Germany: Federal Constitutional Court: Legislator May Pass Tax Laws With Limited Artificial Retroactive Effect

Last Updated: 19 December 2012
Article by Gunnar Knorr

In a decision dated 10 October 2012 published on Friday, the Federal Constitutional Court [Bundesverfassungsgericht, BVerfG] permitted the artificial retroactive effect of a tax law from the date after the adoption of the resolution by the Mediation Committee [Vermittlungsausschuss] (1 BvL 6/07). The decision also has substantial effects upon other cases and will serve as a standard for the legislator of tax law amendments. According to Gunnar Knorr of the law firm of Oppenhoff & Partner, in future, taxpayers will have to pay even greater attention to amendments of the law, especially at the end of the year.

The proceedings at issue concerned the inclusion for trade tax purposes of so-called dividends on diversified holdings. These dividends, which accrue to stockholders which only hold an insignificant participation (below 10%) in an enterprise, were not subject to trade tax for certain payments in the year 2001. However, through the Act on the Further Development of Corporate Income Tax [Unternehmenssteuer-fortentwicklungsgesetz] dated 20 December 2001, the legisla-tor subjected the dividends on diversified holdings to trade tax with retroactive effect for the year 2001.

The Constitutional Court has now stipulated the precise day on which dividends on diversified holdings are subject to trade tax. The Act is null and void for dividends on diversified holdings which accrued by the date of the Mediation Committee's resolution regarding the Act. If the dividends accrued after the date of the Mediation Committee's resolution, in contrast, the retroactively enforced tax obligation applies.

The decision also has substantial effects upon other cases and will serve as a standard for the legislator in case of future tax law amendments. A distinction is fundamentally made between so-called genuine retroactive effect ["echte Rückwir-kung"], where a law is subsequently applied to a situation which has already been concluded, and so-called artificial ret-roactive effect ["unechter Rückwirkung"], where a law is ap-plied to a situation which has not yet been concluded but where parts thereof have already been realised. The majority of taxes such as income tax, corporate income tax and trade tax do not accrue until the expiry of the assessment period. Amendments to laws during the course of a year are not genuinely retroactive (i.e. "artificial") since they refer to taxes which will only accrue in the future. The Constitutional Court nevertheless sees an increased protection of legitimate ex-pectations of citizens regarding the continued validity of existing law. For this reason, artificial retroactive effects to the detriment of taxpayers are also are not permitted without limitation. Conversely, the Constitutional Court regularly sees no need for protection if the taxpayer should already have reck-oned with the amendment of the law.

With respect to the trade tax on dividends on diversified holdings, the court drew the line for the need to protect legitimate expectations at the publication of the Mediation Committee's resolution. However, it remains open where the line must be drawn if laws do not originate from negotiations of the Mediation Committee. Conceivably, the first reading in the Bundestag could already be taken as the basis. On the other hand, it is not possible to remove the need to protect legitimate expectations until it is certain to the greatest extent possible that a proposal is to become law, for example through the consent of the Bundesrat.

In future, the tax legislator is certainly able make stricter tax regulations subject to a certain retroactive effect, particularly in cases where it wishes to prevent the announcement of stricter legislation already leading to countermeasures on the part of potential taxpayers. Enterprises, in particular, should therefore continuously monitor ongoing legislative processes. Only in this way is it possible to ensure that allowance is made for tax law amendments in ongoing transactions. Especially at the end of the year, taxpayers should pay attention to possible amendments of the law. They could otherwise face tax consequences that are different to what they had expected on the basis of the legal situation at the relevant time.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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