Germany: Arm’s length principle, proposed amendments

Germany: Arm’s length principle

A draft bill to implement the anti-tax avoidance directive (ATAD) includes measures concerning exit taxation, controlled foreign corporation (CFC) rules, and hybrid mismatches as well as measures on the arm’s length principle.


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Further, a legal basis for advance pricing agreements (APAs) would be established.

Arm’s length principle

The legislation would adjust a provision of German law to more closely align with the OECD’s Transfer Pricing Guidelines—specifically the provision on the adjustment of income (§ 1 AStG) would be aligned closer to the OECD Transfer Pricing Guidelines. The proposed changes are intended to clarify and highlight substance-over-form and provide general rules, benchmarked against international practice, for the determination and verification of transfer prices.

In order to determine the arm’s length price, first, the actual price-impacting circumstances underlying the respective transaction to be examined would need to be determined by way of a function and risk analysis, as well as a comparability analysis. At the same time, specific particularities—circumstances that cannot be agreed—of a group would be considered.

Regarding transfer pricing documentation, the threshold for preparation of the “Master file” would be reduced from €100 million to €50 million.

Moreover, taxpayers would be required to electronically submit the records to the local tax authorities within the fiscal year following each fiscal year (at the latest).

Financing relationships

One amendment would be § 1 a AStG-E, providing for an income adjustment for cross-border financing relationships between related persons. The income adjustment would be subject to an expense resulting from a cross-border financing relationship (for instance, a loan) within a multinational group of companies and subject to conditions that:

  • The taxpayer cannot credibly show that (1) from the outset, it could have serviced the debt for the entire financing term, and (2) the financing is economically required and used for the business purpose, or
  • The agreed interest rate exceeds the rate of interest at which the multinational group could finance itself vis-à-vis third parties unless the taxpayer provides evidence that another value corresponds to the arm’s length principle

The new provision also provides for a legal classification of the pure intermediary service or forwarding of a financing relationship, the type of treasury function, and the cash pooling as a low-function and low-risk service (that is to be compensated accordingly—that is, low). The compensation for such transactions would be limited to the risk-free interest rate that would correspond to the term-equivalent interest rate of top-rated government bonds.

Effective date

The proposal on the arm’s length principle would first be applicable for the assessment period 2020. The lowering of the threshold for the Master file would apply as of 1 January 2021. The effective date of the changed filing requirement for records would be set by guidance.

Read a January / February 2020 report [PDF 355 KB] prepared by the KPMG member firm in Germany

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