Germany: 267. High Court Upholds Anti-Treaty-Shopping Clause

Last Updated: 28 November 2002

by Thomas Sauter and Dr. Tobias Eckerle, KPMG Frankfurt

The following article first appeared in International Tax Review, September 2002, p. 64

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

In a decision that may mean less than meets the eye, Germany's highest tax court has handed down its first decision on a provision added to the tax code in 1994 to combat treaty shopping (Federal Tax Court judgement of 20 March 2002 – IR 38/00 – published only electronically so far). The treaty shopping statute read as follows in 1994, the year at issue:

A foreign company has no right to tax relief (tax exemption or tax reduction under ... [Germany's implementation of the EC Parent-Subsidiary Directive] or under a convention for the avoidance of double taxation) to the extent it is owned by persons who would not be entitled to such tax relief if they derived the income directly, and there are no economic or otherwise valid reasons for the company's interposition and it engages in no economic activity of its own.

The provision was slightly revised in 2001 and moved from section 50d (1a) to section 50d (3) of the Income Tax Act, but remains in force substantially as set forth above and applies to both individuals and corporations.

The case before the court involved the first and second tier subsidiaries of a Bermuda-based television and film production and licensing group. The group's Bermuda holding corporation owned various Dutch subsidiaries, including a wholly owned B.V. which in turn held all of the shares in a German GmbH. The Dutch B.V. had no personnel of its own besides its general manager, who also managed other Dutch members of the same corporate group. The B.V. shared the premises and the telephone and fax numbers of one such group member. The Bermuda holding company belonged to three individuals: a Bermuda resident with an 85% stake, a U.S. resident with a 7.5% stake, and an Australian resident, also holding 7.5%.

The German GmbH paid a dividend to the Dutch B.V., which the B.V. presumably received free of tax in the Netherlands. In Germany, the B.V. requested a refund of 4/5 of the 25% withholding tax under Germany's implementation of the EC Parent-Subsidiary Directive. A full refund was not available because of a transition arrangement allowing Germany to levy a 5% withholding tax on EU dividends paid on or before 30 June 1996. Citing the treaty shopping statute, the German Federal Office of Finance denied the refund request and rejected the taxpayer's administrative appeal.

The B.V. filed suit. Both the lower court and the Federal Tax Court (FTC) decided in favour of the tax authorities, holding that the refund could be denied both under the treaty shopping statute and under the general anti-avoidance provision in section 42 AO (Tax Procedure Act):

The tax laws may not be circumvented by abuse of legal structuring possibilities. In case of [such] abuse, the tax claim [of the tax authorities] is the same as that arising under a structure appropriate to the economic transaction.

One line of cases under section 42 AO relates to interposed foreign corporations (so-called foreign base companies) located in low-tax jurisdictions. The courts have disregarded interposed foreign base companies where no economic reason or other valid reason for the structure was discernible and the interposed corporation engaged in no business activity of its own. The 1994 treaty shopping statute was modelled after this line of cases.

Until 1997, when the FTC overruled its 1982 Monaco decision, section 42 AO was considered inapplicable to non-resident taxpayers. Furthermore, the statute had only been applied against foreign base companies in low-tax jurisdictions. Hence, the drafters of the 1994 treaty shopping statute assumed that section 42 AO could not be used to combat treaty shopping of the sort involved in the March 2002 judgement.

In this judgement, the FTC reaffirms both its abandonment of Monaco and its 1998 holding that an interposed corporation without economic substance can be disregarded under section 42 AO even if not located in a low-tax jurisdiction. In light of this shift in the case law, the court raises, but does not resolve the question whether the treaty shopping statute has any significance independent of section 42 AO.

The legal consequence of section 42 AO is to disregard an interposed corporation that lacks sufficient substance. Under section 42 AO, the Bermuda holding company is treated as the dividend recipient. Since Germany has no tax treaty with Bermuda, no reduction of withholding tax is permitted. Had a tax treaty existed, the Bermuda company would probably have had to file a refund request.

The legal consequence of the treaty shopping statute is to treat the Dutch B.V. as the dividend recipient, but deny a reduction of withholding tax because its sole shareholder would not be entitled to a reduction had it received the dividend directly and the Dutch B.V. lacks the required substance.

Irrelevant in the court's view was the fact that the U.S. and Australian shareholders in the Bermuda corporation would have been entitled to reductions, albeit of lesser magnitude, had they derived the dividends directly. There had been support in the literature for an alternative reading of the treaty shopping statute under which one looked to the ultimate shareholders of the interposed corporation and their entitlement to treaty protection. The Federal Office of Finance at first followed the alternative approach in the instant case by initially granting, then later revoking, the refunds to which the minority shareholders in the Bermuda corporation would have been entitled by virtue of direct shareholdings in the German GmbH.

The FTC rejected the taxpayer's attempts to portray the Dutch B.V. as a managing holding company that played an active role in financing and managing the German GmbH. The court did not reach the issue of whether shares in more than one subsidiary are necessary to qualify as a managing holding company in the first place. The court also dismissed arguments that the group's other Dutch subsidiaries were actively engaged in a trade or business, and that this was a valid reason to locate the interposed B.V. in the same country.

Finally, the FTC held that denial of a refund does not violate the Parent-Subsidiary Directive. While acknowledging that different anti-avoidance law in every EU member state could lead to undesirable non-uniform application of the Parent-Subsidiary Directive, the court considered the case at hand to involve a "classic" mailbox company, that is, an entity with so little substance that it must be disregarded under any conceivable implementation of the anti-abuse clause found in Article 1 (2) of the Parent-Subsidiary Directive. Referral to the European Court of Justice was considered unnecessary under such circumstances.

The instant case is of limited utility for future tax planning. While a zero-substance entity cannot claim the benefits of a tax treaty or the Parent-Subsidiary Directive, it remains unclear just how much substance is needed to do so. With regard to the Parent-Subsidiary Directive, EU law limits the discretion the German legislature and courts otherwise enjoy. In Germany, some experts contend that a "pure" EU holding company with minimal substance and just one subsidiary is entitled to the protection of the Parent-Subsidiary Directive, whereas others reserve this privilege to managing holding companies that play an active role in financing, controlling, and running multiple subsidiaries. The issue is crucial in light of the large number of international groups that have rearranged their European structure to take advantage of the Parent-Subsidiary Directive.

Editorial cut-off date: 13 August 2002

Disclaimer and notice of copyright

This article treats the subjects covered in condensed form. It is intended to provide a general guide to the subject matter and should not be relied on as a basis for business decisions. Specialist advice must be sought with respect to your individual circumstances. KPMG Germany in particular insists that the tax law and other sources on which the article is based be consulted in the original, whether or not such sources are named in the article. Please note that the article is current only through its editorial cut-off date shown immediately above (not to be confused with the later date as of which the article was placed online – the date appearing at the article's outset). Related developments subsequent to the editorial cut-off are not necessarily reported on in later articles. Please note as well that later versions of this article or other articles on related topics may have since appeared on this database or elsewhere and should also be searched for and consulted. While KPMG Germany's articles are carefully reviewed, it can accept no responsibility in the event of any inaccuracy or omission. Any claims nevertheless raised against KPMG Germany on the basis of this article are subject to German substantive law and, to the extent permissible thereunder, to the exclusive jurisdiction of the courts in Frankfurt am Main, Germany. This article is the intellectual property of KPMG Germany (KPMG Deutsche Treuhand-Gesellschaft AG). No use of or quotation from the article is permitted without full attribution to KPMG Germany and the article's stated author(s), if any. Distribution to third persons is prohibited without the express written consent of KPMG Germany in advance.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
Related Articles
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of

To Use you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions