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German restructuring clause in potential violation of EU-law
One of the major changes in German tax law implemented in 2009 to mitigate the impact of the global economic crisis was the introduction of the so-called restructuring clause for corporations. According to the restructuring clause, if shares in a financially stricken company ("ailing company") are acquired for the purposes of preventing insolvency, tax losses of company will not be lost but could still be used to offset current year or future taxable income. This is in contrast to the general rule which denies relief. Taxand Germany examines the loss carry forward and current year losses of corporations relative to the so-called restructuring clause, and the instances when these occur.
- The provisions governing the tax deduction of losses of corporations stipulate as a general rule that shares in a corporation be transferred to a single acquirer (or a group of acquirers sharing the same interests) within 5 years otherwise the corporation's tax loss carry forward and current year tax losses incurred up to the date of share transfer ("accrued tax losses") are lost. When transferring more than 25% up to 50% of the shares, the losses will vanish partially, whereas a transfer of shares of more than 50% results in a complete loss of the tax losses.
- As an exception to these restrictions on the tax deductibility of losses, the restructuring clause stipulates that if the shares in the corporation are acquired for purposes of restructuring the corporation (i.e. to prevent or abolish the company's insolvency) while preserving material parts of the company's business organisation, the accrued tax losses will not be lost, but can still be used to offset taxable income at the level of the acquired corporation.
The commission of the European Union has recently initiated a formal procedure against Germany since in its opinion the restructuring clause could constitute an inadmissible state aid in favour of ailing companies and, therefore, a violation of EU-law.
In reaction to the EU procedure, the German Federal Ministry of Finance issued a decree on 30 April 2010, according to which the restructuring clause shall no longer be applicable until a formal decision of the EU-commission on the conformity of the restructuring clause with EU-law has been reached. It has to be noted that according to the decree, the restructuring clause shall also be disregarded in cases where the German tax authorities had previously issued a binding ruling to the contrary (i.e. stating the application of the restructuring clause).
Foreign investors that are thinking of acquiring shares in an ailing German corporation in order to prevent the company's insolvency should be aware that the company's accrued tax losses are likely to be lost with retroactive effect if the formal EU procedure reveals that the German restructuring clause is not conforming to EU law. The financial impact is likely to be significant for the acquired corporation and the foreign shareholder / investor. At the company's level, the current year and future taxable income cannot be offset with the tax losses, but will immediately result in an actual tax burden. Inevitably the poorer cash position of the company is likely to have a negative impact on the dividend situation. These risks have to be considered at all stages of the (tax) structuring of an acquisition, starting with the acquisition structure and the question whether a potentially insolvent company should be acquired by way of a share deal in the course of an insolvency plan procedure or by way of a transfer of the company's major assets to a new company.
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