Most annual reports have by now been submitted and the Commercial Register is now checking whether companies’ equity meets the minimum net assets requirement arising from legislation. What does this mean for companies?
Companies’ net assets do not meet the requirements of legislation if:
- it is less than half of the share capital or
- less than the minimum amount of share capital specified in the Commercial Code
This means that a private limited company should have at least 2500 euros in net assets and a public limited company should have 25,000 euros.
If a company’s equity does not meet the requirements of legislation, the company receives a notice from the Commercial Register recommending that it be brought into conformity with the requirements. The first notice from the Commercial Register is always advisory and generally written in a positive tone. As a result, the business often fails to take action. But after some time, if the company is still not in conformity with the requirements, it is followed by warning order for compulsory dissolution of the company. However, after the warning order has been sent, the Commercial Register gives quite a lot of time, usually six months, for the company to take the measures set forth in legislation for rectifying its net assets. The Commercial Code sets forth what these measures are.
Shareholders must decide:
- decreasing or increasing share capital on condition that as a result, net assets make up at least half of the share capital and at least the minimum amount of share capital specified in the Commercial Code or
- taking other measures as a result of which the company’s net assets make up at least half of the share capital and at least the minimum amount of share capital specified in the Commercial Code or
- dissolution, merger, division or restructuring of the private/public limited company or
- filing for bankruptcy.
Practice shows that companies usually do not adopt the abovementioned measures or react to the warning order. In that case, the Commercial Register files an application to the courtfor the compulsory dissolution of the company and the company receives a court order regarding commencement of the dissolution. But even in so doing, the Commercial Register provides additional time for bringing the net assets into conformity. As a rule, this term is shorter than for the warning order – usually only 15 days. When the terms in the ruling have expired, the court makes the decision to dissolve the company and delete it from the Commercial Register. Compulsory dissolution and deletion from the Commercial Register have consequences that deserve separate attention and which are not covered in detail in this article.
What can an entrepreneur do to bring net assets into conformity with legislation?
The measures described in the Commercial Code are clear but adopting “other measures” and the definition of this term brings up questions for entrepreneurs. Still, it should be admitted that legislator have left the option for companies to interpret this term in different ways that are not always beneficial for the business, especially if taxation aspects are at stake. In that case, it is a good idea to ask specialists and advisers for help to find a way out of the situation.
Over the years, the formation of a voluntary reserve has been used as an “other measure”. It is important that this shold be done in conformity with legislation so that the voluntary reserve created by contributions from the owners can be recognized as a part of equity capital. That in turn means that the purpose of the voluntary reserve and the procedure for its formation, use and termination (including disbursement) must be set forth in the articles of association and when disbursements are made from the reserve, restrictions are established (for example, the articles of association allow disbursements to be made based on the shareholders’ decision). Unless restrictions are established, the voluntary reserve is no longer a part of equity capital but becomes a part of profit and is recognized in the income statement.
In addition to the provisions in the articles of association, the owner must take other necessary steps for formation of a voluntary reserve; among other things, the correct documentation must be prepared. The set of signed documents is used by the company’s accountant who is able to properly document the voluntary reserve on the balance sheet and fill in and submit the corresponding declarations. If the company is audited or the auditor conducts a review, the set of documents will also be necessary for the auditor.
If the Commercial Register sent a notice for rectifying a negative net assets figure, issued a warning or a court has launched the compulsory dissolution of the company, the necessary measures must be taken to rectify the net assets level. After that, documentation must be submitted to the register and in certain cases, to the court as well, showing that the negative net assets figure has been rectified.
If your company’s net assets are negative and you need assistance in resolving the situation or you have questions about the topic, the advisers at Grant Thornton Baltic will be happy to answer your questions and help you take the right steps and prepare documentation. Please contact us by email at email@example.com.