Tax Compliance for Private Equity Funds
We see a lot of light on the side of the Federal Fiscal Court (BFH) and (even more?) shadow on the level of the tax administration or the legislator. Even clear and unambiguous as well as dogmatically impeccable judgments are either simply ignored by the tax authorities or result in a draft bill of the Federal Ministry of Finance, in which an unwelcome case law, which corrects a senseless application or interpretation of the law by the tax authorities, is then reversed by way of a legislative amendment and the original opinion of the tax authorities is simply codified in law.
We had already addressed the treatment of the return of capital contributions to corporations in previous issues of the Financial YearBook and massively criticized this topic area due to the stubborn refusal of a tax-neutral return of capital contributions to third-country corporations by the tax authorities.
Recent supreme court rulings by various senates of the BFH confirm that third-country corporations can also make a tax-neutral return of capital contributions and thus not every repayment of capital by a third-country corporation is generally and fundamentally to be treated as a taxable dividend. This is a clear and unambiguous rejection of the hitherto unyielding and negative stance of the tax authorities with regard to a tax-neutral return of capital contributions by third-country corporations.
Carried interest is an essential component of any typical private equity structure. In the past, there have been different opinions on the tax treatment of carried interest in the case of carry-participants or in the case of private equity funds and their shareholders.
In its ruling of December 11, 2018, the BFH decided that the carried interest in a commercial private equity fund does not constitute a (disguised) remuneration for activities, but a disproportionate share of earnings. Thus, the partial income procedure applies to the Carry Beneficiary to the extent that capital gains or dividends are included in the Carried Interest.
Although the tax authorities treat the carried interest in asset-managing private equity structures as (disguised) remuneration for activities at the fund level as well, the carry beneficiary benefits from the partial income procedure due to the legal anchoring described above. Due to the non-recognition of the disproportionate distribution of earnings in asset-managing private equity funds, shareholders — provided they are individuals — pay tax on their capital-weighted share of capital gains, dividends and interest.
About Dr. Christoph Ludwig
Christoph Ludwig joined BLL directly after completing his business administration studies and doctorate at Ludwig Maximilian University in Munich, where he has been a partner since 1998. Christoph Ludwig specializes in the ongoing management of national and international private equity and venture capital funds and in providing comprehensive advice to wealthy (private) individuals with an entrepreneurial background. The range of services in the private equity sector includes the preparation of annual financial statements and tax returns for domestic structures as well as comprehensive and complete separate and uniform declarations for domestic shareholders of foreign private equity funds, including any AStG declarations.