Tax Advisers - Deloitte

Germany
New directions for tax in
Germany
Reinhard Pöllath
P+P Pöllath + Partners
Munich
Germany is changing. The economic upswing has increased
tax revenues and given the government room for tax
reductions. Globalization, including international tax
competition, has hit Germany, and the government
proclaims its willingness to compete.
Corporate tax reduced
The government has committed to reducing the corporate
income tax rate to around 15%, in an effort to reduce the
total corporate tax burden to below 30% (local business
income tax plus federal income tax). For German
shareholders, therefore, the personal income tax on
dividends, now 1/2 of the regular rate, may go up to 1/1 (of
approximately 45%).
The inter-company 95% exemptions will be maintained, both for dividends received
by a corporation and for capital gains from the sale of any shares in another
corporation. The latter is also relevant for foreign corporate shareholders not
protected by tax treaties, who otherwise would be fully taxable on gains from a 1% or
higher shareholding in German companies.
Interest capped
To balance the revenue effect, and to fight interest deduction of German parent
companies on loans from foreign-based low-taxed financing subsidiaries, the
government is seeking to broaden the tax basis, taxable corporate income, by, for
example, limiting interest deductions up to 30% EBIT. It would affect all German
companies and partnerships, whether or not foreign-owned. This is necessary under
EU non-discrimination rules. The only escape from this cap would be evidence that
the overall interest deduction of the worldwide group exceeds 30% of EBIT. The
disallowed interest would be carried forward. A major victim could be private equity,
unless a fund benefits from the escape clause (depending on the definition of group).
The government itself realizes the practical and juridical complexities involved. Its
working paper contemplates alternative legislative action such as further restrictions
on shareholder (or shareholder-secured) loans. This move began with a general addback
of all or part of interest expense and moved on to US-type earnings-stripping
concepts. The present cap proposal will not be the last word.
Capital income, such as dividends, certain types of interest and share capital gains, may
be subject to final withholding at or around 25%. The 2006 tax reform limited book
value rollover for some merger scenarios, with the realized gain being taxed at 1/7 over
seven years. The reform scrapped the general anti-abuse clause in the Merger Tax Act,
which had faced much criticism as a source of uncertainty.
Tax rulings would carry a fee of €50 per half hour of work. This may lead to more
routine ruling practices. Tax officials dislike the fee, fearing taxpayers may begin to feel
entitled to a ruling since they pay for it, whereas it is discretionary.
For 2007, reflecting the upswing in mood, the government proposed an increase on
the cap on charitable deductions to 20% (instead of the current 5% or 10%) and, in
addition to this percentage, to double the maximum deduction when setting up a
foundation to €750,000.
Inheritance and gift tax
Valuation rules have long been challenged as discriminating between real estate and
other assets. The Constitutional Court is expected to render its judgment in early
2007. The government now proposes a potentially more discriminatory tax benefit for
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