Political attention at first focused on the financial crisis but has now shifted towards regaining budgetary stability, the immediate objective being to bring the annual deficit below the Maastricht limit of three percent of GDP in 2011. That this goal is realistic, is apparent from the latest estimates of tax revenue – revised every six months and used as a basis for tax policy planning – showing a rise of more than €30bn over the previous expectation. If this trend can be maintained, the government may well feel able to be slightly less cautious in the coming year.
At the time of writing, there are two major tax bills before Parliament, the Budget Accompanying Bill 2011 and the Annual Tax Bill 2010. The Annual Tax Bill is mostly technical and is best described as a motely collection of reactions to court cases and corrections of earlier drafting errors. It has little political message. The Budget Accompanying Bill, however, is a clear revenue raiser, explained as a bid to discourage air pollution. Its most striking feature is the introduction of an air passenger duty, a new tax for Germany levied on commercial passenger flights from German airports. The three rates are to be €8 per passenger on flights within Europe/North Africa, €25 on flights to the Middle East, Central Asia and Pakistan, and €45 on flights to other destinations. The rates have been set to yield annual revenue of €1m, the sales target for kerosene emission certificates when EU-wide trading starts in 2012. The two sources of state income are linked in as much as the duty rates are to be recalculated each year to cover the shortfall in trading income from its target. Inbound flights and cargo are not taxed.
The Budget Accompanying Bill also seeks to reduce the energy and power tax concessions for manufacturing operations and for foresters and farmers. The energy tax relief on the use of fuel oil is to be cut by one-quarter and that on gas by one-half. The present power tax refund is to be recast as a lump sum relief of €4.10 for each MWH used. This relief is almost certain to be considerably less than the present refund based on a variety of factors including achieving the national emission reduction targets.
Work is proceeding on preparing for the compulsory online submission of accounts in support of the 2010 tax returns. The finance ministry has issued instructions on the required data fields and taxonomy for the benefit of programmers and software designers. By contrast, the preparations for the paperless administration of employee income tax withheld from salaries have suffered a setback. A stopgap decree has been issued, requiring employers to continue to follow 2010 tax cards for at least 2011 and providing for suitable action where this is impossible (new joiners) or known to be inappropriate (changes in an employee’s personal circumstances). The background to this is the legislation releasing local authorities from their obligation to issue tax cards to their inhabitants in regular employment which had already been enacted before it became clear that the substitute system to be managed for the entire country by the Central Tax Office would not go live until 2012. The decree closes with a hint that further delays are not inconceivable.
On the international front, diplomatic activity concentrated on information exchange agreements with countries known, or felt, to be tax havens. Treaties based on the OECD model were signed with Anguilla, the Bahamas, the British Virgin Islands, the Cayman Islands, the Dominican Republic, Liechtenstein, Monaco, San Marino, Santa Lucia, St. Vincent and the Grenadines, and the Turks and Caicos Islands. This follows the 2009 conclusion of such treaties with Gibraltar, Guernsey, Jersey and the Isle of Man, and the insertion of an effective exchange of information clause into the double tax treaty with Cyprus. The Maltese double tax treaty has been amended and a new treaty (with retroactive application) has been concluded with the United Arab Emirates to replace the agreement previously cancelled with effect from December 31, 2008.
On a slightly more parochial level, the finance ministry has been able to finalise its long awaited transfer of functions decree augmenting the 2008 order on the transfer pricing treatment of the transfer of functions abroad. The decree is detailed and discusses its subjects in depth. It pays particular attention to the “hypothetical arm’s length price” to lie at the most appropriate point within the range between the lowest price at which a seller would still be willing to sell and the highest price a buyer would be prepared to pay. The 81-page decree assumes that the uniqueness of each function transfer will obviate any hope of basing a transfer price on an actual comparison, thus forcing the issue in favour of the hypothetical calculation. At that stage it becomes somewhat self-contradictory by asserting that each party must be assumed to have full knowledge of the situation and intentions of the other, as otherwise an objective comparison would be impossible. On the other hand, it also calls for recognition of the relative negotiating strengths and weaknesses of each party’s position whilst insisting that this includes consideration of all alternative courses of action available to either. It is apparent that these precepts combine to destroy any realistic third party comparison, leaving, in practice, the field open to the side able to marshall the more eloquent arguments. This, though, is the same fallacy into which the OECD has fallen, that of basing an assumption on an impossible situation.
As always, the Supreme Tax Court has been active in finding new law. In one, for the international community rather surprising, case, it chose to ignore the treaty override clause in the US double tax treaty for the prevention of “white” income on the grounds that the clash of concept lay not between the systems of two sovereign states, but rather within the treaty itself. An investment fund had earned income in the US on a profit-sharing loan. This was taxed in the US “as a dividend” under the dividend article of the treaty. However, the avoidance of double taxation article provides that dividends are also taxable in the country of the recipient against a credit for the tax paid in the country of source. The Supreme Tax Court held that the profit based loan interest was not a “dividend” in the strict sense of the term, but had only been taxed as one. Not being a dividend it was not subject to further taxation in Germany. All in all, the final burden was only the US withholding tax. The tax office replied with the claim that the treaty override (in the treaty and in the Income Tax Act) should come into effect in resolution of the conflict of qualification. The court, though, disposed of this claim by pointing out that the conflict was not one of qualification of income between two countries, but between the effects of two treaty provisions. This was not the subject of the override as agreed.
The Supreme Tax Court has also held following the ECJ case of Lidl Belgium (C-114/06 of May 15, 2008) that a foreign branch loss may be deducted in the year it becomes “final”, i.e. irrecoverable. In practical terms, this means it is deductible in the year that all further prospect of offset is lost in the state of source, other than by reason of law. The consequence was that a German company that closed down its French branch was able to deduct its unexpired French loss carry-forward. However, a second company in a similar situation was denied a deduction, as its right to carry the loss forward had already expired under the then five-year time limit.
Finally, the Supreme Tax Court has put an end to a dispute started by a tax official writing in the professional press to the effect that a profit pooling agreement must enumerate the conditions under which the parent will agree to bear the losses of the subsidiary. The Court has now held a reference in the agreement to the relevant section of the Public Companies Act to be sufficient, as this necessarily includes the specific items in each sub-section. The finance ministry has confirmed that this judgment should be taken as a precedent for all similar cases. Further action has been delayed pending a more radical change – group taxation – next year.
Of the many issues discussed that did not materialise during the year, the continued lack of any real R&D incentive puts Germany in stark contrast to her neighbours. Many see the unexpected improvement in tax collections as an opportunity for an investment in the future by providing tax support for this particular field. The fear, though, is that the government will see the easy, industry-led economic recovery as an indication that this support is not needed. It is to be hoped that the wiser counsels will prevail.
Prof Dr Dieter Endres is head of service line Tax at PwC Germany. For more information tel: +49 69 9585 6459;