On 7 July 2010 the Federal Constitutional Court (Bundesverfassungsgericht, BVerfG) delivered three rulings with regard to retroactive changes of tax law. All decisions contained statements causing an increase in standards to reach when drafting tax laws that cause a retroactive increase of the taxpayers’ tax burden.

The tax authorities reacted by releasing detailed circulars (Federal Ministry of Finance (Bundesfinanzministerium, BMF) dated 20 December 2010 (IV C 1 – S 2256/07/10001; IV C 6 – S 2244/10/10001), Ministry of Finance (Finanzministerium, FM) of Saxony Anhalt dated 15 November 2010 (42 S – 2290-41)) governing the application of the standards set by the BVerfG.  

The decisions by the BVerfG dealt with tax increases introduced by the “Steuerentlastungsgesetz 1999/2000/2002” regarding the prolongation of the period for taxability of capital gains in case of a sale of real estate, the treatment of monetary employment discharge compensation and the treatment of capital gains in case of a sale of shares held as private asset. All such rules were held to be (partially) unconstitutional.

The BVerfG stuck with the previous distinction of retroactive standards with so called “true retroactiveness” (regulation of completely past situations) and “pseudo retroactiveness” (legal consequences appear after the promulgation, but have effect to circumstances lying partially in the past). True retroactiveness was always considered as generally undue as the constitutional principle of protection of confidence is affected.  

With regard to pseudo retroactiveness, the legislator was formerly given substantial discretion. Pseudo retroactiveness was generally considered constitutional. With the current decisions, the BVerfG changed its view. The principle of protection of confidence is emphasized and strengthened.  

Pursuant to the new view of the BVerfG, in particular, the invalidation of a specific claim or asset is no longer acceptable. Generally one may even trust in any legally relevant circumstance (like the signing of a contract) creating due reliance that the expected taxation will take place the way it was foreseeable when setting the relevant circumstance. An interference with such due reliance is only allowed in exceptional cases. As the case may be, profits or capital gains may have to be split up in a taxable and a non taxable part if the legislator intends to tax a specific situation which previously was not subject to taxation.

The tax authorities have followed the decisions by building detailed rules how to implement the new standards with retroactive effects.  

In another lawsuit that is currently pending before the BVerfG, the question, whether due reliance can be provided by high court decisions or only by the implementation of such decision by the tax authorities in other cases than the specific case at hand, will be decided. We expect the BVerfG to affirm that the judicature by the Federal Fiscal Court (Bundesfinanzhof, BFH) does provide due reliance.  

In any case, the standards which the legislator has to comply with in case of new retroactive rules have already been increased significantly.