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Christian Brodersen, LL.M.
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Dr. Ocka Stumm, LL.M.
+ 49 (0) 69 2 99 08 331 E-Mail: Ocka.Stumm@ bakermckenzie.com
Germany: Federal Fiscal Court Challenges Constitutionality of Interest Barrier Rules
The Federal Fiscal Court raised serious doubt whether the interest barrier is compatible with the constitutional equal treatment rule. Taxpayers should keep all assessments open if the interest barrier rule has resulted in the disallowance of interest by the tax office.
The decision came as part of an application to stay the enforcement of a corporate income tax assessment, which stipulated the payment of corporate income tax because the deductibility of interest incurred was disallowed as a result of the application of the interest barrier. Although the temporary proceedings are far from a final decision concerning the objection against the tax assessment itself, the result of the temporary proceeding normally gives a clear indication of the way that the tax courts will handle the objection against the tax assessment itself, which in this case would be to challenge the constitutionality of the rules and submit them to the Constitutional Court for its decision.
I. Facts of the proceedings
In the case before the Federal Fiscal Court, the taxpayer filed an objection against the assessment, which has not yet been adjudicated. In parallel, the taxpayer filed an application for stay of enforcement of the taxes assessed. The application was rejected by both the tax office and the local tax court. Even though the local tax court also seriously doubted whether the interest barrier would meet the constitution requirement of reasonableness, it gave the public interest in the enforcement of statutes a higher priority.
II. Reasoning of the Federal Fiscal Court
The Federal Fiscal Court disagreed and granted the requested stay in enforcement. The Court held that the interest barrier rules are subject to serious doubt as regards their compliance with the constitutional equal treatment rule. Specifically, this implies that taxpayers with equal ability to pay taxes will also be subject to the same level of taxation. This is held to have been violated by the rules introduced by the interest barrier, which provide for a deviation from this taxation of net income. Although the income is captured in full for purposes of taxation, the interest payable can only be deducted to a limited extent, subject to carry forward – this created inequality between taxpayers.
The Federal Fiscal Court recognises that the reduction of corporate and trade tax rates in 2008 had to be financed by other changes in the tax laws. However, any such changes are only permissible if they result in an equal sharing of burdens.
German Interest Barrier Rules under Challenge
German Interest Barrier Rules under Challenge
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This is not the case for the interest barrier since taxpayers were not burdened
equally. The court also has serious doubts whether the interest barrier can be
justified by a qualified fiscal interest. In particular, the court does not accept that
the introduction of the interest barrier was necessary in order to steady tax
revenues or to avoid an unmanageable loss in tax revenue.
The Court also refuses to accept the interest barrier as a tool of fighting abuse. The
Court notes that a – by its nature - atypical abuse case cannot be used as
legislative leitmotif, since tax rules instead have to take their guidance from typical
cases. In addition, every tax rule also has to satisfy the principle of reasonableness
with the consequence that the legal consequences of unequal treatment must only
affect a comparatively low number of parties and the disadvantages must not
weigh heavily. Further, the Court doubts whether the interest barrier is necessary
in order to meet its designated purpose which is to capture cases of profit shifting
in situations where the tax revenue and its assessment basis is endangered.
European law cannot be referenced to justify this wide ranging breach of the
objective taxation of net income principle, since European law would accept a more
precise anti-abuse clause.
Similarly, the declared objective of strengthening the equity basis of businesses in
Germany as claimed by the legislator cannot justify the breach of the objective net
principle. There is freedom of decision on the part of an enterprise whether it is
financed by equity or leverage.
The Court concludes its decision by holding that the public interest does not justify
maintaining the tax assessment and not granting the stay of enforcement. The
Court accepts that the interest barrier raises approx. EUR 700 million per annum,
but notes that the applicant has to pay the tax, as a consequence of the
disallowance of interest expenses, from its substance.
As already pointed out the temporary proceedings are far from a final decision
concerning the objection against the tax assessment itself. Nevertheless, the result
of the temporary proceedings normally gives a clear indication of the way that the
tax courts will handle the objection against the tax assessment itself. It is now to be
expected that the lower court in addressing the tax assessment itself will challenge
the constitutionality of the rules and submit them to the Constitutional Court for its
The result for taxpayers is that they should keep all assessments open, to the
extent that additional taxes were assessed by reference to interest disallowed
under the interest barrier. Whether the legislator will react with new rules and what
these would look like has to be waited for.
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