In a dispute between Germany and Austria on the right of taxation of payments from registered certificates an ECJ advocate general has suggested that such interest should be taxed only in the country of residence of the beneficial owner unless such debt-claims explicitly provide the creditor with a participation in the debtor’s profits.
A dispute currently pending before the European Court of Justice (ECJ) relates to the interpretation and application of Article 11 of the double tax treaty between Austria and Germany as regards the right of taxation of interest from registered participation certificates (profit participation certificates – known as ‘Genussscheine’) acquired by UniCredit Bank Austria AG (Bank Austria) from the German Westdeutsche Landesbank (WestLB) as the issuer of the certificates. According to Art. 11 (1) of the treaty “interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State”. Apart from this general rule Art. 11 (2) states “that income from rights or debt-claims with participation in profits (…) or income from profit-participating loans and profit-sharing bonds, may also be taxed in the State in which it arises, in accordance with the laws of that State”. Interest is thereby defined as income from debt-claims of every kind, whether or not secured by mortgage and whether or not carrying a right to participate in the debtor’s profits, Art. 11 (3) of the treaty.
Under the terms of issue, the amount of the annual payment was a percentage of the nominal value of the certificate ranging from 4.4% to 7.4%. Since the issuer had made profits over the entire holding period of the certificates the interest has always been paid at the fixed annual rate as provided for in the terms of issue. Austria claims that the remuneration from the certificates is not a “participation in profits” within the meaning of Article 11 (2). Germany takes the contrary view and claims the right to tax the interest as well. Since a mutual agreement procedure initiated by Austria failed in 2011 the case was brought before the ECJ. In its opinion the Advocate General (AG) feels that the context in which the phrase “income from … debt-claims with participation in profits” is used and the objective and meaning of Article 11 of the German-Austrian treaty calls for a strict interpretation and be limited to situations in which the remuneration from the debt-claim varies and depends – at least partially – on the amount of the debtor’s profits. In the case at hand, though, the certificates grant an entitlement to the payment of annual interest at a fixed predetermined rate calculated on the basis of the nominal value of those certificates. The terms of issue do not provide that the interest rate is to be supplemented, at the very least, by a variable element representing a part or a share of the profits made by the debtor. Thus, irrespective of the amount of profit of the debtor, the interest rate is based solely on the nominal value of the certificates.
In conclusion, the AG considers that the claim made by Austria must be granted and therefore proposes to the Court to hold that the term ‘income from rights or debt-claims with participation in profits’ – as contained in Article 11(2) of the double tax treaty between Germany and Austria – covers income which provides a creditor with a part or a share of the debtor’s profits, but not income which varies only in the event of losses incurred by the debtor. As to the latter, the AG concedes that the interest rate may be reduced to zero where the debtor incurs losses. However, if no losses are incurred in subsequent years, the creditor would be entitled to payment of arrears during those years and therefore this is rather a suspension of interest until the bank returned to profitability than a clause for participation in profits.
It should be noted, that the German Supreme Tax Court in an earlier judgment I R 53/09 of 26 August, 2010 has held otherwise, namely that a contractual profitability condition renders the interest profit-dependent and thus entitles Germany to withhold tax on the interest paid to the Austrian recipient (creditor).
The ECJ case reference is C-648/15 Austria v Germany opinion of April 27, 2017.