On 8 June 2021, the Act to Modernise the Relief of Withholding Taxes and the Certification of Capital Gains Tax (Abzugsteuerentlastungsmodernisierungsgesetz - AbzStEntModG) was promulgated; it entered into force on 9 June 2021.
The Act contains many of the new regulations on transfer pricing originally contained in the draft bill on the ATAD Implementation Act.
For taxpayers, the planned changes mean significant tightening and an increased documentation burden.
The path from the ATAD Implementation Act to the AbzStEntModG
In summer 2016, the Council of the EU adopted the Directive laying down rules against tax avoidance practices that directly affect the functioning of the internal market (EU Anti-Tax Avoidance Directive, or ATAD). Although Germany already had extensive transfer pricing regulations, the ATAD was seen as an opportunity to reform these rules. A corresponding draft bill for a law to implement the ATAD was published on 10 December 2019 and a revised draft bill on 24 March 2020.
Surprisingly, however, transfer pricing no longer featured in the ATAD draft bill of 17 November 2020. Instead, it was included in the government draft of the AbzStEntModG of 20 January 2021. But this contained isolated modifications compared to the previous ATAD draft: for example, the new regulations on intra-group financial transactions were left out of the AbzStEntModG draft of 20 January 2021.
In its opinion of 5 March 2021, the Bundesrat recommended that the regulations on intra-group financial transactions be reinstated, but this recommendation was disregarded in the further legislative process. On 28 May 2021, the Bundesrat passed the law, which was promulgated on 8 June 2021 and entered into force one day later. According to the explanatory memorandum to the law, the core purpose of the new regulations is to close ranks with the international view reflected in the 2017 OECD Guidelines.
Stricter documentation requirements - focus on DEMPE functions and risk control
The law provides that an economic approach is to be taken when allocating income from intangible assets - legal ownership alone does not establish a claim to the income. This is to be done on the basis of the DEMPE concept (development, enhancement, maintenance, protection, exploitation) already anchored in the OECD Guidelines. The DEMPE functions are to be identified and remunerated at arm's length. In addition, intra-group business relationships are to be priced in such a way that risk bearing and risk control are in harmony. Here the law is based on the OECD risk control concept. Risk allocations - and corresponding income allocations - that are made solely on the basis of contractual agreements will in future no longer be compatible with the arm's length principle.
The further tightening of documentation rules results from the law on country-specific, company-related documentation ("local file"). In future, the circumstances at the time of transfer pricing must be documented. Accordingly, taxpayers should consider the arm's length nature of their transfer prices in a documentable manner at the time that prices are set. In addition, the "best method approach" will be introduced, i.e. taxpayers must provide precise reasons in the transfer pricing documentation as to why the transfer pricing method they have chosen is the most appropriate. Previously, it was sufficient to follow an “appropriate method”.
Escape clauses for the transfer of functions are largely eliminated
The previous legislation stated that a “transfer package approach” generally had to be applied in the case of transfers of functions, i.e. the cross-border intra-group transfer of functions to foreign companies including the associated opportunities and risks as well as assets. This means that a total price must be determined for the transfer package as a whole (the function to be transferred including the transferred assets). However, there were certain exceptions: in certain cases a complex transfer package assessment was not required, but individual transfer prices for transferred assets could be applied. Under the new law, these exceptions largely do not apply to the transfer of functions, and a transfer package assessment must generally be carried out. The only exceptions are outsourcing cases (e.g. transfers to a contract manufacturer).
Advance agreement procedure/advance pricing agreements regulated by law for the first time
The principles regarding advance pricing agreements, which have thus far been regulated in a BMF letter, are to be codified in law for the first time. This will also involve newly defined fee regulations for advance pricing procedures.
Stricter regulations on intra-group financing are not included in the law
The significant tightening in the area of intra-group financial transactions still contained in the ATAD draft bill of 24 March 2020 ultimately did not find its way into the AbzStEntModG.