Term and Definition: Preferred
The term “Preferred” originates from English and literally means “preferred” or “priority”. In legal contexts, the term “Preferred” finds broad application, particularly in commercial, corporate, and insolvency law. Here, “Preferred” generally denotes a status or legal position that is given precedence or preferential treatment compared to other rights. The term is of particular importance in connection with obligations, equity interests, security rights, and the distribution of insolvency assets.
Application in Corporate Law
Preferred Shares (Vorzugsaktien)
In corporate law, especially regarding corporations, “Preferred” is often associated with so-called preferred shares. These grant holders preferential rights, for example with respect to dividend payments or liquidation proceeds, while voting rights may be restricted.
Dividend Rights
Preferred shares generally confer a priority claim to dividends, often at a fixed amount or as a percentage share of the net profit. This claim exists irrespective of whether holders of common shares receive a dividend.
Liquidation Preference
In the event of a company’s liquidation, holders of preferred shares receive a prioritized share of the liquidation proceeds. They are satisfied before holders of common shares, but remain subordinate to ordinary creditors.
Conversion and Subscription Rights
Some preferred shares are equipped with conversion rights. These allow shareholders to convert their preferred shares into common shares under certain conditions. In addition, international legal systems provide rules regarding subscription rights and other special rights.
Preferred Position within Equity Rights
Other forms of companies, such as limited partnerships or cooperatives, can also grant preferred rights through their articles of association or partnership agreement. This may concern preferential distributions or certain participation rights in internal corporate decisions.
Preferred Claims in Insolvency Law
Concept of Priority (“Preferred Creditors”)
In insolvency law, “Preferred” typically refers to claims that rank ahead of ordinary (unsecured) or subordinated creditors. These so-called preferred creditors enjoy a priority status in the distribution of the insolvency estate.
Statutory Regulations on Preferred Claims
Under German Insolvency Law
According to the provisions of the Insolvency Code (InsO), there are certain estate liabilities and priority creditors whose claims are satisfied preferentially from the insolvency estate. Examples include remuneration claims of the insolvency administrator, payments to social security, or certain employee claims.
International Relevance
In common law, the term Preferred in the insolvency context is widely used to distinguish between preferred claims and non-preferred or subordinated claims. Preferential treatment can arise from statutes, contracts, or security interests.
Impact on Creditor Satisfaction
The preferential treatment results in preferred creditors being satisfied before all other subordinated creditor classes. Only after these preferred claims have been fully met will remaining claims be addressed. This is of considerable significance for the ranking of creditors and the expected recovery rate.
Preferred Status in Security Law
Preferred Lien (priority security interests)
In security law, “Preferred” in connection with “Lien” denotes a superior security interest, often in relation to rights in movable assets or real estate. A preferred lien has priority over subordinated security interests, so that the creditor is satisfied first from the proceeds of the collateral.
Application in Different Legal Systems
The structuring of priority security interests is particularly detailed in US and British law. In German legal relationships, preferential treatment is usually established by statutory or contractual arrangements, such as the registration of priority in the land register.
Preferred in International Contractual Practice
Preferred Status as a Contractual Clause
In international commercial contracts or license agreements, the Preferred Status is used to grant particular parties special rights. This may involve a priority claim to services, supply volumes, or contract extensions, for example.
Legal Consequences of a Preferred Clause
The Preferred clause is binding and establishes an immediate, legally enforceable priority position of the benefiting party compared to other contracting parties. The precise structure requires a clear contractual agreement, the scope of which is subject to interpretation in case of dispute.
Tax Implications
Preferred Instruments and Tax Obligations
The structuring of preferred shares, preferred debts, or preferred liens can have tax implications. For instance, distributions on preferred shares may be treated differently for tax purposes from those on common shares, particularly in international tax law.
Summary and Legal Significance
The term “Preferred” designates a preferred or priority legal position in various legal contexts. This is evident with equity rights (Preferred Shares), in insolvency proceedings (Preferred Creditors), in security interests (Preferred Lien), or as a priority status in contractual relations (Preferred Status Clause). The precise legal form and effect depend on the applicable legal system, the relevant area of law, and the contractual arrangements.
A sound understanding of preferred-type regulations is essential for the secure structuring and enforcement of rights in corporate, insolvency, and property-related matters.
Frequently Asked Questions
What are the legal bases for preferred shares in Germany?
Preferred shares, also known as Vorzugsaktien, are regulated in Germany under the Stock Corporation Act (AktG). The most important legal provisions are especially found in §§ 139 ff. AktG. According to these, the articles of association of a stock corporation may stipulate that certain classes of shares enjoy special rights, namely priority rights in profit distribution. However, the withdrawal of voting rights is permissible under German law only under certain conditions, for example, in the case of preferred shares without voting rights (§ 140 AktG). It must also be ensured that any priority rights—such as priority or increased dividend rights—are clearly specified in the articles of association. Statutory restrictions exist both as to the maximum number of voting and non-voting share classes and with regard to the relief for catch-up dividends. Capital market law provisions, such as those in connection with the Securities Prospectus Act, must also be observed when publicly offering preferred shares.
What rights do holders of so-called preferred shares have over holders of common shares?
Holders of preferred shares regularly enjoy certain priority rights over common shareholders. Under German law, this particularly concerns preference in the allocation of profits (priority or higher dividend) and—depending on how the articles of association are drafted—priority in liquidation proceeds. It is also possible for preferred shares to be equipped with other special rights, such as pre-emption or exchange rights. However, the structuring is subject to legal requirements: Preferred shares may be restricted or excluded from voting rights in whole or in part, with a catch-up mechanism for dividends typically provided if the dividend cannot be distributed in a given year (§ 140 para. 1 AktG). Special minority rights, such as the right to request the convening of a general meeting or particular participation rights, generally do not exist for preferred shareholders beyond the statutory minimum—unless otherwise specified in the articles of association.
How are preferred shares issued in Germany, and what requirements apply?
The issuance of preferred shares requires a resolution by the general meeting to amend the articles of association, as the issuance and structuring of preferred shares must be explicitly regulated therein (§ 139 AktG). The articles must especially specify the scope of the preferences and any restrictions clearly. For the issuance of non-voting preferred shares, special requirements must be observed: The total number of non-voting preferred shares may not exceed half of the share capital (§ 139 para. 2 AktG), otherwise too large a share of shareholders would be excluded from voting rights. § 186 AktG (pre-emption right) must also be observed at the time of issuance. When preferred shares are publicly offered, the provisions of the Securities Prospectus Act (WpPG) and, for listed companies, the regulations of the respective stock exchanges and the Securities Trading Act (WpHG) apply.
What are the tax-specific features of preferred shares?
Preferred shares in Germany are generally subject to capital gains tax on dividends and profits from disposal or repayment, like other shares. The tax treatment does not depend on the share class but rather on the shareholder’s earnings situation and the general tax regulations. Passive income from dividends is taxable as investment income; this applies regardless of whether it comes from preferred or common shares. However, special regulations may apply for investment funds and institutional investors, for example with respect to partial exemptions or determining the tax contribution account. In the case of international preferred shares, the applicable double taxation agreement must also be taken into account, which governs the taxation of dividends and any capital gains between the country of source and residence.
How are preferred shares treated in the event of company liquidation?
In the event of a company liquidation, preferred shareholders are often granted preferential satisfaction from liquidation proceeds according to how the articles of association are drafted. This means that preferred shares are satisfied with priority (often up to the nominal value or a certain multiplier) before common shareholders. The exact structuring of the liquidation preference must be stipulated in the articles. If there is no explicit provision, the general rules of company law apply, so that preferred and common shareholders are treated equally in proportion to their shares in the capital. It is particularly important to note that insolvency law ensures that priority creditor rights—such as secured claims and insolvency creditors—take precedence; only the remaining amount can be distributed to shareholders. Domestic and foreign preferred shares may be subject to different regulatory mechanisms in the issuer’s insolvency, which must be considered in an international context.
To what extent are preferred shares subject to codetermination and shareholder participation rights?
Preferred shares without voting rights are, as a rule, excluded from voting on matters affecting the share capital, articles of association, or major company transformations. An exception is provided in § 140 para. 2 AktG: If the preferential dividends for a preferred share are not granted in a financial year, or are not granted in full, these shares receive full voting rights in the following financial year, as long as the arrears are not made up. This is to ensure that voting participation is possible in the case of repeated disadvantage. For preferred shares with voting rights, the regular company law provisions apply. If special structural measures (squeeze-out, transformations, etc.) are planned, the articles of association of the preferred class may grant special rights, such as a separate right of approval, though this is not mandatory by law and must be expressly agreed. In addition, according to § 180 AktG, a conversion or split requires the approval of all affected shareholder classes if their rights are affected.
What role do preferred shares play in takeover offers under WpÜG?
The Securities Acquisition and Takeover Act (WpÜG) generally stipulates that a takeover offer must be addressed to all shareholders of a listed company. This also includes preferred shareholders, regardless of whether or not they possess voting rights. The principle of equal treatment (§ 3 para. 1 WpÜG) requires that the offer is made on the same terms for all types of shares, unless the articles of association provide for a different content for preferred shares (such as a higher liquidation value). Special circumstances arise if the articles provide conversion rights or compulsory conversion clauses for preferred shares: In such cases, the specific rights of preference shareholders must be taken into account in the takeover offer, and, where necessary, an adjustment taking into account pro rata claims must be made. If the rights of preferred shareholders are adversely affected by the offer, a separate approval by their assembly or class may be required.
