Settlors and beneficiaries of foreign trusts and foundations are exposed to a wide range of tax risks. Sometimes, settlors and beneficiaries in Germany can face a tax bill on income generated abroad by a foundation or trust even if they have received no distributions from it – something known as 'dry income'. A recent decision by Germany's Federal Tax Court from 3 December 2024 (ref: IX R 32/22 and others) now significantly restricts this attribution taxation, especially for foundations and trusts outside the EU or treaty countries of the EEA Agreement. As cross-border movement and internationalisation increase, the decision is likely to be well received. It could also help re-establish Germany as a potential destination for creatives and executives from the USA (see "FAZ" article of 2nd May 2025 Warum Führungskräfte aus den USA nach Deutschland ziehen" [Why Executives Move from the USA to Germany]).
Attribution taxation: an overview
Attribution taxation is regulated in Sec. 15 of the Foreign Tax Act (Außensteuergesetz – AStG). Income generated by foreign foundations and trusts is attributed to the settlors or beneficiaries resident in Germany under certain conditions – even if the beneficiaries have not received any distributions. What's more, a foreign body of assets does not need to generate low or passively taxed income. The regulations cover not only family foundations in Switzerland or Liechtenstein, but also foreign common law trusts. These are particularly widespread in the Anglosphere (especially the USA, the UK, the Channel Islands, the Isle of Man, Australia and South Africa) (cf. Sec. 15(4) AStG).
An exemption from attribution taxation applies under Sec. 15(6) AStG if individuals behind the foundation or trust have no factual or legal control over the assets, and there are sufficient exchanges of information between the country of residence and Germany. This regulation, introduced by the Annual Tax Act 2009, is the result of infringement proceedings by the European Commission, which had expressed concerns about whether German attribution taxation was compatible with EU law. Another requirement for exemption is that the foundation or trust has its registered office or place of management in the EU or EEA.
What's behind the decision?
Germany's tax authorities had attributed income and earnings of a Swiss family foundation to the beneficiaries living in Germany pursuant to Sec. 15(1) AStG. This was despite the foundation having made no distributions to the beneficiaries. The tax authorities refused to exempt them from attribution taxation pursuant to Sec. 15(6) AStG because the foundation's registered office and place of management were in Switzerland and therefore in a non-EU/EEA country. According to the wording, foundations in third countries are not covered by the exemption provision.
Interpreting Sec. 15(6) AStG in compliance with EU law
Going against the German tax authorities, the Federal Tax Court has now decided that the literal interpretation of the provision in Sec. 15(6) AStG violates free movement of capital under EU law. It is indeed true that a restriction on the free movement of capital can be justified by overriding reasons in the public interest, for example to cut down on tax avoidance by those artificially transferring income abroad. However, the taxpayer must always be given the opportunity to prove that the establishment of the foundation or trust was not 'purely artificial' in individual cases. Although the exemption under Sec. 15(6) AStG is a suitable means of proof in this sense, it must also cover foundations and trusts outside the EU and the EEA. This is because the free movement of capital also applies with respect to non-EU countries.
In the Federal Tax Court's opinion, the exemption provision under Sec. 15(6) AStG must be interpreted, in a way that preserves its validity and complies with EU law, to also cover foundations and trusts in third countries – even beyond the literal wording of the provision. Notably, the Federal Tax Court chose not to refer the case to the European Court of Justice (CJEU), citing the clarity of the legal situation (acte clair) and existing CJEU case law (acte éclairé).
It's worth noting the German tax authorities do not apply the exemption provision under Sec. 15(6) AStG if income from subordinate corporations or foundations is attributed to a foreign foundation or trust (Sec. 15(9) and (10) AStG), even though the wording suggests otherwise. Whether the exemption can be utilised always depends on the composition of the assets.
Having no factual or legal control of the assets
Settlors and beneficiaries of foreign foundations and trusts can invoke the exemption clause of Sec. 15(6) AStG only if the persons behind the foundation or trust have no factual or legal control of the assets (Sec. 15(6) no. 1 AStG).
In its decision, the Federal Tax Court expressly clarifies that this question is solely a matter for civil law. What is decisive, therefore, is whether settlors and beneficiaries can demand under civil law that the foundation or trust assets be distributed to them. The court thus expressly opposes the view of the tax authorities, which had also taken economic criteria into account when determining the withdrawal of the factual or legal control of the assets. In this respect, the decision also has practical implications not only for foundations and trusts whose registered office is outside the EU, but also for those whose registered office is in an EU/EEA Member State.
Practical consequences
Section 15(6) AStG had long been suspected of being incompatible with EU law. The Federal Tax Court's decision is therefore all the more welcome. In future, the settlors and beneficiaries of not only Swiss family trusts, but also foreign common law trusts will be able to request an exemption. Interestingly, the Federal Tax Court itself emphasises this in a press release it issued with the decision:"In practice, the decision means that the beneficiaries of trusts, which are widespread in the common law area, can also request an exemption from attribution taxation," it says. "It remains to be seen how this expansion will go on to affect the scope of attribution taxation under the AStG."
For potential newcomers to Germany from the Anglosphere, pre-emigration planning should now make the decision-making process much easier. Trusts are common instruments for succession planning in these jurisdictions. The Federal Tax Court's decision therefore provides relief for these countries of origin because it may prevent punitive taxation.
The decision is thus in line with other welcome corrections in recent case law such as the Federal Tax Court's decision on gift tax (judgment of 25 June 2021, ref. II R 31/19). In that case, the court held that gift tax applies only where there is an 'interim beneficiary' – that is, someone entitled to ongoing trust distributions under a trust's statutes. Distributions from trusts and foundations are subject to income tax only to the extent that they represent a distribution of generated net income (see Federal Tax Court of 1 October 2024, VIII R 25/21).
However, only those taxpayers whose tax assessments are not yet final will be able to rely on the decision for past years. The German tax authorities are yet to make a statement on the decision. It is also unclear whether and to what extent the legislature will react.
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.
