On 26 January 2011 the European Commission declared the so-called Restructuring Clause (Sanierungsklausel) (Sec. 8c (1a) of the German Corporate Income Tax Act (CTA)) as inconsistent with EU funding guidelines. The decision of the European Commission is criticized by national experts and stresses the German economy with a hardly tolerable uncertainty as regards tax issues in restructurings.
The Restructuring Clause allows, contrary to the general concept of Sec. 8c (1) CTA pursuant to which loss carry forwards cease to exit in cases of material changes in ownership, to carry forward losses if a material change in ownership occurs in order to allow a restructuring. Introduced in the time of the economic crises (16 July 2009), the clause was meant to be one of the main measures to overcome the crises. Frequently named “lex Opel” as a reference to its origins, the regulation was intended to help achieve an efficient stabilization of Germany as a business location.
On 24 February 2010 the European Commission had already expressed doubts regarding the compliance of the Restructuring Clause with EU law. A formal investigation procedure was initiated. German tax authorities had reacted in March 2010 by suspending the application of the Restructuring Clause until the procedure was finalized. Prior assessments, however, stayed in effect.
Decision of the European Commission
The European Commission assessed in a formal procedure whether the Restructuring Clause is to be regarded a national government aid and, if so, if it is in compliance with the EU Common Market. In the eyes of the European Commission, the Restructuring Clause constitutes a state financed selective privilege for distressed companies and therefore a government aid. Furthermore, such aid shall not be justified by the nature and structure of the German system for loss carry forwards. The Commission states moreover that the requirements under which a government aid is permitted as a means of rescue or reorganization are not met. German experts criticize the use of a wrong reference system when debating the selectivity of the measure as well as a general lack of understanding of the German system of business taxation. Not the survival of loss carry forwards in case of a restructuring but their extinction under Sec. 8c (1) CTA is an exception from the general ability-to-pay principle. Such exception was introduced solely to effectively fight the former practice of purchasing shell companies only in order to use existing loss carry forwards. Thus, the counter-exemption under Sec. 8c (1a) CTA just reintroduces the general rule and does not have privilege effects.
Reaction of the Federal Government
The Federal Government has announced its intention to fight the Commission’s decision before the European Court of Justice (ECJ). Such action would have no suspensory effect. Tax benefits that currently have to be regarded as government aids are thus to be claimed back by the Federal Republic.
If Germany succeeds with an action to the ECJ, the Restructuring Clause might be applicable retroactively to the assessment periods 2008 to 2010 (as well as to future assessment periods).
Pursuant to a draft law currently discussed, the Restructuring Clause (Sec. 8c (1a) CTA) shall be abolished with retroactive effect as of 1 January 2011 (Draft Sec. 34 (7c) CTA).
Implications of the Commission’s Decision
The decision of the European Commission brought substantial uncertainties as to how to deal with tax issues in a restructuring. Beside the inapplicability of Sec. 8c (1a) CTA, there is serious concern that the Restructuring Decree (Sanierungserlass) dated 23 March 2003 might not withstand a potential review by the European Commission either. On the basis of such Decree issued by the Federal Ministry of Finance (Bundesfinanzministerium, BMF), the tax administration may grant (discretionary decision) an exemption from tax for restructuring gains (balance sheet profits from debt waivers during a restructuring). The threatening additional tax burdens in case of a negative decision by the European Commission makes companies reluctant as regards an application of the Restructuring Decree. There is also uncertainty within the tax administration. If the Restructuring Decree should really be tested by the Commission and if the outcome should be that is in breach with EU law, taxes on restructuring profits might be claimed for transactions of the past. It is likely that this would put at risk the existence of a number of companies.
Taxation in restructuring scenarios means a challenge to companies and their legal advisors as well as to the tax authorities. There is currently a draft legislation aiming at facilitating the restructuring of companies. It has been requested to also introduce provisions on restructuring taxation in this context. At present, it is not foreseeable whether the German legislator will comply with such request.