The German legislator has passed the Future Financing Act (Zukunftsfinanzierungsgesetz), which promises to modernize outdated legal dogma, offer contemporary solutions and take Germany to the next level as a financial location. But can introducing tax deferrals and multiple voting rights deliver this promise? Though the sentiment is right, there is doubt as to whether abandoning the dogma “one-share one vote” will be enough, particularly when it is limited by a sunset/expiry clause.
German law challenges: tax law and company law
The team of founders and employees in a start-up is a key factor in its success - it should be talented, motivated and resilient. However, to date, the German legal framework has provided various obstacles to this objective.
Tax law makes it difficult to attract/retain employees and create meaningful incentive structures by often taxing the participation of employees in start-ups prior to the employee receiving any liquidity from the shares.
And company law offers few opportunities to give the all-important founders sufficient control when money is to be raised on the capital market.
The key impacts for growth companies
The long-awaited Future Financing Act is aimed at strengthening the German capital market and increasing the attractiveness of Germany as a financial centre.
In particular, access to capital market for growth companies, such as start-ups, will be simplified and employee ownership will be facilitated.
1. Multiple voting rights and sunset clauses
The German Stock Corporation Act (Aktiengesetz) will be amended in order to re-introduce shares with multiple voting rights, and thereby catch up with other European legal systems. The goal is to reduce the obstacles (loss of control) that founders regularly face in connection with an IPO.
Multiple voting rights allow founders to maintain strategical control over the company, while increasing the capital of the company. In order to ensure sufficient minority protection, a basic (but extendable) sunset/expiry clause of 10 years will apply from the time of the IPO and in case of the transfer of the shares. Once the sunset/expiry clause takes effect, the multiple voting rights expire.
Impact: Multiple voting rights will create the possibility to generate short- and medium-term control positions of core shareholders. Founders will then have a structuring tool to go public without a significant loss of strategic control. This could increase the attractiveness of an IPO in Germany, but it remains to be seen to what extent this mechanism will be adopted by hyper-growth companies given the 10-year limitation and expiry in case of a transfer, in particular against the background of other established structuring tools already available which may be easier to use (preferred shares without voting rights or KGaA-structures).
2. Employee ownership and dry-income
The Income Tax Act (Einkommensteuergesetz) will be amended to encourage the transfer of company shares to employees.
Currently, employees face the so-called “dry-income issue”, i.e. employees might be required to pay taxes even though they have not yet received liquid assets but only illiquid company shares.
Whilst there is an existing provision in the Income Tax Act under which deferred taxation is – given, certain requirements are met – generally possible, the scope of application of such provision was considered too narrow and will now be extended.
To further alleviate the issue of dry-income, provided the employer (ie. the start-up) is willing to irrevocably accept liability for arising income taxes, the date of taxation of the shares will be deferred until the sale of such shares. In addition, the tax allowance for employee ownership shall be increased from approx. EUR 1,400 to EUR 2,000.
Impact: The amendments (i.e., more extensive tax-deferrals and tax-allowance-increase) further alleviate certain tax obstacles (e.g., the dry-income issue) for start-ups to attract, retain and motivate employees through employee participation. Given the potential liability for a start-up employer, it however remains to be seen to what extent new companies will be prepared to support tax deferrals until the sale of the shares. Furthermore, the relatively small increase of the tax allowance might not prove sufficient to further encourage employee ownership.
Other key measures for start-ups
- Electronic shares will be introduced to digitize the capital market.
- The threshold for the simplified exclusions of subscription rights (Bezugsrechtsausschluss) shall be raised from 10% to 20% of the company’s share capital.
- Disputes on the appropriateness of the issue price in case of capital measures (without subscription rights) shall (except in case of simplified exclusion of subscription rights) be decided in appraisal proceedings (Spruchverfahren), and no longer be contested through actions of recission (Anfechtungsklagen) in order to speed up implementation.
- In order to simplify access to capital market, the legal form of a BMAG (Börsenmantelaktiengesellschaft) will be created, which shall be similar to a so-called SPAC.
Looking ahead
The Future Financing Act was passed by the German parliament in November 2023 and is to be signed into law and published in the Federal Law Gazette. It will come into force in significant parts on the day after its publication and in part on 1 January 2024 respectively the course of 2025.
The German federal government will then re-evaluate its impact after four years, in particular the impact of multiple voting rights on start-ups.
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