German Federal Tax Court rules that German dividend withholding tax must be refunded to nonresident funds

• The German Federal Tax Court has published long-expected decisions in discriminatory taxation cases of two European domiciled investment funds.

• The court concluded that German dividend withholding taxation of nonresident funds in the years 2004—2017 violates the free movement of capital under Art. 63 TFEU.

• Further, the nonresident funds must receive a refund for the tax withheld in violation of European Union (EU) law, plus interest.

• Investment funds from EU and non-EU countries should review the decisions to determine whether they are affected by them.

Executive summary

On 22 August 2024, the German Federal Tax Court (BFH) published long-expected judgments in the discriminatory taxation case of a French FCP1 (Ref. No. I R 2/20) and a Luxembourg SICAV2 (Ref. No. I R 1/20). Ruling for the claimants, the BFH decided that prohibiting foreign funds from claiming the German withholding tax exemption on dividends applicable to domestic funds was discriminatory and violated the free movement of capital under Art. 63 of the Treaty on the Functioning of the European Union (TFEU). The nonresident funds must be refunded the tax withheld, plus interest, the BFH determined.

The BFH concluded that the applicable statute of limitations for tax reclaims is four years, commencing in the year after the dividend was paid.

The court remanded the case to the lower tax court to determine the exact refund amount and interest amounts.

The discriminatory German tax law was in place for the years 2004 — 2017. In 2018 Germany amended its tax rules to equalize taxation of resident and nonresident funds.

The decision is based on the free movement of capital and is therefore also relevant for investment funds resident outside of the EU.

Detailed discussion

Discriminatory tax treatment of nonresident investment funds

In its decision of 13 March 2024, the BFH referred to the decision of the Court of Justice of the European Union (ECJ) in the case L-Fund (C-537/20) and ruled that generally these non-German investment funds are eligible for a refund of withholding tax on dividends for tax years prior to 2018, because the tax exemption granted only to German resident investment funds under the regulations of the German Investment Tax Act as applicable in the years 2004 — 2017 gives rise to a discriminatory treatment and violates the free movement of capital (Art. 63 TFEU).

Discrimination is not justified by the principle of coherence of tax systems nor balanced power of taxation between Member States

While Section 11 of the German Investment Tax Act as applicable for years 2004 — 2017 exempted German resident investment funds from dividend taxation, non-German resident investment funds were generally subject to a withholding tax on dividends of 15%. In line with the decision of the ECJ in the case L-Fund (C-537/20), the BFH outlines that such treatment is neither justified by reasons of the coherence of tax systems nor by the principle of balanced power of taxation between Member States.

Interest payments

The BFH also held that, according to ECJ case law, Member States are obliged under EU law not only to reimburse the amounts of tax levied in breach of EU law but also to pay interest that is — even if not set forth under domestic law — calculated in accordance with national German provisions.

The BFH ruled that for refund years prior to 2012, the interest period should start six months after the filing date of the claim for refund and, for refund years from 2012 — 2017, interest is to be paid on the period from the levy of the dividend tax until its refund. The court considers this differentiation to be necessary because, for the years up to 2012, domestic funds also initially had to accept a tax deduction when receiving domestic dividends from shares held in collective safe custody in Germany — as is regularly the case in practice — and were obliged to subsequently apply for a refund.

The applicable interest rates should generally be 0.5% per month, but the court left open whether interest rates must be lowered to 0.15% per month for 2019 onward due to changes in German tax law.

Four-year statute of limitations

The BFH also decided that, in the case at hand, the general assessment period's four-year statute of limitations for tax reclaims should apply, commencing after the end of the year of the dividend payment.

Lower tax court will render final decision

Although the decisions make clear that the withholding tax treatment for tax years before 2018 was discriminatory, they are procedurally not the final word. As the court of first instance — the lower tax court had not examined the refund amounts in detail — the BFH remanded the case for further calculation of the exact refund amount plus interest. The lower tax court should render its decision in the upcoming months.

Documentation requirements

In case of the refund claims for 2004 — 2017 that have been filed within the four-year limitations period, the German Federal Tax Office will request further documentation (e.g., certificates of residence, tax certificates, dividend statements, proof of existence, valid account details).

Consequences for non-EU countries

The free movement of capital is not only applicable for investment funds incorporated and resident in EU countries but also for non-EU investment funds.

Other investment vehicles

The most recent BFH decisions cannot be directly applied to other investment vehicles, such as pension funds or life insurance companies. Under German law, special regulations apply to these vehicles. However, European case law, in particular the case College Pension Plan of British Columbia (C-641/173 ), indicates that these regulations, under certain conditions, may violate the free movement of capital as well.

For additional information concerning this Alert, please contact:

EY Tax GmbH Steuerberatungsgesellschaft, Germany

• Katja Nakhai, Munich

• Carola Wehling, Frankfurt

• Jakob Auer, Munich

Ernst & Young LLP (United States), German Tax Desk, New York

• Tobias Appl

• Thomas Schmitz

• Kai Dittmer

• Lennart Michelberger

• Niclas Stahl

Published by NTD’s Tax Technical Knowledge Services group; Carolyn Wright, legal editor

For a full listing of contacts and email addresses, please click on the Tax News Update: Global Edition (GTNU) version of this Alert.