Germany has implemented a new dividend taxation regime as from 1 March 2013 whereby the tax exemption of portfolio dividends in the hands of corporate taxpayers has been abolished. Changes in this respect have also been made to the tax regime for investment funds. The fund industry will have to adapt to these changes.
The German Parliament has adopted a compromise that had been reached in its arbitration committee (Vermittlungsausschuss) on 1 March 2013. As a result, the exemption of portfolio dividends in the hands of corporate shareholders has been abolished. A privileged tax treatment will be available only in case a holding quota of at least 10 per cent of the distributing company’s equity capital is reached. The exemption of gains from the sale of shares in corporations remains intact.
Impact on fund taxation
The new law includes changes in the field of fund taxation which are necessary because dividend income is often generated via investment funds. To this end, the provisions of the Investment Tax Act (InvStG) are amended.
The tax consequences differ depending on whether a fund qualifies as a public fund (Publikumsfonds) or a special fund (Spezialfonds).
- Public funds: Corporate shareholders in a public fund will cease to be entitled to collect tax exempt dividends through a public fund. This holds true even if the fund holds 10 per cent or more in the equity capital of the distributing corporation (to the extent such holding is permissible under regulatory laws).
- Special funds: In case of an investment made through a special fund a look through approach is adopted with respect to the holding quota. Hence, the tax exemption remains applicable if the special fund holds at least 10 per cent in the equity capital of the distributing corporation and provided that the investor indirectly reaches a holding quota of 10 per cent of the distributing corporation.
The new rules apply to dividends which a fund receives on or after 1 March 2013. Dividends received before that date are grandfathered (section 18 paragraph 22 sentence 3 InvStG).
No tax exemption of dividends generated through a public fund
Dividends generated through an investment fund are in general subject to tax in the hands of a German investor as part of distributed or deemed distributed earnings. The old tax regime provides for 95 per cent of the dividends to be exempt in the hands of a corporate investor if the fund displays the dividend earnings in its tax reporting. These rules applied to domestic and foreign dividends alike.
The new law provides that dividends which a public fund receives on or after 1 March 2013 shall be fully taxable in the hands of a corporate investor. In relation to noncorporate business investors the existing exemption of 40 per cent of the dividends remains in place.
The amendments also have an impact on the calculation of distributed and deemed distributed earnings a public fund.
- It may become necessary to record in a separate category in fund accounting the dividends received on or after 1 March 2013.
- Dividends received from 1 March 2013 onwards should be in the same category for tax purposes as other fully taxable earnings (eg interest and other income), so that losses (if any) are offsettable.
- The change further leads to a difference in the allocation of general expenses depending on whether earnings are calculated for non-corporate or for corporate business investors. In the case of earnings for corporate investors, the equity ratio (Aktienquote) should no longer be decisive for the attribution of expenses to dividends earned from 1 March 2013 onwards. Rather, the attribution should follow general principles.
As a result, the earnings attributable to a non-corporate investor in a fund producing dividend income may differ from the amount of earnings attributable to a corporate investor in the same fund. It is questionable whether the current practice permitted by the German Ministry of Finance of using the same methodology to calculate taxable earnings for all types of investors (including private investors) will continue to be permissible.
The new rules would also impact the credit of (foreign) withholding taxes in relation to a corporate investor. As dividend income is now fully taxable, the tax credit should be available.
In case of an investment through a domestic or foreign special fund the tax exemption pursuant to section 8b paragraph 1 of the Corporation Tax Act (KStG) remains applicable in relation to dividends received on or after 1 March 2013 if the following conditions are fulfilled cumulatively:
- The fund holds at least 10 per cent or more in the share capital of the distributing corporation and
- The investor indirectly holds at least 10 per cent in the distributing corporation through its investment in the fund.
Where the investor holds less than 10 per cent directly and indirectly though a special fund, the direct shareholding and the indirect shareholding are not added. In such a case, the threshold cannot be reached even if the direct and indirect shareholdings would add up to 10 per cent or more. However, if the investor holds a direct participation in the distributing corporation of at least 10 per cent, the tax exemption pursuant to section 8b KStG will apply also to an indirect participation of less than 10 per cent held through a special fund.
Shares borrowed in a stock lending transaction by a special fund do not count for the 10 per cent threshold (section 15 paragraph 1a sentence 8 InvStG). Correspondingly, an investor cannot reach the 10 per cent threshold by borrowing investment fund units.
Further, please note that subfunds of an umbrella are treated as separate vehicles for the determination of the holding quota.
The attribution of expenses to dividend income resulting from a shareholding of at least 10 per cent should be based on the equity gain (section 3 paragraph 3 sentence 2 no 4 InvStG and section 3 paragraph 3 sentence 3 no 2b InvStG in the version of the Draft AIFM Implementation Act). If expenses exceed tax privileged dividend income, no offsetting with taxable dividend income should be possible (section 3 paragraph 4 InvStG).
Impact on tax reporting
As before, dividend income earned by a fund is displayed separately in the fund’s German tax publication or notification (section 5 paragraph 1 sentence 1 no 1c aa) InvStG).
The new law provides that the dividends which the fund has earned prior to 1 March 2013 and which remain tax privileged under section 8b KStG are also separately shown in the table of tax bases (section 5 paragraph 1 sentence 1 no 1c ll) InvStG) in all publications and notifications made after 28 February 2013 (section 18 paragraph 22 sentence 2 InvStG).
The equity gain (gain from shares in corporations, Aktiengewinn) ensures that the tax benefits provided for in section 3 no 40 of the Income Tax Act (EStG) and section 8b KStG are available in respect of privileged earnings (previously: dividends and changes in the value of equities) that are contained in the investor’s gain from the sale of fund units.
As a result of the amendments, public funds will have to calculate two different equity gain figures:
- The equity gain for non-corporate business investors includes dividend income not yet attributed to investors as part of a distribution or deemed distribution as well as realized and unrealized capital gains from equities.
- By contrast, the equity gain for corporate investors now includes only realized and unrealized capital gains from equities (section 8 paragraph 1 sentence 2 InvStG).
Special funds have to calculate the equity gain for corporate investors only (section 15 paragraph 1 sentence 2 EStG).
It is our understanding of the new law that the equity gain of a special fund includes
- in addition to capital gains from equities
- also dividends which are privileged due to the fund holding 10 per cent or more of the share capital of the distributing corporation.
The new rules on the equity gain apply from 1 March 2013. Unless an easement is granted by the tax administration, investment fund companies would have to calculate and publish the (additional) equity gain for corporate investors from this date onward.