June 20, 2022
German Ministry of Finance issues report on extraterritorial taxation of intellectual property to German Parliament
On 16 June 2022, the German Ministry of Finance (MoF) issued its report on the evaluation of nonresident taxation of royalty income and capital gains relating to rights which are registered in a public German book or registry to the Finance Committee of the German Parliament (for background, see EY Global Tax Alert, German Ministry of Finance finalizes guidance on German extraterritorial taxation of intellectual property, dated 11 February 2021).
In summary, the MoF concluded:
Even though not explicitly mentioned in the report, draft guidance extending the applicable deadline for applications for a retroactive exemption from WHT to 30 June 2023 has already been issued to the Federal States for discussion purposes. It is generally expected that the extension will be approved by the Federal States by 28 June 2022. However, uncertainty remains until a final confirmation, which will likely only be available very close to 30 June 2022.
The report provides various detailed insights into the view of the MoF on numerous questions subject to controversial discussions. However, the technical views expressed are generally in line with already issued guidance and reflect current discussions between taxpayers, advisors and the tax authorities.
According to the report, the MoF expects significant tax revenue for non-treaty protected transactions in the past and intends to adjust income determinations prepared by taxpayers and advisors upwards substantially. However, the MoF anticipates that this result cannot be extrapolated into the future because many structures were adjusted in 2019 and 2020 in light of recent developments in international tax law such as the EU Anti-Tax Avoidance Directive or the Organisation for Economic Co-operation and Development (OECD) Base Erosion and Profit Shifting (BEPS) Project. Given that the adjusted structures are expected to result in treaty eligibility in most cases, barring a German taxation right, only marginal tax revenue is expected in the future.
In addition, the MoF acknowledges the significant compliance burden for businesses as well as the Tax Administration itself. In this regard, the report mentions that it took the tax authorities some time to build up resources to administer the topic, but that the required resources are now, to a large extent, available and that processing times for cases should therefore accelerate.
Likewise, the MoF admits that the issue is subject to international criticism as a unilateral and extraterritorial measure and, even though not said explicitly, acknowledges that this criticism seems to have merit in light of Pillar One and Pillar Two of the OECD BEPS Project.
Notwithstanding the different technical views on the matter, the MoF views the cooperation of taxpayers and advisors as positive and satisfying in most cases. By mid-May 2021, almost 3,300 withholding tax returns were filed by 238 different entities. Moreover, more than 4,000 applications for exemption or refund have been filed, but it is expected that this number will significantly increase during 2022. Out of the filed applications, 32 retroactive exemptions have been granted so far.
In addition, the report acknowledges the practical difficulties for taxpayers to identify and collect the information and documents required for a detailed review of past transactions, which may also have been subject to changes over the years. According to the report, this is particularly difficult for transactions between third parties. Moreover, the expected tax revenue from license transactions between third parties is rather insignificant given the typical structures in such cases. Notably, the report seems to acknowledge that it may be practically impossible for taxpayers to comply with the obligation to cooperate in such cases since the required information and documents may only be available to the third party, which is not obliged to provide this information to the other party. Due to the combination of even higher compliance efforts for taxpayers, substantial difficulties surrounding the collection of all relevant information and documents and the expected insignificant tax revenue, the MoF will therefore review and evaluate alternative approaches for transactions between third parties. However, the report does not mention any specifics in this regard.
The report does not address the timing of a potential prospective change of the law to abolish the rule for taxpayers not resident in a in jurisdictions listed on the EU list of non-cooperative tax jurisdictions. However, given the connection made in this regard to the OECD BEPS project, it seems reasonable to expect such a change in conjunction with the implementation of Pillar One and Pillar Two legislation, which is currently anticipated during the first half of 2023. Notwithstanding the conclusion of the report, the chances of success for such a legislative change remain to be seen.
For additional information with respect to this alert, please contact the following:
Ernst & Young GmbH
Ernst & Young LLP (United States), German Tax Desk, New York