German Federal Ministry of Finance Published a Letter to the Application of the ECJ Hornbach-Baumarkt Judgement
On Dezember 6th, 2018 the German Federal Ministry of Finance publishes a letter on the application of the so-called Hornbach-Baumarkt judgement of the European Court of Justice. It sets out its understanding of the interpretation, in particular with regard to the so-called economic reasons as outlined in the judgement.
In its judgment of 31 May, 2018 in Case C-382/16 "Hornbach-Baumarkt" the European Court of Justice decided that a regulation such as that of Sec. 1 German Foreign Tax Act should be submitted to the resident taxpayers must allow the possibility of proving that the conditions laid down in the economic reasons agreed upon, which are based on his position as a shareholder of the of the non-resident company. The ECJ judgment has raised questions about the general applicability of the arm's length principle. It was unclear whether or to what extent the German tax authorities would take the judgment into account.
German tax law users have asked themselves in which cases - in addition to the cases decided by the EJC - economic reasons can be assumed which would justify the agreement of terms and conditions between affiliated companies which are not in conformity with arm's length principles.
In the present case, a subsidiary was relying on the injection of capital to expand its business operations. In in such a case, economic reasons could justify the transfer of capital through the parent company under conditions that are not arm's length (recital 54 of the judgement).
Thus, a correction in accordance with section sec. 1 para 1 sentence 1 of the German Foreign Tax Act shall be omitted insofar as the taxpayer can provide evidence of factual, economic reasons which are attributable to the arm's length principle require a different agreement in order to otherwise threatened side the economic existence of the group as such or of the taxpayer to a closely related person (so-called remedial-related measure).
The Federal Ministry of Finance now defines remedial-related measures as those which are aimed at reducing over-indebtedness or insolvency and to avoid and to secure the continued existence of the related party or group of companies.
The Requirement of a remedial-related measure, in particular remedial need, and restructuring capability of the related party or company group, has to be verified by the taxpayer.
With regard to the scope of affiliated companies, the Federal Ministry of Finance points out that the ECJ has referred to the freedom of establishment (recitals 26 et seq. of the judgement). Therefore, the Decision should not be applicable to cases with non-EU countries.
Summing up, the abovementioned letter first clarified for Germany the conditions under which it appeared possible to depart from the arm's length principle, taking into account the ECJ judgment on the case decided there. It remains to be seen how practice will deal with this view. It is to be expected that further cases will have to be clarified by the German Tax Courts.
It should also be interesting to see how other EU states that are equally affected by the ECJ Judgement will react. Thus, there is a risk of double taxation in remedial or similar cases.
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Stefan in the Schlaa, Attorney at Law
Email: imschlaa(at)ispglobaltax.com