German registered IP: Adjustment to German sourcing rules

[Note: This post was updated on 23 December 2022]

For the past two years, MNEs owning IP registered in Germany have been facing uncertainty with regard to the taxation of payments for the licensing or sale of such IP (so-called „Registerfälle“). This was due to a “discovery” by tax experts that the mere entry of IP into a German book or register could result in a German limited (corporate) income tax liability. According to the mere wording of the law, no further nexus is required for the income tax liability. After the German Parliament rejected the repeal of the underlying provision in the German Income Tax Act, only a so-called simplified procedure was granted by the Federal Ministry of Finance to IP owners with treaty protection. This simplified procedure was just recently extended by a year until 30 June 2023.

Now, on 28 July 2022 the Federal Ministry of Finance published a draft bill which provides for significant changes to the taxation of German registered IP. [Update: The bill was passed on 16 December 2022 and entered into force on 20 December. See note at the end of the article.]

Envisaged changes by the draft bill

Under current law, the licensing or sale of “rights” (i.e. IP) entered in a German public book or register leads to a limited (corporate) income tax liability, even if the IP is not being used or exploited in Germany (Section 49(1) no. 2f and no. 6 of the German Income Tax Act). The draft bill foresees changes to these provisions both for the past and for the future. First, the limited income tax liability for payments to third parties is to be abolished retroactively. Second, as of 1 January 2023 payments for the licensing or sale of such IP shall no longer lead to a limited German income tax liability. The draft bill provides, however, for exceptions regarding payments to tax havens. In detail:

• Definition of „other rights“: The draft bill proposes a distinction between „other rights“ (in particular patent, trademark or plant variety rights) and rights within the meaning of Section 21(1) no. 1 of the German Income Tax Act (i.e. essentially rights concerning real estate). Since payments for the letting or sale of the latter have a sufficient nexus (e.g. real estate) they shall still result in a limited income tax liability of the recipient.
• Limitation of the income tax liability for payments made up to and including 31 December 2022: Under the draft bill, payments in connection with „other rights“ (i.e. IP) shall be subject to taxation only if they are made between related parties. Payments between unrelated third parties, on the other hand, shall no longer lead to a limited income tax liability. The amendment only concerns cases in which the IP is merely entered in a German book or register. If, however, the IP is also exploited in Germany, the remuneration will be subject to German income tax liability. The foreseen amendment is to apply to payments made up to and including 31 December 2022. The draft bill provides that the amendments are applicable to all open cases.
• Abolition of the income tax liability for payments made on or after 1 January 2023: Payments for the licensing or sale of IP which is merely entered into a German book or register, and which are made after 31 December 2022 shall in principle no longer be subject to limited income tax liability (for exceptions see below).
• Exceptions for payments made to tax havens: An exception to the abolition of the tax liability as of 1 January 2023 applies in connection with uncooperative tax jurisdictions (so-called tax havens). If the licensor or seller of IP is resident in such a tax haven, the remuneration shall continue to be subject to limited income tax liability. Therefore, the draft bill foresees an adjustment of Section 10 no. 5 of the Tax Havens Defense Act (StAbwG) (for the StAbwG, see blog post [in German]). Potential tax havens are listed in the so-called EU blacklist and currently include American Samoa, Fiji, Guam, Palau, Panama, Samoa, Trinidad and Tobago, the American Virgin Islands, and Vanuatu.

Outlook

The abolition of the limited income tax liability for payments concerning German registered IP would be a welcomed relief for MNEs. The current tax treatment creates considerable administrative and compliance burdens both for taxpayers and for the German tax authorities. It is, however, not even clear whether any tax revenue will accrue for the German treasury because, so far, all assessment notices are currently in appeal procedures (see evaluation report [in German]). The position taken by the Federal Ministry of Finance that the mere entry of rights into a domestic book or register should lead to a limited income tax liability is challenged with good reason.

Whether the draft bill will enter into law is to be seen. In a draft bill dated 20 November 2020, the Federal Ministry of Finance already provided for a retroactive and complete repeal of the respective provisions of the German Income Tax Act. But this was ultimately not implemented. The further legislative process will show whether the now foreseen amendment (which is toned-down compared to the amendments foreseen in 2020) will be able to gain majority support in the German Parliament. But on the basis of the evaluation report by the Federal Ministry of Finance, it has become clear that, due to the relocation of IP to owners with treaty protection, no additional tax revenue for the German treasury is to be expected in the future anyway. It therefore no longer seems to be necessary to maintain the current legal situation.

[Update: Contrary to the draft bill, the final bill – which is now in force – provides for the abolition of the limited tax liability of intra-group licensing as of 1 January 2023 only if the licensor has treaty protection under a double-tax treaty (so-called DTT cases). The income tax liability remains in situations where the licensor is not protected by a DTT. Whether DTT protection is available is assessed by taking into account DTT-regulating provisions of the German Income Tax Act, e.g. the so-called anti-treaty-shopping-rule (Sec. 50d para. 3 of German Income Tax Act). However, this provision has recently been reformed and there are still considerable difficulties with its application, in particular with regard to the necessary economic substance of the licensor. It will therefore be uncertain in many cases whether DTT protection can be assumed. In this respect, the hoped-for relief with regard to the ‚Registerfälle‘ did not materialize.]