Germany: German Tax & Legal News - November 2004

Last Updated: 20 November 2004
Article by Andrew Miles

PwC Reports

Draft guidelines on tax audit procedures on transfer pricing issues


The Ministry of Finance has issued comprehensive draft guidelines to complement the German legislation on transfer pricing documentation. These guidelines provide the Ministry's interpretation of the new legislation with comments on a wide range of transfer pricing issues. These are summarised below and described in more detail under 'Detailed Provisions'.

Comments on the draft can be submitted until 20 November 2004. After this date, the Ministry will finalise and pass the guidelines.

It was also announced that the acceptability and application of transfer pricing methods will be the subject of separate guidelines, still to be issued.

Summary of the Guidelines

Unlike the decree on documentation, the guidelines have no legislative background and are therefore binding for the tax auditors, but not for the German tax courts. Taxpayers, therefore, may chose to disagree but would be wise to take the guidelines into account when planning the strategy for their transfer pricing documentation and for their next tax audit.

The main issues dealt with in the draft are as follows:

  • The different documentation requirements are outlined for fiscal years starting on or before 31 December 2002 (old rules) and after this date (new rules). It is acknowledged that under the old rules, the taxpayer does not have to prove the adequacy of his transfer pricing.
  • The guidelines provide information on how to document and evidence the serious endeavours, which, according to the new rules, have to be made by the taxpayer in applying the arm's length principle.
  • Benchmarking based on databases is accepted under restrictive conditions and narrowing of the range (i.e. use of the Interquartile Range) may be required.
  • A CPM based approach is explicitly rejected, as it is assumed that it uses net profits of basically not comparable enterprises.
  • The Profit Split Method may be used, if appropriate in the individual case.
  • Tax auditors may use confidential data of other taxpayers, but may disclose such data only on an anonymous basis (secret comparables).
  • It is stressed that if it is obvious that the taxpayer has deliberately deviated from the arm's length principle, then the tax auditor may have to initiate the criminal proceedings procedure.
  • The Ministry expects that internal surveys and expert opinions of advisors, which have an impact on the transfer pricing, will be forwarded on request.
  • The economic and legal conditions prevailing at the time the agreement was concluded - i.e. before the transaction took place - are decisive. The parties are obliged to adjust the contractual conditions for the future if material changes occur.
  • Data prepared retroactively may only be used as additional information for verification purposes, but not to establish the arm's length nature.
  • Emphasis is placed on the internal planning data of the taxpayer, e.g. forecasts. Also, internal transfer pricing guidelines may be used to simplify the documentation process.
  • Plan figures may be used, if a regular comparison with actual figures takes place, followed by an adjustment with future effect, if necessary.
  • Tax auditors may check the transfer pricing for plausibility by using e.g. the rate of return on invested capital, the mark up on the incurred costs or a validation with the total results of the group, if appropriate.

Detailed Provisions

On 18 October 2004, the Ministry of Finance issued 83 pages of draft guidelines, entitled "Guidelines on the audit of income attribution between internationally related enterprises and between related persons with cross border transactions, with regard to adjustments, investigation and cooperation duties as well as mutual agreement and arbitration procedures", or abbreviated "Verwaltungsgrundsätze - Verfahren".

These guidelines complement the legislation on transfer pricing documentation and the decree on documentation (Gewinnabgrenzungsaufzeichnungsverordnung - GAufzV), both enacted in 2003. The guidelines provide the Ministry's interpretation of the requirements of the new legislation.

Excerpts of the main statements of the draft guidelines are detailed below:

It is noted that the taxpayer does not need to prove his exact transfer price. It is sufficient if a range of comparable prices or other comparable data can be established.

The legally required written German transfer pricing documentation is presumed to help the tax auditor to develop his audit plan. He can at any time request additional information, e.g. samples, calculations etc.

The tax auditor can request from other tax offices the data of specific comparable entities, and use this for his appraisal of the taxpayer's compliance with the arm's length principle. Another source of data is the internal license database of the Federal Finance Office. However, the tax auditor can only disclose such information to the audited taxpayer or tax court in anonymous form (secret comparables). This reduces the evidence value of such comparables in a court proceeding.

It is stressed that if it is obvious that the taxpayer has deliberately set his transfer prices not according to the arm's length principle, and if this leads to a decrease in German taxes, then the tax auditor has to initiate the criminal proceedings procedures. If the taxpayer is convicted in this respect, then the tax authorities may refuse to open a Mutual Agreement or Arbitration Procedure.

On request, the taxpayer has to forward such information which would allow the tax authorities to validate transfer prices by using an alternative method, e.g. a profit split.

The draft expresses the opinion of the tax authorities, that internal surveys and expert opinions of an advisor regarding legal and appraisal questions, which impact the transfer pricing, have to be forwarded on request.

The draft acknowledges that for fiscal years starting before or at 31 December 2002, the taxpayer does not have to prove the adequacy of his transfer pricing. However, for fiscal years starting after 31 December 2002, the taxpayer has to evidence the arm's length pricing.

Generally, the taxpayer is obliged to furnish all required information from related parties. However, if he is neither legally nor actually in a position to obtain such information, although he has apparently tried, then this is accepted. This favours a German based subsidiary of a foreign-based MNC, while a German-based MNC always has, by exerting its shareholder pressure, the actual possibility to furnish information from its foreign related subsidiaries. Information that even third parties would normally agree to provide, e.g. the cost base of a foreign-based pool or cost plus service provider, will have to be furnished in any case.

Related parties are defined as having a shareholder or voting right connection of at least 25%. Direct and indirect participations have to be added together. Parties are also related if one party can exert factual influence and control on the other party.

The economic and legal conditions prevailing at the time the agreement was concluded - i.e. before the transaction took place - are decisive. In an ongoing relationship, the parties are obliged to adjust the contractual conditions for the future if material changes occur.

It has to be proven that the German taxpayer has made serious endeavours to fulfil the arm's length principle. The data to document this, e.g. price calculations, comparables etc., have to be actually in existence at the time the transaction was concluded. Only as additional information for verification purposes, but not to establish the arm's length nature, is it possible to use data prepared retroactively. Also, such arguments on the arm's length pricing prepared retroactively may be regarded as supplying less evidence.

The tax auditor can request the documentation for extraordinary continuous transactions, which had to be prepared until 31 December 2003, also in tax audits concerning former years, i. e. fiscal years starting before or at 31 December 2002.

Tax authorities may request a value chain analysis, where the taxpayer has to identify the business processes, determine the relative importance, and define the absolute amount of the value contribution of the German operations.

The taxpayer has to choose the most appropriate method. He has to justify why, from his point of view, the chosen method and the agreed price are adequate. He is not obliged to document why he has rejected other methods.

Plan figures instead of actual figures may be used, if a regular comparison - generally every three months - of target and actual values is made, and if then the plan values are adjusted for the future, if necessary.

The taxpayer has to provide reliable comparable data, if such are obtainable with a reasonable effort. Such data can be either comparable prices or other comparable data (gross margin, cost plus mark up, net margin) from independent transactions. The threshold criteria for independency are set rather strict, generally at a participation level of 25%.

The draft guidelines acknowledges that the profit split method may be used, if this is an appropriate method in the individual case.

The CPM is explicitly rejected, as it is assumed that it uses net profits of basically not comparable enterprises. However, the TNMM, if properly applied, is an accepted approach.

Databases may be used, if the search process is traceable, and if the underlying data are handed over to the tax auditor in electronic form, so that he can check the process. The remaining sample of comparables has to be checked for comparability by all other available means, e.g. by information derived from the Internet. There are certain other criteria that have to be fulfilled. It is concluded that the taxpayer is not obliged to prepare a database search for comparable net profits.

Profit oriented database searches will only be accepted for simple routine functions and risks, e.g. contract manufacturing, simple agent activities or provision of routine services, which regularly will be remunerated using the cost plus method. Tax authorities reserve the right to exclude comparables from the sample, if they feel that these are not comparable or less correct. They may also use other methods to check the results of the benchmarking.

If a range of comparables exists, the value, which has the greatest likelihood in the individual case, should be taken. However, if the likelihood is the same for a range of comparables, as this is often the case with database searches, then the range has to be narrowed. Statistical procedures, especially the interquartile range, may be used in this respect. The tax auditor will make no adjustment if the values of the taxpayer fall within the narrowed range.

If a range of absolute comparables exists, then this range does not have to be narrowed. However, the criteria for absolute comparability are rather strict.

It is stated that quality beats quantity, i.e. that a small number of reliably comparable data is preferable to a big number of only limited comparable data.

The draft puts an emphasis on internal planning data of the taxpayer. These can be used to document the arm's length pricing, if they are based on sound and prudent forecasts. If available, comparable data (mark up, capital return, etc.) has to be used. The taxpayer may also use plausibility checks for his planning assumptions, e.g. a validation with the total profits of the MNC. The adequacy of the net profit used in the planning process for the German operations may then e.g. be checked by the Group's ratio of the proportionate expenses. According to the individual circumstances, a longer period, covering several fiscal years, may have to be taken into account.

It is stated that the tax auditor should regularly request the internal planning data of the taxpayer, except in cases where absolute comparable prices are available, which is seldom the case. This complies with the general German principle of the "prudent and conscientious general manager acting on behalf of his German legal entity", who has to plan his prices and profits properly in advance, as third parties would do.

If an internal transfer pricing guideline exists, which explains in detail the pricing mechanism and/or other issues (e.g. functions and risks, methods, transaction groups), then it may not be necessary to document each single transaction. It has to be proven by random sampling, that the TP guideline is actually applied. If an individual case deviates from the TP guideline, then this has to be documented individually.

Generally, the TP documentation has to be prepared in the German language. Fiscal authorities shall on application allow the preparation in another language, under the condition that, on request, a German translation will be provided within the 60-day limit.

It may often be advisable for the taxpayer to validate a range of comparable data by using other methods or plausibility checks. Fiscal authorities may also use other methods and are not confined by the methods used by the taxpayer. This is especially the case if the German operations bear losses or do not receive an adequate total profit over a certain period of time. An adequate total profit has at least to provide for an adequate rate of return on the invested capital or an adequate mark up on the incurred costs.

Official Pronouncements

Capital gains from sale of securities - finance ministry decree

Natural persons who sell shares and other securities held in their private estates are subject to income tax on the gain if less than twelve months elapsed between purchase and sale. Longer term capital gains are tax free, provided the seller held less than 1% of the capital of the company throughout the previous five years. There have been a number of recent Supreme Tax Court cases on short-term capital gains by natural persons and the finance ministry has now seen fit to summarise this case law in an itemised decree on "questions of doubt", adding its own views where relevant. In brief:

  • Securities are purchased on conclusion of a binding contract. For stock exchange purchases this is the date the broker completes the transaction.
  • New issues are purchased on offer acceptance by the issuer. If the issue is over-subscribed, unsuccessful bidders will not be able to deduct any costs as business expenses.
  • The conversion of convertible bonds to shares is a share purchase on the day the option is exercised. The original cost of the bond becomes the base cost of the shares.
  • Option bonds giving the holder the right to acquire shares in the issuing company lead to share purchases on the day the option is exercised. The base cost is the amount paid on exercise together with the cost of the option. If this latter is inseparable from the cost of the bond, it will have to be estimated, e.g. on the basis of the yield.
  • Exchange bondsallowingthe holder to claim redemption in the form of a set number of shares rather than cash are exercised at the stock exchange value of the shares on the day of exercise (redemption). The difference to the original cost of the bond is investment income in the year of exercise.
  • Share bonds allow the issuer to redeem a bond with shares rather than in cash. His exercise of this option is a share purchase by the holder at the stock exchange value of the shares when acquired. The difference between this value and the original cost of the bond is a factor in determining the yield of the bond taxable as investment income.
  • Employee stock options lead to share acquisitions on the date of exercise, or on fulfilment of any further condition of exercise if later (e.g. a minimum period of service requirement). The base cost for any later capital gain is the amount paid for the shares together with the benefit in kind taxed as employment income. The dates of share acquisition and realisation of the employment income may be different.
  • Share splits are not taxable events. The new shares are deemed to have been acquired on the same date and for the same total amount as the old.
  • Bonus shares are acquired on the date of the resolution or on the later fulfilment of a qualifying condition. The acquisition cost is the amount deemed as investment income.
  • Rights issues lead to a split of the original purchase cost over the old and new shares. The new shares are deemed acquired as of the original acquisition date. Shares acquired with purchased rights are a new transaction. The sale of rights is equated to a proportionate sale of shares.
  • Share exchanges are treated as a sale and purchase of old and new shares. Both transactions are valued at the stock market value of the new shares on issue.
  • If a company is merged under the Reconstructions Tax Act, its shareholder is treated as having sold and acquired shares at the original cost of investment. Any taxable gain is therefore zero. The one-year holding period runs anew, from the entry of the merger in the trade register.
  • If the company is split, the original investment is apportioned over the old and new shares in the ratio of the two balance sheets. The amount split off is a sale and purchase as of the date of entry in the trade register. If the shareholder had held his investment for more than a year before the split, the new shares are deemed to have been acquired at the current market value of the old ones surrendered.
  • If a company distributes shares held in another company to its own shareholders, these receive a dividend in kind.
  • Liquidations and reductions of capital are distributions rather than sales of shares. The proceeds are therefore dividends or capital repayments for the shareholders, depending upon the quality of the distribution as shown by the accounts of the company.
  • Reclassifications of shares, e.g. the conversion of preference to ordinary shares, is a mere adjustment of shareholders' rights and is not a taxable event for the shareholders. The new shares are deemed to have been acquired on the date and at the cost of the old. Any premium paid by shareholders is a subsequent increase in base cost.
  • Minority compensation on take-over is a sale by the minority shareholder of his investment. This is independent of the degree of coercion or pressure to which he became subject.
  • Foreign currency cash deposits lead to taxable gains or losses if they are converted to Euro or another currency within a year. If spent, the "sales proceeds" are deemed to be the € value of the item purchased.
  • The creation and collection of foreign currency receivables are not taxable events, unless the balance is converted to €. The repayment of a foreign currency liability is similarly not taxable.
  • Shares sold as part of a progressively acquired holding are deemed to be sourced from acquisitions outside the one-year holding period as far as possible. If the cover is inadequate, the remaining balance is deemed to come from the other acquisitions in equal proportions.

Pension provisions - ministry decree on excessive promises

Employee pension provisions must be calculated in accordance with the plan and be based on the facts as they existed on balance sheet date. They may not therefore take future salary increases into account. The Supreme Tax Court has established a limit of 75% of present salary as a rough and ready rule of thumb to reveal attempts to bring current pension costs forward by making "excessive" pension promises. The ministry of finance has now issued a decree on some of the details of this calculation and its import.

  • Present salary includes all emoluments and other benefits in cash or in kind. It can only include future increases that are certain at balance sheet date. Variable benefits (bonuses, commissions etc.) are taken as an average over the past five years.
  • The pension promise should not give the employee a retirement income, including the state old-age pension if applicable, of more than 75% of present salary.
  • Commutation of salary to a pension promise reduces the current salary level, but does not increase the deemed pension promised.
  • The 75% limit is increased or reduced according to salary changes reflecting changes in an employee's duties and responsibilities.
  • The 75% rule does not apply if the original intention was to give the employee an "excessive" retirement income.
  • It also does not generally apply to pensions being currently paid.
  • The (more restrictive) rules on pension promises in favour of the spouse of the proprietor are reserved.
  • If the 75% rule is found to apply and has been exceeded, the excess is reflected in a partial disallowance of the current pension cost derived from the calculation of the pension provision.

Finance ministry decree on rented property

The finance ministry has issued a detailed decree on the distinction between property let as a business and that rented out privately. Losses from the former, but not the latter, may be offset against other income. Business letting depends upon an intention to ultimately realise a surplus of income over expense, and the decree provides guidance on how this and its precondition of permanent letting can be judged. The ministry particularly wishes to exclude unprofitable short-term leases prior to a "private" sale of the property from the "business" category and also to curb attempts by those with holiday homes to charge their private accommodation costs against taxable income.

Withholding tax on fees paid to EU residents can be suspended - finance ministry decree

The finance ministry has instructed tax offices to grant applications for suspension of payment of withholding taxes deducted from the fees due to European resident artists, actors, sportspeople, authors and journalists. Payment will be held in abeyance until resolution of a case currently before the Supreme Tax Court. The suspension applies to payments due to those protecteded by the EU principles of non-discrimination, that is to residents of an EU country or of Iceland, Norway or Liechtenstein.

New rules for employers on wages tax certificates - ministry of finance

The ministry of finance has revised and reissued its rules for employers on the issue of "wages tax" certificates of the income tax deducted at source from the wages paid. The first decree is new and applies to employers with electronic payroll systems, who are required to e-mail the 2004 information to the tax authorities by February 28, 2005. Pending the introduction of universal tax identification numbers, the employer must identify each employee with an "eTIN" (electronic Taxpayer Identification Number) to be generated on a prescribed formula.

The second decree allows employers still using manual payroll systems to prepare their "wages tax" certificates by hand on lines substantially unchanged from 2003.

New benefit in kind rates for employee meals set for 2005

If an employer buys food or other goods for his employees or if he invites them to a restaurant or gives them meal vouchers, the benefit in kind is generally based on the cost. An exception is made for canteen meals for employees, which are taxed at fixed values less the amount each employee pays for the privilege. In theory it is open to an employer to demonstrate a lower actual cost, although this demonstration is often difficult in practice for even the most primitive of canteens. The 2005 benefit-in-kind rates are:

breakfast € 1.46

lunch € 2.61

supper € 2.61

Supreme Tax Court Cases

Supreme Tax Court turns to ECJ on equal treatment of investment finance

Up to the end of 1998, the financing costs of holding a foreign investment were disallowed under the "effectively connected" rule to the extent that the German shareholder received a tax-free dividend in the same year. Most corporate shareholders with foreign subsidiaries had to live with this disallowance and were often obliged to devote not inconsiderable planning energies to mitigating its effect with asymmetrical dividend policies and other techniques. There was no such disallowance in respect of domestic investments as a domestic source dividend was taxable income, albeit that the tax due was reduced by a (usually) equal and opposite imputation tax credit. This distinction has been claimed as an offence against the EU freedoms of establishment and of capital movement, and the Supreme Tax Court has suspended proceedings in the case before it whilst the ECJ answers its request for a preliminary ruling. The Supreme Tax Court points out that any question of discrimination depends upon comparing like with like and concludes that this would "only be the case" if the Manninen case of 7th September 2004 (in which the ECJ required the Finnish tax authorities to grant a Finnish company credit for the corporation tax paid in Sweden by a Swedish subsidiary) can be seen as a guideline for Germany. This, however, is the subject of another German case currently pending before the ECJ.

In 1999, the law was changed to replace the interest disallowance with a blanket disallowance for unspecified costs of investment of 5% of the foreign dividends received in the year under review. 2001 saw yet another change: all dividends received by a German company were now tax-free, making the disallowed directly connected expenses of a German dividend those expenses actually incurred up to the level of the dividend whilst leaving the disallowed costs of earning a foreign dividend at 5% of the dividend received. Only in 2004 was the discrimination completely removed with the extension of the rule on foreign dividends to those of German source. Companies with significant amounts of foreign dividend income in 2003 and prior years may therefore see merit in keeping assessments open, at least until the present case has been resolved. Even those companies with mainly domestic dividend income may see a benefit in making an appeal claiming that they have been discriminated against, since the 2001-3 rules could as equally favour as burden foreign investment.

No forfeit of tax losses because of cash movements

In the case before the Court, the company was contesting the tax office disallowance of losses following a change of shareholder in 2001 on the grounds of loss of "business identity". The Corporation Tax Act makes loss relief conditional upon the company offsetting the loss having the same "business identity" as that which made it. The Act does not define "business identity" except by example; "in particular, business identity is lost on transfer of more than half the shares in the company when the company continues, or restarts, its business with mainly new assets". The first here relevant change in the business was at the end of 1992 when the company ceased manufacturing, liquidated its assets and continued as an investment management operation. The second change was in 2001, the year of the change in shareholder, when the company used a large amount of surplus cash brought forward from the previous year to repay debt and to buy securities. The Court held that the first change was too remote from the change in shareholder eight years later for both events to be seen in the same context and therefore as fulfilling both conditions for the loss of business identity. It held the second change to be a rearrangement of monetary assets rather than the acquisition of new assets; the company was therefore able to preserve its business identity.

Important though this case is, it still leaves two fundamental issues open. The Court did not take the opportunity to clarify what, exactly, is meant by an acquisition of new assets - i.e. do the new assets have to be contributed from outside the company, or is it sufficient for them to be purchased with existing resources. Rather, it contented itself with saying that assets were not "newly acquired" on a mere reorganisation of a company's investments and from a partial repayment of debt from business-generated cash flow. The Court was also able to leave open the question of time between the acquisition of the new assets and the change in shareholder. Eight years was in any case too long, but the Court saw no cause to comment on what the maximum period might be, and in particular on whether the five year minimum retention period for recovery operations on failing businesses might be taken as an analogy.

Withholding tax paid in error by partner refunded to partnership

An AG took up a silent partnership share in a limited partnership (GmbH & Co KG) under a back-dated agreement. The GmbH & Co KG reported a profit distribution to its silent partner, the AG, and declared a liability to dividend withholding tax. The AG paid the tax due to the tax office. Later, it became clear that the whole arrangement was a sham, and that there had in fact been neither investment nor profit distribution. Later still, both parties went bankrupt. The tax office refused to accept an amended withholding tax return or to grant a refund.

The Court held that because the apparent contractual arrangement was a sham, there had never been any distribution and therefore there had never been any withholding tax obligation. A refund was therefore in order but should be made to the party depicted on the return as that responsible for the apparent liability. The fact that the other party, the AG, had made the original payment was a matter for the two parties to settle between themselves. Certainly, there was no need for the tax office to get involved.

Any reward accepted in a business context can be taxable income

A farmer helped a friend sell his business for a large sum and was pleasantly surprised by a gift of € 100.000. He made no attempt to tax this income. Called to account, he told the tax office that he had merely helped his friend as a personal favour with no thought of personal gain or consideration for any kind of service rendered. No one was more surprised than he by the offer of the gift of € 100,000. He accepted the sum as a tax-free gift, as evidenced by the fact that he did not sign a receipt.

The Court held the income to have been taxable. It stated that any amount accepted in a business context for any activity, let or refrainment from taking action was taxable if the matter could have been the subject of a contract. This definition of other income drops the all-important phrase "for the sake of reward" popular with those who liked to claim that income could not have been earned if it had not been agreed in advance. Interestingly, the Court made no mention of gift tax, a necessary consequence of the taxpayer's defence.

Supreme Tax Court ignores legal technicality - in favour of the taxpayer

Those earning income from property do not have to charge it to trade tax if their property business is maintained throughout the year and their other income comes solely from investments and housing management. In the case at hand the tax office refused the taxpayer this privilege because he had sold his final property with a formal transfer of ownership as of 2359 hrs on the last day of the year. He had not, therefore, maintained his property business throughout the year.

The Court stated that the condition was clearly stated in the statute and that there was no scope for generosity of interpretation on even mild discrepancies from its formal wording. Nevertheless, the taxpayer was to be allowed the exmeption as the property ownership/management condition had been fulfilled throughout the year. The sale of the last property one minute before year-end was merely a legal technicality with no effect on actual events.

VAT on disallowed entertaining remains recoverable

The case was brought by a business whose entertaining expenses had been disallowed because of failure to comply with the formal requirement to book entertainment separately from all other expenses. There was, however, no doubt in the circumstances that the expenses in question had been properly incurred for business purposes. The Court held that the then provision in the VAT Act for an output VAT charge on income tax disallowed expenses (now replaced by a disallowance of the input tax) offended against the terms of the EU Sixth Directive as it effectively burdened a full VAT-paying business with a VAT charge on its business costs. The only exceptions permitted under the Directive were those in effect in 1997 and notified to the European Commission before the end of that year. This did not apply here.

Supreme Tax Court follows ECJ "Faxworld" decision on deductibility of input VAT

Faxworld Vorgründungsgesellschaft Peter Hünninghausen und Wolfgang Klein GbR ('Faxworld GbR') was set up on 1 October 1996 for the sole purpose of preparing for the establishment of Faxworld Telefonmarketing AG ('Faxworld AG'). To that end, it rented and equipped office premises, acquired fixed assets, sent introductory mailshots and engaged in advertising for the future AG. Once Faxworld AG was formed by notarial deed on 28 November 1996, Faxworld GbR ceased its activities and, in performance of its object, transferred all previously acquired assets to the AG for consideration on 1 December 1996. Faxworld AG was immediately able to take up its commercial activities in the office premises which had been rented, equipped and furnished by Faxworld GbR.

Faxworld GbR subsequently sought to deduct the input tax incurred on the supplies it had acquired and transferred. The tax authority refused the deduction on the ground that the claimant's only output transaction was a transfer of a business, which is not to be treated as a taxable transaction, and that Faxworld GbR was therefore not a trader (taxable person). Faxworld GbR challenged that refusal before the competent tax court, which allowed its claim on the basis of the principle of the neutrality of VAT; input tax could be deducted even though the claimant never intended to use its input supplies to carry out taxable transactions itself, since it had acquired them for the purposes of the business to be carried on by Faxworld AG.

The tax authority appealed on a point of law to the Supreme Tax Court, which referred the question to the European Court of Justice ("ECJ") for a preliminary ruling: Is a partnership which has been established for the sole purpose of forming a limited company entitled to deduct input tax paid on goods and services procured by it if, after that company has been formed, that partnership effects by formal act a transfer for consideration of the procured goods and services to the subsequently founded limited company and, from the outset, did not intend to carry out any other output transactions and if, in Germany as the Member State concerned, a transfer of a totality of assets is not deemed to be a supply of goods or services? In it's ruling (C-137/02 on 29 April 2004) the ECJ held that the Vorgründergesellschaft is entitled to deduct input tax paid on goods and services procured by it. In recent decision the Supreme Tax Court has now followed the ECJ's ruling.

From Europe

EU proposes VAT simplification for cross-border traders

The European Commission has suggested simplifying the VAT compliance obligations for EU traders selling in different countries in order to reduce the expensive administrative burdens presently faced by, in particular, SME's. At the core of the suggestion lies the idea of allowing EU traders to file a single return with their home country tax office covering their entire EU taxable turnover. The return would be electronic, enabling the tax office to automatically forward the items relevant to other member states to the relevant countries. The taxpayer would then pay each country's tax separately to each collection authority. Non-EU traders would be able to take advantage of the scheme by registering in an EU country of their choice. Other features of the proposal are:

  • a similar system would apply to refunds. The repayment deadline would be reduced from six to three months and delays would bear monthly interest at 1%.
  • harmonisation of the expenses with restrictions on the right to deduct input tax.
  • extension of the reverse charge system of taxing the domestic customer rather than his foreign supplier.
  • raising the small business exemption level to a uniform € 100,000 of annual turnover.
  • setting an EU-wide small business exemption level of € 150,000 of annual turnover for distance sellers.

The Commission has opened a public consultation on the project, available through the following link.

ECJ advocate general calls for partial VAT deduction for home office in jointly owned house

A German couple jointly owned their home in unequal shares (25% husband, 75% wife). The husband was an employee who wrote books in his spare time. His authorship fees and royalties were taxable as business income and were subject to VAT. He worked in a room in his own home set aside for that purpose. The tax office rejected his claim for an input tax deduction in respect of the costs of the house attributable to the home office because the cost invoices had been addressed to the couple as joint owners. This informal partnership was not itself in business and therefore had no right to an input tax deduction. What it did not have it could not pass on. Eventually, the Supreme Tax Court referred the matter to the ECJ and the advocate general has now given it as his opinion that:

  • the author had acquired his share of the house as a VAT payer if he assigned part of the house to his business sphere and used it accordingly,
  • if individuals acquire an object jointly as a married couple or through a joint estate not itself active in business, they do so in their individual capacities,
  • a joint owner using part of an asset for business purposes may deduct his ownership proportion of the input VAT falling on the business use - in this case one-quarter of the 12% surface area taken up by the home office, and
  • a joint owner with a partial VAT deduction does not have to be in possession of an invoice showing his portion of the supply.

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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You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). 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 & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd 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 or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.