German tax changes relevant to asset managers

The German Federal Ministry of Finance (Bundesfinanzministerium, "BMF") has recently published a number of draft bills and a protocol, which will introduce a number of changes to German tax rules which are relevant for the asset management industry. The draft bills and the protocol include the following:

• Draft Act for the Implementation of the EU Directive to Ensure a Global Minimum Taxation and Further Accompanying Measures (Entwurf eines Gesetzes für die Umsetzung der Richtlinie zur Gewährleistung einer globalen Mindestbesteuerung für multinationale Unternehmensgruppen und große inländische Gruppen in der Union und die Umsetzung weiterer Begleitmaßnahmen, "MinBestRL-UmsG-E") dated 7 July 2023;
• Draft Act to Strengthen Growth Opportunities, Investment and Innovation as well as Tax Simplification and Tax Fairness (Entwurf eines Gesetzes zur Stärkung von Wachstumschancen, Investitionen und Innovationen sowie Steuervereinfachung und Steuerfairness, "WachstumschancenG-E") dated 14 July 2023;
• Protocol with amendments to the Luxembourg / Germany double taxation treaty ("DTT Lux") dated 6 July 2023; and
• Draft Act to Amend the Real Estate Transfer Tax Act (Grunderwerbsteuer-Novellierungsgesetz, "GrEStNG") dated 6 July 2023.

The following gives a brief overview of some of the most relevant proposed amendments to German tax law for asset managers and investment funds.

Introduction of new minimum taxation rules

The MinBestRL-UmsG will implement the OECD Pillar II model rules and the respective EU directive.

The minimum taxation applies to multinational groups with annual revenues of EUR 750m or more in the consolidated accounts of the ultimate parent entity in at least two years of the four financial years immediately preceding the relevant financial year. However, investment vehicles and real estate investment vehicles will not be subject to the minimum taxation rules if they are the ultimate parent of a group.

An investment vehicle is defined as an entity that

• is designed to pool (financial and non-financial) assets for a number of investors (some of which are not related),
• invests in accordance with a defined investment policy,
• allows investors to reduce transaction, research and analytical costs or to spread risks collectively,
• is primarily designed to generate investment income or gains or protection against a particular or general event or outcome,
• has granted its investors a right to return from its assets or income earned on those assets based on the contribution they made,
• is subject to a regulatory regime in the jurisdiction in which it is established or managed and
• is managed by investment fund professionals on behalf of the investors.  

The definition of investment vehicle is not identical with the definition of investment fund in the German Capital Investment Act (Kapitalanlagegesetz, "KAGB") and hence not identical with the definition of investment fund in the German Investment Tax Act (Investmentsteuergesetz, "InvStG"). For example, there is no requirement for an investment fund within the meaning of the InvStG to be (i) subject to a regulatory regime and it is unclear what is meant by a regulatory regime in this context and (ii) managed by investment fund professionals on behalf of the investors. Furthermore, it is unclear from the wording of the law whether funds of one will qualify as investment vehicles even though the reasoning of the MinBestRL-UmsG-E indicates that funds of one within the meaning of section 1 para. 1 sentence 2 KAGB qualify as investment vehicles.

Even though it is expected that most investment funds should not be adversely affected by the new minimum taxation rules, its impact and potential reporting requirements should be monitored very carefully.

German CFC rules

Thetax rate at which passive income shall be considered as low taxed for the purposes of the German CFC rules will be lowered from 25% to 15% as of 1 January 2024 to be in line with global minimum taxation rules.

The change has been long awaited and finally introduces a reasonable tax rate for assuming low taxation for purposes of the German CFC rules. As a result, this welcome change will mean that many investments which caused CFC issues to date will no longer require CFC filings.

German trade tax

Low taxed passive income which is subject to the add-back taxation under the German CFC rules will no longer be subject to German trade tax as of 1 January 2024.

This change will prevent double taxation of CFC income in many cases and will essentially reduce the taxation of income allocations under the CFC rules.

German interest barrier (Zinsschranke)

The exemptions to the German interest barrier will be fundamentally reformed. In particular, the stand-alone exemption and so-called escape clause will be abolished.

Further, the exemption limit (Freigrenze) of EUR 3m net interest expenses will be replaced by an allowance of EUR 3m (Freibetrag). Currently, if the net interest expenses reach the threshold of EUR 3m, all net interest expenses are subject to the German interest barrier. Instead, pursuant to the WachstumschancenG-E, the German interest barrier will only apply to net interest expenses that exceed the allowance of EUR 3m.

However, for the purposes of this allowance similar enterprises, which are under uniform management of one person or a group of persons, or similar enterprises over the management of which the same person or group of persons can directly or indirectly exercise a controlling influence, shall be deemed to be one entity for the purpose of the allowance (i.e. the allowance shall apply only once). The EUR 3m allowance shall be allocated to the different entities according to the ratio of the net interest expenses.

Further, the proposed allowance does not apply to the extent the interest expenses are increased due to an interest carry-forward.

In addition, the term interest expenses for the purpose of the German interest barrier will be extended and not only cover remuneration for debt capital that have reduced the relevant profit, but also economically equivalent expenses and other expenses related to the raising of debt capital within the meaning of Article 2(1) of Council Directive (EU) 2016/1164 of 12 July 2016 ("ATAD"). This shall, according to the explanatory memorandum of the draft bill, also cover all examples of borrowing costs listed in the ATAD (e.g. certain foreign exchange gains and losses on borrowings and instruments connected with the raising of finance, guarantee fees for financing arrangements, arrangement fees).

The "conversion" of the EUR 3m limit into an allowance is a welcome and material improvement to the interest barrier rules. However, a serious deterioration compared to the current law is that this allowance will only be granted once to a group of entities under common control in certain cases. This could be relevant, for example, for real estate funds which hold German real estate via different project companies which all, on a standalone basis, do not have net interest expenses exceeding EUR 3m but where the threshold of EUR 3m would be exceeded on a on a consolidated basis.

Interest level barrier (Zinshöhenschranke)

In addition to the interest barrier, a new interest level barrier (Zinshöhenschranke) will be introduced as of 1 January 2024 primarily affecting intra-group lending. Pursuant to the interest level barrier (Zinshöhenschranke), interest expenses will not be deductible to the extent they are based on an interest rate above the maximum rate (Höchstsatz) unless evidence can be provided that the lender as well as the ultimate parent would have received the loan only at a higher rate. The maximum rate (Höchstsatz) will be the base rate pursuant to section 247 of the German Civil Code (Bürgerliches Gesetzbuch, "BGB") increased by two percentage points.

However, the interest level barrier (Zinshöhenschranke) will only apply for interest expenses that arise from a business relationship between related entities within the meaning of section 1 (2) German Foreign Tax Act (Außensteuergesetz, "AStG"). Further, the interest level barrier (Zinshöhenschranke) shall generally not apply where the creditor carries on substantial business activities in the jurisdiction in which he has his seat or place of management.

The proposed new interest barrier level (Zinshöhenschranke) will increase the administrative / compliance burden for intra-group financing and, if it is implemented as suggested, will likely require amendments to the inter-company loans in many cases.

Investment Tax Act ("InvStG")

Changes relevant for so called Chapter II funds:

For (opaque) investment funds (so called Chapter II Funds), new rules for the determination of the real estate fund quota (Immobilienfondsquote) and the foreign real estate fund quota (Auslandsimmobilienfondsquote) will be introduced which are relevant for partial tax exemptions of income realised by fund investors:

• A real estate asset will not be recognised as a real estate asset for the purposes of the real estate fund quota (Immobilienfondsquote) and the foreign real estate fund quota (Auslandsimmobilienfondsquote), if the income from the letting or leasing or from the sale of the real estate asset is not subject to taxation or is more than 50 per cent exempt from taxation.
• An equity interest in a real estate company or foreign real estate company that the investment fund holds directly or indirectly through partnerships will not be recognised as a real estate company or foreign real estate company for the purposes of the real estate fund quota (Immobilienfondsquote) and the foreign real estate fund quota (Auslandsimmobilienfondsquote) if more than 50 per cent of the income of the real estate company or foreign real estate company from the letting or leasing or from the sale of real estate is exempt from taxation.

These proposed new rules will make it harder in some cases for investment funds to prove their status as (foreign) real estate funds and will increase administrative burdens.

Changes relevant for so called Chapter III funds:

For (semi-transparent) special investment funds (Spezial-Investmentfonds) (so called Chapter III Funds), the tax exemption for distributed income and deemed distributed income where Germany has waived its taxation rights under an applicable double taxation treaty for the income of the fund in the case of a direct investment will no longer apply if the respective income of the Chapter III Fund has not been subject to any actual taxation in the foreign state from which it originates.

This change will especially affect Chapter III Funds which invest in foreign real estate and will increase administrative burdens. 

Under the current law, income from active entrepreneurial management within the meaning of section 15(2) sentence 1 no. 2 InvTA must be less than 5% of the total income of a Chapter III Fund. Otherwise, the fund loses its status. However, a threshold of 10% already applies to income from the generation or supply of electricity that is related to the rental and leasing of real estate and results from the operation of systems for the generation of renewable energy or charging stations for electric vehicles or bicycles where the threshold of 5% is exceeded by such income. This threshold for income from the generation or supply of electricity will now be increased from 10% to 20% as of 1 January 2024.

This proposed amendment is very welcome and provides for more possibilities of Chapter III Funds to invest in renewable energies.

Loss carry back

The loss carry back for German (corporate) income tax and German trade tax purposes is generally limited to EUR 1m under current law. However, due to COVID relief measures this amount was temporarily increased to EUR 10m for the fiscal years 2020 to 2023. The amount of EUR 10m will now continue to be applicable until the fiscal year 2028 pursuant to the WachstumschancenG-E. Further, the carry back period of one year will be extended to three years.

Under current law, amounts that cannot be carried back can be carried forward up to an amount of EUR 1m (base amount) plus 60% of the income exceeding that amount of EUR 1m (so-called minimum taxation rules). Pursuant to the WachstumschancenG-E the minimum taxation rules will be suspended for the fiscal years 2024 to 2027. From the fiscal year 2028, the minimum taxation rules will apply again, however, the base amount will increase to EUR 10m instead of EUR 1m.

Climate Protection Investment Premium Act

A new Act for Investment Premiums for Climate Protection Investments, Klimaschutz-Investitionsprämiengesetz ("Klimaschutz-InvPG"), will be introduced.

"Investment premiums" (Investitionsprämien) are payments granted in the amount of 15% of the acquisition and production of new depreciable movable fixed assets as well as measures on existing movable fixed assets that lead to subsequent acquisition or production costs for certain energy efficient assets. Investment premiums will be treated as tax neutral contributions, but reduce the depreciation basis for the asset.

The investment premium is capped at EUR 30m for all assets and limited to acquisition and production costs for investments that are completed before 1 January 2028 or that have begun before 1 January 2028 to the extent that partial production costs were paid before 1 January 2028. According to the explanatory memorandum of the Klimaschutz-InvPG the time limit is considered as an incentive for immediate investments.

Mandatory disclosure rules for domestic tax arrangements

The WachstumschancenG-E introduces new rules for the disclosure of domestic tax arrangements which are similar to the mandatory disclosure rules for cross-border tax arrangements under  DAC 6.

The new rules include hallmarks which are comparable to the hallmarks of DAC 6 (e.g. the hallmark of a standardised structure or standardised documentation).

However, a reportable domestic tax arrangement requires for all hallmarks that the main benefit of the arrangement is a tax advantage. Tax advantage for this purpose has the same meaning as the term used for the implementation of DAC 6 into German domestic law.

Generally, in comparison to DAC 6, the mandatory disclosure rules for domestic tax arrangements have a narrower scope. They are, for example, only applicable if the relevant taxpayer meets certain materiality thresholds with respect to revenues/taxable income. However, for arrangements where investment funds are involved, a reporting obligation generally exists irrespective of such thresholds.

DTT Lux

The current term investment fund (Investmentvermögen) in the DTT Lux is replaced by a new term, undertakings for collective investments (Organismus für gemeinsame Anlagen), which includes all investment funds (Investmentfonds) for the purposes of the InvStG and explicitly excludes partnerships.

Undertakings for collective investments are considered to be the beneficial owner of the income which they receive. This applies also for contractual funds like an Luxembourg FCP or a German "Sondervermögen".

These welcome amendments bring the terminology of the DTT Lux in line with the German InvStG and provide for more clarity.

With regards to remote working options for cross-border employees a de minimis rule of 34 days is included in the DTT Lux meaning that the income of an employee being resident in one state received for work in the other state can only be taxed in the state of residence if the work is performed in that state for at least 35 days in each calendar year. 

This is very welcome as it provides especially more comfort for employees employed in Luxembourg but who are German residents.

Further, a principle purpose test is included in the DTT Lux so that treaty benefits will generally not be granted to income, when the main purpose of the structuring or a transaction is to directly or indirectly obtain a treaty benefit.

The amendments to the DTT Lux will apply with effect from 1 January 2024.

German real estate transfer tax (Grunderwerbsteuer, "RETT")

Based on the GrEStNG the German RETT rules for share deals will be substantially reformed. Please see our article, Draft regarding the Act to Amend the Real Estate Transfer Tax Act, for an overview of the envisaged changes.