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Tax & Legal

Tax & Legal

Supreme Tax Court to refer question to European Court of Justice on whether the real estate transfer tax exemption on conversions constitutes illegal state aid.


On 30 May 2017 the Supreme Tax Court decided to refer to the European Court of Justice (ECJ) the question of whether the real estate transfer tax (RETT) exemption on conversions – in Section 6a Real Estate Transfer Tax Act –   constitutes illegal state aid. Continue reading

No deduction of final branch losses following EU law.


Payments made to a purchaser to compensate for a poor economic position following the transfer of an interest in a partnership may not be deducted from the domestic tax base to the extent they are attributable to a foreign branch (i.e. a permanent establishment for tax treaty purposes) of the partnership. In its decision the Supreme Tax Court cited a decision of the European Court of Justice (ECJ) from 2015.

In 1999 the appellant, a GmbH, assigned its interest in a limited partnership (“the KG”) to the second limited partner. The KG held an Italian branch. The Italian branch had incurred losses in the years 1996 to 1998, which were separately assessed under Section 2a (3) Income Tax Act. Due to the expected losses of the KG, the plaintiff agreed in the course of the transfer to pay a compensation payment. This compensation payment was partially attributable to the Italian branch.

The tax office treated that part of the compensation payment attributable to the Italian branch as a non-deductible expense. Further it took the view that the relevant conditions had been met to reincorporate the Italian branch losses, which had been deducted in earlier tax years.

The tax court allowed the appellant’s appeal with regard to the deductibility of the expense. However the Supreme Tax Court reversed this decision. The compensation payment could neither be deducted as business expense nor could it be deducted as a so-called “final” loss. The decisive issue was the so-called “symmetry thesis”, according to which the tax treaty exemption of foreign income was attached to both positive and negative income. ECJ and Supreme Tax Court case law has ruled up to now that, due to the freedom of establishment rule, a loss deduction from the corporation tax base should be possible if and to the extent that the taxpayer can prove that the losses are “final” losses, namely they cannot, under any circumstances, be utilized by the foreign branch for a tax set-off. The Supreme Tax Court applied this rule not only to circumstances where the losses could no longer actually be utilized in the source state but also to circumstances where, whilst the loss utilisation was theoretically still possible in the other state, in reality it could just about be excluded and where such a loss deduction abroad became available contrary to expectations, it would, from an administrative law point of view, still be open to the German tax authorities to make a subsequent adjustment.

The ECJ has, however, in the meantime revised this case law. In its decision of 17 December 2015 (C-388/14 Timac Agro Deutschland), the ECJ held that, where there was no objectively comparable domestic situation, no concerns should arise from an EU law point of view, where a Member State, in the event of a transfer by a resident company of a permanent establishment situated in another Member State, excludes the possibility, for the resident company, of taking into account in its tax base the losses of the establishment transferred where, under a double taxation convention, the exclusive power to tax the profits of that establishment lies with the Member State in which the establishment is situated.

Whilst the Supreme Tax Court sees dogmatic doubt in the Timac Agro Deutschland decision, in the instant case it followed the view of the ECJ and refused a further referral to that court. 

Citation: Supreme Tax Court decision of  22 February 2017 (I R 2/15), published on 17 May 2017

Municipality as a business for VAT


In a recent decision the Supreme Tax Court dealt with the provision of services by public bodies under German VAT law. If the economic activities of a public body are not outstanding and distinct from its overall activities it is not a taxable business for VAT and thus not eligible to deduct input VAT incurred on the underlying costs. Continue reading

Preemptive warnings to competitors subject to VAT


A company dealing in the field of electronic data processing served its competitors with prior written warnings due to violations of general business terms and conditions and received reimbursement of the expenses incurred. The tax office assumed a taxable service being subject to VAT. The Supreme Tax Court confirmed this view. Continue reading

No extended trade tax deduction on the disposal of an interest in a real estate partnership


Profits arising from the sale of an interest in a partnership are not to be included in the extended trade tax deduction for real estate enterprises.

According to Section 9 no. 1 2nd Sentence of the Trade Tax Act (TTA), in place of the deduction under Section 9 No. 1 1st Sentence TTA (lump sum deduction of 1.2% of the assessed value of the real estate), enterprises, which exclusively manage and use their own real estate, may make an application to make an (extended) deduction relating to the part of the trading income which relates to the management and use of their own real estate.

B AG (a company) was initially the sole limited partner in the A KG (a limited partnership). In 2004 B AG sold a number of interests in its limited partnership holding and subsequently held an interest of 6%. In that year (2004) A KG managed a single logistics property in Hamburg Harbour. In its trade tax return for the year it declared total income from a trade, including the gains on disposals of the partnership interests made by B AG. An application was made for an extended deduction in the sum of the whole trading income.

The tax office argued that Section 9 No. 1 6th Sentence TTA explicitly excluded the deduction of gains on disposals of this type. A KG countered this argument by contending that Section 9 No. 1 6th Sentence TTA was introduced through a change in the law on 9 December 2014 but that the disposals of the partnership interests had been completed before the law came into force; a retrospective application of the provision would be unconstitutional. The Supreme Tax Court did not consider this argumentation, but rather came straight to the conclusion that the extended deduction (Section 9 no. 1 2nd Sentence TTA) did not apply in the first place.

According to the Supreme Tax Court the extended deduction provision applied solely to untainted income arising from the actual management of real estate (i.e. actually carried out) and not to gains arising from the disposal of a share in a partnership interest. These were operating profits. The reasoning given for this view was that when a partnership interest was sold in an enterprise which managed real estate, the consideration received was not as a rule just fixed in relation to the proportional share in the real estate. Rather the consideration also took into account the forecasted earnings, the potential increases in value and the opportunities to make profits. Accordingly the partial sale of a partnership interest did not amount to the mere exploitation of real estate but rather went beyond the management and use of own real estate.

Reference

Supreme Tax Court decision of 8 December 2016 (IV R 14/13), published on 15 February 2017.

Write-downs to fair market value resulting from foreign exchange rate differences on investment units are to be added back off-balance sheet


Where a company, which has acquired investment units in US dollar denominated equity funds, writes down the value of the investment units to their fair market value following an unfavourable development in the foreign currency exchange rate, the company must add the write down back off-balance sheet.

 

Background

The question before the tax courts was whether foreign currency exchange losses arising from the valuation of investment units could be recognised in calculating the income for corporation tax purposes. The plaintiff (a German limited company – GmbH) had valued the investment units at their lower fair market value as at the balance sheet dates. (This was a permissible treatment.) The company sold the investment units and made a profit in US dollar terms. However, due to the fall in the foreign currency exchange rate, a loss was incurred in Euro terms. The tax office recognised the loss as such, but added it back off-balance sheet according to Section 8b (3) 3rd Sentence Corporation Tax Act. This treatment was confirmed by both the tax court and the Supreme Tax Court.

 

Reduction of profits arising from write-downs to fair market value are to be neutralised off-balance sheet.

According to Section 8 (2) of the Investment Tax Act the investor’s gain arising from the shares during the time of ownership (i.e. the difference between the gain on the shares as at the valuation date and the gain as at the date of acquisition – “pro rata temporis gain”) is relevant for the determination of the level of the off-balance sheet add-back. According to the Supreme Tax Court such pro rata temporis loss had been incurred on the shares. Such a reduction in value does not only occur where the stock market price of the shares held by the investment fund goes down, but also where the value of the shares at the balance sheet date has sunk because of a fall in the foreign currency exchange rate. For tax purposes no differentiation is to be made between losses incurred through changes in the stock market price and losses incurred through changes in the foreign currency exchange rates. According to the Supreme Tax Court the purpose of the Investment Tax Act is – following the so-called investment tax law transparency principle – to put investors in funds on a par with direct investors. This should also apply to investments in equity funds. Thus an off-balance sheet add back is also required where the investor decides to write down the value of a fund unit due to a foreign currency exchange loss to ensure an equal tax treatment with direct investors.

 

Existing symmetry of the rules excludes a breach of EU law

The Supreme Tax Court took the view that the off balance sheet add-back did not amount to a restriction of the EU basic freedoms. The add-back did indeed mean that, ultimately, the foreign currency exchange rate loss was not recognised for tax purposes. However, in the opposite case of an exchange rate gain, which is reflected through a pro rata temporis gain, the law provides for a tax exemption (Section 8 (1) and (3) of the Investment Tax Act and Section 8b (2) Corporation Tax Act).

 

Reference

Supreme Tax Court decision ( I R 63/15) of 21 September 2016, published on 15 February 2017

 

Interest paid by foreign partner deductible also in case of two-tier partnership


In a decision published in March 2017 the Supreme Tax Court held that – in the case of a two-tier partnership structure – the interest expense of the Dutch partner holding only an indirect share in a German limited partnership is nevertheless tax deductible when computing his limited German tax liability resulting from his investment in the German partnership. Continue reading