Prepared by Alessandro Di Stefano, Giovanni Consiglio and Giuseppe Falduto
According to German Tax Authorities, the (i) mere registration of IPs (such as patents and trademarks) in the German IP registers which has led to royalties payments between non German resident companies and which are connected to sales in Germany by the non resident licensor or (ii) the economic exploitation of the IP within a German Permanent Establishment, regardless it’s registration in the German IP register, would trigger potentially German WHT items related to the non-German royalties payment flow.
In such a case, payment of royalties between non-German tax resident would determine
the obligation of non-resident taxpayers to apply a withholding tax (“WHT”) obligation under German domestic law is 15.825% and submit tax declarations in Germany. Failure to fulfil the above obligation in due time, exposures the non-resident taxpayers and its legal representative to the risk of significant administrative as well as criminal penalties in Germany.
Whereas for sales, the tax on the built-in gains of the transferred IP is levied at the level of the transferor via an assessment procedure.
However, this rule does not apply if the non-resident recipient of the income meets the requirements to benefit from the double taxation convention concluded between Germany and its country of residence and the exclusion of the German anti-treaty shopping provisions from the scope of application. As a general rule, in order not to apply the German withholding tax, the non-resident entity is required in advance (i.e. prior to the payment of the royalties) to submit an exemption request to the German tax authorities, in order to prove the above mentioned requirements. The authorities, after verification of the requirements, issue an exemption certificate on the basis of which the entity is formally entitled not to apply the withholding taxes in Germany.
If the certificate has been obtained after payment of the withholding taxes, any German withholding tax, which has been deducted in full, can be claimed back if the requirements (under the Convention and the anti-avoidance provisions) are met.
Exceptionally, the Ministry of Finance has made it possible to submit such application also retroactively (i.e. after payment of royalties) in order to obtain the exemption certificate also for royalty payments made in the past (i.e. payments made from 2014 to the present). The certificate must be obtained by 30 June 2022 in order to cover past years.
The use of this procedure should rectify the tax position of the non-resident for the past both in terms of payment of taxes, sanctions and in terms of criminal liability.
The German Ministry of Finance issued a circular on February 11 that provides updated filing and withholding procedures for royalties attributable to IP registered in a German book or register.
By taking advantage of this new simplified process within the prescribed time limits, taxpayers have an opportunity to avoid penalties that may otherwise be imposed.
The updated procedures provide a simplified process for royalties received by taxpayers who are eligible for treaty benefits under the relevant German tax treaty. Pending meeting certain criteria and qualifications, taxpayers can apply for a retroactive withholding exemption certificate which will be effective for all open tax years. However, the circular provides a limited time period for taxpayers to take advantage of these simplified procedures.
As discussed in more detail below, the circular notes that no withholding tax (WHT) is applied to capital gains realized on dispositions of German-registered IP. Instead, taxpayers are instructed to file a German tax return with respect to such disposition, irrespective of whether the disposing taxpayer is eligible for treaty benefits under a treaty with Germany.
Circular Letter November 6,2020
On November 6, 2020, the German Ministry of Finance issued a circular in which the Ministry confirmed its view under the German extraterritorial WHT provision that mere registration of rights in a German register is sufficient to establish a German tax nexus both for royalties and capital gains in foreign-to-foreign situations.
This interpretation results in extensive tax filing requirements and withholding tax duties for all open tax assessment periods during the last seven years.
As a consequence, extensive compliance obligations apply to both cases in which a German taxation right is excluded under an applicable tax treaty, and cases without treaty protection under German tax law (i.e., despite treaty eligibility, quarterly withholding tax returns for all open tax assessment periods must be filed, the withholding tax must be paid by the licensee and a refund must be sought by the licensor). In its February 11 circular, the Ministry of Finance outlines a procedure that allows taxpayers to use a simplified process for (unambiguously) treaty-entitled royalties for a limited time period. The simplified procedure is subject to specific preconditions. The simplified procuder applied to taxable events realized up to and including September 30, 2021. Royalties paid after September 30, 2021 were subject to the regular withholding tax rules. More recently, on 14 July 2021, the German Ministry of Finance extended the filing deadline for the application of the retroactive exemption for payments. According to this, the procedure is applicable for payments made in the past or by 30 June 2022 (before the updated guidance, the cutoff date was 30 September 2021). Also the deadline to file an application for WHT exemption has been extended to 30 June 2022 (previously the deadline was 31 December 2021).
During the time frame described above, a licensee is not obligated to withhold tax at the source if the following preconditions are met:
- At the time the royalty is received, a (corporate) licensee must have neither its legal seat nor its effective place of management in Germany.
- The licensor must be entitled to tax treaty benefits, having regard to domestic limitation on benefits and anti-treaty shopping provisions.
- The licensor (or the licensee on behalf of the licensor) must apply for issuance of a (retroactive) withholding tax exemption certificate no later than the provided above deadline. Where the underlying agreement is no longer in place and the licensee can provide evidence that the licensor is not willing or able to file such application, the licensee is entitled to apply for a retroactive withholding tax exemption certificate in its own name and without power of attorney.
- The underlying agreements must be disclosed to the Federal Central Tax Office (partially in German language).
The simplified withholding tax procedure is not available if it is doubtful that treaty entitlement applies under either the treaty provisions or the German domestic anti-treaty shopping rules. In such cases, the licensee must file withholding tax returns and pay the tax.
The licensor may then seek a refund through the normal process. The obligation to verify the licensor’s eligibility could create difficulties, especially in relation to third parties.
Procedure if the exemption certificate application is rejected
If the exemption certificate application is rejected, the licensee must file the withholding tax returns and remit the taxes within one month of the administrative announcement rejecting the application.
Determination of the assessment basis
The Ministry of Finance circular provides guidance for determining the tax basis for the withholding tax. The assessment basis shall, in principle, be the gross remuneration for the rights registered in a German register.
Such remuneration must be determined based on the contractual provisions. Where the remuneration attributable to the rights registered in Germany cannot be determined from the underlying contracts, the total remuneration paid shall be apportioned appropriately. The starting point for an appropriate determination shall be the so-called ‘top-down’ approach. The Ministry of Finance does not accept so-called ‘bottom-up’ approaches (i.e., where a fictitious percentage of sales or profits based on database studies is the basis for calculating the license fee). According to the circular, the approach of determining the income based on registration costs (including profit mark-up, if applicable) is also not appropriate.
If the tax authorities are unable to determine the relevant income, they may calculate an estimate.
Procedure for the sale of rights
No withholding taxes are due on capital gains. Instead, an (annual) non-resident tax return must be filed. The circular stipulates that such non-resident tax returns also must be filed even if treaty benefits apply with respect to the capital gain.
The new circular allows a simplified procedure to file for foreign-to-foreign withholding taxes for a limited time period. Non-resident taxpayers should consider the option to reduce tax compliance obligations, being mindful of the preconditions and exceptions. The simplified procedure is only available where a licensor is unambiguously entitled to the benefits of a German tax treaty that eliminates German tax on the payments associated with the licensed IP. The circular does not provide any simplified procedures in non-treaty cases, nor does it include any specific rules that provide additional simplification in the case of royalties paid between unrelated parties.
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PwC TLS Avvocati e Commercialisti
PwC TLS Avvocati e Commercialisti
PwC TLS Avvocati e Commercialisti