What Do Shareholders Need to Know Before Providing a Loan to Their Company?
Author: Lidija Zupančič
In practice, it often happens that a company needs additional funds to run its business. The company can raise these funds in several ways, including through a loan from one or more of its shareholders. However, the shareholders should be aware that the consequences of providing such a loan depend on the financial situation of the company at the time the loan is provided.
The rules on loans provided from shareholders to the company are laid down in Articles 498 and 499 for a limited liability company and in Article 227(4) of the Slovenian Companies Act (ZGD-1) for a joint stock company. Whereby the provisions for a joint stock company refer to the application of the provisions for a limited liability company, with the difference that they apply mutatis mutandis only to shareholders holding more than 25% of the voting shares in the company.
It follows from the above provisions that if shareholders have provided a loan to the company at a time when, as good businessmen, they should have provided the company with their own capital, the shareholders cannot claim repayment of such a loan in bankruptcy or compulsory settlement proceedings. In this case, such loan shall be deemed to be an asset of the company. In other words, a loan that is provided to a company in financial crisis is reclassified as the company’s own capital and is not considered as a loan that the company would have to repay. In the event of bankruptcy, this means that the loan can only be repaid to the shareholders after all creditors have been repaid from any remaining bankruptcy estate. In case of a compulsory settlement, such a reclassification means, in particular, that the shareholders cannot exercise any rights that they would otherwise have as creditors.
The logic of such an arrangement is that, at a time when the company is in crisis, the shareholders must decide whether to rescue the company with their own capital or to liquidate it. The provision of a loan is not an option in terms of ZGD-1 in such circumstances, and the shareholders are, therefore, deemed to have provided their own capital.
The shareholders may suffer some adverse consequences even after the company has repaid the loan. Namely, if the company has repaid the loan in the last year before the bankruptcy or compulsory settlement proceedings were opened, the shareholders who provided the loan must reimburse the company for the amount repaid.
The question arises, however, as to what counts as “a time when the shareholders, as good businessmen, should have provided the company with their own capital”. Does this mean that the company must be insolvent at that time? An insolvent company is undoubtedly in a critical economic situation, but a company can be in such a situation even if it is not yet insolvent. One of the guidelines for assessing this question applied in practice by the courts is whether the company could have obtained the loan from third parties (for example, a bank) on normal commercial terms. If the loan cannot be obtained, it is deemed that the company is not creditworthy, indicating that it is in an economic crisis. In addition to the above-mentioned guidance, the courts are also use the assistance of financial experts to assess the economic and financial situation of the company at the time the loan was granted.
A shareholder who provided a loan under normal conditions, i.e. when the company was in good financial health, can claim repayment of the loan in the same way as other creditors. This is also the case if the company entered the crisis at a later stage.
The shareholders should also be mindful of the interest rate of such loans. When determining the interest rate of a loan, it should be borne in mind that interest on the loan will be considered a disguised payment of profit if the interest rate is higher than the recognised interest rate between related parties. This means that the shareholders will suffer certain tax consequences.
Related issues worth considering:
Do the above provisions apply even if the shareholder provides the loan before the crisis and does not arrange for the repayment of the loan as soon as the crisis has started?
What happens if a shareholder has provided a loan at a time when such funds should have been provided in the form of a capital investment, but later transfers this loan to a third party, i.e. a new lender? In this case, can the consequences of this loan befall the new lender?
Does the deferral of a claim (e.g. deferral of the payment of profits) during the period of the company’s capital inadequacy constitute a loan to which the above provisions apply?
