Flick Gocke Schaumburg, Taxand Germany, explores the new license barrier rule in Sec. 4j of the German Income Tax Act.
To encourage regional R&D activities, several countries have created preferential tax regimes in which income or profits from the exploitation of intangible assets are taxed at a favorable rate. In some countries, this also includes income from trademark rights, even if no particular R&D activities are involved. It is therefore no surprise that the OECD decided to zoom in on these ‘license box’ regimes under Action 5 of its Base Erosion and Profit Shifting (BEPS) project. Alongside this, Germany’s new Act against Harmful Tax Practices with regard to Licensing of Rights of 2 June 2017 has resulted in the introduction of a new provision, Sec. 4j Income Tax Act (hereafter: ITA), that prohibits the tax deduction of license fees as business expenses if such payments are subject to a preferential tax regime and no substantial business activity is carried out.
Background
Among the main aims of the OECD/G20 BEPS project were to counter artificial profit shifting and to realign taxation with economic substance. Action 5, ‘Countering Harmful Tax Practices More Effectively, Taking Into Account Transparency and Substance’, focused on license boxes, or preferential tax regimes for IP companies. In the future, the OECD will no longer tolerate such regimes unless the tax benefits are granted in connection with ‘substantial business activity’ by the taxpayer. It will apply the ‘Nexus Approach’, which allows preferential tax treatment only for (license) fees for intangible assets for which the taxpayer either carried out the R&D itself or outsourced it to a third party (‘qualified’ R&D activities). However, a temporary grandfathering rule applies to regimes that were already in place in 2016 for the preferential taxation of income from licensing of rights to use intangible assets that do not follow the Nexus Approach. The countries affected now have until June 30, 2021 to abolish those regimes or to adapt them to the Nexus Approach.
Discover more: Countering harmful tax practices in licensing of rights
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The newly introduced license barrier rule in Sec. 4j ITA will entail substantial difficulties of application and interpretation. In particular, doubts also exist as to whether the provision complies with constitutional and European law. Not least because of the relatively low additional revenues of EUR 30 million p.a. that the government hopes to generate from applying the provision, the necessity of Sec. 4j ITA can arguably be described as extremely questionable.
