Thomas Sauter, KPMG Frankfurt

For editorial cut-off date, disclaimer, and notice of copyright see end of this article.

1. Introductory

The Act for the Curtailment of Illegal Employment in the Construction Industry (Gesetz zur Eindämmung illegaler Betätigung im Baugewerbe) of 30 August 2001 became law on 7 September 2001 (BGBl I 2001, 2267). The law was prompted by concerns that contracts awarded to foreign construction firms, shady subcontractors, and sham enterprises were resulting in tax evasion, reckless understatement of tax, and other acts jeopardising the collection of tax revenues.

The core requirement of the new law is that, starting on 1 January 2002, the recipient of construction work (the purchaser) must withhold 15 % of the gross amount of the consideration (generally, money payments) paid to the party performing construction work (the contractor). The amount withheld is remitted to the appropriate tax office for the account of the performing party, which may credit the amount withheld against its tax liability. This compliance mechanism is intended to secure the tax authorities' claims against the performing party for wage tax and personal and corporate income tax.

The new provisions are contained in §§ 48 ff. EStG (Income Tax Act). Regulations governing application of the statutory provisions were issued by the Federal Ministry of Finance in November 2001 (FR 2001, 1237). The 2001 Tax Amendment Act modified § 48 (1) EStG so that the construction withholding tax (Bauabzugssteuer) no longer applies to construction work commissioned by landlords who let no more than two dwellings.

The law applies to all construction work provided to public law legal entities (juristische Personen des öffentlichen Rechts) or to entrepreneurs within the meaning of § 2 UStG (VAT Act). Construction work is defined as all work of the types listed in §§ 1 and 2 of the Construction Business Ordinance (Baubetriebsverordnung - BauBVO) involving the construction, repair, maintenance, modification, or removal of buildings or other structures. The term thus extends beyond erecting and adding onto structures to include repair work (such as installation work or painting), causing such work to fall within the scope of the statute.

In late September 2001, the Federal Ministry of Finance issued a publication (available on the Internet at providing guidance on the application of the construction withholding tax.

2. Substantive law (§ 48 EStG)

2.1 Basic rules

Persons commissioning construction work supplied in Germany to an entrepreneur within the meaning of § 2 UStG or to a public law legal entity must withhold 15 % of the gross amount of the consideration owing. The rule applies to lessors of residential property who purchase construction work only if they let three or more dwellings.

The purchaser may dispense with withholding only if, at the time of payment, the purchaser is in possession of a valid certificate of exemption as defined in § 48b EStG (see below) or if the entire consideration conferred by a purchaser on a performing party in the calendar year is not anticipated to exceed certain limits. The general limit is Euro 5,000. A higher limit of Euro 15,000 applies for purchasers that effect solely tax exempt (zero-rated) output supplies within the meaning of § 4 no. 12 sent. 1 UStG (such as persons who let real property).

Compliance with § 160 (1) sent. 1 AO (requiring identification of creditors and recipients of payments) is waived where tax is withheld as required or where no withholding applies because an exemption certificate was issued or the de minimis limits were not exceeded.

Consideration is defined as the sum paid plus VAT owing thereon.


Withholding at the 15 % rate is required even with respect to work performed by "reputable" domestic firms since application of the tax only to foreign firms could disadvantage them and hence violate European law.

Withholding is required on all consideration passing on or after 1 January 2002 including advance payments, part payments, and payments on account. Non-cash consideration such as tangible objects or the performance of services also constitutes consideration within the meaning of § 48 EStG. The law does not specify how withholding is to take place in such circumstances, however. The publication issued by the Federal Ministry of Finance also provides no guidance on this issue.

If initially no tax was withheld in the expectation that the stated limits would not be exceeded, tax on the entire amount of consideration that has passed becomes owing as soon as the limit is exceeded.

3. Procedural matters (§ 48a EStG)

3.1 Basic rules

The purchaser is required to file a return on an official form and remit the amount withheld to the appropriate tax office for the account of the performing party by the 10th of the month following that in which consideration passed (payment was made). The purchaser must itself determine the withholding amount and report it on the official form.

The purchaser is required to issue a withholding statement to the performing party showing this party's name and address, the invoice amount, the invoice date, the date of payment, the amount withheld, and the tax office to which this amount has been reported.

The purchaser is liable for failure to withhold or underwithholding. The purchaser is discharged from such liability only if it was in possession of an exemption certificate on which it could rely. No discharge occurs if the purchaser knew or was grossly negligent in not knowing that the exemption certificate was obtained by dishonest means or on false information.

3.2 Online verification procedure

The Federal Office of Finance (Bundesamt für Finanzen) has established an online procedure for checking the validity of withholding exemption certificates. The purchaser must enter the code number (Sicherungsnummer) on the exemption certificate in order to verify the online status of the exemption in question. Purchasers who fail to avail themselves of this procedure will probably not be permitted to rely on a particular exemption certificate if, at the time of payment, recourse to this online procedure would have indicated the exemption certificate to be invalid.

The Internet address of the Federal Office of Finance is


For performing parties (contractors) not established in the domestic territory, the tax office to which withheld tax must be remitted is determined under newly enacted § 20a AO, which in turn refers to the Ordinance Regarding VAT Jurisdiction Over Entrepreneurs Established in Foreign Countries (UStZustVO).

Even if the purchaser files VAT returns at a later date by reason of a general filing extension or because such returns are filed quarterly instead of monthly, § 48a EStG still requires the withholding return to be filed and the amount withheld to be remitted by the 10th of the month following that in which consideration passed.

4. Exemption certificates under § 48b EStG

4.1 Provisions

The tax office with jurisdiction will issue an exemption certificate to the performing party upon request provided the relevant tax revenues do not appear to be in jeopardy and, in the case of foreign performing parties, an authorised domestic agent has been appointed to permit proper notice of the exemption to be given. If the performing party provides the exemption certificate to its purchaser, the purchaser is released from its obligation to withhold with respect to the performing party (see comments on § 48a EStG above).

Tax revenues will in particular be assumed to be in jeopardy when the performing party has not complied with its obligation to give notice of commencement of business activity under § 138 AO or not fulfilled its obligations to provide information and cooperation under § 90 AO (clarification of facts) or failed to show tax residence in a foreign country by producing certification from the foreign tax authorities.

If the performing party can make a credible showing that no tax liability will arise, hence that there is no need to secure compliance, the tax authorities should issue an exemption certificate (directory provision).

Exemption certificates are issued on an official form and contain the name, address, and tax identification number of the performing party, the period of validity of the exemption, and the name of the issuing tax office. A restrictive exemption specifies the scope of the exemption and, if applicable, the purchaser(s) to whom it applies.

Upon revocation of a restrictive exemption, the tax authorities must notify the purchasers affected thereby.


There is no prescribed form that must be used to request an exemption certificate. The Federal Ministry of Finance has, however, published a questionnaire on its Internet site ( containing the information required from performing parties not presently registered with a German tax office.

Whether a certificate of exemption is issued and whether, if issued, it will be restricted as to duration or scope, is within the discretion of the respective tax office. Repeated unexcused failure to report and remit the entire amount of tax owing and failure to file complete or timely tax returns will at any rate be regarded as grounds to assume the collection of tax revenues to be in jeopardy.

Certifications from foreign tax authorities must generally be translated into German.

A showing that no tax liability will arise, hence that there is no reason to secure compliance, can be based on the existence of loss carryforwards in an amount sufficient to prevent the accrual of taxable income, or on terms in a tax treaty that preclude German tax liability (see § 48d EStG below).

5. Credit of amounts withheld (§ 48c EStG)

5.1 Basic rules

The tax withheld and reported by the purchaser is creditable against the taxes owed by the performing party. The law specifies the order of such credit:

  1. Credit against wage tax owing under § 41a (1) EStG.
  2. Credit against prepayments of personal or corporate income tax due for prepayment periods within the tax period or assessment period in which the work was performed; such credit may reduce prepayments to zero, but not below; no refund of amounts already prepaid is permitted.
  3. Credit against personal or corporate income tax assessable for the tax period or assessment period in which the work was performed.
  4. Credit against amounts that the performing party is itself required to withhold and remit (if it is simultaneously a purchaser of construction work within the meaning of § 48 EStG).

The performing party (the contractor) is permitted to file an official form with the proper tax office to apply for a refund of amounts withheld if the performing party is not required to file wage tax reports and if assessment of personal and corporate income tax can be ruled out, or if the performing party can demonstrate that no tax liability will arise for the relevant assessment period (see comments on the procedures under § 48a EStG).

Unless the deadline is extended by an applicable tax treaty, refund applications must be filed by the end of the second calendar year following that in which the amount withheld was reported.

The tax office can deny a credit or refund where the purchaser has failed to remit the withholding amounts reported and there is reason to believe that avoidance or abuse has occurred.


Amounts reported by the purchaser as having been withheld are in principle creditable even if not remitted to the tax authorities, because the purchaser is liable for such amounts. Failure to remit is thus a necessary, but not sufficient reason to deny a credit. In addition, there must be indications of avoidance or abuse of the system.

Construction withholding tax is not creditable against VAT prepayments.

The law likewise makes no provision for credit against the solidarity surcharge.

The credit application deadline means, for instance, that requests for credit of withholding amounts reported in 2002 must be filed by the end of 2004.

The performing party may appeal the tax authorities' refusal to grant a credit or refund.

6. Special provisions under § 48d EStG for tax treaty situations

6.1 Basic rules

The purchaser is required to withhold, report, and remit tax even if the income of the performing party from the relevant construction work is exempt from tax in Germany under the provisions of a tax treaty.

§ 48c EStG provides that the performing party may file an application on an official form for refund of the amounts withheld and reported. The refund application must include certification from the foreign tax authorities with jurisdiction over the performing party that it is resident in the applicable treaty country.

Should the tax authorities hold the purchaser liable for tax that it wrongfully failed to remit, the purchaser is not permitted to raise as a defence that the performing party's income from the respective construction work is exempt from German tax under a tax treaty.


The certification from the foreign tax authorities must be provided to the appropriate tax office in the German language and must thus be translated if necessary (see comments on § 48b EStG).

7. Purchaser's liability exposure

The following examples illustrate the operation of the new withholding system. In Situation A no withholding is necessary because an exemption certificate has been obtained or the de minimis limits are not exceeded. Situation B is the standard withholding situation. While it places an administrative burden on the parties, the economic result is the same as is Situation A.

Situation C illustrates the potential result of the purchaser's unexcused failure to withhold. The purchaser is obliged to pay the amount it should have withheld to the tax authorities in addition to the gross sum already paid to the performing party (contractor). While the purchaser who has been forced to pay on behalf of the contractor can seek to recover from the contractor and bring suit if necessary, this will at best entail additional transaction cost.

8. Necessary organisational action

Below we provide a list of suggested actions to be taken by both purchasers and contractors with regard to the drafting of contracts and the organisation of their respective accounting departments. The suggestions made are not necessarily complete.

8.1 Purchaser and performing party

A clause should be added to existing construction contracts stating that the performing party must provide an exemption certificate by a specified date to avoid withholding by the purchaser.

Such a clause should be routinely included in new construction contracts.

Construction contracts should also require the contractor to provide all required exemption documents in the German language and state that the contractor must otherwise bear the economic consequences (translation costs, interest, etc.) for both the purchaser and itself in the event documents in German are not timely provided.

8.2 Purchaser

Purchasers should immediately call the new withholding requirements to the attention of contractors (performing parties) with whom they do business or intend to do business so that the latter may obtain exemption certificates on time.

The purchaser must ensure that its accounting department withholds on payments made from 1 January 2002 onwards unless an exemption certificate has been obtained from the performing party at the time of payment.

The purchaser's accounting system should be expanded to include special accounts for recordation of amounts withheld during each month and remitted to the tax authorities by the 10th of the following month.

The purchaser's recordkeeping should be organised so that exemption certificates received are separately filed and ready for presentation upon request.

8.3 Contractor (performing party)

Contractors (performing parties) to whom the withholding tax will apply should file requests for withholding exemptions as soon as possible. This will permit timely issuance (and forwarding to purchasers) of exemption certificates.

Performing parties should set up accounts on which to record the creditable or refundable tax withheld by purchasers. The amounts withheld by purchasers represent accounts receivable from the tax authorities by performing parties.

The recordkeeping system should be revised to keep track of purchasers to whom exemption certificates have been provided as a check against amounts withheld by purchasers and against the accounting statements of the tax authorities.

9. Early case law

At the taxpayer's request, the Berlin Tax Court issued an order dated 21 December 2001 directing the tax authorities to issue a withholding exemption certificate to a company that leased mobile cranes for use in construction work (docket no. 8 B 8408/01 – unpublished). The taxpayer's customers had refused to lease its cranes unless an exemption certificate was issued. The taxpayer's request for an exemption was denied by the tax authorities on the grounds that the taxpayer's operations did not constitute construction work in the first place. Furthermore, they argued that the taxpayer had on certain occasions failed to file tax returns on a timely basis and to pay taxes when due.

The tax court accepted the taxpayer's contention that it would be forced out of business if it could not obtain an exemption certificate and ruled that the denial of the certificate would therefore inflict a penalty on the taxpayer that was incommensurate with the degree of its occasional compliance deficiencies, which the court analysed (constitutional principle of proportionality).

The case is interesting because of the court's refusal to defer to the tax authorities' judgement where the taxpayer did not have a perfect tax compliance record. The court refused to permit the tax authorities to appeal the case to the Federal Tax Court (FTC). Under the rules that apply to this type of ruling, the decision of the lower court is final. There is no procedure by which the tax authorities may petition the FTC to re-hear the case.

The case is also interesting because the court held that taxpayers were entitled to exemption certificates whether or not their services in fact constituted construction work, at least where they could make a showing that their customers thought the withholding rules applied. Since the tax authorities themselves claimed the withholding rules did not apply, the court could have based its order on this fact alone. Obviously, the tax authorities lose nothing by issuing exemption certificates in situations in which there is no underlying withholding obligation to begin with.

Editorial cut-off date: 20 March 2002

Disclaimer and notice of copyright

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