By Thomas Schänzle (partner), Dr. Christian Port (Partner), Florian Gimmler (Partner), Justus Eisenbeiß (Associate), Christian Witthus (Associate), Kevin Prashil Brusa (Econom), Baker McKenzie Rechtsanwaltsgesellschaft mbH of Lawyers and Tax Advisors, Frankfurt, and Rabea Lingier (Senior Associate), Baker McKenzie Rechtsanwaltsgesellschaft mbH of lawyers and tax consultants, Düsseldorf
German tax law underwent significant changes in 2021, with some of the most important changes resulting from the AbzStEntModG, which was announced on June 8 and came into force on June 9, with withholding tax refunds and withholding tax exemption certificates, the law has the German anti-treaty shopping regulation completely revised and the transfer pricing regulations comprehensively revised.
With the Withholding Tax Relief Modernization Act, new regulations were also introduced on the use of losses in legal restructuring, on tax certificates for capital gains tax and on the exchange of information on the taxation of the capital markets.
This article focuses on the far-reaching practical implications of the changes to the German anti-treaty shopping provision and the German transfer pricing regime.
Background to the German anti-treaty shopping provision
The German anti-treaty shopping regulation aims to provide foreign taxpayers with reimbursement or exemption from German withholding tax in accordance with the applicable double taxation agreement (DVB-T) or according to the applicable EU directive (Directive) when the payee has been added to the structure to obtain a tax advantage that would otherwise not have been available.
The rule applies primarily to dividend distributions (effective withholding tax rate of 26.375%) and royalty payments (effective withholding tax rate of 15.825%) from resident taxpayers to non-resident recipients. However, it also applies to license payments between non-resident taxpayers for rights that are entered in a German public book or register (so-called “extraterritorial taxation of register cases”).
In order to understand the relevance of the provision, it is important to know that under German law, the payer is obliged to withhold and transfer taxes on corresponding payments regardless of whether the recipient is entitled to the benefits of a DTA or a directive. The payer must withhold the withholding tax regardless of the DTA or the guideline, report it and transfer it to the German tax office, unless the payee has received a so-called withholding tax exemption certificate from the Federal Central Tax Office before the payment, which shows that the payer can from refrain from withholding tax. Such a withholding tax exemption certificate will only be issued to the payee if the payee's claim to the benefits of the applicable DTA or the directive is not excluded or restricted by the German anti-treaty shopping regulation.
If the payee does not have a valid exemption certificate from the Federal Central Tax Office at the time of payment, the payer must withhold the tax, report it and transfer it to the Federal Central Tax Office and apply for a subsequent refund. With such a reimbursement procedure, the right to a reimbursement depends in turn on whether the purchase provision contrary to the contract precludes the reimbursement.
The critical changes to the anti-treaty shopping regulation by the new law are made against the background of the case law of the European Court of Justice, which held the previous version of the provision to be incompatible with the freedom of establishment (Art. 49 TFEU), as well as the parent-subsidiary Directive (C-504/16 Deister Holding and C-613/16 Juhler Holding for the regulation valid until 2012; C-440/17 GS for the version valid from 2012). A circular from the Federal Ministry of Finance (IV B 3 – S 2411/07 / 10016-14) attempted to alleviate the conflict with Union law by requiring a modified (restricted) application of the provision for intra-European dividend distributions subject to the parent-subsidiary Directive. However, it remains questionable whether the revised anti-treaty shopping regulation will achieve the legislator's declared goal of resolving the conflict with EU law.
Revised anti-treaty shopping provision
According to the new version of the German anti-treaty shopping regulation, a foreign corporation is not entitled to relief from German withholding tax if two criteria are met. The "Shareholder test " also known as "Look-through approach " checks whether persons who are involved in the foreign corporation or who are beneficiaries according to its articles of association, foundation or other articles of association do not have the same legal entitlement to discharge if they receive the income directly. The "Income test“) Assesses whether the source of income is materially related to an economic activity of this corporation, association or estate.
Achieving the income, passing it on to related parties or beneficiaries as well as an activity that is carried out with a business that is not adequately set up for the business purpose is not considered an economic activity. The German anti-treaty shopping regulation does not apply if the corporation, association of persons or estate can prove that none of the main purposes of their participation is to achieve a tax advantage (PPT escape) or if there is substantial and regular trading in their main class of shares on a recognized stock exchange (ListCo Escape).
The new anti-treaty shopping regulation essentially asks whether the direct and indirect shareholders of the foreign corporation would hypothetically have the same legal entitlement to withholding tax relief if they were direct payees (shareholder test or look-through approach). . This represents a considerable restriction of the personal withholding tax relief test with great practical importance, since the old version of the anti-treaty shopping regulation only required a hypothetical relief claim in the same amount. The effect can be illustrated by the following example:
In the example above, B-BV would be entitled to a full exemption from German withholding tax under the Parent-Subsidiary Directive. The old version of the German anti-treaty shopping regulation would have neither restricted nor restricted the relief claim of the B-BV according to the parent-subsidiary directive. There is no contract purchasing situation as S-Inc. would have had the same relief (0%) from the German withholding tax if she had received the distribution directly. That the claim of S-Inc. aimed at relief under the German-American agreement, played no role according to the earlier version of the German anti-treaty shopping provision. In addition, S-Inc. is a listed stock corporation and is therefore per se entitled to DBA services as part of the ListCo Escape.
The situation is different with the new version of the German purchasing provisions, which are contrary to the contract. The new version requires that the shareholder's right to discharge must have the same legal basis as the applicant's right to discharge. This requirement is not met in the example above, as the applicant's claim for relief is based on the parent-subsidiary directive, while the parent's claim for relief is based on the German-American agreement. Accordingly, the new version of the German anti-treaty shopping regulation is generally applicable to the above specimen and the B-BV must either pass the income test or the main purpose test. In summary, the look-through approach is now essentially limited to cases where the applicant and its shareholders are resident in the same country or where both the applicant and the applicant's shareholders are seeking redress under a directive can.
If the shareholder test is "blocked", the foreign corporation is entitled to relief from German withholding tax, provided that the source of income that generates income subject to German withholding tax is essentially related to an economic activity of this type, corporation, association of persons or estate (Income test). The income test therefore presupposes that the foreign corporation carries out its own economic activity to which the respective source of income has a material connection. The mere transfer of income or activity without adequate business infrastructure does not constitute an economic activity. The same is likely to apply to passive holding activities. The requirement for a material connection between the commercial activity and the source of income represents a further tightening of the anti-treaty shopping provision.
If the foreign company fails the income test, withholding tax relief can be granted under the PPT Escape. The PPT Escape requires the taxpayer to demonstrate that none of the primary purposes of engaging the foreign corporation was to obtain a tax advantage. The test takes into account all domestic or foreign tax advantages and takes into account all non-tax reasons, including those arising from corporate relationships. From the taxpayer's point of view, the PPT Escape involves risks and uncertainties. In particular, it is not clear how strictly the German tax authorities will apply the main purpose test in the future.
Due to the extensive tightening of the German anti-treaty shopping regulation, German tax advisors are likely to recommend even more frequently in future to place the German company directly under the ultimate parent company, especially if the ultimate parent company is a listed stock corporation. This is because the German anti-treaty shopping regulation does not apply to foreign taxpayers whose main class of shares is regularly traded on a recognized stock exchange (so-called ListCo exception). Accordingly, these taxpayers per se are entitled to the benefits of their DTA and / or the applicable directive, regardless of whether they are engaged in their own economic activity or whether one of the main purposes of their brokerage was to obtain a tax advantage.
Finally, it should be noted that the German anti-treaty shopping provision in the new version is in addition to the abuse provisions of the applicable DTA (e.g. performance limitation in Article 28 US / Germany DTA) in accordance with the justification of the German legislator. This contradicts the previous jurisprudence of the Federal Fiscal Court on the old version of the German purchase regulation, which is contrary to the contract. Because the Federal Fiscal Court has decided that the old version of the German anti-treaty shopping regulation should not apply if the current DTA contains a special and final anti-treaty shopping clause, which then takes precedence over the national anti-treaty shopping Shopping clause is supposed to have provision.
Practical and formal considerations on changes to purchases that are contrary to the contract
The new version of the German purchase regulation, which is contrary to the contract, applies to all payments from June 9th and for all payments made by the taxpayer by the 9th compared to the previous version. Accordingly, taxpayers can for payments made up to the 9th version of the German Anti-Treaty Shopping provision (which includes the PPT Escape).
In the future, i.e. from June 9th, only the new version of the German purchasing regulation, which is contrary to the contract, will apply. The new non-contractual purchasing regulation increases the hurdles for taxpayers drastically. The clear restriction of the shareholder test or look-through approach leads de facto to a shift in the focus of the examination to the more comprehensive and difficult income test on the one hand and the newly introduced and inherently subjective PPT escape, on the other hand. The result is that both the complexity of the exercise and the uncertainty of the outcome are significantly increased. Multinational companies are therefore recommended to check their existing structures for conformity with the new version of the German anti-treaty shopping regulation and to carefully consider the requirements of the new regulation when drafting new regulations.
Practical and formal considerations on changes to purchases that are contrary to the contract
The new version of the German purchase regulation, which is contrary to the contract, applies to all payments from June 9th and for all payments made by the taxpayer by the 9th compared to the previous version. Accordingly, taxpayers can for payments made up to the 9th version of the German Anti-Treaty Shopping provision (which includes the PPT Escape).
In the future, i.e. from June 9th, only the new version of the German purchasing regulation, which is contrary to the contract, will apply. The new non-contractual purchasing regulation increases the hurdles for taxpayers drastically. The clear restriction of the shareholder test or look-through approach leads de facto to a shift in the focus of the examination to the more comprehensive and difficult income test on the one hand and the newly introduced and inherently subjective PPT escape, on the other hand. The result is that both the complexity of the exercise and the uncertainty of the outcome are significantly increased. Multinational companies are therefore recommended to check their existing structures for conformity with the new version of the German anti-treaty shopping regulation and to carefully consider the requirements of the new regulation when drafting new regulations.
Important changes to the German transfer pricing rules
With the Withholding Tax Relief Modernization Act, the transfer price adjustment rule of § 1 AuslG has been comprehensively revised. In addition, it has introduced a separate regulation on price adjustment clauses in a new Section 1a AStG. It should be noted that both the previous and the revised version of Section 1 and the new Section 1a AStG represent unilateral correction provisions that only apply if a deviation from the arm's length principle is observed at the expense of the German tax assessment base.
The basic intention of the legislature with the latest amendment was to align the German transfer pricing rules with the 2017 OECD Transfer Pricing Guidelines and to adapt the rules to the results of the OECD BEPS project, in particular BEPS Action Items 8 to 10, the provisions aim to provide a legislative explanation aims to ensure a fair distribution of taxation rights between the countries where multinational companies operate. In terms of time, these new transfer pricing regulations are to be applied for the first time for the purposes of income and corporation tax for the 2022 financial year. This means that the previous wording of Section 1 AStG remains for the assessment with terms up to and including 2021.
In addition, the Federal Ministry of Finance reacted promptly to the new legal situation with a new transfer pricing circular dated July 14, 2021, in which the administrative principles for the transfer price adjustment according to § 1 AuslG (the New TP principles). These new administrative principles consolidate the administrative law perspective and the interpretation of the German transfer pricing regulations by the German tax administration. In addition, the new TP principles also refer to the administrative policy procedure 2020 of the Federal Ministry of Finance of December 3, 2020, which contains in particular details on the taxpayer's obligation to cooperate in cross-border transactions and all estimates that can be made by the German tax authorities due to a possible non-compliance with the regulations . In short, non-compliance with the cooperation and documentation obligations can lead to an income and / or fine estimate according to § 162 AO. The new administrative principles significantly strengthen the position of the German financial administration. In addition, an increasingly aggressive approach can be observed in external tax audits. Due to the new regulations, a sharp increase in the number of disputes is to be expected.
In the following, the most important changes with regard to transfer pricing due to the Withholding Tax Relief Modernization Act are highlighted.
Introduction of a best practice rule
Section 1 (3) AStG in its previous version has specified the priority of the so-called "standard procedures", namely the comparison uncontrolled price procedure (CUP), the resale price procedure and the cost plus procedure, if completely comparable data from Third party vendors were available. If only limited comparable third-party data was available, all methods – i. H. Standard methods and transactional profit methods, namely the transactional net margin method (TNMM) and the profit sharing method – equally applicable. In the course of the implementation of the Withholding Tax Relief Modernization Act, this hierarchy of methods was abolished. Instead, a best method rule has been introduced and the most suitable transfer pricing method is now to be applied in accordance with the 2017 OECD Transfer Pricing Guidelines.
If neither fully nor partially comparable arm's length prices can be determined, the hypothetical arm's length test will be retained in the new law. While the principle of the hypothetical arm's length test has basically remained unchanged, some legal wording has been adjusted. In the previous version of the law, the arm's length range results from the hypothetical arm's length test from the maximum price acceptable to the payer (buyer) and the minimum price to be demanded by the payee (seller) on the basis of a functional analysis and taking into account the profit potential as well as the function and risk of appropriate capitalization rates. After a range between maximum and minimum prices has been established (the so-called "Area of Agreement"), the price that is most likely to be in line with the market should be determined and applied. If no such price can be determined, the median value between the maximum and minimum price must be used.
The withholding tax relief modernization law shortened and restructured the rules for the hypothetical arm's length test. According to Section 1 (3) of the revised AuslG, a transaction must now only be carried out according to economically recognized valuation methods, both from the perspective of the provider and the recipient.
In contrast to the previous version of the law, the revised law does not explicitly refer to certain factors that have to be taken into account when determining the area of conformity in the context of the hypothetical arm's length test, such as a functional analysis, profit potential and capitalization interest rates that are appropriate to the function and risk. In addition, in the previous version of the law, the price that was most likely in line with the market was to be used, and the median value should only have been used if such a price could not be determined. However, although the law's use of the median was the exception to the general rule in determining an arm's length price, the exception (i.e., using the median) has typically been used in practice.
The new version of the law now basically stipulates the use of the median value, with the exception that the taxpayer must demonstrate that another price within the determined range corresponds to the arm's length principle. Interestingly, the revised law does not refer to the price that most closely corresponds to the arm's length principle, but only refers to a price within the agreed scope that corresponds to the arm's length principle. Therefore, the wording is more open compared to the previous version, while the practical impact on the assumption of the hypothetical arm's length test appears to be limited.
Determination of the transfer prices in advance
In general, the arm's length character of transfer pricing can be analyzed in the form of an ex ante pricing approach (i.e. whether the transfer price was in line with the market at the time the transaction was agreed) or ex post based on a test approach (i.e. whether the outcome of the transaction was ex- post perspective was customary in the market). While in the past members of the German tax authorities (in line with the OECD) expressed a preference for a pricing approach and this was often discussed in tax audits, both approaches were generally accepted in practice and frequently used by both taxpayers and tax authorities.
The new Section 1 (3) AStG now expressly provides that the circumstances at the time of the agreement on which the transaction is based are decisive. This relates, among other things, to the contractual terms of a transaction, the functional and risk profile of the parties involved in the transaction, the economic circumstances of the parties involved and the general economic market conditions as well as those of the parties to the transaction. In addition, the changes to the Withholding Tax Relief Modernization Act bring the economic approach to the fore and make general rules for determining and checking transfer prices more in line with international practice.
This tightening of the law includes a clear demand for an ex-ante price-setting approach, which can lead to complications in practice, since sufficient and qualified comparative data is not always available at the time of the transaction agreement and third parties may also negotiate under uncertainty. It is therefore important for the taxpayer to take into account the economic circumstances of a transaction for tax purposes and to document the transfer prices promptly.
Determination of the interquartile range
The Withholding Tax Relief Modernization Act introduced a new Section 1 (3a) AuslStG, which contains more detailed information on the ranges of arm's length data and how they are limited. In essence, the previous practice remains unchanged, namely that a price range is narrowed with limited comparability. However, according to the previous legal framework, there was no indication of how this narrowing should take place.
If the values themselves do not provide any indication of the narrowing of the determined range of results, the interquartile range method is to be used according to the new law. If the transfer price used by the taxpayer is outside the (full or narrowed) range, the median is adjusted, unless the taxpayer can credibly demonstrate that a different result (within the range) is more in line with the arm's length principle.
In summary, this means that the determination of an interquartile range, which was already common practice in Germany and was used with limited comparability, is now covered by German law.
Changes to the rules for delegating roles
The regulations for the transfer of functions have been tightened and summarized in the new Section 1 (3b) AusfStG. When a function is transferred, including the respective opportunities and risks as well as the transferred assets or other benefits (earlier and other benefits), a so-called transfer package approach based on the hypothetical arm's length test is to be used if no comparable data is available. This means that a total price must be determined for the so-called transfer package as a whole (the function to be transferred including the transferred assets).
In the previous version of the law, there were exceptions (escape clauses), so that in certain cases no complex transfer package assessment has to be carried out, but individual transfer prices can be set for transferred assets. According to the new Section 1 (3b) AuslG, these exceptions have been limited to just one escape clause. Taxpayers are not required to use a transfer package approach if they can demonstrate that no material intangible assets or other benefits are part of the transfer of functions. This applies to those cases in which the acquirer performs the transferred function exclusively for the transferor and is remunerated according to the cost addition procedure.
The abolition of escape clauses in connection with the slight change in the wording in the definition of a transfer of functions is likely to lead to further cases under the regulations on the transfer of functions, increased compliance costs and additional controls by the tax authorities.
Implementation of the DEMPE concept
A completely new regulation was created with Section 1 (3c) AStG, which regulates the transfer prices for the transfer and assignment of intangible assets.
This is the first time that the term “intangible asset” is legally defined in accordance with the OECD Transfer Pricing Guidelines for German transfer pricing purposes. The DEMPE concept (Development, Enhancement, Maintenance, Protection, Exploitation) from the BEPS action plan of the OECD is now legally anchored in German tax law. The exercise and control of functions in connection with the development or creation, improvement, maintenance, protection or use of the intangible asset must be remunerated at normal market conditions.
As a result, each party contributing to intellectual property (IP) should be compensated based on their functional profile in relation to intellectual property. This means that the residual profit should not necessarily be attributed to the legal or beneficial owner of the intellectual property, but rather to the parties involved in the intellectual property in the form of the DEMPE functions. Therefore, an independent function and risk analysis must be carried out as part of the DEMPE concept. The mere financing function in the development or creation, maintenance or protection of an intangible asset does not yet entitle the holder to participate in the residual profit from the use of the intangible asset. Rather, it should only receive a standard market remuneration for the pure financing function, which would typically consist of a service fee or a (low) interest rate on the funds invested).
While alignment with the OECD Guidelines can be seen as beneficial in terms of international comparability and coherence, the current transfer pricing models for intangible assets will likely need to be revised (and revised) on the basis of the new legislation.
Changes to the price adjustment clauses
The new § 1a AStG contains changes to the price adjustment clause, which are intended to align the German regulations with the price adjustment clause of the OECD.
According to the previous version of German law, the price adjustment clause only applied in the context of the hypothetical arm's length test in the event of a transfer of functions. According to the new Section 1a AStG, the price adjustment clause should now apply to all transactions with significant intangible assets or benefits. If the actual subsequent development of earnings deviates significantly from the expected earnings on which the transfer price is based, it can be rebutted from the assumption that there were uncertainties in the determination of the transfer price at the time of the transaction and that independent third parties would have agreed a corresponding price adjustment clause. There is a significant deviation if the arm's length price determined on the basis of the actually realized profit deviates by more than 20 percent from the transfer price applied. The observation period for any transfer price adjustments has been shortened from ten to seven years after the transaction was concluded.
If no price adjustment clause has been contractually agreed, the German tax authorities have the right to make an adjustment in the eighth year after the transaction in the event of a significant deviation, unless there is one of three newly formulated exceptions that are described below.
An adjustment is not to be made if, firstly, the taxpayer can either credibly prove that the deviation in profit development is due to unforeseeable circumstances, or secondly, the taxpayer can prove that he has sufficiently taken into account all economically relevant uncertainties in his initial situation, or thirdly, a turnover – or profit-related remuneration (as part of a license agreement) has been implemented.
It remains questionable whether the aim of aligning the new German regulation with the OECD guidelines has been achieved. Insbesondere wendet die OECD eine Preisanpassungsklausel nur für sogenannte schwer zu bewertende immaterielle Vermögenswerte und nicht für wesentliche immaterielle Vermögenswerte im Sinne des deutschen Rechts an. Auch wenn die deutschen Steuerbehörden alle wesentlichen immateriellen Vermögenswerte als schwer zu bewertende immaterielle Vermögenswerte ansehen könnten, ist diese Position zweifelhaft. Gleichzeitig schlägt die OECD lediglich einen fünfjährigen Anpassungszeitraum vor, der jedoch erst ab dem Zeitpunkt beginnt, an dem der immaterielle Vermögenswert erstmals Erträge von unabhängigen Dritten erzielt. Dies kann den Betrachtungszeitraum unter Umständen erheblich verlängern.
Konzerninterne Finanzierung
Sonderregelungen zu konzerninternen Finanzierungsbeziehungen (Darlehen, Cash Pooling, Hedging, Garantien) waren ursprünglich im Gesetzesentwurf zur Umsetzung der EU-Richtlinie zur Bekämpfung der Steuervermeidung vorgesehen (EIN BISSCHEN), das am 10. Dezember 2019 veröffentlicht wurde, und ein überarbeiteter Referentenentwurf am 24. März 2020. Nach den Referentenentwürfen gelten Finanzierungsträger (zumindest für Inbound-Fälle) als Routinedienstleister, die einer Routinevergütung unterliegen, typischerweise auf eine Kosten-Plus-Basis. Moreover, besides a debt capacity and benefit test for the borrower (i.e., the ability to repay the debt), the draft included stricter regulations in relation to the characterization of intercompany financing as debt and a clear tendency towards the group rating instead of the stand-alone rating for determining arm’s length interest rates.
However, the majority of the transfer pricing proposals were no longer included in the ATAD draft bill of November 17, 2020. Instead, they were included in the draft bill of the Withholding Tax Relief Modernization Act of January 20, 2021, however, with some modifications compared to the previous ATAD draft. In particular, the new provisions on intra-group financial transactions were no longer included in the draft bill of the Withholding Tax Relief Modernization Act dated January 20, 2021.
Essentially, the envisaged draft provisions on intercompany financing relationships were finally not adopted by parliament and did not find their way into the Withholding Tax Relief Modernization Act. Nonetheless, the German tax authorities frequently use the criteria / tests contained in the initial ATAD draft bill, such as the debt capacity and benefit test for the borrower, as arguments when analysing intercompany financial transactions. This is also underlined in the New TP Principles. Even though these special rules have not been implemented, from the perspective of the German tax authorities, these criteria / tests are merely a concretization of the arm’s length principle that has applied to date and thus, still apply irrespective of any implementation of these special rules into the law.
New legal basis for the advance pricing agreement (APA) procedure
The Withholding Tax Relief Modernization Act has also introduced a new provision on the advance pricing agreement (APA) procedure in Section 89a of the German Fiscal Code. According to the legislative explanatory note to the law, the intention is to clarify Germany’s desire to engage in APA procedures and to prove that legal certainty is given a very high priority.
The new provision shall apply to all APA requests received by the competent authority after June 8. Until then, the legal basis for APAs was solely a mutual agreement provision comparable to Article 25 of the OECD Model Tax Convention (OECD-MTC) in the applicable double tax agreement in conjunction with German administrative guidelines (circular issued by the Ministry of Finance dated October 5, 2006). Largely, Section 89a of the German Federal Fiscal Code codifies previous practice, however, taxpayers should be aware of subtle changes, some of which might weaken their position.
In line with previous practice, an APA request requires an effective double tax treaty between the Federal Republic of Germany and the other state involved in the matter at hand which must contain a mutual agreement clause. The applicant must be covered under the respective double tax treaty. Furthermore, a successful APA request requires the applicant to show that there is both a risk of double taxation and a likelihood that double taxation can be avoided through the APA procedure and a consistent treaty interpretation can be reached with the competent authority of the other contracting state.
Deviating from previous practice, German tax authorities now have more discretionary power to deny APA requests. On a positive note, however, Germany is now willing to extent the scope of advance mutual agreement procedures beyond cross-border profit allocation cases to all cross-border situations, provided that the procedural requirements for an application are met.
Further subtle changes that might impact taxpayers affect the time period covered by an APA. An APA procedure shall only be granted for a precisely defined set of facts which have not yet materialized at the time the application is filed and for a specific period of validity (to a maximum of five years). However, retroactive effect on previous years, i.e., a roll-back, might be possible for recurring transactions. It is unclear how German tax authorities will handle new APA applications considering the new legal requirements, especially questionable if roll-backs will be granted in line with previous practice or if roll-backs will be handled restrictively.
Another notable change is that Section 89a of the German Fiscal Code stipulates that an APA ceases to be effective not only if the conditions of validity are not observed but also if the other contracting state does not comply with the agreement or if regulations which the APA relies on are changed.
As a result of the new law, there has also been an increase in fees for APAs. In transfer pricing cases, the fee for an initial application is now EUR 30,000 (instead of the previous EUR 20,000), while the fee for renewal applications remains at EUR 15,000. Interestingly, a separate fee for modification requests has been abolished and is thus, no longer available (previously EUR 10,000).
Outlook on the German transfer pricing landscape
The revised Section 1 and introduction of a new Section 1a in the German Foreign Tax Act by the Withholding Tax Relief Modernization Act is the most significant change to German transfer pricing legislation in the past decade. The new regulation aligns German transfer pricing rules with the OECD guidelines and outcomes of the BEPS project. This can be considered a positive development, as it not only provides a clearer structure to Section 1 of the German Foreign Tax Act, but also harmonizes transfer pricing regulations with other countries that also follow the OECD transfer pricing guidelines.
While some of the new rules rather clarify existing practice (e.g., with respect to the status of law of the interquartile range), other changes are likely to have a significant impact on transfer pricing models of multinational firms (e.g., the introduction of the DEMPE concept for intangibles, or changes in the regulations regarding transfer of functions in combination with the revised price adjustment clause).
The German Ministry of Finance also reacted promptly to the new legislation by issuing a new circular dated July 14, setting out the administrative principles for transfer pricing adjustments pursuant to Section 1 of the Foreign Tax Act. The New TP Principles consolidate the administrative view and the interpretation adopted by the German tax administration of the German transfer pricing rules. In particular, these new principles apply, from the perspective of the German tax administration, retroactively to all open cases and must therefore be directly observed both when determining transfer prices and when preparing transfer pricing documentation. In this respect, it is interesting to note that the New TP Principles already make reference to the new legislation as amended by the Withholding Tax Relief Modernization Act, which, however, only have effect as of tax assessment period 2022. The New TP Principles bind the German tax authorities, but neither the German tax courts nor the taxpayer. However, they demonstrate the position taken by the tax authorities, e.g., in the course of a tax field audit. Overall, the New TP Principles have exacerbated the transfer pricing regime in Germany and will likely lead to further scrutiny from the German tax authorities and additional challenges for taxpayers in defending their transfer price setup.
Due to the revised legislation in combination with two new circulars by the Federal Ministry of Finance, which reflect a major change in the German transfer pricing landscape, implications on transfer pricing models of multinational firms and increased scrutiny by German tax authorities can be expected.