The Federal Tax Court (BFH) recently published a decision (case reference: II R 51/09) relating to the qualification of a partnership as a permanent establishment (PE) for treaty purposes where the partnership is deemed to be trading under German domestic law. Even though the case concerned the old wealth tax rules, the decision still may be relevant for taxpayers. The case involved a German partnership held by partners who were tax resident in Switzerland. The partnership was deemed to be trading under German domestic tax law and acting as a mere holding company performing minor bookkeeping services for other entities. The bookkeeping services were not actually carried out by the partnership itself but subcontracted from a related party; no profit mark-up was earned by the partnership when recharging the bookkeeping services.
According to the relevant tax treaty, Germany had the right to tax assets for wealth tax purposes only if they belonged to a German PE. Thus, the right to tax the assets of the partnership would have required the partnership to qualify as a “business” for treaty purposes. The court confirmed its position in a landmark 2010 decision (see Deloitte Tax-News) that a partnership cannot be considered to be engaged in a trade or business for tax treaty purposes simply as a result of its fictitious “deemed trading” nature for German domestic tax purposes. The court also ruled that the minor bookkeeping activities of the partnership should not result in the entire partnership being considered a business because of the limited extent of the activities and because no income was earned at the level of the partnership (the recharging was made without a mark-up on the services). As a result, the partnership should not be considered to be engaged in a trade or business for treaty purposes and the right to tax the assets should belong to Switzerland.
Although the case concerned wealth tax, which has not been levied in Germany since 1997, the decision should apply equally for income tax purposes. The decision is interesting as it contradicts the position of the German tax authorities that a partnership deemed to be trading according to domestic rules would create a PE for its partners, regardless of the actual activities of the partnership.
If you have any questions, please contact the authors of this article at gtln@deloitte.de or your regular Deloitte contact.
