12. Oct 22

No tax relief on capital gains from privately held equity investment

Capital gains derived from a privately held 100% corporate equity investment do not benefit from the tax allowance and reduced rate of tax under Sections 16 and 34 of Germany’s Income Tax Act (EStG).

If a financial interest in a company is sold, the resulting capital gains can be taxed in accordance with either Section 16 or Section 17 EStG. We at the commercial law firm MTR Rechtsanwälte note that one of the key determining factors is whether the stake is held as a business asset or a private asset.

According to a ruling of Düsseldorf’s fiscal court – the Finanzgericht (FG) Düsseldorf – from January 26, 2022, if a 100% financial interest in a company was held privately, it cannot be taxed pursuant to Section 16 EStG. This means that there can be no recourse to the tax allowance and reduced rate of tax under Sections 16 and 34 EStG (case ref.: 2 K 2668/19).

The plaintiff in the case in question had sold their 100% stake in a GmbH – a type of private limited liability company in Germany – in 2017 and reported the profit as business income pursuant to Section 16 EStG. The tax office, on the other hand, saw fit to tax the capital gains in accordance with Section 17 EStG, reasoning that the lower tax burden under Section 16 EStG is only applicable if the corporate equity interest constitutes a business asset. In this case, however, it concluded that the equity investment had been held privately.

The appeal against the tax office’s decision was unsuccessful. The FG Düsseldorf held that Section 17 EStG applies to the taxation of privately held GmbH shares, and that this does not give rise to a breach of the principle of equal treatment, even in view of the higher tax allowance under Section 16 EStG. The court noted that the former arrangement, according to which capital gains under Section 16 EStG and capital gains under Section 17 EStG were treated equally, had already been abolished with the lowering of the equity interest threshold to one percent of the nominal capital and the change in system to the partial income method.

The FG Düsseldorf went on to clarify that the systems of taxation for partners and shareholders in corporations represent two different sets of circumstances that have to be considered in a differentiated manner.

Lawyers versed in tax law can provide counsel should disputes arise with the tax authorities.

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