The shareholders of a limited liability company (“LLC” or “Company”) often have to dip into their own pockets to fund their business until it becomes profitable. When shareholders of an LLC put up their own money to help the Company stay in business, the following capital injection methods can be considered in Hungary:
The most rapid way to inject money into an LLC without the necessity to carry out any complex legal process is the granting of a shareholder’s loan. In this case, the shareholders provide a simple loan to the Company which amount shall be recorded as a debt owed to the shareholders. The terms of the loan shall be agreed by the parties (exact amount, interest rate, term of loan, repayment schedule etc.). The shareholder may provide shareholder’s loan to the Company at any time, in any amount without any restriction. In this case, only the preparation of a loan agreement is needed, no additional corporate documents or any court procedures are required. Such loan may subsequently be converted into equity by a capital increase upon the decision of the shareholders if repayment is not feasible.
The shareholder’s loan may have some legal or taxation risk. From a legal perspective, if LLC does not have any income and only the shareholder’s loans cover the incurred losses, the equity of the Company would decrease and eventually cause a negative equity situation. If the equity of the Company falls below the registered capital, a capital increase or a registered capital decrease shall take place without delay. From a taxation perspective, if the shareholders resolve to convert the shareholder’s loan into equity, this debt-to-equity conversion may be challenged by the Hungarian Tax Authority in case the dissolution of the company follows the conversion. Taxation rules on the ratio of loan financing to the level of equity have to be considered too.
In this scenario, the shareholder can temporarily provide capital contribution to the LLC. In order to cover the losses this way, the articles of association shall include provisions on the frequency and the maximum payable amount of the supplementary payment. In case the articles of association include such provisions, only a resolution of the shareholder/shareholders’ meeting is needed to provide supplementary payment. If not, then the articles of association shall be amended as well and the registration with the court is required.
The supplementary payment may be adopted by the shareholder/shareholders’ meeting in accordance with the provisions set forth in the articles of association of the LLC. The supplementary payment may be performed either by cash or in-kind contribution and such contribution does not increase the registered capital of the Company but shall be accounted to the limited reserve of the Company. As indicated above, it is a temporal capital injection method, as once the supplementary payment is not necessary for the covering of losses anymore, it shall be repaid to the shareholders.
The best-known, however the most time-consuming method of solving capital-related issues of LLC is when shareholders decide to increase the registered capital of the Company. The capital increase can be executed as follows:
By applying either of the method above, the capital contribution provided constitutes the equity of the Company, therefore shareholders have no right to claim it back without a formal capital reduction procedure or until the termination of the Company. During the registered capital increase, the shareholders have the possibility to pay share premium, to be accounted as capital reserve. No direct payment to the capital reserve is allowed, without the increase of the registered capital. The increase of the registered capital required the amendment of the articles of association and formal registration procedure with the court of registration.The above is a non-exhaustive description of the relevant Hungarian legal provisions. The above summary should not be considered as legal advice and should not be relied upon when making business decisions. Before resolving on investment in Hungary, we recommend that you contact our law firm for detailed, tailor-made legal advice.