The Court of Justice of the European Union (CJEU) issued a decision on 22 September 2022 in a case involving the German rules on the deduction for final losses incurred by a permanent establishment (PE) in another country, concluding that Germany's disallowance of a deduction for the final losses does not infringe the EU rules on the freedom of establishment. The CJEU followed the opinion of Advocate General Collins released on 10 March 2022.
The case involved a German stock corporation (AG) that had a branch in the UK from 2004 to 2007. In early 2007, the AG decided to close the branch because it was incurring tax losses; as a result, the losses could not be carried forward in the UK for tax purposes.
The AG, therefore, requested that it be allowed to offset the losses of the UK branch against its own profits when determining its income taxable in Germany for the 2007 assessment period, even though the income—and thus the final losses—of the UK branch were exempt from German taxation under the business profits article of the Germany-UK tax treaty. The German tax authorities denied this request, so the AG appealed to the Federal Tax Court (BFH). The BFH was unsure whether the EU freedom of establishment principle required Germany to allow the PE’s losses to be taken into account in Germany so it suspended the proceedings and referred the case to the CJEU to rule on whether the freedom of establishment principle was violated.
The CJEU held that Germany's rules on the deductibility of losses from a PE do not restrict the freedom of establishment principle.
Under EU law, there is, in principle, an obligation to recognize cross-border losses. Otherwise, a taxpayer could be prevented from setting up a foreign PE because it expected that any loss offsets from a foreign PE would be denied, whereas a deduction for losses would be possible if the PE was in Germany. However, this does not mean that every (foreign) loss in Germany must be taken into account; instead, an objective comparison must be carried out.
If Germany, as the AG’s country of residence, waives its right to tax the UK PE based on the Germany-UK treaty, the treatment of the resulting final losses is ultimately also based on the intended division of tax sovereignty. According to the court, however, the situation of the foreign PE in the UK is not objectively comparable with the situation of a domestic PE with a German head office because in the former case the losses are excluded from the German tax base, while this would not be the case where a taxpayer with unlimited tax liability in Germany incurs losses from a domestic PE. Thus, no corresponding loss consideration is required with respect to the freedom of establishment guaranteed under EU law.
The BFH will now implement the CJEU decision in its final ruling in the case.
Roland Speidel
roland.speidel@bdo.de