On 23 November 2018, the German Federal Council (Bundesrat) approved the Annual Tax Act 2018 under the name “Tax Act for the Prevention of VAT Losses from Trading with Goods over the Internet and Amendment of Further Tax Provisions”, hereinafter “the Act”.
In the following, some of the key changes related to corporate income taxation are discussed.
Extension of the limited tax liability of real estate investments
Taxation of capital gains upon the sale of shares in a non-resident corporation with German real estate.
According to various double tax treaties with other jurisdictions (such as Luxembourg), Germany already has the taxation rights regarding capital gains upon the sale of shares in a non-resident corporation provided that the corporation’s assets consist of more than 50% directly or indirectly owned German real estate.
However, the domestic tax law did not cover such capital gains. These were only subject to German Corporate Income Tax if the corporation being sold had its residency or place of management in Germany. Hence, the capital gain upon the sale of shares in a non-resident corporation without a place of management in Germany was not taxable even though Germany actually had the right to tax those capital gains.
The Act determines that capital gains upon the sale of shares in any resident or nonresident corporations will be taxable, if the value of the shares derives indirectly or directly more than 50% from German real estate at any point in time during the 365 days prior to the sale of the shares.
The Act will have an impact on individuals who hold directly the shares in a real estate-corporation as the capital gain will be taxed in Germany whereas in case the shares will be sold by a corporate shareholder the existing tax exemption of capital gains will apply.
Taxation of value changes of assets with economic relation to German real estate. According to the Act, the taxable income from the sale of German real estate shall also include value changes of assets related to German real estate. The changes are based on a court decision of the Federal Court of Finance according to which the waiver of a loan connected to German real estate did not lead to a limited taxation in Germany. In future, a waiver of such loan by the lender leads to (or rather increases) the taxable income of the borrower in Germany.
Amendment of the change-of-ownership rules
German tax law includes change-of-ownership rules for corporations after which German loss attributes such as loss carryforwards, current losses and interest carryforwards are forfeited upon a harmful change of ownership. If more than 50% of the shares in a corporation are transferred either directly or indirectly within a five years period, the loss attributes will be forfeited. If more than 25%, but not more than 50%, of the shares are transferred within a five years period, the loss attributes were forfeited on a pro rata basis.
However, the Federal Constitutional Court ruled that the pro rata loss forfeiture is unconstitutional for the years 2008 to 2015 and ordered the legislator to pass a legal provision by 31 December 2018 that removes this violation of the constitution with retroactive effect for that period of time.
In order to implement this requirement, former Sec. 8c (1) Sentence 1 Corporate Income Tax Act (CITA) (pro rata forfeiture for change of ownership of more than 25% up to 50%) shall no longer be applicable and has been removed retroactively for transfers after 31 December 2007 according to the Act. Therefore, German change-of-ownership rules are not applicable for a change of ownership of 50% or less but only for a change in ownership of more than 50% for any transfers after 31 December 2007. However, a legal court proceeding regarding the constitutionality of the full forfeiture (for change of ownership of more than 50%) is currently pending at the Federal Constitutional Court.
Furthermore, Sec. 34 (6) CITA reinstates the so-called “restructuring exemption” provision (Sec. 8c (1a) CITA), after which German loss attributes of a company are not forfeited if the company had a change of ownership within the course of a restructuring driven by financial hardships. On 26 January 2011, the European Commission ruled that the “restructuring exemption” constitutes unlawful State aid. Consequently, the application of the “restructuring exemption” was suspended retroactively.
However, the European Court of Justice ruled on 28 June 2018 (against the European Commission), that the “restructuring exemption” does not qualify as unlawful State aid. As a consequence, the Act reinstates the “restructuring exemption” retroactively to 2008.
In addition, Sec. 8d CITA allows to retain German loss attributes upon application under certain requirements for changes of ownership after 31 December 2015.
Implications and recommendations
Besides the abovementioned law changes and extensions, the Annual Tax Act 2018 also includes a number of other changes and amendments, in particular to the Income Tax Act, the Value Added Tax Act and the Investment Tax Act that should be analysed in detail.
It is recommended to review all German inbound real estate structures in order to avoid falling into the extended limited tax liability of real estate investments. Furthermore, it is recommended to file an appeal against tax assessment notices issued by the tax authorities for fiscal years from 2008 onwards covering full and partial loss forfeiture due to change of ownership since the legal proceeding regarding full forfeiture is still pending at the Federal Constitutional Court in order to retain German loss attributes.