The Tallinn Administrative Court and the Tallinn Circuit Court recently partially annulled tax assessments issued by the Estonian Tax and Customs Board (MTA), which had increased the tax liability of two natural persons by the amount of income tax on the capital gains they received from the transfer of a registered immovable.
In 2010, these two individuals acquired an immovable property with buildings as joint owners for a purchase price of 3,400,000 kroons (217,299.60 euros). In 2015, they transferred a 50% notional share in the property for 108,650 euros to a company in which they were shareholders and board members. The company failed to pay the purchase price to the sellers by the due date. In 2018, the entire property was transferred to another company for 480,000 euros. Of this amount, that company transferred 54,325 euros to the bank accounts of each of the natural persons, and 371,350 euros to the bank account of the company in their ownership. In 2018 and 2019, the company transferred most of the latter amount to one of the original sellers of the registered immovable.
The MTA found that the purpose of transferring the notional share of the immovable property to the company was to avoid personal income tax liability. The MTA considered this to be confirmed by several factors, including the company’s lack of funds to purchase the share and the fact that the property was sold to the company five years after its acquisition for the price that was equivalent to its acquisition price.
The Tallinn Administrative Court found that the MTA had not sufficiently substantiated its conclusion that the sale of the share in the immovable property was a sham transaction aimed at obtaining an impermissible tax advantage. In the Court’s view, where a natural person transfers his/her immovable property to a legal person at the acquisition price and the legal person subsequently transfers the same immovable at a higher price, no tax liability arises for the natural person. However, the difference between the acquisition price and the sale price constitutes a profit for the legal person, which becomes subject to income tax upon distribution of the company’s profits. Moreover, the income tax rate applicable to distributed profits at the level of a legal person is higher than the rate applied to capital gains from the transfer of assets by a natural person. Therefore, it cannot be unequivocally concluded that the transfer of an immovable property by a natural person to a legal person at its acquisition price, followed by the resale of the same property by the legal person at a higher price, would result in a tax advantage from the perspective of the state budget. The Administrative Court also noted that the act of a natural person selling his/her immovable property below its market value cannot, in itself, be prohibited or give rise to a tax liability.
The Tallinn Circuit Court concurred with the Administrative Court’s conclusions that the prerequisites for applying section 84 of the Taxation Act had not been met and that the MTA had unjustifiably attributed income to the complainants which they had not, in economic terms, actually received.