BFH rules on retroactive establishment of Organschaft

The Federal Tax Court (BFH) recently published a decision relating to the requirements for establishing a German tax group (Organschaft) for corporate income tax purposes (case reference I R 89/09). To establish a group, the controlling company must hold directly or indirectly more than 50% of the voting rights of the controlled company from the beginning of the subsidiary’s fiscal year. In the case, the controlled company was established as a result of a retroactive hive-down of a separate business division under the Reorganization Tax Act. The hive-down was combined with a subsequent retroactive contribution of the shares in the new entity into a brother-sister entity in exchange for shares with retroactive effect (which was possible at the time). Both restructurings were carried out with retroactive tax effect to the beginning of the fiscal year.

The tax authorities rejected the validity of the tax group because a legal fiction of retroactive effectiveness does not meet the requirements for forming a tax group – a real shareholding from the beginning of the fiscal year of the controlled entity is required. The BFH, however, held that because the controlled entity was a separate business division of its ‘parent’ at the beginning of its financial year, it was controlled by this entity before the hive-down. As a result of the contribution of the shares received in the hive-down into the controlling entity of the future tax group, this attribute was transferred to this entity for tax purposes so that the requirement was deemed to be met.

The BFH considered the controlling entity as being deemed to control the controlled entity from the beginning of its fiscal year and, therefore, a tax group could be formed. The BFH did not address the question of whether this would mean that a tax group generally could be formed with retroactive effect in other cases.

The decision is interesting because the German tax authorities are drafting guidance on the new Reorganization Tax Act and are considering limiting the retroactive effect in various scenarios where the legal prerequisites for a certain transaction did not exist at the time of the desired retroactive tax effectiveness. It is unclear to what extent the BFH decision will influence the tax authorities’ position. Based on informal statements of the tax authorities, the draft guidance is not expected to be finalized soon, so uncertainties will remain. Taxpayers intending to rely on the retroactivity of certain restructuring measures should take the (potential) position of the tax authorities into account and, where possible, aim to have the legal prerequisites in place at the time of the desired tax effective date.

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