German tax authorities specify requirements for permanent establishments

Due to their function as a tax nexus, the existence ("whether") of international permanent establishments (“PEs”) is increasingly becoming a reason for tax disputes with tax authorities. The German Ministry of Finance (Bundesministerium der Finanzen, referred to as "BMF") published with the date on February 5, 2024, a new administrative guidance on the definition of PEs and it sets out its understanding of the term PEs in much greater detail than was previously the case.

A. Overview

The existence of a PE requires

1. a business facility or installation with a fixed connection to the earth's surface,
2. which is of a certain duration,
3. serves the activity of the company and
4. over which the taxpayer has not only temporary power of disposal.

The definition of a PE is now specified in newly issued administrative guidance. Numerous (also more recent) decisions of the Federal Fiscal Court (BFH) have been taken into account and adopted by the tax authorities. In the opinion of the BMF, the existence of a PE thus requires that a separate business activity with a fixed local connection is carried out in certain premises and that the connection expresses a certain "rootedness" of the company with the place where the business activity is carried out. However, the BMF leaves open which specific circumstances can lead to such "rootedness". In principle, it is necessary for the company to hold a legal position that cannot be withdrawn or changed without further ado. The BMF clarifies that merely "general legal protection" or a permanent right of use of a factual nature may be sufficient if the power of disposal is not disputed.

B. Own PE on the premises of other parties

According to the BMF, a company can also establish a PE in the premises of any other party (e.g. customers, managers, subcontractors). This presupposes that the company is legally authorized to use these premises according to the needs of its business and if its own employees work there. However, the same should also apply to "external" employees who have been assigned to the company and are subject to its instructions.

A sufficient right of use should already exist if the company is allowed to permanently use any suitable room of the building or a changing area of a property. According to the BMF, the landowner's right to allocate another room or another part of the property to the company does not preclude the assumption of a PE. In practice, this can also be relevant for coworking spaces.

C. Disguised service PE

With regard to service-providing companies or management companies, the BMF states that the assignment of tasks of a company (principal) to another party (contractor) alone should not be sufficient for the principal to establish a PE on the premises of the contractor. However, according to the BMF, such a PE should exist if the principal permanently supervises the contractor on site on the contractor's premises. This is to be assumed in particular in cases where the management bodies of the principal and contractor are composed with the identical individuals.

Moreover, in the opinion of the BMF, a power of disposal over the contractor's premises should not be necessary at all to create a PE if the principal is able to carry out its business activities “operationally” on the contractor's premises due to an available “material and personnel organization”. However, it remains unclear which constellations the BMF has in mind in practice.

D. (No) permanent establishment in the home office

As a rule, an employee's home office should not constitute a PE of the employer. This also applies in the following situations:

• bearing of the costs for the home office and its equipment by the employer;
• conclusion of a rental agreement for the employee's home office between the employer (tenant) and employee (landlord), unless the employer is actually authorized to use the premises for other purposes in individual cases;
• cases in which no other workplace is made available to the employee by the employer and the company thereby de facto requires the employee to use the home office.

The BMF justifies this by stating that the employer typically does not have sufficient power of disposal over the employee's home office. This more restrictive view is also shared by the prevailing opinion in the literature, although it may differ in part from the understanding of other jurisdictions or the international consensus (Nom. 18 OECD model commentary to Article 5 OECD-DTC). However, according to the BMF, something different may apply if an employee performs management functions in the home office, i.e. in this case, the home office may constitute a PE of the employer. Further details can be found in the blog post of our colleagues Christoph Klein und Yannick Barbu.

E. Place of management

The BMF is of the opinion that every company has at least one PE to be localized at the place of management. As a rule, this also applies to taxpayers which carry out their business at different locations without establishing (further) PEs at these locations, e.g. professional athletes. The managing director’s home can also be regarded as a place of management if business planning is carried out there and no other fixed business premises are available.

Interested in learning more? Our authors address the tax authorities' interpretation of the place of management in a separate blog post.

F. Conclusion

As a tax nexus, PEs remain a major challenge for multinationals. The newly issued German administrative guidance are to be welcomed, as the BMF's view is set out in a compact manner and follows previous German case law, thereby providing more legal certainty.

Feel free to contact the authors or your usual FGS contacts if you would like to discuss the topic of permanent establishments discussed in this blog post in more detail.
 

-----------

Well done, you’ve escaped the daily commute! But when does working from home end up creating a permanent establishment? The German tax authorities addressed this question for the first time in their revised version of the Application Decree to the German Fiscal Code (AEAO), published on 20 February. The revision provides needed clarification but could it give rise to problems in cross-border remote working cases? Christoph Klein und Yannick Barbu have more in their blog post. 

Does the involvement of a service company constitute a permanent establishment? This question, which is important for the real estate sector, has been the subject of case law by the Federal Fiscal Court in the past. The tax authorities have also taken a position on this in the update to the AEAO. Our colleagues Carsten Quilitzsch, Gabriel Hörnicke and Stefanie Rötting explain the details in their blog post.