On November 20, 2020, the German Ministry of Finance published a working draft law concerning the modernization of withholding tax relief and extraterritorial taxation of intellectual property (IP) tackling also the taxation of income from IP registered in a German register. The draft law proposes to eliminate the non-resident taxation of IP registered in Germany without any further German nexus.
Based on the discussion as to whether Section 49 (1) No. 2 letter f) of the German Income Tax Act (“Einkommensteuergesetz”) justifies the taxation of royalty payments between non-residents relating to IP registered in a German register, which started at the beginning of the second quarter of 2020, the German Tax Authorities issued revenue guidelines for handling such matters on November 6, 2020.
According to the wording of German domestic law, domestic source income is earned, if income is generated from renting or leasing or from the disposal of rights entered in a German register. According to the wording of the regulation, it is not necessary that the right must be economically exploited in Germany, or that the licensor or licensee is resident in Germany or have any other tax nexus, e.g. branch, in Germany. Therefore, Section 49 (1) No. 2 letter f) of the German Income Tax Act shall also cover royalties/capital gains that are paid between persons resident outside Germany.
The revenue guidelines issued on November 6, 2020 stipulate how to deal with corresponding cases.
Due to these guidelines, royalties paid between non-resident persons shall be subject to tax in Germany, if they are paid in relation to rights entered in a German register. The licensee shall be required to levy the tax by way of withholding.
Further, capital gains arising from the sale of a right entered in a German register shall be subject to tax in Germany. The seller shall generally be required to file a tax return.
On November 20, 2020, the German Ministry of Finance issued a working draft law concerning the modernization of withholding tax relief and extraterritorial taxation of intellectual property.
Moreover, the draft deals with the provisions of Section 49 (1) No. 2 letter f) of the German Income Tax Act, and proposes to eliminate the non-resident taxation of royalty income and capital gains relating to rights registered in a public German register without any further nexus to Germany.
Potential tax effects
Deviant to the current provisions of Section 49 (1) No. 2 letter f) of the current German Income Tax Act the implementation of the draft law would eliminate the taxation of royalty income or capital gains income derived by IP registered in a German register without further German nexus.
Therefore, only royalty income and capital gains derived by IP which will be economically exploited in Germany or where the licensor or licensee is resident in Germany or has any other tax nexus, would then be subject to tax.
The change shall be effective for all open cases, and would therefore have retroactive effect.
Although the regulations of the draft law indicate a positive lookout for the future, it has to be noted that the draft law is not yet legally effective, so that an application is not possible yet. It is currently unclear whether and when the draft will become actual law. There shall be further political discussions in this regard at the end of January 2021.
Hence, the revenue guidelines from November 6, 2020 are to be still applied. So far, there is no indication that this guideline may be changed or revoked.
As a result, and as already explained in our previous tax alert, Revenue guidance issued on Royalty taxation of IP registered in Germany, dated November 10, 2020, the following steps should be followed:
For the past, non-German-residents should check whether royalty payments for or disposals of German registered IP were made. If necessary, WHT returns on corresponding royalties and/or capital gain tax returns need to be filed, and the corresponding tax payments should be made to avoid consequences under German criminal law. If an applicable DTA provides for an exemption, a refund of overpaid withholding tax could be claimed.
For future royalties it should be considered to apply for a withholding tax exemption certificate in Germany. With a valid exemption certificate in place, royalties can be paid free of withholding tax respectively reduces withholding tax.
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