A Hungarian company had a permanent establishment (PE) in Germany. The PE carried out meat cutting work on the basis of work contracts dated 23 February 2017 with the Hungarian company Z Kft.
The PE had concluded a service agreement with A Kft. in which A Kft. undertook to provide administrative services in the area of support for employees posted to Germany and was to receive a fee calculated as a percentage of net sales in return.
Following an audit of the PE the German tax authorities issued an assessment of additional taxabel income based on the German ordinance on allocation of profits to permanent establishments.
Not satisfied with the assessment a complaint was filed by the PE with the Tax Court. In its complaint the PE argued that the tax authorities corrected all of the PE’s sales in Germany without a corresponding legal basis. Contrary to the opinion of the tax authorities, the BsGaV does not constitute a legal basis for a profit correction. In particular, the profit determinations contained in § 30 et seq. BsGaV are not covered by Section 1 of the AStG.
Judgment of the Tax Court
The Court decided in favour of the PE and set aside the tax assessment.
Excerpt (English translation)
“…
3. the aforementioned requirements for a permanent establishment-related income adjustment in accordance with § 1 para. 5 sentence 1 in conjunction with para. 1 sentence 1 AStG are not met in the case in dispute. para. 1 sentence 1 AStG are not present in the case in dispute. Business relationships between the domestic permanent establishment and the parent company, the conditions of which do not comply with the arm’s length principle and thereby reduce the domestic income of the plaintiff with limited tax liability, cannot be established. The Senate cannot recognise any relationships under the law of obligations to be assumed or business transactions with a certain degree of significance.
It is true that the tax office can be agreed that the activities of the parent company, which essentially consisted of negotiating and signing contracts with the client (Z Kft.) and the contracted service company (M Partners Kft.) as well as the recruitment of the employees deployed in the permanent establishment, would have been regulated by contractual agreements if the permanent establishment and the parent company had been independent companies. However, no invoices were issued for these services. The tax audit also made no findings to the effect that transfer prices to the parent company were included in the tax calculation of the profit generated by the permanent establishment (see Flick/Wassermeyer, AStG § 1 para. 2850) and that the profit generated in Germany was reduced in this respect.
However, according to supreme court rulings, the application of Section 1 (5) AStG is directly linked to its para. 1 and is therefore linked to a reduction in income that arises as a result of an agreement on conditions (transfer prices) that are not arm’s length (BFH, decision of 24 November 2021 I B 44/21 (AdV), BStBl II 2022, 431, para. 25 with further references). The tax office’s view that notional mark-up rates may have to be applied in relation to the service relationships between the parent company and the permanent establishment is not accepted. Such factual treatment cannot be inferred from the provisions of the AStG (see judgment of the Nuremberg tax court dated 27 September 2022 1 K 1595/20, IStR 2023, 211).
The wording of Section 1 (5) AStG, and in particular the third sentence thereof, also does not indicate that, outside the scope of application of Section 1 AStG and in particular for the general determination of profits in accordance with Sections 4 et seq. Einkommensteuergesetz (EStG – German Income Tax Act), an assessment would have to be made (solely) on the basis of the people functions performed in the respective parts of the company. A corresponding “spill-over effect” cannot be read into Section 1 para. 5 AStG, also due to the systematic position of the provision in the AStG (see BFH, decision of 24 November 2021 I B 44/21 (AdV), BStBl II 2022, 431, para. 25 with further references).
The Senate therefore does not share the opinion of the tax office that the activities performed by the commissioned companies Z Kft. and M Kft. can be attributed to the parent company as its own activities and thus as the exercise of essential people functions. The aforementioned companies are not the company’s own personnel (cf. section 1 para. 5 sentence 3 no. 1 AStG, section 2 para. 3 sentence 1 BsGaV). The companies also did not work for the company in accordance with § 2 Para. 4 BsGaV on the basis of a partnership agreement or employment contract with the company, but on the basis of a service or work contract. On the basis of the contracts submitted, the plaintiff proved that the “essential people functions” listed by the tax audit were not performed by the parent company, but by the service provider Z Kft. The latter contractually assumed the supervision of the posted employees, the provision of administrative work in the area of the supervision of employees posted to Germany, the preparation of payroll accounting, the registration and deregistration of employees with insurance companies and the organisation of transport and holiday trips home, as well as renting the office in A-Dorf to the plaintiff.”
An appeal has later been filed by the tax authorities with the BFH (I R 49/23) where the case is now pending.
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