Germany’s tax authorities are increasingly rejecting applications for exemption certificates in cases where dividends are paid by a German subsidiary that is treated as a “disregarded entity” for US tax purposes. The Federal Central Tax Office (FCTO) has adopted a noticeably stricter approach to granting relief from German withholding tax under the Germany-US tax treaty, requesting additional documentation from taxpayers when disregarded entities are involved and frequently denying relief. This shift affects both exemption certificate applications and refund requests. Importantly, the new posture does not appear to be based on any formal legal or administrative change, and it remains unclear whether it will become a permanent position.
Under the Germany-US tax treaty, the standard German dividend withholding tax rate of 26.375% may be reduced to 15%, 5% or 0%, depending on the level of ownership and provided certain other requirements are met.
The FCTO’s revised interpretation has raised concern among practitioners assisting with treaty-based withholding tax relief. The authorities are now closely examining how distributions made by a German GmbH are treated for US tax purposes—specifically whether the entity is disregarded under the US check-the-box rules. Departing from long-standing practice, the FCTO no longer intends to grant relief at the beneficial treaty rates if the GmbH distributing entity is treated as transparent for US federal income tax purposes (a “disregarded entity” or “flow-through entity”).
Applications for an exemption or refund must now disclose:
The FCTO is basing its position on section 50d (11a) of the German Income Tax Act (EStG) and article 1(7) of the treaty. Based on these measures, a US parent company may only claim treaty benefits if the distributions from the German subsidiary are recognised as income or profits of the US parent company under US tax law. If this interpretation ultimately prevails:
The FCTO’s new perspective is the subject of active debate, and it is too early to conclude that a definitive shift in legal interpretation has occurred. However, if the position becomes permanent, it is likely to substantially impact structures where a US company holds German subsidiaries as disregarded entities. If treaty relief is denied, taxpayers should consider filing an appeal and evaluating additional protective measures. More broadly, affected groups should review their structures to assess potential tax exposure to increased withholding tax.
Claudia Kachur
Mechthild Pietrek
BDO in Germany
Under the Germany-US tax treaty, the standard German dividend withholding tax rate of 26.375% may be reduced to 15%, 5% or 0%, depending on the level of ownership and provided certain other requirements are met.
The FCTO’s revised interpretation has raised concern among practitioners assisting with treaty-based withholding tax relief. The authorities are now closely examining how distributions made by a German GmbH are treated for US tax purposes—specifically whether the entity is disregarded under the US check-the-box rules. Departing from long-standing practice, the FCTO no longer intends to grant relief at the beneficial treaty rates if the GmbH distributing entity is treated as transparent for US federal income tax purposes (a “disregarded entity” or “flow-through entity”).
Applications for an exemption or refund must now disclose:
- How the German distributing company is classified for US tax purposes; and
- Whether the distributions qualify as dividends and are taxed as such at the level of the US recipient.
The FCTO is basing its position on section 50d (11a) of the German Income Tax Act (EStG) and article 1(7) of the treaty. Based on these measures, a US parent company may only claim treaty benefits if the distributions from the German subsidiary are recognised as income or profits of the US parent company under US tax law. If this interpretation ultimately prevails:
- Exemption certificates and refunds would only be available where the German payer is not a disregarded entity for US tax purposes (i.e., is opaque for those purposes); and
- In all other cases, German withholding tax would become a final, nonrecoverable cost.
BDO Perspective
The FCTO’s new perspective is the subject of active debate, and it is too early to conclude that a definitive shift in legal interpretation has occurred. However, if the position becomes permanent, it is likely to substantially impact structures where a US company holds German subsidiaries as disregarded entities. If treaty relief is denied, taxpayers should consider filing an appeal and evaluating additional protective measures. More broadly, affected groups should review their structures to assess potential tax exposure to increased withholding tax.Claudia Kachur
Mechthild Pietrek
BDO in Germany