CMS Expert Guide to cash pooling in Spain

a) Intro

Cash pooling arrangements, typically involving a centralised cash management system for an entire group of companies, are not the subject matter of any specific piece of legislation in Spain, and there are no significant court resolutions on cash pooling to this date.  Accordingly, the legal regime applicable to the various key aspects and concerns of cash pooling activities will be inferred from laws and regulations of general application in Spain concerning matters such as corporate authorities, equity protection, insolvency and the like.

From a financial regulation point of view general, no special authorisation needs to be obtained by any of the entities participating in the cash pooling arrangement (other than the bank). This is true even of a treasury company, whose activities may be considered similar in some respects to those of a financial institution.

b) Social interest and due diligence

It is understood that the rationale for entering into a group cash pooling arrangements is the improvement of the cash management at group level and, presumably, the optimisation of savings and the reduction of the overall financials costs that comes with it. As such, the main focus would appear to be on the group’s interest taken as a whole.

The concept of a “group’s interest”, not specifically covered by Spanish company law, is being gradually acknowledged by the case law of the civil courts, usually in the context of upstream guarantees examined in insolvency situations, where the courts consider that certain transactions, which analysed in isolation might me deemed prejudicial to the interest of a specific company, can be justified to the extent that they operate in the benefit of the group, provided always that the individual company derives other benefits and advantages from its insertion in such group. Accordingly, there must be a certain balance between the interests of the group and those of the individual company participating in the cash pool.

It is the responsibility of the board of directors to assess whether and to what extent entering into the cash pool structure and the contractual documentation relating thereto will directly or indirectly operate in the interest of the relevant company. If entering into the cash pool structure may be deemed contrary to the interest of the company, this might entail the liability of the directors (see below).

c) Shareholder’s loan provisions

Amounts transferred from one group company to another within the context of a cash pool arrangement are in essence inter-company loans. Therefore, participating entities should take into account that in the event that a Spanish participant becomes insolvent, all claims of related parties (i.e. including group members) against such company will be treated as subordinated claims in the insolvency proceedings under Spanish insolvency Law.

d) Liquidity protection

Although no specific liquidity protection rules are in place in Spanish company law, the directors of the company participating in the cash pool will be required to ensure that the company will have access to the liquidity levels required in order not to become insolvent. This should not present a problem to the extent that the cash pool functions properly, with the pool operator allowing payments to be made to and from the master account. However, if there is any doubt as to whether the pool company will, if necessary, be able to access the master account, the directors may be held personally liable (see below).

From that perspective, it is usually required that the cash pool provisions ensure sufficient levels of information about the financial standing of the group (especially as regards the treasury company) and an early termination clause whereby the participant is able to walk away from the arrangement in case there is a risk that the continued participation in the pool may result in insufficient liquidity levels, or even insolvency.

e) Hidden distribution of profits

A cash pool arrangement should never operate as a mechanism for the hidden distribution of profits to the group’s shareholders. The directors of the participating company should ensure that the commercial terms (most notably, the interest rates payable) are consistent with market terms and accordingly that no unduly transfer of value is being made by way of excessive interest payments.

f) Insolvency proceedings – contestation of transactions

In general, the insolvency of a Spanish company involved in a cash pooling arrangement will not automatically result in early termination of the cash pooling agreements. Given the nature of cash pooling agreements, however, the insolvency trustees will usually ask the court for their termination, at least between the company and the other participating companies, provided such termination benefits the procedure and the insolvent company.

Under Spanish insolvency law, prejudicial acts made by an insolvent company during the period of two years prior to the insolvency order may be contested by the insolvency administrator. In this regard, under a special rule in the Spanish Insolvency Act, acts of disposal (even if for valuable consideration) carried out in favour of any of the insolvent company’s related parties are considered suspicious and, in absence of evidence to the contrary, may be deemed prejudicial and subject to clawback. For this reason, it is key that the terms and conditions of the cash pool arrangement are properly documented and formalised as this may ensure that the participation of the company in the cash pool is duly justified.

Another reason why it is important that the cash pooling arrangement be clearly structured and properly managed is the need to ensure that the rights and liabilities of each participating company in respect of sums transferred to and from the cash pool are transparent at all times. An insolvency procedure relating to one participating company could have adverse effects on other participants if the financial relationships between the participants cannot be easily determined.

In some insolvency procedures in Spain, inadequate management of inter-company loans or other similar intra-group legal relationships have resulted in serious difficulties in determining the amounts owed and the subsequent deterioration of the financial standing of the company. This can lead to the insolvency being rated by the courts as having been negligently caused and, under certain circumstances, to liabilities of the persons involved who were aware of the situation (directors, auditors, etc.) which may even become liable for the debts of the insolvent company.

a) Liability of directors

In general, directors of a Spanish company are required to perform their duties with the diligence of a reasonably prudent businessman acting in the best interests of the company. A breach of such duty by a director will result in their liability to the company’s shareholders and the creditors for any losses they suffer as a result. The directors will be in breach of their duty if, for example, they enter into a cash pooling agreement on terms which may adversely affect the company or if they fail to withdraw from the cash pooling arrangement when the financial viability of the rest of the group deteriorates to such an extent that the company may not be able to recover sums it has contributed. The business judgment rule applies, so in order to protect the directors of the Spanish participant from incurring personal liability, the directors of each individual pool participant must have access to information which allows them to form an opinion on the financial situation of the pool leader and the group as a whole.

In addition, criminal liability of the directors (and de facto directors) may arise, mainly when they act in the performance of their duties in a disloyal or fraudulent manner (seeking their own benefit or that of a third party and thereby directly causing economic harm to the shareholders), when they cause the company to enter into extortionate agreements in order to cause injury to the shareholders, or in the event of falsifying financial or corporate information.

The question of whether a director has performed his duties with the requisite level of diligence must be evaluated solely with regard to the company itself and not the group as a whole. Therefore, even where a company’s participation in a cash pooling arrangement benefits the group as a whole, the company’s directors will incur liability if the directors have not fulfilled their duty with regard solely to the company itself.

The directors may also incur liability if they fail to instigate winding-up proceedings in circumstances where the net assets of the company fall to a level below half its share capital or if they fail to apply for a declaration of insolvency when it becomes legally obligatory to do so. In such circumstances, they may become jointly and severally liable for any debts of the company which subsequently arise. This is in addition to any liability the directors may face on other grounds connected with the company’s insolvency.

b) Liability of shareholders

Under Spanish law, shareholders are typically protected by the general corporate principle of limitation of liability and will not be held liable for the debts of a subsidiary (“piercing of the corporate veil”), other that in very specific situations essentially qualifying as fraudulent schemes in which a company creates a false appearance of separation vis-à-vis its shareholders with the aim of prejudicing third party interests or circumventing applicable legislation. As such, a cash pool arrangement which is properly documented and entered into in market terms should not raise concerns regarding the potential liability of shareholders of a participating entity.

Cash pooling activities need not be listed as a specific corporate object in the articles of association of the company in order for the company to lawfully engage in such activities. Instead, cash pooling is treated as an ancillary activity, undertaken in order to further the main objects of the company (in the same way as lending money, granting security and giving guarantees).

Also, Spanish law does generally limit the amount of debt which a company can assume. Furthermore, whilst a company may be subject to compulsory liquidation if its net assets fall to a level below half its share capital, this is unlikely to occur as a direct consequence of a cash pooling arrangement, to the extent it operates properly and ensure the availability of funds, when needed, for all participating entities.

However, it should be borne in mind that a cash pooling arrangement could potentially adversely affect the liquidity of a participating company to such an extent that such company is unable to pay its debts as they fall due and therefore faces insolvency.

If the cash pooling transactions represent an amount equal to or higher than 25% of the assets of the company, it is necessary to obtain a general shareholders meeting resolution approving the execution of the cash pooling agreements and related documents by the directors. However, it is advisable to obtain such a resolution in any case, so that it is evidenced that the shareholders back the decision of the directors. Please note that as a consequence of recent reforms to the Spanish Companies Act, the resolution of the shareholders does not per se eliminate the directors’ liability.

Where the centralising entity is a Spanish resident, the precise role that it plays may be essential for determining whether any remuneration it receives from participating companies constitutes interest or management fees. Where the centralising entity essentially performs the role of a bank (i.e. receiving physical deposits from the participating companies), such payments will typically be regarded as interest. Where the centralising entity acts as an intermediary between the group and the bank, such payments will usually be classified as management fees.

If one or more of the participants of the cash pooling arrangement are Spanish residents, there are a number of aspects of Spanish tax law which should be considered. Any commercial relationships between the participants and any remuneration paid or received in the form of interest or management fees (see above) should be entered into at arm’s length terms.

In addition, limitation on interest deductibility for tax purposes shall be considered. Generally, net financial expenses (financial expenses less financial income) exceeding 30% of the operating profits of a company, as defined by the Spanish tax legislation, are not tax deductible. In any case, a minimum net financial expense amount (floor) of EUR 1m is deductible in the tax period. More specifically, interest expenses incurred during the tax period derived from debt to group entities for the acquisition, from other group entities, of shares in the capital or equity of any type of entities, are not deductible.

Furthermore, stricter transfer pricing rules are applicable in Spain, so care must be taken as regards the level of remuneration the parties pay and receive in the form of interest payments and management fees and the intra-group cash transfers must be documented carefully. If arm’s length rules are not complied with, the Spanish Tax Administration is entitled to make the corresponding adjustments, so that deductible expenditure or taxable income is reported on an arm’s length basis and the Spanish resident entity is taxed accordingly. Penalties can be imposed if pricing and documentation regulations are not complied with.

Finally, it should be borne in mind that interest payments made by a Spanish resident will not be subject to withholding tax as long as the recipient of the interest is an EU tax resident. Otherwise a 19% withholding tax would apply, with the possible benefit of reduced rates under the provisions of an applicable double taxation treaty. Tax form filing obligations also apply to the paying Spanish resident.

Spanish residents are obliged to notify the Bank of Spain about transactions entered into with non-Spanish resident counterparties that are satisfied by means of bank transfers, credit or debit in bank accounts or intragroup accounts, setting-off or cash delivering, and about creditor balances and variation in assets and liabilities held vis-à-vis non-Spanish resident counterparties. The frequency of the notifications to the Bank of Spain will vary depending on the aggregate amount of the transactions carried out the previous year.