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Tax Planning: Cross-Border Taxation in Europe (From a German Perspective). Prof. Dr. Ulrich Prinz, WP/StB August 11, 2008. AGENDA. Business Taxation in Germany: Overview Cross-Border Business Tax Consolidation ( Organschaft ) New German Interest Cap Rule ( Zinsschranke )

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Tax Planning:Cross-Border Taxation in Europe(From a German Perspective)

Prof. Dr. Ulrich Prinz, WP/StB

August 11, 2008


Agenda l.jpg
AGENDA

  • Business Taxation in Germany: Overview

  • Cross-Border Business

  • Tax Consolidation (Organschaft)

  • New German Interest Cap Rule (Zinsschranke)

  • Other Aspects of Cross-Border Taxation

    • Treaty shopping / treaty override

    • Losing the losses

    • New German DTT policy?


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Business Taxation in Germany: Overview of German Business Entities

  • Aktiengesellschaft (AG): Public limited company

    • Fixed share capital (at least EUR 50,000) divided into shares

    • Legal entity, can be listed on a stock exchange

    • Dividend payments (half income system/new flat tax, 25 per cent, starting 01.01.2009)

  • Gesellschaft mit beschränkter Haftung (GmbH): Private limited company

    • Fixed share capital (at least EUR 25,000)

    • Legal entity

    • Dividend payments (half income system/new flat tax, starting 01.01.2009)


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    Business Taxation in Germany: Overview of German Business Entities

    • Offene Handelsgesellschaft (OHG): General partnership

      • At least two partners

      • No share capital required

      • Partners are jointly and severally liable for the firm’s liabilities

      • Partners’ profits and losses directly earned (transparency principle)

  • Kommanditgesellschaft (KG): Limited partnership

    • One or more general partners with unlimited liability and

    • At least one partner whose liability is limited

    • Partners’ profits and losses directly earned (transparency principle)


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    Business Taxation in Germany: Overview of German Business Entities

    • GmbH & Co. KG: Limited partnership with a private limited company as the general partner

      • For tax purposes treated as a limited partnership

      • Very common structure for medium-sized entities

  • Result from a tax perspective:

  •  Dual structured taxation of business activities

    X

    100

    shareholder

    dividend payment

    withholding tax(25%, 01.01.2009)

    partner

    profit/loss

    no withholding tax

    limitedpartner

    GmbH

    0

    AG/GmbH

    KG/OHG

    KG

    two taxpayers

    one taxpayer/transparency

    mixed structure


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    1. EntitiesBusiness Taxation in Germany: Overview of German Business Entities

    • Overall tax burden for an entity ≤ 30 per cent; transparent partnership with natural person or co-entrepreneur (sog. Mitunternehmer) up to 45 per cent income tax; special tax rate for retained earnings in a partnership: 28.25 per cent

      • Corporation tax (tax rate15 per cent from 01.01.2008)

        + solidarity surcharge 5.5 per cent = 15.8 per cent

      • Trade tax (= municipal tax, multiplier for trade tax purposes = 300 – 490 per cent, depending on municipality); average 14 per cent or slightly higher

      • Dividend payment: 25 per cent to a natural person (01.01.2009); to a company: 95 per cent tax exemption

    • Value-added tax: VAT (19 per cent standard rate, 7 per cent for specifically defined goods)

    • Real estate transfer tax (3.5 per cent of real estate value; 95 per cent transfer of a company (shares) or a partnership may trigger real estate transfer tax if the company owns real estate)


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    1. Business Taxation in Germany: EntitiesSome Basics for Companies

    • Every calendar year for income, corporation and trade taxes (a business year for a company can deviate from the calendar year)

    • Tax base for legal entities is fixed in the Corporation Tax Act (KStG)

    • KStG refers to the Income Tax Act (EStG, natural persons)

    • All income for a company is categorised as income from trade and business

    • Worldwide income as tax base for residents (but DTT to avoid double taxation mostly in line with the OECD Model Treaty)

    • Principle of congruency (Maßgeblichkeitsprinzip)  CCCTB project is planned by the EU Commission (= Common Consolidated Corporate Tax Base; IFRS as starting point; planned directive in autumn 2008)

    • Taxable profit/loss shown in the Steuerbilanz (balance sheet prepared for tax purposes) is the basis for taxable income


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    Objective of the CCCTB Entities

    • In addition to single targeted measures by the Commission (loss relief, exit taxation etc.), the CCCTB is to be a comprehensive measure to effectively remove/mitigate significant tax obstacles hampering growth and development in the Internal Market and, e.g.:

      • Reduce compliance costs of 27 different tax systems and tax administrations;

      • Reduce conflict of national tax law with EU law (violation of fundamental freedoms);

      • Remove transfer pricing problems;

      • Allow full intra-group consolidation;

      • Avoid double taxation;

      • Simplify EU corporate restructuring.


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    Basic Principles of the CCCTB Entities

    • Computation / allocation of the tax base

      (1) Computation of taxable income at the level of each group member according to a harmonised, common set of rules.

      (2)Consolidation of individual income of group members to group income.

      • Allocation of consolidated group income to group members located within the EU by means of an allocation key (apportionment of consolidated income).

        (4) Taxation of the allocated income in the Member States (MS) at each MS’s own tax rate

        • No harmonisation of tax rates!

        • Transparent tax competition between MS on tax rates only!


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    2. Cross-Border Business: Basic Considerations Entities

    Example:A Inc., a corporation resident in the US, plans to start up business in Germany. The corporation renders computer management services to German customers. The Chief Executive Officer has to decide whether to:

    • found a permanent establishment (PE),

    • form a corporation under German law or acquire a shareholding in a German joint venture company or

    • participate in a German partnership.

      What do you think the differences are from a tax point of view? M&A perspective: difference between share deal and asset deal.


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    2. Cross-Border Business: Permanent Establishment Entities

    United States

    PE = subject to limited taxation in Germany


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    2. Cross-Border Business: Permanent Establishment Entities

    • Dependent part of the enterprise

    • Criteria in German tax law: Sec. 12 of the General Tax Code (AO)

    • Criteria in double tax conventions (Art. 5 OECD-MC)

    • Modified dealing at arm’s length principle (Art. 7 OECD-MC)

    • Subject to taxation as a non-resident (source taxation)

      • Business expenses only deductible for income determination purposes if commercially related to Germany

      • Deduction of losses is unrestricted if losses are commercially related to German income and can be demonstrated

      • Tax rate 15 per cent + trade tax; no withholding tax


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    2. Cross-Border Business: Subsidiary Entities

    United States



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    2. Cross-Border Business: Subsidiary/Joint Venture Entities

    Which function will be assigned to the German subsidiary/joint venture concerning sales activities?

    • Fully-fledged

    • Commission model or

    • Agent model


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    2. Cross-Border Business: Subsidiary/Joint Venture Entities

    • Independent corporation under German law

    • Acting in its own name and on its own account

      • Function in Germany

      • Stripped buy-and-sell

    • Subject to German taxation as resident

      • Business expenses deductible

      • Deduction of losses possible

      • Tax rate 15 per cent on taxable income

      • Subject to trade tax

    • Source taxation of profits  withholding tax on dividend payments to the shareholder, DTT



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    2. Cross-Border Business: Partnership Entities

    • Independent partnership under German law

    • Acting in its own name and on its own account

    • Subject to trade tax but not to corporation tax or income tax

    • Transparency principle  tax rate at least 25 per cent for non-resident taxpayers

      • Business expenses deductible

      • Deduction of losses possible

    • (Liability risk)


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    3. Tax Consolidation, Tax Group ( EntitiesOrganschaft): Overview

    Example:P AG, resident in Germany, has several subsidiaries (different legal forms and different economic situations). Every company itself, i.e. P AG and its subsidiaries, pays taxes in Germany on its own (corporation tax, trade tax and VAT); Logistics GmbH makes losses and therefore pays no taxes; Thames Ltd pays taxes in England. The Finance Director wants to know whether German tax law allows group treatment. In commercial law, P AG and its subsidiaries are treated as a group (P AG World Net).

    What would you suppose?


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    3. Tax Consolidation, Tax Group ( EntitiesOrganschaft): Overview

    P AG World Net Group


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    3. Tax Consolidation, Tax Group ( EntitiesOrganschaft): Overview

    German tax law allows tax consolidation (group treatment but without consolidated accounts) for the purposes of

    • Corporation tax

    • Trade tax

    • VAT (special criteria: economic and organisational integration)

      if a subordinate corporation (consolidated subsidiary) is integrated into the enterprise of the controlling parent corporation.

    same criteria


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    3. Tax Consolidation Entities

    • Financial integration

      • Majority of voting rights (qualified majority)

      • Indirect shareholding via subsidiary possible

    • Profit transfer agreement (profit-and-loss absorption agreement)

      • At least five years

      • Recorded in the register of companies

      • Indirect profit-and-loss absorption agreement possible?

    • Only resident legal entities can be part of tax consolidation; that means Asset Management GmbH & Co. KG cannot be part of the organic unit, but it can be the parent company for B Services GmbH.

    • Thames Ltd., as non-resident company, cannot be part of the German tax group. Violation of the EU non-discrimination rules?


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    3. Tax Consolidation: Consequences Entities

    • Losses of the consolidated subsidiary can be offset against the profits of the parent or vice versa; P AG is liable for all risks in the group

    • No withholding tax on dividends distributed by the consolidated subsidiary to the parent

    • No denial of refinancing expenses at parent level directly in connection with the shareholding in the consolidated subsidiary pursuant to Sec. 3c EStG

    • Structure with a minority shareholder is difficult  guaranteed dividend payments


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    4. Business Tax Reform 2008: General Interest Cap ( EntitiesZinsschranke)

    • General interest cap has replaced the former thin capitalisation rules (starting January 1, 2008). Anti-abuse provision?

    • New rule places an annual cap on all interest deductions (related and unrelated parties)

      • It disallows a deduction for net interest expenses exceeding an amount equal to 30 per cent of taxable income before interest income and interest expenses, depreciation and amortisation (EBITDA)

      • Interest expense above 30 per cent of EBITDA can be carried forward

    • Smaller businesses excluded if

      • Net interest expenses below 1.0 million euros (threshold) per year

      • The company does not belong to a group. Additionally for corporations: No excessive related party debt (25% shareholding, 10% of the net interest balance to the shareholder)


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    4. Business Tax Reform 2008: General Interest Cap ( EntitiesZinsschranke)

    • Special escape clause: the German business is part of a group and its equity ratio is not lower than the worldwide group’s equity ratio. Very complex and nearly unadministrable for the tax authorities

    • Companies that form part of a German Organschaft are treated as one commercial establishment for general interest cap purposes (mostly an advantage, but only a EUR 1 million threshold)


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    4. Business Tax Reform 2008: General Interest Cap Entities

    The German X partnership (belonging to an international group) shows a profit/loss for the period of 0 euros on its profit and loss account. For the same period the company had interest expenses of 10.0 million euros, interest income of 1.0 million euros and depreciation of 2.0 million euros.


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    Problems with the General Interest Cap Entities

    • Similar to the U.S. earnings stripping rules, but the focus of the U.S. rule is more specific

    • Temporary double taxation  it violates the fundamental principle of taxing net income exclusively

    • Losers of the interest cap rule: companies with high losses, fast growing start-up companies, the property sector and holding companies. Schön: “A corporate tax reform for winners”

    • Infringement of the fundamental EU freedoms? Organschaft regime does not yet provide for cross-border consolidation, therefore foreign investors have more trouble with the interest cap

    • Problem for private equity funds (especially with the escape clause)


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    5. Other Aspects of Cross-Border Taxation Entities

    – Losing the losses – New change of ownership rule (Sec. 8c KStG)

    US Corp.

    • if between 25% and 50% of the company shares are transferred to one acquirer or to related persons, the company’s NOLs will be forfeited proportionally

    • if more than 50% of the shares are transferred, the company’s entire NOLs are forfeited

    • direct and indirect transfer within five years

    • corporate tax NOLs, trade tax loss carry forwards and interest carry forwards (under the new interest cap)

    D HoldingGmbH

    NetherlandsBV

    T 1

    T 2

    E 3*

    * loss carry forwards


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    5. Other Aspects of Cross-Border Taxation Entities

    • New German rules against treaty shopping

      • Treaty shopping = selecting a tax-favourable dividend route to repatriate profits

      • Treaty override = the enactment of domestic legislation intended by the legislature to have effects in clear contradiction to in- ternational obligations (OECD Committee on Financial Affairs)

      • Withholding tax relief for inbound structure is limited. It is granted to foreign companies if the foreign company shareholders could enjoy the same relief as if they received the German-source income directly.


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    5. Other Aspects of Cross-Border Taxation Entities

    Substance over form = new German anti-treaty-shopping rule (Sec. 50d EStG): The German legislature has increased the substance requirements for non-German companies to benefit from withholding tax relief, in particular with respect to dividends, interest or royalties provided for by DTT or EU directive. A foreign company is in general entitled to neither full nor partial tax relief if

    • there are no economic or other relevant reasons for its interposititon,

    • not more than 10% of its aggregate gross revenue for the relevant financial year is generated from the company’s own economic activities or

    • it fails to participate in the open market place with business operations that are adequately equipped for the business purpose pursued by the company


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    Monégasque Entitiescitizen

    no DTT

    Swisscorporation

    DTT

    German op.co.

    5. Other Aspects of Cross-Border Taxation


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    Contact: Entities

    Prof. Dr. Ulrich Prinz

    Wirtschaftsprüfer/Steuerberater

    E-mail: [email protected]

    BONN

    Johanna-Kinkel-Str. 2 - 453175 BonnPostfach 26 01 51  53153 BonnTelefon: 0228 / 95 94 - 0Telefax: 0228 / 95 94 - 100 E-Mail: [email protected]

    BERLIN

    Friedrichstr. 69(Eingang Taubenstraße) 10117 Berlin Postfach 04 07 60  10064 BerlinTelefon: 030 / 21 00 20 - 20 Telefax: 030 / 218 46 86E-Mail: [email protected]

    FRANKFURT AM MAIN

    Platz der Einheit 160327 Frankfurt/M.Postfach 10 08 52  60008 Frankfurt/M.Telefon: 069 / 71 703 - 0Telefax: 069 / 71 703 - 100 E-Mail: [email protected]


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