Practical experiences on the German anti-treaty shopping rules

15 December 2008

Dr Patrick Sinewe, Dr David Witzel

Germany has introduced new anti-treaty shopping rules which came into force from FY 2007 onwards. The new anti-treaty shopping rules limit the possibility of obtaining withholding tax relief.

In our experience, the German tax authorities apply the new anti-treaty shopping rules strictly. In particular, if “off-shore” jurisdictions such as Switzerland or Lichtenstein or other typical holding locations such as Luxembourg or The Netherlands are used, German tax authorities tend to scrutinise the structure to determine whether the new German anti-treaty shopping rules apply. To achieve this, they regularly send out extensive standardised questionnaires to taxpayers applying or withholding tax relief.

German withholding taxes on dividend payments

Generally, Germany imposes withholding taxes on dividends distributed by German corporations to foreign parent companies at a domestic tax rate of 21.1% (in FY 2008) irrespective of whether such dividends are exempt from German tax under a double tax treaty or the EU-Parent Subsidiary Directive.

The above rule does not apply where the recipient of the dividend is in the possession of a withholding tax exemption certificate. In such a case, the distributing corporation is allowed to exempt the dividends from German withholding tax. Such withholding tax exemption certificates can be obtained upon application from the German Federal Tax Office. Generally, such an application procedure may take up to 3 months.

The withholding tax exemption certificate is granted if the requirements set out in the double tax treaty or the EU-Parent Subsidiary Directive are met. This is usually the case if the parent company holds a minimum shareholding over a specific period of time. However, the most important condition for granting a withholding tax exemption certificate (or alternatively for granting a withholding tax refund in cases where the withholding tax was already paid) is that the conditions under the German anti-treaty shopping rules are met.

Anti-treaty shopping rules


Pursuant to the anti-treaty shopping rules, a foreign entity will not qualify for tax relief under the EU-Parent Subsidiary Directive if it is owned by shareholders who would not be entitled to such tax relief if they derived the income directly, unless all of the following requirements are met:

  1. There are relevant economic motives or other valid reasons for the interposition of the foreign entity (“business purpose test”);

  2. The foreign entity engages in general commercial transactions through a business organisation appropriate to its business purpose (“commercial activity test”); and

  3. The foreign entity must derive more than 10% of its total gross earnings from its own business activities (“10% gross receipts test”).

If the above requirements are not met, the dividend distributed to its direct shareholder will be taken (for tax purposes) to be distributed to the shareholder of the dividend recipient (next shareholder in the corporate chain). Where the direct shareholder of the holding company receiving the dividend is entitled to treaty benefits, these benefits will be available.


Under this scenario, Lux Co is a wholly owned subsidiary of US Co and also holds 100% of the shares in German Co. Assuming that Lux Co has no substance in the meaning of the German anti-treaty shopping rules, the dividends distributed by German Co to Lux Co would be deemed to be distributed directly to US Co. Therefore, German withholding tax can be reduced to the extent that the US tax treaty between Germany and the USA provides for a withholding tax reduction. However a 0% withholding tax rate under the EU-Parent Subsidiary Directive will not be available.

Business purpose test

This test will be met if a business reason for the interposition of the foreign entity exists such as an operating branch or a production facility in the foreign country. In our experience inbound investments in Germany are usually made through foreign holding companies. Such holding companies rarely meet the business purpose test as they generally do not carry out their own business or trading activities but simply hold the shares in the German company.

However, the business purpose test can also be met if a corporation is interposed for legal, political or religious reasons. Mere organisational reasons (i.e. integration into a group-wide structure, inheritance planning) are generally not sufficient to meet the business purpose test. A legal reason might be the implementation of a stock option plan at the level of the holding company. Also, the execution of management functions should generally be a valid business reason.

Commercial activity test

The corporation receiving the German dividends has to engage in commercial transactions through a business organisation appropriate to its business purpose. In particular, the corporation should employ its own personnel and should maintain a fully furnished office with telephone, email accounts etc.

The commercial activity test will not be met if the business activity is restricted to the mere administration and holding of the German companies. In particular, the German tax authorities will not accept that the test has been met if the holding corporation outsources all material business activities to third parties.
Consequently, most holding companies (i.e. without a business activity) do not generally meet the commercial activity test. However, a circular issued by the German tax authorities provides an exception to this rule, namely, that a holding company will satisfy the commercial activity test if it is a “management holding company”.

Management holding companies are companies that engage in the active management of their subsidiaries. In determining this, the tax authorities apply a rather strict test. Minor management functions would not be sufficient. Moreover, the test would not be satisfied if the management functions are outsourced to law firms or management entities. Also, a purely financing or licensing function is not satisfactory. Instead, the management holding company must have at least two subsidiaries and actively influence the business of the subsidiaries. To satisfy this, it is essential that strategic and fundamental decisions with respect to the business of the subsidiaries are taken at the level of the management holding company, and that only the day-to-day business takes place at the level of the subsidiary.

10% gross receipts test

The purpose of the 10% gross receipts test is to ensure that the foreign company carries out its own business activities in Germany. The income has to be generated though business activity. Dividends, interest etc. do not qualify as income for the purposes of the 10% gross receipts test. Therefore, pure holding corporations usually cannot meet the test. However, there is one exception recognised by the tax authorities. Under the exception, all income derived from subsidiaries that are actively managed by a management holding company is considered as earnings from business activities of the management holding company. Hence, dividend income and other (passive) income (e.g. interest, royalties) generated from actively managed subsidiaries will qualify for the 10% gross receipt test. Thus, management holdings should generally not trigger the anti-treaty shopping rule.

Questionnaire regularly used by the German tax authorities

In our experience the tax authorities usually ask a number of very specific questions regarding the group structure, the description of the business activities and the management. In particular, we have been asked the following questions/information when applying for a withholding tax exemption certificate:

Group structure

  • What persons/companies hold ownership interests in the Parent Company? Please list their names and exact addresses. Where more than one person/company holds an ownership interest in the Parent Company, please state the percentage of their ownership interest. Corporate group relationships must be set out in detail. In what domestic and foreign entities does the Parent Company hold ownership interests? 

Reasons for interposing the Parent Company

  • What were the determinative reasons for the interposition of the Parent Company? Please address this question thoroughly.

Description of the business activity

  • Does the Parent Company carry on an (active) economic activity of its own? Please submit the Parent Company's current balance sheets and income statements. Consolidated financial statements are not acceptable as evidence. 

  • In the country where its registered office is located, does the Parent Company have its own business organisation appropriate to its business purpose or merely a permanent establishment, an administrative office, or its registered office? 

  • Please submit an organisational plan for the foreign entity showing the functional areas and providing details on the responsibilities assigned to them.

  • Since what date has the Parent Company maintained its own business organisation? Please submit appropriate substantiating evidence, such as rental agreements. 

  • Does the Parent Company have its own telephone and fax lines? Please list the numbers of the telephone and fax lines and submit the corresponding billing documentation. Please also indicate e-mail and internet addresses, if any. 

  • How many individuals does the Parent Company employ and what responsibilities have been assigned to them? Please submit employment contracts and social insurance registration paperwork. Kindly document payment of salaries. 

Personnel /management

  • Which individuals have management authority in the following areas: commercial management, production, sales/marketing, and administration (names and exact addresses)? Who directs the business / makes the decisions? Who has the necessary knowledge of the industry?

  • What is the principal’s profession / occupation of the general manager / director? Does the director / general manager perform additional functions, e.g. for other firms or companies? In the case of a foreign director / general manager, is this person a lawyer, legal advisor, consultant, tax advisor, certified public accountant, or a fiduciary entity? Are salaries in fact paid to the directors / general managers? What is their annual amount?


Due to the strict German anti-treaty shopping rules, it is almost impossible for a typical holding company to obtain relief from withholding tax.
In such cases, careful consideration should be given to ensuring that the necessary substance is created for the holding company so that it can satisfy either the business purpose test, commercial activity test or the 10% gross receipt test.

However, the benefits of satisfying one of these tests should be weighed against the costs as we have found that creating the necessary substance can be very expensive especially considering the need for additional personnel.

Therefore, it may be appropriate to consider other means of repatriating profits from dividend distributions. The implementation of a “silent partnership” model could be considered whereby the profit of the German subsidiary could be distributed without triggering German withholding tax.