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Loss Trafficking Rules Under the Federal Fiscal Court Microscope
An official decree which was published citing that the German loss trafficking rules are binding upon all tax offices, is now subject to a decision of the German Fiscal Court. German loss trafficking rules currently stipulate that existing losses and loss carry forwards are lost pro rata if, within a term of five years, more than 25% of the shares in a corporation are (directly or indirectly) transferred to a single acquirer. If more than 50% are transferred, losses and loss carry forwards are lost to a full extent. If the transfer takes place during the fiscal year, the German fiscal authorities state that not only are the loss carry forwards lost after the share transfer, but also that a profit of the ongoing fiscal year derived in the period prior to the transfer cannot be set off against existing loss carry forwards. Taxand Germany takes a look at the loss trafficking rules in question and assesses whether, in their current form, they are in line with the German Constitution.
In its decision dated 30 November 2011, the German Federal Fiscal Court had to decide upon the following case. In July 2008, 50% of the shares in a German GmbH were transferred. As of 31 December 2007, a loss carry forward of EUR 60,000 was assessed. The profit generated by the GmbH in 2008 prior to the share transfer amounted to more than EUR 60, 000. On the basis of the German loss trafficking rules and the official decree by the Federal Ministry of Finance, the tax office considered only EUR 30,000 of the loss carry forwards and allowed a set-off against the profits generated prior to the share transfer only to that extent. In their view, the other 50% of the loss carry forwards could not be utilised as a result of the loss trafficking rules, while the GmbH wanted to achieve a full utilisation of the loss carry forward of EUR 60,000.
The Federal Fiscal Court has contradicted the respective view of the Federal Ministry of Finance in the decree, as the wording of the law does not support this restrictive interpretation. It has, therefore, decided that profits generated in the period prior to the transfer can be set off against existing loss carry forwards. The tax authorities have not yet reacted as to whether this judgment will be applied in other cases as well, and whether the decree in question will be amended accordingly.
In cases like this one, where a transfer takes place during the fiscal year, it should be noted that the tax authorities tend to apply a restrictive approach by applying the German rules of minimum taxation (whereby a profit up to EUR 1 million can be set off against loss carry forwards without restrictions, while any profit exceeding EUR 1 million can only be neutralised up to 60%), on a pro-rata basis. As a result, a share transfer at the end of June should lead to the fact that a profit of EUR 1 million cannot be set off against loss carry forwards without restrictions, but a profit of only EUR 500,000 can. This practice has not been subject to the court's decision as the amounts in question were too low, so the above described practice was not relevant.
However, the court already raised concerns in 2010 that it might not be in line with the Constitution if utilisation of losses is denied before they ultimately vanish.
In cases where a German corporation has loss carry forwards and where its shares are transferred on a date during the year, it is recommended to file an appeal or a lawsuit in case a full set-off of the ongoing profits of that year (with the existing loss carry forwards) is not accepted by the tax office. The appeal should refer to the above described decision of the Federal Fiscal Court. Furthermore, it is recommended businesses file appeals for assessment notices where the German loss trafficking rules apply, as the Federal Constitutional Court will decide upon the question whether or not the German loss trafficking rules, in their current form, are in line with the German Constitution.
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