Venture capital is (still) booming in Germany. Not as in the US or in the UK, but nonetheless remarkable.
Here are a few comments from a German tax law perspective, if you intend to act as business angel for a German start-up (in Berlin, Cologne, Munich, Hamburg, Bremen or whereever across this country). Or if your business is looking for seed financing from VC funds or business angels.
- An interest rate of nil might cause German tax issues. Not SAFE (SAFE being a common US standard for CLA’s). German tax inspectors might take the view that the loan was granted for free. The use of funds free of charge could trigger a deemed taxable advantage of 5.5% p.a. of the loan amount under German gift tax laws. Each party to such agreement can be held liable to such tax charge.
- Upon conversion of the loan receivable into equity, the investor may be able to profit from a tax privilege. Hence, if strcuctured correctly the “profit” from converting into equity at a discount to the shares’ fair market value (e.g. 20%) should not trigger German (capital gains) taxes. (And no corporate income tax, if the investment is made through a personal holding vehicle.)
- If investing from abroad, please check you local tax laws. As a principle under international tax laws, the country of your (primary) residence has the right of taxation. Tax treaty to be analysed.
- Be aware of the “dry income” trap for any interest amounts, even if not actually paid. If the CLA wording gives the investor a claim to request (annual) payment of interest amounts prior to conversion, this can be deemed taxable interest income in Germany. Non-residents may be lucky, as such interest may not be taxable for non-residents in Germany (depending on the CLA structure however, especially on granted collaterals).
- Finally, from a legal perspective: To notarize or not to notarize? In practicality, most CLA’s are not signed in front of a German notary. But a German public notary will tell the investor that there are good reasons to collect a notarization in order to be able to enforce a conversion right into equity in a German GmbH. Hence, a choice to be made.
Today, Angela Merkel’s party (Christian Democrats together with Bavaria’s CSU) and her “red” coalition partner (Social Democrats) have published a “letter of intent” of what could be the basis for German politics in the next four years, provided that yet another red&black coalition (and hence another Angela Merkel term) is signed-off by the Social Democrats’ party conference to be held on 21 January 2018.
The 28-pager as published today does touch a few tax issues.
- A “fair taxation” of multinationals, specifically those acting within the digital economy, is to be promoted (four respective multinationals are explictly mentioned).
- A common consolidated tax base within the EU, stipulating minimum corporate tax rates, is to be further promoted.
- A substantial financial transaction tax is to be finalized.
For German tax law-practitioners, these aspects points offer no surprises and remain vague.
More specifically, however:
- R&D specifically for SME’s is to be promoted by taking the respective R&D headcount and research expenses as a starting point. This could mean that a factor is being put on such tax-deductable expenses. Othe countries already do this. This may be good news. But let’s wait for the details.
- The solidarity surcharge is to be abolished in a Step 1 for “90% of the taxpayers” over the next four years. Let’s see whether companies and corporations that pay the solidarity surcharge on top of the German Corporate Income Tax (1.825% on top of 15% CIT) will be relieved. I am afraid they won’t, but let’s wait what happens.
- The flat tax (25% plus solidarity surcharge) on interest income is to be abolished. (Dividend income and other income from capital investments is not mentioned.)
- “Property acquisitions for families” are to be promoted. This is translated by commentators as a potential Real Estate Transfer Tax relief for the acquisition of a first family home. Let’s seen when and how this happens.
- Venture capitalists might also get better tax laws, but nothing precisely has been included.
That is all, basically.
The best news for German taxpayers is what is not written in the paper: No tax hikes, except for the interest income taxation, are explicitly mentioned. As a tax-practitioner I feel relieved, because any tax increase “for the wealthy” would have hit many thousands of family-owned German companies, organized as tax transparent (such as GmbH& Co. KG). Won’t happen now.
Finally, the French touch: The paper mentions repeatedly “France” as the ally for (i) pushing tax initiatives for “fair taxation” and (ii) fighting tax evasion. Pourquoi pas – but note that Germany’s anti-avoidance rules (and enforcement of tax laws) are quite stringent in international comparison already.
Where is my decanter.
The German legislator has introduced a Section 4j to its Income Tax Act (§ 4j EStG). The purpose of the new provision is to limit the deductability of royalty payments to non-resident creditors for German individual taxpayers as well as corporations and (tax-transparent) partnerships.
The new provision is a result of anti-abuse discussions on the international level (OECD, EU) triggered through structures used by some multi-nationals. IKEA, Starbucks, Apple, Microsoft and others have become notorious for their deemed “profit-shifting” by means of royalty structures.
Well, the new German “royalty threshold” provision is a toothless tiger. It will hardly have any effect. I will explain in some detail in one of the next posts.