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08.12.2023
German Tax and Legal News

BFH rules tax consolidation requirement met even if controlling parent entity involved in merger

Surviving parent entity inherits tax position of predecessor based on specific reorganization rules under corporate income tax code

In a decision dated 11 July 2023 (and published on 23 November 2023), Germany’s federal tax court (BFH) ruled in favor of the taxpayer that the “financial integration” requirement for purposes of the tax consolidation (Organschaft) rules, which requires that a controlled subsidiary is held by the controlling parent entity for the subsidiary’s entire fiscal year (FY), was met even though the controlling parent entity was merged into another entity during the subsidiary’s FY. 

Background

One of the requirements for a tax consolidated group for corporate income and trade tax purposes is that the controlling parent entity must hold a majority of the voting rights in the controlled subsidiary for the entire FY of the subsidiary ( “financial integration”). In certain reorganizations involving the controlling parent entity of a tax consolidated group (e.g., a merger where the controlling parent entity is merged into another entity), it was debated whether such a restructuring during the FY of the controlled subsidiary could be seen as an impediment to meeting the financial integration requirement.

The tax authorities were of the opinion that, in such a case, the financial integration between the controlled subsidiary and the “old” controlling parent entity (i.e., the entity that is merged out of existence) is not fulfilled, as the shares in the subsidiary are not owned for the entire FY of the subsidiary, since the “old” controlling parent entity ceases to exist due to the merger. In addition, the financial integration with the “new” controlling parent entity (i.e., the surviving entity in the merger transaction) could not be fulfilled, as the ”new” controlling parent entity did not own the shares in the controlled subsidiary for the entire FY of the subsidiary.

The majority view in German tax literature is that for reorganizations that are governed by the provisions of the reorganization tax act under the corporate income tax code and, as a result of a specific provision in the reorganization tax act that the successor inherits the tax position of the predecessor (i.e., the surviving entity “steps into the shoes” of the merged entity), the shareholding period of the merged entity must be attributed to the surviving entity when evaluating the financial integration requirement.

BFH decision

The case decided by the BFH involved a controlling parent entity in a tax consolidated group that had merged into another entity, with the tax effective date of the merger occurring in the middle of the FY of the controlled subsidiary. The question presented to the BFH was whether the financial integration requirement for purposes of the Organschaft rules was met after the merger (as claimed by the taxpayer) or whether the financial integration requirement could not be met, resulting in the Organschaft not being tax effective (as argued by the tax authorities).
The BFH came to the conclusion that the reorganization tax act provides that the tax attributes of the merged entity are inherited by the surviving entity as a result of a merger and, with that, the shareholding period of the merged entity must be attributed to the surviving entity for purposes of the financial integration requirement under the Organschaft rules.

The BFH determined that the financial integration requirement was fulfilled in this case, since the controlled subsidiary was held for its entire FY by the “old” controlling parent entity (up to the tax effective date of the merger) and the “new” controlling parent entity (for the remainder of the FY). The BFH stated that the reorganization tax act must be taken into account for purposes of the Organschaft rules, which also are part of the corporate income tax code. With that, the court concluded that the surviving entity inherited the shareholder position and shareholding period of the merged entity for purposes of the Organschaft rules.

Comments

The decision of the BFH is a welcome development for taxpayers, as it confirms the prevailing view in tax literature and rejects the view of the tax authorities as outlined in administrative guidance. As a result, taxpayers should be able to rely on the decision of the BFH when undertaking a similar reorganization and taking the position that the financial integration requirement under the Organschaft rules is met. Before the decision of the BFH, such a restructuring was difficult to implement due to the view of the tax authorities as provided in the administrative guidance and the corresponding risk of the Organschaft not being recognized.
In three other decisions published on the same day, the BFH applied the same financial integration principles to a merger of a controlling parent corporation into a partnership and for a share-for-share exchange transaction for which the reorganization tax act provides for the same set of rules.

It should be noted that the above principles of the BFH decision should be limited to cases for which specific rules in the reorganization tax act are available that the successor inherits the tax position of the predecessor. Careful analysis is required for reorganization transactions in regard to whether the transaction is governed by the provisions of the reorganization tax act and whether specific rules are available that tax attributes are inherited by the successor company. For a share-for-share exchange transaction, this should only be the case if the transaction is performed for tax purposes at a value below fair market value.

It needs to be seen how the tax authorities are going to react to the decision of the BFH. On 11 October 2023 (i.e., before the publication of the BFH decision), the tax authorities published a draft update of the administrative guidance relating to the reorganization tax act for public consultation until 6 December 2023. Within the update process of the administrative guidance, the tax authorities have the opportunity to include the principles of the BFH decision into the administrative guidance. Whether the tax authorities will make use of this opportunity or whether taxpayers might face resistance from the tax authorities to apply the principles as described in the decision of the BFH remains to be seen.

Your contacts

Andreas Maywald
Client Service Executive | ICE - German Tax Desk

anmaywald@deloitte.com
Tel.: +1 212 436 7487

Merten Zenker
Senior Manager

mezenker@deloitte.com
Tel.: +1 212 436 3947

Your contacts

Andreas Maywald
Client Service Executive | ICE - German Tax Desk

anmaywald@deloitte.com
Tel.: +1 212 436 7487

Merten Zenker
Senior Manager

mezenker@deloitte.com
Tel.: +1 212 436 3947

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