Vol 5 (2008) - Issue 5

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German Fiscal Law in the Context of International Reorganisation and Insolvency: Selected Issues

I. Jeopardising loss deduction and interest expense carry-forward as a result of restructuring and sale of enterprise

For years the German legislator and the German tax administration have attempted to restrict the taxreducing use of losses that have occurred in the past. The purpose of such attempts has been to prohibit the taxpayer’s option to use or traffic losses. Furthermore, the shifting of profits to low-tax countries by means of interest expenses in connection with the financing of an enterprise has been a thorn in the side of the fiscus. The legislator resumed both issues in the 2008 Business Tax Reform Act (Unternehmensteuerreformgesetz 2008, UntStRefG) and laid down strict rules. The changes also affect businesses that are restructured or sold as a result of a crisis.

1. Loss deduction

The use of losses in the case of a change of shareholders in companies was already restricted in the past under the old version of s. 8 para. 4 Corporate Income Tax Act (Körperschaftsteuergesetz, KStG). This rule at least made the acquisition of a so-called shell company, i.e. the acquisition of an ‘empty’ company with the exception of loss carry-forwards, more difficult. By means of the 2008 Business Tax Reform Act this rule was revised and tightened in s. 8c KStG (new version). The former rule of s. 8 para. 4 KStG (old version), however, will be applicable to old cases until 31 December 2012 due to a transitional rule. a) Limitation on loss deduction under s. 8 para. 4 KStG (old version).

By means of s. 8 para. 4 KStG (old version) the German legislator wished to safeguard the losses that have not been set off against each other can be claimed for taxation purposes only by that company which is economically identical with the company which has suffered the loss.

The requirement for loss deduction is that both the legal and the so-called economic identity are maintained. While in the case of a change in shareholders the legal identity remains unchanged, the economic identity – according to the definition proposed by the legislator – is no longer maintained if more than 50% of the shares in a company are transferred and the company continues its business activities with predominantly new business assets. The legislator does not specify what is meant by ‘predominantly new business assets’. In view of the German Bundesfinanzhof (Federal Fiscal Court, BFH), a view which is shared by the tax administration, new business assets are predominant if the assets contributed or financed by means of capital contributions or loans exceed the assets available at the time of the transfer of shares.

However, this rule foresaw relief for reorganisation cases. The predominant contribution of new business assets is not harmful if the purpose of such contribution is to reorganise business activities which have caused the remaining loss carry-forward and if the corporate entity continues such business activities for a subsequent period of five years in a manner which corresponds to the original overall picture in the existing economic context.