The ATAD requires EU member states to implement into national law the minimum standards contained therein (which are explained below), whereas the member states may exceed such minimum standards. The minimum standards include:
- general anti-abuse rules,
- tax regulations on a limitation to the deductibility of interest,
- on the transfer of assets and exit taxation,
- on controlled foreign company (CFC) rules,
- and on the neutralization of tax mismatches in connection with hybrid arrangements.
According to the MoF, the existing German interest limitation rules and the general anti-abuse rules meet the ATAD’s requirements; however, the ATAD implementation act is supposed to implement EU requirements in connection with the taxation of transferred assets and exit taxation as well as hybrid structures and to reform CFC rules. Furthermore, the draft provides for far-reaching transfer pricing related changes.
Even if the legislative process will only be executed and completed in the course of 2020, there is a risk that the legislator intends for the package or parts thereof to be applicable with retroactive effect from the start of the assessment period.
- Outbound and inbound transfer of assets, enhancement: The terms of outbound and inbound transfer of assets (Entstrickung, Verstrickung) are known terms describing the fact that a business asset is no longer or is now becoming subject to German tax liability. For example: an asset’s transfer from the German parent company to a foreign permanent establishment (“PE”) or vice versa.
- The new term of enhancement (Verstärkung) describes the fact that a restriction of German taxation rights has been eliminated, for example, due to an assets’ transfer from a foreign PE to the German parent company.
- The concepts of “inbound transfer of tax assets” and “enhancement” implement the German tax authorities’ obligation to recognize foreign taxes on transferred assets as notional acquisition costs; the maximum recognition amount shall, however, be limited to the fair market value according to German principles. Therefore, the double taxation risk remains.
- In connection with an outbound transfer of business assets, taxation can now be spread over a period of five years by creating an adjustment item (to be released pro rata temporis) both for taxpayers with limited and unlimited tax liability. Previously, such option was not available for taxpayers with limited tax liability. Furthermore, the adjustment item can also be formed in cases of a so-called passive outbound transfer of assets
- Exit taxation: In case of a relocation from Germany, the undisclosed reserves of shares in German corporations which are held as private assets can be taxed when “finally crossing the border” without a disposal being required, provided certain requirements have been met. Exit taxation will be subject to stricter requirements.
- In future, exit taxation shall be triggered if a person has been subject to unlimited tax liability for at least seven years during the last twelve years. Previously, the laws required a continued unlimited tax liability in Germany of at least ten years.
- In future, there will be no distinction between a relocation to an EU/EEA member state or a third country. In both cases, the relocation triggers a taxation of capital gains whereas the tax payment can be spread over seven years (upon request). Previously, in case of a relocation to an EU/EEA member state, taxes were merely assessed but were collected only upon the participation’s actual sale (and as such upon the inflow of liquidity).
- In case of an only temporary absence of up to seven years, the tax claim may lapse, with retroactive effect, upon relocation to Germany. Previously, such period amounted to five years only.
- Restricted deduction of operating expenses in case of tax mismatches due to hybrid arrangements: Hybrid arrangements are constellations providing for tax-effective expenses in one country and tax-privileged income in another country. This is often due to qualification-related conflicts in connection with such constellations’ evaluation. For example, payments for the provision of capital assets might qualify as interest expense in one country but might qualify as tax-exempt dividend income in the receiving state. For several situations of such tax mismatches, the deduction of operating expenses shall be restricted in Germany.
- Correspondingly, income from hybrid arrangements shall be taxed if the deduction of operating expenses remained in effect in the foreign country.
- Furthermore, effects from hybrid PEs shall be neutralized. The exemption of income not subject to taxation in a foreign state only because the relevant state allocates such income to a PE located in another country shall no longer be possible.
CFC rules in connection with foreign companies’ low-taxed passive income
- Definition of control: The Directive demands stricter requirements as to controlled companies. Under the new law, a control triggering taxation under the CFC rules shall already exist if a taxpayer with unlimited tax liability is entitled, alone or together with closely related persons (which can also be non-resident taxpayers), to the majority of voting rights at the end of the foreign company’s fiscal year.
- Indirect attribution: According to the new law, passive income can also be attributed in case of an indirect participation. The previous concept of down-stream intermediate companies shall be cancelled.
- Intermediate companies’ passive income, list of active income: The widely criticized concept of a list of active income protecting certain income from CFC rules in a negative list would be maintained. A modernization would have been advisable as the ATAD also determines attributable income within the meaning of a list of passive income.
- Low-taxation threshold: The most criticized fact of the CFC rules’ intended revision is that the threshold is not going to be changed. The new law will continue to assume a low taxation already in case of an effective tax burden of less than 25 percent. Most states within and outside the EU have corporate income tax rates of less than 25 percent – including Germany with a corporate income tax rate of 15 percent. The 25-percent-threshold is no longer up to date. In such form, CFC rules constitute a penalty tax for investments abroad. At least, however, it results in an increased administrative burden as many foreign investments, due to the tax burden, must be examined as to their income’s active or passive nature.
- In case of a distribution or sale of the intermediate company, double taxation will in future be avoided by granting a reduction. Previously, this was ensured in the form of a tax exemption.