German Ministry of Finance Releases Final Manufactured Dividend Rule Guidance

On 15 May 2018, the German Federal Ministry of Finance issued the final guidance on the application of the new provision of the of the German Investment Tax Act 2018 (“InvTA 2018”) introduced on 1 January 2018, taxation of income from securities lending and repos relating to Investment Fund pursuant to sec. 6 para. 2 and para 3 no. 2 InvTA 2018 also referred to as the “Manufactured Dividend Rule”.

It is largely in line with the draft guidance issued on 25 January 2018. However, there were some notable amendments, which EY, ISLA’s advisor, have summarized as follows:

1.      The final guidance clarifies that only transactions conducted over the dividend record date are in scope of the MDR. This is different from the draft which included both transactions conducted over the record date as well as the payment date. The payment date notion was removed in the final guidance in response to the industry comments. This amendment is indeed welcomed, however it is only a correction of a technical error contained in the draft and not a substantial change.

2.      The final guidance clarifies that for the purposes of the MDR, a German branch of a foreign borrower is treated as a German borrower and a foreign branch of a German borrower is treated as a foreign borrower. This statement was included in the final guidance as a reaction to the industry requests asking for an explicit clarification of what was already a common understanding among commentators and practitioners. Again, this is a welcomed clarification.

3.      The section regarding central counterparty securities lending program (the “Eurex Clearing” section) has been expanded to provide conditions under which a CCP would not be treated as a relevant borrower / lender when interposed in a securities lending chain. The most important conditions is that the CCP informs each initial lender and borrower on the invoices / clearing vouchers pertaining to the each transaction that the withholding obligation, if any, was not transferred to the CCP, but rather remains with the initial borrower, and to include the names of the initial transaction parties in such clearance documents. The purpose of this provision is obviously to ensure that a German borrower remains aware of its withholding obligation depending on the tax status of the initial borrower (i.e. whether it is a fund or not) and to ensure monitoring / compliance. We understand that if a CCP (Eurex Clearing) would fail to meet the aforementioned notification obligation, the withholding obligation, if any (depending to the tax status of the lender), would be transferred to Eurex Clearing.

The final guidance now expands this CCP rule to also include Agency Lending scenarios (i) which are comparable to the CCP lending, and (ii) where the initial lender and borrower know each other. It remains largely unclear which cases are exactly meant by this provision, since agency lending is not necessarily comparable to the CCP lending. However broadly it appears that the rule would transfer the withholding obligation on a German agent lender, in the cases it does not includes the notifications and disclosures as described above in its invoices or other “clearance” documents. EY will try to obtain further clarification of this point for the tax authorities.

4.      The rules regarding the tax collection mechanism were substantially redrafted. According to EY, the amendments are the result of discussions within the tax authorities regarding the allocation of responsibility for the tax assessment and the most efficient tax assessment procedure from the tax authorities’ point of view.  The new rules, even though somewhat complexly written, EY suggest they provide for the following procedure:

  1. In the case of a German borrower, the tax is levied by the way of withholding and there is no further tax filing obligation for the lender. Hence, no changes to the procedure provided in the draft guidance.
  2. In the case of a non-German borrower (or if the German borrower failed to withhold at the applicable statutory tax rate), a non-German lender has to notify the Federal Fiscal Office (Bundeszentralamt für Steuern, “BZSt”) that it has received income subject to the MDR, which was not subject to withholding. This notification can be combined with a claim of a treaty benefits to ensure these are considered by BZSt when assessing whether any tax is due.  Depending on the outcome of the assessment, BZSt can than request a payment of tax by sending an assessment notice to the fund.

This notification procedure was obviously designed to remove the necessity for BZSt to establish an infrastructure for the administration of corporate tax return filings by lending investment funds as initially envisioned in the draft guidance. However, at this stage it is not clear, what level of detail will be required to be included in the notification to BZSt and whether there would be a specific format requirement for the notification. EY would expect that the information required for the purposes of the notification, the applicable filing deadlines etc. would eventually match what would be required for the purposes of the corporate return filing. Therefore, from the lending funds’ point of view the compliance procedure established in the final guidance will in EY’s view most likely not substantially reduce the compliance cost.

For the sake of completeness, it should be mentioned that the aforementioned procedure in the case of “no” or “insufficient” withholding is largely the same for German lenders, except for the fact that the notification should go to the respective locally responsible tax office. It can also be expected that German funds would have to include the income subject to MDR in their tax returns.

The ISLA Tax working group will review the final guidance and decide on next steps. Please direct any questions to Steve Raddon,, who chairs the ISLA tax working group.

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