mergers within the EU.
Legal form: The companies involved in the merger must be in a legal form listed in the Merger Directive’s annex. The legal forms listed in the annex include various types of corporations, limited liability companies, and partnerships, depending on the Member State.
Share-for-share exchange: A qualifying merger must involve an exchange of shares, meaning that the shareholders of the acquired company receive shares in the acquiring company as consideration for their shares in the acquired company. This requirement ensures that the transaction is primarily a share-for-share exchange and not a cash-driven transaction.
Cash payment limitation: Any cash payment made as part of the merger should not exceed 10% of the nominal value of the shares issued by the acquiring company to the shareholders of the acquired company. This limitation is in place to ensure that the transaction is primarily a share-for-share exchange and not a cash-driven transaction.
Tax residency: The companies involved in the merger should be tax residents of the EU Member States where they are incorporated. This condition is essential to ensure that the merger is subject to the tax laws of the relevant Member States and can benefit from the Merger Directive’s tax-neutral treatment.
Continuity of business activities: The Merger Directive requires that the acquiring company, post-merger, continues the business activities of the acquired company. This requirement is in place to ensure that the merger’s primary purpose is not to avoid taxation but to achieve legitimate business objectives.

It is important to note that the specific conditions for a qualifying merger may vary depending on the national laws and regulations of the countries involved.

Comparison with Non-EU Mergers

When merging with a non-EU company, Cyprus companies may face additional legal and tax challenges, as the EU Merger Directive and CBMD do not apply to non-EU mergers. As a result, the process and tax implications can be significantly different compared to cross-border mergers within the EU:

Legal Framework: Mergers between Cyprus companies and non-EU companies will be subject to the national laws and regulations of both countries involved, rather than the harmonised EU framework provided by the CBMD. This may result in a more complex and time-consuming merger process, with potentially varying requirements for approval, execution, and registration.
Tax Implications: Since the EU Merger Directive does not apply to non-EU mergers, tax neutrality may not be guaranteed, and different tax consequences may arise. In particular, immediate taxation on capital gains could be triggered, and there may be additional withholding taxes on dividend payments to non-resident shareholders. The specific tax treatment will depend on the national laws of the countries involved and any applicable double taxation treaties.
Transfer Pricing and BEPS: Cross-border mergers with non-EU companies may also raise transfer pricing and Base Erosion and Profit Shifting (BEPS) concerns. Companies will need to ensure their transfer pricing arrangements align with the arm’s length principle and comply with international guidelines such as the OECD Transfer Pricing Guidelines and BEPS Action Plan.
Regulatory Compliance: Mergers with non-EU companies may require additional regulatory compliance, particularly if the non-EU country has stringent foreign investment restrictions or merger control requirements. Companies must be prepared to navigate these regulations and obtain the necessary approvals to complete the merger.

Our Services

As a law firm specialising in cross-border mergers, we offer a comprehensive range of services to guide and support your company throughout the merger process. Our team of experienced lawyers and professionals are well-versed in the legal and regulatory aspects of cross-border mergers and can provide tailored advice to meet your specific needs. Our services include, but are not limited to:

Preliminary Consultation and Strategic Planning

Analysing the feasibility of the proposed merger and identifying potential risks and benefits.
Assisting in the development of a strategic plan for the merger, considering both legal and business objectives.

Drafting the Common Draft Terms and Related Documents

Preparing the common draft terms and other required documents, such as management reports and expert reports.
Ensuring that the documents comply with the relevant laws and regulations in both Cyprus and the other EU member state(s) involved.

Corporate Governance and Board Approval

Advising on the necessary board approvals and procedures.
Assisting with the organisation of board meetings or obtaining written consents from directors.

Regulatory Compliance and Filings

Ensuring compliance with applicable regulatory requirements, including the EU Merger Directive and the EU Directive on Cross-Border Mergers.
Preparing and submitting filings with the relevant commercial registers, courts, and other competent authorities.

Shareholders’ Meetings and Approval

Assisting with the organisation and conduct of shareholders’ meetings to approve the merger.
Advising on the voting process and the required majority for approval.

Tax Planning and Structuring

Providing advice on the tax implications of the merger and the available tax benefits under the EU Merger Directive.
Assisting with tax structuring and planning to optimise the tax consequences of the merger.

Employee and Creditor Issues

Advising on the implications of the merger for employees and creditors, including the transfer of employment contracts and the protection of creditor rights.
Assisting with the consultation and notification processes, as required by law.

Post-Merger Integration and Restructuring

Advising on post-merger legal and regulatory issues, such as changes to the company’s organisational structure, governance, and operations.
Assisting with the implementation of post-merger integration plans and restructuring measures.

Our law firm is dedicated to providing exceptional service and expertise to ensure a smooth and successful cross-border merger process. We understand the complexities and challenges involved in cross-border mergers and are committed to helping our clients achieve their strategic goals while minimising legal risks and potential liabilities.