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Unexpected Cash Taxes for Loss Companies after Share Transfers
Some German companies having used or are still using tax losses after a recent share transfer will be facing a reclaim of tax savings. The EU Commission has found that the German Restructuring Clause is incompatible with EU state aid rules. This clause enables struggling companies to keep accrued losses for offsetting against future profits for tax purposes despite a harmful shareholder change. In the opinion of the EU Commission this rule is an unfair subsidy compared to financially sound companies. Taxand Germany discusses the nature of the restructuring clause and this will affect future investment.
German law restricts the utilisation of tax losses after share transfers. If the company's shares are transferred to a single acquirer or a group of related acquirers, its tax loss carries forward and current year tax losses incurred up to the date of share transfer are forfeited. When transferring more than 25% up to 50% of the shares, the losses will vanish partially, whereas a transfer of more than 50% of the shares results in a complete forfeiture of the tax losses.
One of the rare exceptions from this strict rule was the "restructuring clause". Subject to further conditions, it applied incase the share transfer was a qualifying measure to prevent or abolish insolvency or over-indebtedness of the loss company.
Directly after the EU Commission opened a formal investigation in April 2010 on the clause, the German Federal Ministry of Finance issued a decree that for the time being the restructuring clause shall no longer be applied. The decision of the EU Commission on 26 January 2011 now confirmed the non-applicability of the restructuring clause.
As a consequence, companies that have benefitted from the restructuring clause will not be able to use their tax losses after a share transfer even if the share transfer was made before the rules where challenged by the Commission. Those companies that have already had a tax saving from the utilisation of their losses after a share sale will have to repay tax savings to the tax office.
Most affected companies with share transfers already realised will have to live with this cash tax burden that was unexpected at the point in time of the investment decision as it is highly questionable that the European Court of Justice will override the decision of the European Commission.
Some companies may benefit from the other exception from the loss forfeiture where Tax losses survive a share transfer to the extent the company has inherent capital gains ("hidden reserves clause"). Companies that relied on the restructuring clause when their shares were transferred should check whether their tax losses can also be saved based on the hidden reserves clause, at least partially. The hidden reserve clause was not challenged by the EU Commission, and it will also apply in the future.
Pure intra-group transactions can also be made without losses being forfeited. This exception, too, is not affected by recent development.
Share transfers that have not yet been realised will be re-considered by investors from a German tax perspective. The hidden reserve clause may pave the way for them.
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