19.12.2014MOF issues opinion on constitutionality of interest deduction limitation rule
Following the Federal Tax Court’s (BFH) 2013 decision in which it expressed doubts as to whether the interest deduction limitation rule is in line with the German constitution, the Ministry of Finance (MOF) has issued guidance confirming its own position that the rules are in conformity with the constitution. The MOF guidance also states that the BFH’s conclusion that the taxpayer must be granted a suspension of the execution of an assessment will not be applied to similar cases.
The interest deduction limitation rule, which covers interest payments made to related and unrelated parties, limits the tax deductibility of net interest expense to 30% of the tax EBITDA (earnings before interest, tax, depreciation and amortization) of a business. Exceptions to the general rule apply where (i) the annual net interest expense does not exceed EUR 3 million; (ii) the relevant business is not part of a “group” of companies; or (iii) the “escape clause” applies, i.e. the German borrower’s equity ratio does not fall short by more than 2% of the group’s worldwide equity ratio.
The BFH decision from December 18, 2013 involved a situation where the taxpayer appealed a tax assessment notice in which the tax authorities partially disallowed an interest deduction based on the interest deduction limitation rule. The taxpayer requested a suspension of the obligation to make the tax payment until a final decision on the tax assessment is reached.
The BFH agreed with the taxpayer (the underlying appeal against the tax assessment notice is now pending before the BFH, I R 2/13), concluding that the suspension of payment is appropriate because it is questionable as to whether the interest deduction limitation rule is in line with the German constitution.
The guidance issued by the MOF reconfirms the tax authorities’ view that the interest deduction limitation rule is in line with the German constitution. The MOF stresses that the governing principle of German tax law, according to which each taxpayer must be taxed based on its financial performance and ability, is not violated by the interest deduction limitation rule because disallowed interest expense generally may be carried forward and used once the annual net interest expenses falls below 30% of the tax EBITDA. Based on this rationale, the tax authorities will not grant a suspension of the obligation to make a tax payment in similar cases.
Given the pending underlying appeal, affected taxpayers with nondeductible interest expense due to the 30% limitation should consider filing appeals against tax assessment notices. Suspension of payment applications, however, will be denied by the tax authorities based on the new guidance, but the taxpayer then could appeal the denial to suspend the payment to the local tax court.
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