Germany: Extraordinary Profits Created Under Restructurings According To German Law – To Be Exempt Or Not To Be Exempt, That Is The Question!

Last Updated: 29 November 2018
Article by Christian Herweg, Falk Loose and Jan Fürbaß

Recently the German legislature passed a new law, exempting extraordinary profits created by the waiver of claims under restructurings from income tax liability. The amendment was necessary because the German Federal Tax Court had previously held the original administrative decree (which in a conceptually different manner avoided the tax burden on such profits) unlawful. This article gives a brief overview over the legislative history and the practical consequences of the amendment.

1. LEGISLATIVE HISTORY

1.1 Restructuring Decree

In accordance with a decree issued by the German Federal Ministry of Finance in 2003 (the "Restructuring Decree"), it was a long-standing practice in the past that income taxes on extraordinary profits generated by the waiver of creditor claims were assessed under the unrestricted set-off of tax loss carry forwards, deferred and in the end fully waived.

1.2 Court Decision nullifying the Decree in 2016

In 2016 this common practice came to an abrupt end: The Grand Senate of the German Federal Tax Court (Bundesfinanzhof – BFH) held the decree unlawful for a breach of the principle of legality of administrative action, claiming there was no legal foundation for the administrative exemption in statutory law.

The court found that only the legislature had the legal competence for passing a general waiver regarding taxes on profits resulting from restructurings. Furthermore the court concluded that a waiver of taxes by the tax authorities must always be based on an individual assessment of the individual case (for a more detailed description see Dörr/Herweg/Tschauner/Borries/Eggert, German Federal Tax Court nullifies the Restructuring Decree: http://ehoganlovells.com/rv/ff002e4da92dfe304e1dd9c40e4daef848f6829d/p=2447420).

1.3 Legislative Countermeasures and EU State Aid Law

In order to restore the former legal situation, in 2017 the German legislature finally passed a formal law (Article 2 (2) Gesetz gegen schädliche Steuerpraktiken im Zusammenhang mit Rechteüberlassungen (hereinafter GsSZR) ) amending section 3a German Income Tax Act and explicitly exempting extraordinary profits created under restructurings from income tax liability. In addition the same result was reached for trade tax liability through Article 4 (2) GsSZR, creating a new provision in section 7b German Trade Tax Act. According to Article 2 (4) GsSZR (amending section 52 German Income Tax Act) and Article 4 (3) GsSZR (amending section 36 German Trade Tax Act) both provisions should only cover taxes on creditor claims waived after 8 February 2017.

However, the legislature had substantial doubts about, whether the new law would be in accordance with European State Aid Law. Therefore the lawmaker imposed the enactment of the newly created exemption in section 3a German Income Tax Act and section 7b German Trade Tax Act under the condition (Article 6 (2) GsSZR) that the European Commission would issue a decision (Article 288 (4) TFEU), regarding the new German tax approach not to be in breach of European State Aid law, especially the prohibition of state aid (Article 107 TFEU).

But instead of issuing the requested formal decision, the Commission only issued an informal comfort letter in which it considered the new approach an 'existing aid' according to Article 1 (b) (i) Council Regulation (EU) 2015/1589 of 13 July 2015, because the provisions had existed before the TFEU came into force. Therefore, the tax provisions are regarded as lawful as long as the Commission has and will not positively declare(d) them as incompatible with the common market.

Nevertheless the comfort letter does not qualify as decision pursuant to Article 288 (4) TFEU, so that the legal condition under which the new German provision could have come into force was not met.

As a result, the enactment of a new law (Gesetz zur Vermeidung von Umsatzsteuerausfällen beim Handel mit Waren im Internet und zur Änderung weiterer steuerlicher Vorschriften) is forthcoming. Article 19 of the bill amends the GsSZR and repeals the legal condition pursuant to Article 6 GsSZR described above. Therefore Article 2 (2) and 4 (2) GsSZR came into force with retroactive effect on 28 July 2017. Thus profits generated by waivers of claims under restructurings at the level of the debtor which take place after 8 February 2017 can be exempted from income tax liability.

Yet the fiscal destiny of creditor claims waived before 8 February 2017 (the "old cases") remains uncertain. In reaction to the court decision nullifying the Restructuring Decree the Federal Ministry of Finance issued a new decree on 27 April 2017, stating that the Restructuring Decree would still be applicable to old cases. But as expected the BFH also held this decree unlawful on 23 August 2017 for a breach of the principle of legality of administrative action. Despite the court ruling, the tax authority issued another decree on 29 March 2018, insisting on the general applicability of the Restructuring Decree to old cases. At the moment a constitutional complaint (Verfassungsbeschwerde) regarding (inter alia) the issue, whether the decree is applicable to old cases, is pendent at the German Federal Constitutional Court (Bundesverfassungsgericht).

2. ECONOMIC BACKGROUND

Until the BFH nullified the Restructuring Decree, the waiver of (basically) worthless creditor claims was a standard measure in restructuring proceedings. The waiver creates a balance sheet profit of the debtor in the amount of the nominal value of the claim. Generally under German Tax Law such profit is taxable, but the income tax on such profit could be fully waived by the tax authorities because of the Restructuring Decree in the past.

Following the court decision, according to the court the waiver of such creditor claims was to result in tax payments on the generated profits, reducing the debtor's liquidity. However, this result makes little sense economically, because the positive effects of the waiver are outweighed by the tax burden. Therefore in many cases between 2016 and 2018 the restructuring process was no longer profitable and forced a number of companies into liquidation, wasting great economic potential. The decrees issued by the Federal Ministry of Finance on 27 April 2017 and 29 March 2018 did not alter this result. Because of the BFH ruling and the pending constitutional complaint, it is uncertain to this day, whether the Restructuring Decree is still applicable to old cases, creating legal uncertainty.

3. PRACTICAL CONSEQUENCES AND CRITICISM

For this reason, the enactment of sections 3a German Income Tax Act and 7b German Trade Tax Act that exempt extraordinary profits created under restructurings after 08 February 2017 from tax liability is an important first step into the right direction in terms of restructuring. The new provision has a huge impact on the usability of insolvency plans and waivers of creditor claims, which both will gain more importance in the future again. Because of this practitioners should be aware of the amendment when deciding, whether a company should be restructured or liquidated.

As the exemption of restructuring profits from the tax base is now also regulated in the German Trade Tax Act, the competent tax office now also decides on the application of the exemption under trade tax law. This is a great advantage compared to the situation under the Restructuring Decree where the different municipalities in which the debtor was operating decided on the application of the rules of the Restructuring Decree for trade tax purposes.

However, as outlined above the legal situation regarding old cases (before 8 February 2017) is still uncertain as long as the German Constitutional Court has not decided about the applicability of the restructuring decree. It is incomprehensible that the legislature, as proposed by the Federal Council (Bundesrat) in the legislative procedure, did not create a provision also exempting old cases from the tax liability.

In addition one must remember, that the comfort letter is not binding for other EU institutions, especially the European Court of Justice (ECJ). If a national court requests a preliminary ruling by the ECJ (Article 267 TFEU), the court will not be bound by the Commission's opinion issued in the comfort letter.

Overall the legislative approach is a step in the right direction regarding the future of restructurings but does not cover all of the relating problems, especially old cases. In addition, a rest of legal uncertainty remains in the area of European State Aid Law.

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.

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

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

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
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
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
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
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
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

Mondaq.com (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 www.mondaq.com

To Use Mondaq.com 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.

Disclaimer

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.

General

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