July 18, 2023
German Ministry of Finance surprises with draft bill for biggest corporate tax reform since 2008
- A new draft bill proposes the most significant corporate tax changes in Germany in 15 years.
- The proposed changes center around incentives for climate protection and research and development, substantially increased utilization of loss carryforwards, interest deductibility, and more.
- Potentially affected taxpayers should note the proposed changes and watch for further developments as the bill works its way through the legislative process.
On 14 July 2023, the German Ministry of Finance (MoF) unexpectedly published a draft bill, referred to as "the Growth Opportunities Act," which would constitute the biggest corporate tax reform in Germany since 2008. The draft bill includes the already publicly discussed investment premium, increased research and development (R&D) allowance, changes for partnerships and an expansion of the deduction for tax-loss carryforwards. Moreover, the draft proposes changes to the interest deduction limitation and a reporting obligation for domestic tax arrangements.
Premium for climate protection investments
The premium for climate protection initially contemplated to be introduced for the years 2022 and 2023 is now to be introduced for the years 2024 to 2027. The premium is to be available for investments in new and existing depreciable movable fixed assets that are part of an energy-saving or energy-management system. The premium would amount to up to 15% of the investment, but would be capped at €30 million.
Increased R&D allowance
In case of the existing R&D allowance of 25% of the qualifying expenses, the maximum base is to be tripled to up to €12 million and extended to also cover the acquisition and production costs of depreciable movable fixed assets used in a qualifying R&D project, resulting in a maximum benefit of €3 million. In addition, the draft foresees increasing to 70% the portion of expenses for contract R&D that can be considered in the base of the allowance.
Tax loss deduction
Regarding the utilization of tax losses, the draft proposes several substantial changes:
- The tax loss carryback for individual income tax or corporate income tax (CIT) purposes is to be extended to up to three years (currently two years) and the increased amounts of €10 million for an individual and €20 million in case of joint assessment of individuals temporarily introduced as a measure within the COVID-19 pandemic (otherwise €1 million / €2 million) are to be made permanent.
- Under current rules, a tax loss carry forward can only be offset against positive income without limitation up to an amount of €1 million. To the extent taxable income exceeds €1 million, only 60% of the exceeding amount can be offset against an existing tax loss carryforward (so-called minimum taxation). The draft proposes to allow an offset without any limitations for tax years 2024 through 2027 (temporary suspension of minimum taxation). From 2028 onward, the minimum taxation is to be reintroduced for the total amount of income exceeding €10 million (currently €1 million) for individuals and €20 million (currently €2 million) in case of joint assessment of individuals.
- The changes proposed for the income tax loss carryforward rules would also apply for trade tax purposes. However, there are no plans to introduce the option of a German trade tax loss carry back.
Interest deduction limitation
- The draft provides for a comprehensive reform of the interest deduction limitation. Both the equity escape clause and the group exception for businesses not part of a group are to be deleted from the current rules. In addition, the current €3 million net interest threshold is to be changed into an allowance. Currently, the 30% earnings before interest, taxes, depreciation and amortization (EBITDA) limitation applies to taxpayers with a net interest expense exceeding the amount of €3 million. Effectively, the draft proposes to always allow the deduction of net interest expense in the higher amount of €3 million or 30% of EBITDA. However, the allowance could only be claimed once per group of related parties and would have to be allocated proportionally to each entity of the group based on net interest expenses.
- A separate rule would deny the deduction of interest expenses paid to related parties to the extent they are due to an interest rate exceeding a variable maximum rate. The maximum interest rate is defined as the base interest rate according to the German Civil Code (currently 3.12%) plus 200 basis points. However, if and to the extent that the taxpayer can demonstrate that the taxpayer as well as the ultimate parent of the group could only procure funds at a higher interest rate (with otherwise equal conditions), this higher interest rate is the maximum interest rate for purposes of the rule. Moreover, the bill allows a substance exception under which the rule would not apply if the lender has appropriate substance in the jurisdiction of its residence. According to the explanatory notes to the draft, this rule effectively aims to prevent structures utilizing entities that lack substance for financing transactions.
Reporting obligation for domestic tax arrangements
A reporting obligation for national tax arrangements would be introduced and would closely follow the implemented mandatory disclosure regime for international tax arrangements.
Updated "check-the-box" elections for partnerships
The "check-the-box" election for partnerships to be taxed as corporations is to be adjusted to increase its attractiveness. The scope of the application would be extended to all partnership (currently only available to certain partnerships). In addition, the timing will be adjusted so that it would be possible to elect to be taxed as a corporation as of the foundation of a partnership (currently only permitted as of the first fiscal year after foundation).
In addition, the draft bill proposes amendments to several other rules, such as:
- Adding a transition period for mandatory electronic invoices until 2025 or even 2027 if the recipient agrees to waive the electronic invoice requirement
- Increasing the de minimis threshold for income from the delivery of electricity within the extended trade tax reduction for real estate businesses from tax year 2023 onward
- Changing the treatment of earnings retained by a partnership in a specific regime
- Changing the claw-back provisions within tax-neutral demergers; effectively, the proposal seeks to counteract case law that deems a share transfer of 20% or less within five years after a tax-neutral demerger as not harmful
- Increasing the deprecation allowance for low-value assets, compound items and the accelerated deprecation regime for such
- Implementing the European Union Mutual Assistance Directive for joint audits
- Increasing lump-sum allowance for meals and for company events
The draft is supposed to be discussed within the entire government in mid-August. On this basis, a legislative process could be completed by end of 2023.
For additional information with respect to this Alert, please contact the following:
Ernst & Young GmbH, Germany
Ernst & Young LLP (United States), German Tax Desk, New York
Published by NTD’s Tax Technical Knowledge Services group; Carolyn Wright, legal editor