In many tax laws one wonders what the legislature may have intended. Some may be obsolete for various reasons without these laws being abolished. One example of this is the property tax, which today has no practical significance because it remains unapplied, but still remains as a tax law. However, there are also pointless taxes that retain their validity, although the legislature must be clear that they can easily be circumvented in a legally compliant manner. And yet these laws remain. Two such examples are explained in this article. It will probably be surprising that they will sound familiar to us from consulting practice.

1. senseless taxes in Germany – Introduction

We hear complaints about taxes in our tax consultancy every day. This often involves tax obligations and consequences that clients find personally unfair or excessive. But rarely do we hear that a tax law itself raises doubts about its right to exist. Nevertheless, there are some taxes that could be characterized as meaningless from our technical perspective. Therefore, we would like to address pointless taxes in Germany.

2. How We Define Pointless Taxes

Now you may spontaneously think that senseless taxes are relatively easy to detect. Jokes would even claim that this is very easy to answer, namely, quite simply all taxes. But this is much more complex than one might initially be willing to believe.

First of all, in such an investigation one must accept taxes as a necessity in principle. This is the only way to distinguish between sensible and pointless taxes. Thus, senseless taxes are those that contradict the purpose of taxes in one way or another. Such a case arises, for example, if taxes do not provide the public budget with sufficient revenue to justify their administrative burden (for example, the ignition tax, which has now been abolished for this reason), nor do they have a significant steering effect (for example, the former nightingale tax). However, there are also taxes that seem pointless simply because they can be circumvented quite obviously and legally, which is often the case with inheritance and gift tax. So why do we need the corresponding tax laws?

Two Examples of Pointless Taxes

Since we have not given an example for the last mentioned case, you probably already guess what follows. We even demonstrate two examples. This is due to the fact that they are tax law in a certain context with each other. It is a question of taxing companies with share capital.

3.1. Senseless taxes in the taxation of dividends at a German GmbH

Anyone who has a holding company with an operative GmbH and a holding GmbH, for example, knows it: distributed profits of operative GmbH remain tax-free at the holding company in principle. However, this only applies if the participation in operative GmbH is at least 10% (§ 8b (4) sentence 1 KStG). Otherwise, these dividends are normally subject to corporate tax. And if the participation at the beginning of a calendar year is even less than 15 %, even trade tax is incurred (§ 9 No. 2a GewStG).

You are welcome to admit that you have never questioned these taxes. But why should there be a limit if the legislature does not actually want to levy taxes in such a case (compare § 8b (1) sentence 1 KStG)? Otherwise, he would certainly rather choose the reverse approach, which would tax significantly larger shares of the profit distributions and perhaps spare the cases with low free-floating.

And indeed: after the tax exemption provisions were introduced in the Corporate Tax Act and the Business Tax Act, the legislature had seen no need for a demarcation for a certain period of time. Only subsequently were the limits on participation rates introduced. Since then, these conditions are relevant for German companies.

3.2. Taxation of dividends in a foreign corporation

But perhaps our consideration is a little too short. Perhaps we should look outside the box and include foreign countries when we pursue the senseless taxes in Germany.

If a foreign corporation is involved in a German GmbH, the distribution of profits is subject to German capital gains tax. Because of the lack of unlimited tax liability with regard to corporate tax and business tax, none of the abovementioned tax exemption regulations apply to the foreign corporation. This in turn constitutes unequal treatment for a company abroad in the EU compared to a German corporation. After all, she pays taxes in the same situation, where her German counterpart remains tax-free. It was therefore foreseeable that a foreign company based in the EU would one day take legal action against this unequal treatment. After all, German tax laws must be in line with EU law. And unequal treatment of EU foreigners at home is a violation of EU law.

And so it came: Germany had to improve its tax laws. Now the legislator was faced with the choice of either ending the taxation of foreign corporations in this context or introducing a regulation for German companies so that they are at least formally equivalent to foreign corporations. What do you think was the result of these considerations?

Pointless Taxes: Avoidance Strategies

One can now speculate whether the legislature had already considered the potential avoidance strategies when introducing the regulations on the level of participation for corporations. In any case, avoidance is quite simple and, above all, legally certain – both for affected companies and for Germany vis-à-vis the EU.

For example, a corporation with a participation ratio of less than 15 % can merge with another corporation, so that they come across this limit in combination. This creates a new holding company in which both partners are involved in the subsidiary at a higher rate. Neither the new holding company nor the companies behind it are then subject to regular taxation with business tax and corporate tax.

At the same time, the regulations for foreign corporations, regardless of the amount of their participation in a German corporation, remain unaffected. The dividends paid abroad are then still subject to the capital gains tax in Germany, which is withheld as withholding tax.

5th Senseless Taxes – Conclusion

Although the examples presented here are common practice in everyday life, it still costs effort to implement these avoidance strategies. In addition, one is then dependent on the goodwill of another partner. If, for example, a second company with a scattered interest in the same corporation participates, the interest in the previously described cooperation is likely to be significant on both sides. But if there is only one other shareholder, an agreement is likely to be much more difficult. Finally, a majority shareholder lacks an incentive to set up such a joint holding company. Perhaps instead one would even like to exploit the tax disadvantage of the minority shareholder in order to take over his shares at some point.

Apart from that, there is little to suggest that German companies need to fear the nonsensical taxes in such a situation. Regardless of this, however, one must also consider that it makes sense from the point of view of the legislator to proceed in this way. Because with this decency regulation, Germany can now continue to collect taxes from foreign companies without breaking EU law and without burdening German companies unduly. Sometimes pointless taxes are only superficially meaningless.