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May 19, 2017

German Constitutional Court Declares Parts of Provisions Regarding Forfeiture of Tax Losses and Loss Carry Forwards Unconstitutional


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The German Constitutional Court held in its decision dated 29 March 2017 (published on 12 May 2017) Section 8c sentence 1 German Corporate Income Tax Act (KStG) (introduced in 2008 and replaced by the identical provision of Section 8c para. 1 sentence 1 KStG) to be unconstitutional.

The provisions in question provide for a proportional forfeiture of current tax losses and tax loss carry forwards (Untergang von steuerlichen Verlusten und Verlustvorträgen) if more than 25% but less than 50% of the shares in a German corporation are directly or indirectly transferred to a new shareholder or a group of shareholders with aligned interest (harmful share transfer). The court held that there were no objective reasons for a different tax treatment of corporations in case of such a harmful share transfer. In particular, the aim of avoiding legal but undesired tax optimizations did not justify the broad and undifferentiated scope of these provisions. Further, the exemptions for intra group transactions and built in profits that had been introduced since 2008, did, according to the court, not change the situation.

The decision of the German Constitutional Court only applies to share transfers up to 50%. It further applies only to the years 2008 through 2015. In 2016 – as an exemption to § 8c KStG – a new Section 8d KStG was introduced according to which under certain conditions tax loss carry forwards and current losses shall not get lost if the loss-making business has remained unchanged for a certain period of time. The court left it open whether this exemption may result in § 8c KStG having been in line with the Constitution since 2016.

Section 8c para. 1 sentence 2 KStG, which provides for a full forfeiture of losses and loss carry forwards in case of a transfer of more than 50% of the shares, should therefore not be affected by the court decision. The court rather based its decision inter alia on the argument that in cases where less than 50% of the shares are transferred, the respective new shareholder would not be in the position to control the company and to change its business in a way that allows an optimized use of loss carry forwards. This statement indicates that the court may have a different view on the constitutionality of a forfeiture of losses and tax loss carry forwards in cases of a real change of control (above 50%).

The legislator is now called by the court to amend or replace § 8c KStG until the end of 2018, otherwise the respective parts of Section 8c KStG will become retrospectively null and void from 2008 onwards. Courts and the administration shall not apply the respective provisions; ongoing tax proceedings shall be deferred.

The decision of the Constitutional Court may have a considerable impact on the tax situation of companies which were part of transactions with investors injecting fresh capital or acquiring shares and became minority shareholders. In particular venture capital companies and German medium-sized companies with external investors may benefit from the decision and the new law.

It is to be expected that the legislator will amend § 8c KStG and limit its scope, e.g. to abusive cases. Due to such limitation tax losses and tax loss carry forwards which have been treated as already been forfeited under § 8c sentence 1 KStG/§ 8c para. 1 sentence 1 KStG will have survived a harmful share transfer in a majority of cases, because the new law would retroactively apply to any tax assessment which has not been finally assessed.

In order to benefit from the new law German corporations concerned should therefore appeal against respective tax assessments in order to keep them open until the new law comes into force.


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