Federal Fiscal Court ruling: International taxation rights related to shipping

Treatment of income from employment in a cross-border context

The inclusion of income from employment (section 19 of the Income Tax Act) in a cross-border context initially depends on the individual’s personal income tax liability. For taxpayers subject to resident tax liability under section 1(1), foreign-source income in this category is also included under the “worldwide income” principle (section 34d no. 5). Because it is classified as foreign income, the German tax authorities are obligated to credit foreign personal income taxes under the further requirements of section 34c(1). Alternatively, if applied for, a deduction in the course of the determination of income may be claimed (section 34c(2)).

Where a double tax treaty (DTT) applies, the exemption method is generally used where Germany is the country of residence to avoid double taxation. However, this is subject to various and increasingly numerous treaty overrides, particularly in this area (section 50d(7), (8), (9), (12) and (15); Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette [Bundessteuerblatt–BStBl.] I 2023, p. 2179, para. 59 and following).

In the case of taxpayers subject to non-resident tax liability (section 1(4)), however, the inclusion of domestic income is limited to that specified in section 49(1) no. 4, and the tax is preferably collected by way of withholding (sections 38 and following; section 50(2) sentence 1). In the case of an assessment (something which is also possible for taxpayers subject to non-resident tax liability under section 50(2) sentence 2 no. 4, for example) various “benefits” of German tax law are not granted (section 50(1); section 26(1)). On the other hand, there are various exceptions specifically for the income of taxpayers subject to non-resident tax liability (section 50(1) sentence 2 clause 2 concerning the basic allowance; section 50(1) sentence 5 and following, concerning lump-sum allowances). In addition, taxpayers subject to non-resident tax liability who mainly only derive income in Germany can opt for resident tax liability (section 1(3); Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 47), combined with a progression clause for the remaining “worldwide income” (section 32b(1) sentence 1 no. 5; Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 54).  

If a  DTT applies, the source country Germany retains the right to charge withholding tax under the conditions of article 15(1) and (2) of the OECD Model Convention 2025 (even applying for the option of section 1(3) does not make Germany the country of residence under the DTT; Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 9). This right is basically unlimited, but the conditions of article 15(2) must be observed. This means that in terms of legal consequences, the right to tax remains exclusively with the state of residence if all three conditions are met simultaneously (Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 102).

Inclusion of income from employment for “mobile workers”

Income from employment earned on board aircraft or ships poses particular challenges for the tax system since the “place of work moves while the employee is working” (Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 392 and following). The taxation of seafarers is further complicated by the fact that employers are often companies with a foreign place of management. The 2017/2025 OECD Model Convention addresses this in its article 15(3) (Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 396): “Notwithstanding the foregoing provisions of this article, remuneration received by a resident of a contracting state for employment as a member of the regular crew of a ship or aircraft on board a ship or aircraft engaged in international traffic, with the exception of a ship or aircraft operated exclusively in the other contracting state, may be taxed only in the first-mentioned state”. The employee’s residence (article 4(1) and (2) of the 2025 OECD Model Convention) therefore determines the exclusive right of taxation (“closed legal consequence”). 

If the requirements for a specific provision on remuneration of onboard personnel are not met in the applicable DTT (because they are not “engaged in international traffic”, for example) the general provisions of article 15(1) and (2) apply instead (Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 395). The claimant in appeal VI R 1/24 earned income from employment in the year in dispute of 2017 by serving on a ship that operated as a passenger ferry between Hamburg and Helgoland. The claimant’s employer was a company registered in Cyprus. The ship flew the flag of Cyprus, and the ship’s owner was also based in Cyprus. The case therefore included the 2011 Cyprus-Germany Double Tax Treaty, article 14(4) of which did not yet comply with the new OECD Model Convention standard.

Following a request for a binding ruling submitted to the tax office responsible for the withholding tax on wages [Lohnsteuer] (section 42e of the Income Tax Act), no German payroll tax was withheld based on article 14(4) of the Germany–Cyprus DTT 2011. Under this provision, remuneration for employment performed on board a seagoing vessel or aircraft engaged in international traffic, or on board a vessel engaged in domestic traffic, is taxable only in the contracting state in which the place of effective management of the enterprise is located. No income tax was levied in Cyprus either, which was in accordance with Cypriot law (and which can play a significant role with respect to section 50d(9) sentence 1 no. 2 of the Income Tax Act; e.g., Hamburg Fiscal Court judgement of 16 Apr 2019, file ref. 6 K 206/18).

However, the Federal Fiscal Court concurred with the lower court and ruled (file ref. VI R 1/24) that neither “international traffic” nor “domestic traffic” as defined by article 14(4) of the 2011 Cyprus Double Tax Treaty applied to trips between Hamburg and Helgoland. It considered that a “vessel engaged in domestic traffic” is to be understood as one that operates exclusively on inland waterways located within the mainland. Since the special rule of article 14(4) did not apply, Germany retained the right of taxation as the state of residence under the general rule of article 14(1) and (2), since the claimant carried out his activities solely in Germany. According to the findings of the lower tax court, the ship on which he served operated exclusively within the “12-mile zone belonging to German territory.”

Further questions related to the judgement

In addition to the very specific issues regarding the taxation of seafarers’ income, this judgement raises further questions. Article 14(4) is a “final” allocation rule (articles 6–22 of the 2025 OECD Model Convention), which grants the contracting state in which the place of effective management of the enterprise is located the exclusive right of taxation under the DTT. So if this provision was applicable (contrary to the decision in case VI R 1/24), only Cyprus would be authorised to tax the income. In Germany, the income would be exempt from tax, even though the article governing methods in the 2011 Cyprus DTT only provides for the credit method as the method to avoid double taxation (section 34c(6) of the Income Tax Act; section 32d(5); Federal Ministry of Finance Circular of 12 Dec 2023, Federal Tax Gazette I 2023, p. 2179, para. 37). However, the progression clause for a taxpayer subject to resident tax liability in Germany remains in effect even in this specific and rather rare scenario (section 32b(1) sentence 1 no. 3; e.g., Federal Tax Court judgement of 10 Dec 2008, file ref. I B 60/08). 

Moreover, the limited scope of the binding ruling on payroll tax (section 42e) becomes apparent: according to what is now settled case law, it is to be classified as a declaratory administrative act (ever since the change in case law in Federal Tax Court judgment of 30 Apr 2009, file ref. VI R 54/07, Federal Tax Gazette II 2010, p. 996). The tax authorities are only bound by the position it contains within the payroll tax withholding process and thus the advance payment process (including with respect to the employee here; Federal Fiscal Court judgement of 17 Oct 2013, file ref. VI R 44/12). However, for withholding payroll tax the binding effect is limited to the tax office responsible for the business establishment. In the assessment process, there is no such binding effect (Federal Tax Court judgement of 13 Jan 2011, file ref. VI R 61/09, Federal Tax Gazette II 2011, p. 479, para. 24).