GROUNDS AND PROCEDURE FOR REDUCING THE AUTHORIZED CAPITAL OF AN LLC

Cases of Mandatory Reduction of the Authorized Capital

 

Late Contribution

 

Each participant of the company must make a full contribution within 6 months from the date of state registration of the company (Part 1 of Article 14 of the Law on LLC). However, the law allows providing for a different term in the charter.

 

If the participant is late in making the contribution or part thereof, the company’s executive body must send him/her a written warning indicating the additional period provided for repayment of the debt. Such an additional period is established by the executive body or the company’s charter, but it should not exceed 30 days (Article 15 of the Law on LLC).

 

Provided that the participant has not contributed to repay the debt within the provided additional period, the company’s executive body must convene a general meeting of participants, which may make one of the following resolutions:

• on the exclusion of a company participant who is in arrears in contributing;
• on reducing the company’s authorized capital by the amount of the unpaid part of the company’s participant’s share;
• on the redistribution of unpaid share (part of share) among the other company’s members without changing the amount of the authorized capital and payment of such debt relevant stakeholders;
• on the company’s liquidation.

 

PLEASE NOTE.

 

If the general meeting of the company decides to exclude the debtor participant from the company with payment of a part of the company’s property proportional to the share he has made in the authorized capital (option No. 1), the authorized capital will also have to be reduced.

 

In general, the Law on LLC does not require automatic reduction of the authorized capital in case of withdrawal of the participant with payment of their share in the authorized capital. After all, the remaining participants can decide on the redistribution of the share of the participant who leaves the company in proportion to their share in the authorized capital.

 

Decrease in the Net Asset Value

 

As provided in Part 3 of Article 31 of the Law on LLC, if the company’s net asset value has decreased by more than 50% compared to this indicator as of the end of the previous year, the company’s executive body must convene a general meeting of participants, which must be held within 60 days from the date of the decrease in the net asset value.

Net assets — the company’s assets less its liabilities. (clause 4 of National Accounting Regulations (Standards) 19)

The agenda of the mentioned general meeting includes the following issues:

• measures to be taken to improve the company’s financial condition;
• reduction of the company’s authorized capital

or

• liquidation of the company.

Repurchase of a Participant’s Share by the Company

 

The company has the right to acquire a share or part of a participant’s share in its own authorized capital without reducing it by the amount of such share only if, on the day of this acquisition, the company forms reserve capital in the amount of the purchase price of the purchased share (part thereof). Such reserve capital cannot be used for payments to the company’s participants (Part 1 of Article 25 of the Law on LLC).

 

At the same time, the Law on LLC does not prohibit the purchase of a share of a company participant without creating reserve capital, but at the same time with a reduction in the authorized capital. For more information about buying out a share of one’s own corporate rights, see the article “Repurchase and Sale of a Share of Own Corporate Rights: Tax and Accounting”.

 

Regarding the purchase of a share, there is another requirement provided for in Part 4 of Article 25 of the Law on LLC: in case of acquisition of a participant’s share (part thereof) by the company itself without reducing the authorized capital, the company is obliged to carry out retaliatory alienation of such share (part of the share) no later than one year from the date of its acquisition.

 

Along the way, a question arises to which there is no clear answer: is the LLC obliged to reduce the authorized capital if it does not sell the share purchased from the participant within the specified year? The Law on LLC does not require an unconditional reduction of the authorized capital in case of non-fulfilment of the requirement to sell the repurchased share during the year. Therefore, before the appearance of explanations, you may not rush to reduce the authorized capital. In general, the decision to reduce the authorized capital can also be made voluntarily.

 

The Successor did not Apply to Join the Company

 

Now, Part 1 of Article 23 of the Law on LLC provides: in the event of the death of a company participant, their share shall pass to their heir or legal successor without the consent of the company participants. Therefore, the option of not accepting the successor to the list of participants is no longer relevant.

 

However, Part 2 of Article 23 of the Law on LLC provides: if the successor’s share in the company is less than 50%, he/she must submit an application for joining the company within one year from the date of expiration of the term for accepting the inheritance. And if the successor does not do this, the company may exclude the participant from the company (with payment of their share to the successor), and such an exception, of course, may lead to a reduction in the authorized capital.

 

For more information on this topic, see the article “Inheritance of a Share in the Company: Tax Consequences for the Successor”.

 

Voluntary Reduction of the Authorized Capital

 

Considering the norms of Part 1 of Article 19 of the Law on LLC, the company shall have the right to reduce its authorized capital. Such a reduction can occur either with or without payments to participants of their share (for example, in connection with the participant’s withdrawal from the company). However, we emphasize that if the nominal value of all participants’ shares decreases, the ratio of the nominal value of their shares must remain unchanged (Part 2 of Article 19 of the Law on LLC).

 

As for the amount of payment to participants, it can be either less (equal to) the amount of reduction of the authorized capital or more than the amount of reduction of the authorized capital.

 

In addition, the decision to reduce the authorized capital may be made to cover (reduce) the amount of losses of the company, even if the value of the company’s net assets has not decreased by more than 50% compared to this indicator as of the end of the previous year.

 

Reduction Procedure of the Authorized Capital

 

Decision to Reduce the Authorized Capital

 

It is adopted by three-quarters of the votes of all participants of the company who have the right to vote on relevant issues (Part 2 of Article 34, clause 3, Part 2, Article 30 of the Law on LLC). However, the company’s charter may establish a different number of votes of the company’s participants for making such a decision, but no less than the majority of votes (Part 5 of Article 34 of the Law on LLC).

 

If the general meeting decides to reduce the authorized capital due to late payment of a contribution by a participant, the votes that fall on the share of such participant will not be taken into account when determining the voting results (Part 3 of Article 15 of the Law on LLC).

 

Notification of Creditors

 

After making a decision to reduce the authorized capital of the company, its executive body must notify each creditor whose claims against the company are not secured by a pledge, guarantee or surety of such decision within 10 days (Article 19 of the Law on LLC).

 

Creditors have the right to apply to the company within 30 days after receiving the notification with a written request to implement one of the following measures at the company’s choice within 30 days:

1) ensure the fulfilment of obligations by entering into a security agreement;

2) early termination or fulfilment of obligations to the creditor;

3) enter into another agreement with the lender.

 

If the company fails to comply with the specified claim within the established time limit, creditors have the right to demand early termination or fulfilment of obligations by the company in court.

However, if the creditor has not submitted a written request to the company within the above period, it is considered that it does not require the company to perform additional actions to fulfil its obligations to it.

 

State Registration of Amendments to the Charter

 

It is evident that reducing the authorized capital requires making changes to the charter since this leads to changes in the composition of participants, their share and the amount of the authorized capital. Such information is subject to entry in the Unified State Register of Legal Entities, Individual Entrepreneurs and Public Formations (clause 15, Part 2, Article 9 of Law No. 755). Therefore, after the general meeting of participants makes a resolution to reduce the amount of the authorized capital, it is necessary to contact the state registrar to register the relevant changes.

 

For more information about what documents must be submitted for this purpose, how much to pay the administrative fee, and other features of making changes to the unified state register, see the article “Increase in the Authorized Capital of an LLC: Procedure and Accounting”.

 

At the same time, please note: the Law on LLC does not set a deadline for notifying the state registrar of changes in the constituent documents. In addition, the Law on LLC does not provide for a deadline for the entry into force of the meeting’s decision to reduce the authorized capital. Therefore, in fact, such a decision actually comes into force from the date of its adoption.