Germany: Modifications Regarding Non-Resident Taxation Of Real Estate Corporations

Article by Prof. Dr. Günther Strunk and Dr. Nils Meyer-Sandberg

With the Annual Tax Act 2009, the German tax legislator has stated that foreign corporations renting domestic real estate would be considered to be generating income from trade and business. Under tax law applicable until 31 December 2008 rental income of non-resident corporations was only treated as income from trade and business if it was generated in the context of a domestic permanent establishment or permanent representative. This change in classification has far-reaching consequences for the taxation of non-resident real estate corporations and which are not already completely clarified.

Tax accounting and duty to keep books and records

With the general classification of rental income as income from trade and business it is now undisputed that the income is determined by balance sheet accounting or if not obliged to keep books instead by cash-flow accounting. Not clarified is the applicability of a rule of the German General Tax Act due to which a duty to keep books could derive if certain thresholds regarding turnover and profit respectively are exceeded. However, a duty to keep books does not start until the beginning of the business year following the demand of the fiscal authorities.

Interest deduction

The determination of income by balance sheet has impact on the tax deductibility of interest liabilities. In the past when income was determined by cash flow accounting, interest expenses were not deductible until outflow. Since in many cases real estate acquisitions were leveraged beside bank loans by shareholder loans with deferred interest, interest was not deductible until payment. In line with the determination by balance sheet even deferred interest decreased current income. The applicability of the 2008 introduced interest limitation rule when the non-resident corporation has no domestic commercial establishment is currently unclear.

Depreciation

Moreover the classification as income from trade and business and therefore business property allows under certain circumstances a higher regular depreciation and write-down to fair value.

Trade tax

Although income from renting the real estate is classified as income from trade and business, no trade tax arises since the real estate typically does not qualify as an establishment and therefore not as a trade or business for purposes of German trade tax.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.