German investment tax law continues to be in development. The German Investment Tax Act (Investmentsteuergesetz 2018, InvTA 2018) has again been amended and the German Ministry of Finance (BMF) has recently published new draft guidance regarding the taxation of special investment funds.
When it came into force on 1 January 2018, the InvTA 2018 fundamentally changed the taxation of investment funds in Germany. It applies to domestic investment funds as well as foreign investment funds with certain types of income and to their German investors. The new regime distinguishes between mutual investment funds which are opaque for German tax purposes (and, therefore, subject to German tax in respect of certain types of income) and so-called special investment funds that may opt to be transparent for tax purposes (so that only their investors are subject to German tax). The InvTA 2018 has already been amended by the German Annual Tax Act 2018 to introduce some 'repair measures'. Additionally, the BMF first introduced guidance regarding the taxation of mutual investment funds in its decree of 21 May 2019.
German Annual Tax Act 2019: Further amendments to the InvTA 2018
On 17 December 2019, the German Annual Tax Act 2019 was passed, again amending and clarifying parts of the InvTA 2018.
- The definition of 'participation' for the purpose of determining whether the mutual investment fund is an 'equity fund' or a 'mixed fund' (which impacts the investors’ entitlement to certain tax benefits) has been clarified: a participation in a corporation held through a partnership does not fall within the definition and is, therefore, not taken into account in determining the equity quota of the fund. This may negatively impact umbrella funds investing in funds holding equity participations that are structured as partnerships.
- The law makes clear that domestic investment funds are subject to tax in Germany and, therefore, generally entitled to treaty benefits, whereas foreign investment funds are only subject to tax in Germany in respect of certain types of income.
- The requirements for a fund to qualify as a real estate fund were clarified.
The BMF's new draft guidance
On 16 December 2019, the BMF published a long-awaited draft decree regarding the taxation of special investment funds. It sets out the BMF’s views on certain criteria for investment funds to qualify as special investment funds and opt for tax transparency.
- One requirement is that the investment fund has to observe certain investment guidelines set out in Section 26 of the InvTA 2018; if a fund substantially violates these investment guidelines, it loses its status as a special investment fund and becomes subject to German taxes in respect of certain types of income. The draft decree stipulates that the guidelines’ 10%-threshold for non-eligible assets applies only to passive investments in such assets, meaning that special investments funds cannot actively invest in non-eligible assets. Additionally, special investment funds are not allowed to invest in closed-ended funds and can only qualifiedly invest in other investment funds.
- The BMF also clarified that a special investment fund can only opt for tax transparency irrevocably for all future business years and only consistently for the fund's entire income.
- Furthermore, it appears that the BMF wants to limit the tax exempt retention by a special investment fund of profits from the sale of participations in corporations to profits from the sale of participations of below 1%. This restriction has been criticized as contrary to statements in the explanatory notes to the InvTA 2018.
The amendments to the InvTA 2018 made by the German Annual Tax Act 2019 and the BMF’s draft guidance should generally be regarded as a welcome clarification of the legal framework for potential investors. But another change that may impact the taxation of investment funds in Germany is already on the horizon: the revision of the German CFC rules to implement ATAD II. Currently, investment funds within the meaning of the InvTA 2018 are excluded from the German CFC rules, but a first draft of the revised German CFC rules indicates an intention to apply these rules to such investment funds. This proposal has been subject to a lot of criticism given potential negative implications for German investors (in particular in a PE context), and a revised draft is keenly awaited.
The current amendments to the InvTA 2018 and the BMF's draft guidance regarding the taxation of special investment funds illustrate that the German investment tax law is still under constant development.