- The Regulation of Foundations in the New Civil Code
- January 7, 2014
- Law Firm: Dentons Canada LLP - Toronto Office
On March 15, 2014, the new Civil Code will enter into force as the most important law governing the basic financial and personal relations of companies and persons. The new code, with an increased commercial emphasis, incorporates the results of legal developments of the past decades and adapts to the economic needs of our times. The new code takes into account the rules that have crystallized in trading in Hungary and it has European legislation in its sights as well. The new act comes with several new, and completely or substantially reformed legal structures. The changes will broadly concern the activities of enterprises, thus familiarization with the new rules and appropriate preparation by market players for such rules will be fundamental. With our newsletters, we aim to provide support for such preparation.
In this newsletter we seek to draw your attention to certain changes introduced by the new Civil Code (Act V of 2013) that relate to foundations (in Hungarian: alapítvány).
1. Important changes in the new Civil Code
The new Civil Code introduces fundamental changes regarding the operation of foundations. According to the current rules a foundation may only be established for the long-term purpose of serving a public interest. Earning a public interest-serving characteristic is not necessarily conditional upon the number of beneficiaries the foundation has, as a foundation may serve the interest of a single person if the purpose is not primarily of a gainful asset-augmenting nature. However, according to the rules of the new Civil Code a foundation may be established for any purpose with the limitation that the foundation may only perform business activity in direct connection with the realization of its purpose.
The new Civil Code abolishes the general rule according to which a foundation cannot be established in the interest of the founder or his relatives. Based on the new Civil Code the founder can also be the beneficiary if the purpose of the foundation is the maintenance of the founder’s scientific, literary or artistic works.
A relative of the founder may also become a beneficiary in addition to the above, when the purpose of the foundation is the nursing, caretaking, support of the relative, the bearing of his/her healthcare costs or the supporting of his/her education.
Another important new rule is that the articles of incorporation may contain provisions regarding the assets of the foundation after its termination. The founder may also be among the persons entitled to the assets to the extent of the assets granted, and consequently the founders may be refunded the assets granted to the foundation (e.g. real property).
2. Possible uses of a foundation
The new regulation may - depending on the case law that has yet to be developed - open up new possibilities for a wider application of the foundation. According to the examples from abroad such new functions could be the following.
2.1 Family foundation
The foundation may be granted essentially any asset, for example quotas of a company as well. As a precondition regarding the operation of a foundation is an enduring nature, the long term ownership of a company can be ensured if a foundation is the quotaholder of a company.
In the case of a family enterprise it may especially be beneficial for the quotaholders to grant their quotas to a foundation. This way the quotas otherwise a part of the heritage would not be divided between the heirs when the quotaholder dies, and the heirs would not endanger the company staying under influence of the family by selling their quotas to third parties. Since the relative of the founder may be the beneficiary of the foundation according to the new rules, therefore the foundation may use the dividend received from the company for the support, education etc. of the relative.
By establishing a foundation the testator has the option to dispose over the whole heritage freely, without the burden of the compulsory share or the widow’s enjoyment, as the assets granted to the foundation are not part of the heritage.
2.3 Balanced operation of a company
The continuous operation of a company can be ensured by having a foundation as a majority quotaholder. With this the risk of a hostile takeover can be managed, and a certain ownership interest may have a beneficial effect on the effectiveness of the company.
3. Taxation considerations
Although foundations are subject of the corporate income tax, they have many advantages from a taxation point of view. According to the current rules the income of a foundation from non-business activity is tax exempted. The activity in accordance with the purpose of a foundation is not considered to be a business activity, therefore any income originating from an activity in accordance with the purpose of a foundation is exempted from corporate income taxation. Income from business activity is tax exempted up to a threshold of HUF 10 million or 10% of the total revenue. If the foundation has no corporate income tax liability, then it is exempted from duties as well, e.g. it has no transfer tax liability regarding the acquisition of assets, and it is exempted from stamp duty as well.