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.