Germany: Interest rate of 6% for back taxes and tax refunds unconstitutional

The German Federal Constitutional Court held that interest on back taxes and tax refunds of 6% annually is unconstitutional.

Interest rate of 6% for back taxes and tax refunds unconstitutional

The German Federal Constitutional Court held that the interest on back taxes and tax refunds of 6% annually (0.5% per month) is unconstitutional for interest calculation periods starting as from 2014.

However, the current legislation remains applicable for interest calculation periods up through 2018. The regulations are no longer applicable for interest calculation periods as from 2019. The German Federal Constitutional Court has stipulated that the legislator must pass an amendment by 31 July 2022. The interest rate's unconstitutionality generally applies in both directions: in the case of both interest on back taxes as well as interest on reimbursements, both to the benefit as well as the disadvantage of the taxpayer.

Overview

The interest on back taxes and tax refunds concerns income, corporate income, value added and trade tax. This generally encompasses the period between when the tax arises and its assessment ("full interest"). However, the interest calculation period commences only after the end of an interest-free grace period of 15 months, calculated starting from the end of the calendar year in which the tax arose: for example, the interest calculation period for the 2018 corporate income tax assessment period begins on 1 April 2020. On account of the coronavirus (COVID-19) pandemic, the interest-free grace period for the 2019 assessment period was extended by six months to 21 months (start of the interest calculation period generally as from 1 October 2021) and for the 2020 assessment period by three months to 18 months (start of the interest calculation period generally as from 1 July 2022). The interest rate is 0.5% per month (6% per year).

As a result, those affected by the interest are those whose taxes are assessed or amended after the end of the interest-free grace period. In practice, this concerns especially the amended tax assessments after a tax audit, when there is also typically a longer interest calculation period.

The Federal Constitutional Court does not question the interest charged on back taxes and tax refunds as such. However, the prevailing interest rate of 6% annually revealed itself no later than in 2014 – on account of the structural low interest level following the financial crisis in 2008 – as being clearly unrealistic. Even though there was already a discrepancy to the market interest rates for interest calculation periods until 2013, the low interest level had not become so entrenched until 2013, so that it then became apparent that the legal rate of interest was clearly unrealistic and, thus, unconstitutional.

The German Federal Constitutional Court considers the legal rate of interest on back taxes and tax refunds to be unconstitutional for interest calculation periods starting as of 2014. However, such interest on arrears and reimbursements affects only those amounts to be paid for interest calculation periods starting 2019. This is because the court has ordered for interest calculation periods up through 2018 that the prevailing law, i.e. the interest rate of 0.5% per month, continue to apply. Thus, different interest rates could be applicable in cases when the interest calculation period encompasses both periods. The ruling covers all legally collected tax types: income, corporate income, value added and trade tax.

The legislator is now obligated to adopt a new constitutional regulation by 31 July 2022. This can, but need not necessarily, affect interest calculation periods before 2019. According to the Federal Constitutional Court, it is at the legislator's discretion to select either a fixed interest rate or a floating rate linked to a suitable reference interest rate. It can be expected that a corresponding draft law will be put in motion only following the German general elections on 26 September 2021. Courts and administrative authorities may no longer use the unconstitutional interest rate for interest calculation periods starting in 2019. Ongoing proceedings are to be suspended for all administrative acts that are not yet final and conclusive until the legal amendment is enacted.

Read an August / September 2021 report [PDF 348 KB] prepared by the KPMG member firm in Germany

 

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