The controversial U.K. Brexit has a wide-reaching impact—particularly in the area of taxation. German tax law recognizes various tax privileges for EU-resident companies compared to non-EU companies. As these tax privileges will no longer be available to U.K. companies, multinational companies (MNCs) are analyzing potential scenarios and possible impact.
To evaluate the impact, specific legislation must be taken into account. Germany has recently enacted the Brexit Transition Tax Act, “Brexit-Steuerbegleitgesetz” (BrexitStBG) and the German Federal Brexit Implementation Act, “Brexit-Übergangsgesetz” (BrexitÜG).
Brexit Transition Tax Act (BrexitStBG)
The BrexitStBG covers Brexit-related amendments to German tax law that are intended to prevent certain legal consequences of the U.K. becoming a non-EU member.
Under the BrexitStBG, specific fiscal privileges that rely on the U.K.’s EU and European Economic Area (EEA) membership will continue to apply post Brexit if the fiscally relevant facts were created in pre-Brexit times.
The amendments relate to the German Income Tax Act (Einkommensteuergesetz), the German Corporation Tax Act (Körperschaftsteuergesetz), the German Reorganization Tax Act (Umwandlungssteuergesetz), the German Foreign Tax Act (Außensteuergesetz), the German Real Estate Transfer Tax Act (Grunderwerbsteuergesetz) and the German Inheritance and Gift Tax Act (Erbschaftsteuergesetz).
Among the effects of the BrexitStBG are:
- no mandatory release and taxation of a deferral adjustment item that was formed upon a transfer of an asset into a U.K. permanent establishment by a German taxpayer (section 4g of the German Income Tax Act);
- no deemed dissolution and exit taxation (section 11 of the German Corporate Income Tax Act) if a corporation’s legal seat or effective place of management is relocated from an EU member state to a non-EU member state, thereby terminating its resident taxation, as result of Brexit;
- no deemed triggering event through leaving the EU for existing real estate transfer tax clawback periods under Germany’s real estate group exception (section 6a of the German Real Estate Transfer Tax Act);
- no deemed triggering event due to infringement of clawback periods for tax-free contributions under the German Reorganization Tax Act, covering a contribution in kind or an exchange of shares below the fair market value relating to the U.K., provided that the reorganization resolution was passed before the date of Brexit or the contribution agreement was concluded before that date (section 22 of the German Reorganization Tax Act).
Moreover, the BrexitStBG aims at cushioning the negative consequences in the financial services industry that would go along with an unregulated exit by introducing a transition period for specific financial services.
At the discretion of the German Federal Financial Supervisory Authority (BaFin), U.K. financial service providers operating in Germany may benefit from the existing EU passporting regime for a transitional period of up to 21 months post-Brexit.
The passporting regime enables EU-based firms to operate freely in any other member state with minimal additional authorization. The activity must be closely related to pre-Brexit contracts.
The application of the BrexitStBG does not depend on whether the U.K. exits the EU by withdrawal agreement or not.
Either way, tax implications will depend on the future status of the U.K. As several German tax regulations specified for EU member states are also applicable for members of the EEA, these provisions might continue to apply if the U.K. remains part of the EEA. As of today, it is not possible to assess whether the U.K. will remain part of the EEA.
German Federal Brexit Implementation Act (BrexitÜG)
The BrexitÜG implements the outcome of the withdrawal agreement as negotiated between the EU and the U.K. into German Federal Law.
It provides that there will be a transition period running from Brexit day until December 31, 2020. During this period, EU law will continue to apply to the U.K. as if it was an EU member state.
Given that the BrexitÜG reflects the outcome of the withdrawal agreement, it only unfolds effectiveness in case of a “deal scenario.” In case of a “no-deal scenario” companies and individuals may not benefit from the transition period.
Open Issues will Remain
The Brexit-Steuerbegleitgesetz only mitigates those adverse consequences where the facts have been created in pre-Brexit times.
Accordingly, there are still various tax implications that are not covered in the legislative act and that have to be considered in case the U.K. is prospectively treated as a third country for German tax purposes. Adverse tax consequences could result in either case U.K. investments into Germany and German investments into the U.K.
Inapplicability of Parent-Subsidiary Directive
The Parent-Subsidiary Directive ensures a full exemption from withholding taxes of profits distributed to a parent company established in another EU member state or that are attributable to a permanent establishment situated in another EU member state.
Post-Brexit, profit distributions from a German subsidiary to its British parent company will no longer be exempt from withholding taxes. The existing double taxation agreement ensures that the withholding tax is limited to 5 percent.
German CFC Rules
German controlled foreign corporation (CFC) rules apply if foreign companies, whose major shareholders are subject to German resident taxation, generate passive-type income and are subject to an effective taxation of less than 25 percent in their country of residence.
In this case, the income will be attributed to the German shareholder and is subject to German taxation. However, a company can escape from CFC rules if:
- the company is established or has its headquarters in an EU or EEA member state; and
- evidence can be provided that the CFC pursues a genuine and actual business activity in that place; and
- a tax information exchange agreement between the two member states is in place.
After Brexit, an EU escape will no longer be possible. In this context, it should be mentioned though that in its decision of February 26, 2019 (C -135/17), the European Court of Justice (ECJ) concluded that an application of CFC rules that does not include the possibility for CFCs based in third countries to escape if evidence can be provided that a genuine and actual business activity is pursued, violates EU law.
It is thus conceivable that German CFC rulings could be amended prospectively in this regard so that the escape clause will also apply to non-EU member states.
In light of the requirements set out under the EU’s Anti-Tax Avoidance Directive (ATAD), the German legislator is currently working on draft legislation to modernize the CFC rules. It remains to be seen if and how German MNCs with U.K. CFCs might benefit from the new CFC rules post-Brexit.
Brexit will have a major impact on MNCs, both from a business and tax perspective. The Brexit-Steuerbegleitgesetz mitigates some of the German tax consequences of Brexit, while in other areas, e.g. German CFC rules or profit repatriation out of Germany, firms are required to carefully evaluate the impact and take appropriate action.
Generally, the Brexit-Steuerbegleitgesetz may only provide relief from negative consequences in cases where facts and structures had already been established pre-Brexit.
The Brexit-Übergangsgesetz only becomes relevant in a “deal scenario” and can at best result in a deferral of the consequences until December 31, 2020.
German tax consequences might further be affected by any additional agreements concluded (e.g. EEA membership). Taxpayers must accordingly evaluate their facts and circumstances and perform a specific scenario analysis.
Kais Mouldi is a Partner and Tim Wagener is a Manager, International Tax Services, at PwC Germany.