GERMANY - Pension funds will shun German property companies unless the government lifts "disproportionate" tests that allow overseas companies relief on 26% withholding tax, according Ernst & Young.
The European Commission has given the government a two-month deadline to indicate moves to lift a requirement on foreign companies to prove "genuine economic activity". The requirement is part of a raft of anti-abuse measures targeting relief on withholding tax of 26.37% on dividends paid out to foreign investors in German property companies.
In order to qualify, companies - which the government suspects are interposed to secure tax relief - must pass a ‘business purpose' test, prove they earn more than 10% of their gross income from their own economic activity, and demonstrate they have business premises.
The Commission criticised the regulation, not only for its disproportionate 10% rule but because investors have no opportunity to offer counter-evidence.
According to Markus Böhl, a partner at Ernst & Young, pension funds face the same onerous requirements. "Pension funds will be unable to play double tax treaties, for example, unless they pass the three tests set out in anti-tax avoidance legislation," he said.
He added that the regulation had already influenced the way in which investors have structured real estate investments since 2007, when the rules were tightened.
"It's sensible to avoid real estate companies in Germany," said Böhl. "Overseas investors have preferred to use Luxembourg vehicles. It's difficult for foreign investors, because they need to assume that they'll be paying 26% withholding tax."
In other cases, Böhl said in a note published last week, investors could restructure EU holding companies to prove "genuine economic activity".