Reform of German investment taxation – Draft legislation published
Last week, the German Ministry of Finance made available a discussion draft of an Investment Taxation Reform Act (Investment steuerreformgesetz – InvStRefG) for consultation with the relevant associations. In addition, the legislator drafted a new income tax provision limiting the participation exemption to shareholdings of 10% or more. The new rules are intended to come into force on 1 January 2018.
A. Investment Tax
The draft legislation introduces important changes, for example it shall henceforth be distinguished between two independent taxation regimes: (i) a non-transparent taxation system which generally applies to all AIF or UCITS and (ii) a semi-transparent taxation system for so-called "special investment funds".
The most significant changes can be summarized as follows:
1. Non-transparent tax regime
► Abolition of transparent taxation and introduction of a non-transparent taxation system based on the separate taxation of investment funds and investors for all types of investment funds (UCITS and AIF including single investor funds) regardless of their legal form, with the exception of partnerships. Partnerships are only within the scope of application if they qualify as a UCITS pursuant to section 1 para. 2 German Investment Act (KAGB) or if their business objective serves the purpose of pension asset pooling.
► Abolition of tax reporting requirements for investment funds. In particular, the requirement to publish so-called deemed distributed income (DDI) and other German tax figures in the Federal Gazette (Bundesanzeiger), which was perceived as burdensome and costly by many fund managers, is to be abolished.
► German and non-German funds are subject to a 15% tax on income from German shareholdings, German real estate income or other German source income. German dividends will be subject to a 15 % withholding tax. The tax on German source income is introduced in order to establish a level playing field for German and non-German funds and to comply with European law.
► Investor taxation on the basis of a lump-sum amount replaces the taxation of deemed distributed income (DDI). The lump-sum amount is attributed to the investor on December 31st of each year; it is calculated as the NAV per share at the beginning of the calendar year multiplied by a factor that depends on the statutory base rate and is adjusted annually – currently the lump-sum amount would equal 0.80% of the NAV per share. Actual distributions reduce the lump-sum amount which is limited to the actual increase in value of the fund shares during the calendar year.
► Partial exemption of income from investment funds which mainly invest in shares or real estate on an ongoing basis. The partial exemption does not only apply to distributions but also to disposal or redemption proceeds as well as to the lump-sum amount. The partial exemption amounts to:
- 20% of the earnings if at least 51% of the fund's NAV are invested in shares or equity funds;
- 40% of the earnings if at least 51% of the fund's NAV are invested in German real estate;
- 60% of the earnings if at least 51% of the fund's NAV are invested in international real estate.
► Investment funds are exempt from trade tax provided that the objective purpose of the respective fund is limited to the investment and the administration of its assets for the collective account of the unit holders and that the fund does not operate as a commercial business in relation to the assets held.
2. Transparent tax regime (special investment funds)
► Precondition for the classification as a special investment fund is compliance with specific investment restrictions (similar to the current restrictions under 1 para. 1b Investment Tax Act). The maximum number of investors is 100; natural persons may not invest in special investment funds - neither directly nor indirectly via a partnership.
► Investor taxation continues to be carried out according to the principle of transparency, i.e.
- there is no taxation at fund level if in relation to German dividend income withholding tax certificates are issued to investors or if the fund withholds German withholding tax from German real estate income;
- at investor level distributed income, deemed distributed income and profits from the disposal of shares in special investment funds are subject to taxation.
Regarding taxation of AIF-partnerships there are no substantial changes. Transparent taxation applies on the basis of the general income tax principles; provided that the AIF qualifies as asset-managing partnership, it is neither subject to income tax nor to trade tax.
4. Value Added Tax on Management Fees
The tax exemption for management fees does principally persist. However, precondition for the application of the tax exemption is that the respective fund does fulfill the specific investment restrictions referred to above in relation to special investment funds. Consequently, the investment restrictions for special investment funds are indirectly applicable to any investment fund. As a result, the management of closed-ended funds continues to be a taxable service.
B. Limitation of participation exemption
In general, dividends received by a corporation and capital gains realized by a corporation from the sale of shares in another corporation are 95% tax exempt (participation exemption).
In 2013, the German legislator introduced a new regulation under which dividends benefit from the tax exemption only if the parent company held at least 10% of the share capital in the subsidiary at the beginning of the calendar year in which the dividend was paid. For purposes of the exemption, shareholdings acquired during the calendar year are deemed to have been acquired at its beginning, and therefore qualify for the exemption if the acquired stake represents at least 10% of the share capital of the company which pays the dividend.
Under the published draft of the InvStRefG, this regulation shall be applied to capital gains from portfolio shareholdings. Hence, capital gains would only be 95% tax exempt if the selling corporation held at least 10% of the share capital in the sold corporation at the beginning of the year of sale. The mechanism regarding dividends on shares acquired during the calendar year shall apply to capital gains as well.
It should be noted that, according to the published draft, capital losses shall not be offsetable against regular profits, but shall be carried forward and shall only be offsetable against future profits arising from the fully taxable sale of shares in a corporation.
According to the published draft, the new regulation shall come into force on 1 January 2018. In case of a sale of portfolio shareholdings on or after that date also the increase in value that built up before that date would be fully taxable.