Family foundation: a new legal concept in Poland in the context of M&A transactions

Mirosław Fiałek
MFW Fiałek, Warsaw
m.fialek@mfwfialek.com

Krzysztof Drzymała
MFW Fiałek, Warsaw
k.drzymala@mfwfialek.com

Introduction

A family foundation, which constitutes a new legal concept, was introduced into Polish law by the Family Foundations Act (FFA), which entered into force on 22 May 2023. The concept of family foundation has been introduced as a new legal entity, which aims to manage property and assets in accordance with the founder’s intentions and plans, as well as providing the beneficiaries, who are often the founder’s closest family members, with benefits related to the foundation’s funds. Such a new legal concept has been introduced to preserve the founder’s will in respect of their assets. Therefore, from a formal, legal perspective, the main objective of a family foundation is to provide the relevant beneficiaries with a livelihood or funds of a similar nature. However, due to tax reasons, family foundations have proven to be a very useful vehicle for the sellers in mergers and acquisitions (M&A) transactions to sell shares or stocks.

The family foundation as an instrument for preserving the founder’s assets for their heirs, in accordance with the founder’s intentions

The family foundation was introduced primarily as a legal concept aimed at managing the founder’s assets for the benefit of the beneficiaries, so that the founder’s assets are preserved for their heirs in accordance with the founder’s intentions and plans. The family foundation is a much better instrument than the classic Polish inheritance mechanisms that have been used to date. Until the FFA entered into force, the testator was only able to make a will and transfer their assets to their heirs in general terms, without being able to control how the assets would be used by their heirs in the future. In particular, this has proved problematic in the case of businesses established by a testator or jointly by a testator and the testator’s family. It is quite common for testators to have no heirs able or willing to continue the business.

From a legal perspective, a family foundation constitutes an entity with its own separate legal personality, established to manage the assets contributing to the family foundation. As for the establishment process, a founder can establish a family foundation by way of a founding deed or a will. The founder’s primary obligation is to contribute assets to the foundation to cover the initial founding fund with a value specified in the statute, but no less than the minimum mandatory amount of PLN 100,000. Such amount has a similar role to the share capital in most Polish limited liability companies.

In contrast to the classic property succession attributed to heirs by way of the testator’s will under classic Polish inheritance mechanisms, the founder can have control over the assets contributed to the family foundation and the family foundation’s activities. The founder achieves the above by tailoring the provisions in the family foundation’s statutes during its establishment. The items that can be shaped in this particular way are as follows:

• the family foundation’s purpose;
• the family foundation’s beneficiaries;
• the rules for appointing and dismissing the members of the family foundation bodies and the powers and duties of the members of the family foundation bodies;
• the rules for the family foundation’s management board representing the family foundation;
• the principles for amending the statutes;
• the specific circumstances for the dissolution of the family foundation; and
• the allocation of the family foundation’s assets following its dissolution.

In addition to this, the founder may also address comments, opinions, or recommendations to the family foundation’s corporate bodies concerning its activity.

The foundation’s beneficiaries, who are often the founder’s closest family members, are entitled to receive the benefits specified in the statutes. These benefits can take a wide variety of forms, and they are not particularly limited by the provisions of the FFA. The FFA explicitly provides general examples of the categories of such assets, such as cash and tangible or intangible property, transferred to the beneficiaries or made available to them. It is worth noting that the FFA clearly states that if the beneficiaries are natural persons, the family foundation may also cover their living expenses or the cost of their education, but the founder determines at their absolute discretion the other categories of expenses or costs, and the FFA is very generic in this respect.

Taking the above into account, it may be stated that a family foundation can be an effective instrument for protecting the family’s assets against the decisions of the founder’s heirs that could be inconsistent with the founder’s will or plans. Through the creation of well-tailored provisions in the statutes, the founder is able to shape the manner in which their assets that have contributed to the family foundation will be managed in the future. Therefore, family foundations were primarily introduced into the Polish legal system exactly for the purpose indicated above.

Based on the publicly available information, a total of 1,538 motions for registering family foundations have been submitted to the competent court so far, out of which 980 family foundations were registered by the end of April 2024.

The family foundation as a special purpose vehicle in M&A transactions

Despite the fact that the competent court only registered the first family foundation in Poland on 28 June 2023, the family foundation as a legal concept has already been proven to be a very useful special purpose vehicle (SPV) for sellers in M&A transactions for the sale of shares or stocks.

In principle, based on the FFA, a family foundation may, for eg, join or participate in partnerships with other companies incorporated under the Partnerships and Companies Code, investment funds, cooperatives, and entities of a similar nature, based in Poland or abroad, as well as acquire or dispose of securities, derivatives and rights of a similar nature or grant loans. As a result, a family foundation is entitled to acquire and sell shares or stock and make other equity investments, as indicated above.

A family foundation enjoys special tax preferences with respect to the aforementioned investments and that is why the family foundation has very quickly become a very useful instrument on the sellers’ side when they are looking to sell shares or stock in M&A transactions.

Along with the FFA, completely new tax law provisions were adopted in Poland. They introduced attractive rules for the taxation of asset transfers and family foundation activities.

First of all, the contribution of assets to a family foundation can take two basic forms, as follows:

• the family foundation’s founder contributes the initial capital to the family foundation during its establishment; or
• the family foundation’s founder or other persons make further contributions of assets to the family foundation.

Irrespective of which of these two methods of contributing the relevant assets to the family foundation is chosen, upon the occurrence of such event the family foundation is not obliged to pay corporate income tax (CIT).

The taxation of family foundations is also advantageous when the family foundation subsequently sells the shares or stocks it holds to third-party investors as a result of an M&A transaction. Pursuant to the well-established tax rulings by the Polish tax authorities, the income the family foundation receives from the sale of shares, in terms of the share capital of a company it holds, is exempt from CIT. As a general rule, only the benefits (ie, distribution of the funds/purchase price received by a family foundation as a result of the completion of an M&A transaction) that the beneficiaries of the family foundation actually receive are subject to CIT at the rate of 15 per cent, whilst, in principle, under Polish law, the sale of shares or stocks by sellers who are individuals is subject to personal income tax (PIT) at a rate of 19 per cent.

Thus, taking the above into consideration, the difference in taxation is four percentage points and that is the reason why most individuals contribute their shares or stocks to companies that are part of the family foundation just before the execution of M&A transactions, and the family foundation is the seller in terms of the M&A transaction in such a scenario. Such a trend has been very dynamic and widespread since the FFA came into force.

However, in any case the funds the family foundation receives as the purchase price under an M&A transaction should be maintained for some time within the family foundation and should not be distributed to the beneficiaries immediately after the M&A transaction is completed, so as to demonstrate that the family foundation did not acquire the shares or stocks with a view to their subsequent, immediate disposal for the benefit of the third-party investor. Otherwise, the relevant Polish tax authorities may challenge the transaction from a tax perspective and try to prove that the transaction should be subject to PIT at a rate of 19 per cent, instead of CIT at a rate of 15 per cent.

To conclude, it seems that the vast majority of family foundations participating in M&A transactions as sellers were established over the last year as SPVs solely for the purpose of carrying out such M&A transactions due to the aforementioned tax reasons and this trend is likely to strengthen in the coming years.

Important notes on the structure of an M&A transaction involving a family foundation

When a family foundation is to be a formal party in an M&A transaction as the seller instead of the founders of the target company, who are individuals, the purchaser and their legal advisers should always require that the founders incur obligations under the transaction documents concurrently with the family foundation and preferably such founders should also be parties to the transaction documents.

Therefore, certain provisions, such as non-compete or non-solicitation clauses, should bind both the family foundation and the founders of the target company.

Moreover, all obligations on the family foundation under the transaction documents should apply to the original founders as well. In particular, this aspect concerns the obligation to pay any damages or losses arising from, for eg, breaches of the representations and warranties, liquidated damages or contractual penalties, etc.

To sum up, when a purchaser drafts the transaction documents in an M&A transaction involving a family foundation, the purchaser must properly structure the rules on the liability of the family foundation and the original founders of the target company. The preferred solution is to introduce joint and several liability of the family foundation and the original founders.

Disadvantages of the FFA provisions

It is worth pointing out that the FFA has a number of shortcomings that have surfaced during M&A processes. The main disadvantages include the following:

• the family foundations register is not available online. The register is kept in the traditional form by the court (as court records) and the court records may be made available only upon prior formal legal request;
• there is only one competent court for registering family foundations and keeping the related court records (ie, the Regional Court in Piotrków Trybunalski) and, in addition, it has significant staff shortages, which is why the registration proceedings take approximately three to six months, which is quite a long time compared to other proceedings conducted before the Polish courts;
• the proceedings before the competent court are conducted in traditional paper form. It is not possible to conduct the proceedings electronically, as is the case with other registration proceedings taking place in Poland; and
• the family foundations register does not issue any extracts. This has led to various issues, for eg, regarding how to demonstrate the authority of the foundation’s management board members in terms of signing documents, including contracts, on behalf of the family foundation. This becomes particularly problematic in multi-jurisdictional transactions, where foreign notaries require the submission of documents confirming that the entity is duly registered and represented.

It is expected that the Polish legislator will address the shortcomings identified above and, in due course, make the appropriate amendments to the FFA and that the practicalities of the proceedings before the competent court will also be improved.

Summary

The new family foundation concept is becoming increasingly present in M&A transactions, in particular in share deals, and this trend is likely to strengthen in the coming years.

The family foundation, as a seller of shares in limited liability companies or stocks in joint stock companies, is opening up new perspectives and advantages, including taxation-related benefits.

However, in any case, when the purchaser drafts the transaction documents in an M&A transaction involving a family foundation, it must properly structure the rules on the liability of the family foundation and the original founders of the target company.

Furthermore, due to the fact that family foundations are a new legal concept under Polish law, there are still issues to which there are no clear answers and the approach of the authorities is still being formulated. For this reason, it is recommended that changes in the authorities’ approach to this legal concept be continuously monitored. In particular, the tax implications regarding family foundations should be monitored, such as the issue of the taxation of the benefits of the beneficiaries or founders of a family foundation where the foundation has two or more founders. In principle, such benefits are taxed according to CIT at a rate of 15 per cent and are exempt from PIT, while in the case of family foundations where there are two or more founders, there are discrepancies in the Polish tax authorities’ approach, namely that some of them take the position that for the purpose of determining the scope of the PIT exemption it is necessary to establish the proportion in which: (1) the assets contributed by a given founder to the family foundation remain in relation to the value of (2) the assets contributed to the family foundation by all the founders. The proportion so established determines the scope of the PIT exemption applicable to the benefit of the beneficiary, while to the remaining extent, the benefit is subject to PIT. However, the newest approach by the Polish authorities is that all the benefits received by the beneficiaries are exempt from PIT, irrespective of the proportions mentioned above. However, there is uncertainty as to how solid the authorities’ new approach is and the specific scope of application in terms of this type of interpretation.