Russian Supreme Court ruling allows recovery of tax indemnity from the former owner of a Russian business.

18.11.2011

AEB M&A WORKING GROUP NEWSLETTER (Prepared by Association of European Businesses in cooperation with mergermarket.com. Edited by Andrey Shpak, Partner, Tax Practice, Goltsblat BLP, Chairman of AEB Mergers & Acquisitions Working Group).

Issue 5, November 2011

Many Russian transactions include provision of tax indemnities by former owners to the buyer of the business if performed under foreign (typically, English) law. Traditionally, questions were raised to which extent tax indemnities granted by Russian individuals under foreign law could really be enforced in Russian courts.

Recently, The Russian Supreme Court of the Russian Federation in its Ruling No 41-В11-4 dated 19 July 2011 confirmed the possibility of recovering damages from the seller and (or) guarantors under a share (ownership interest) sale and purchase agreement where the seller and (or) its guarantors undertook to indemnify the buyer for all losses in connection with operations of the company. In particular, the losses included those resulting from the seller’s breach of any warranty or representation, arising before the end of the tax period in which the transaction is closed.

In the case concerned, the buyer filed a lawsuit to collect from the company the tax arrears for periods prior to the transaction date. The seller’s obligation to indemnify the losses was guaranteed by two individuals (previous owners of the business). All elements of the transaction were governed by English law.

Since the seller failed to indemnify the buyer for the tax claims, the latter demanded indemnification from the guarantors. The guarantors objected to the claims relying on a number of procedural grounds (the general jurisdiction court being incompetent to hear the dispute, expiry of the guarantee term, etc) and the liquidation of the debtor that constitutes unconditional grounds for terminating a guarantee under the Russian Civil Code.

Notably, by satisfying the buyer’s claims for damages in the form of additional tax assessed to the company whose shares were acquired by the buyer, the court not only entirely confirmed the reasonableness of the buyer’s claims, but also provided a detailed interpretation of the contractual provisions between the parties on the basis of the legislation of England and Wales and dismissed the guarantors’ arguments relying on the Russian civil law provisions.

This Supreme Court Ruling is a consequential precedent confirming the possibility of recovering damages from Russian entities with regard to the contractual purchase of Russian assets even if the recovery mechanism is not stipulated by Russian legislation but the Russian court applies the foreign (English) law.

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