On the Actual Implementation of Profit and Loss Transfer Agreements

For a consolidated tax group for income tax purposes, a profit transfer agreement must be concluded for a minimum term of five years and must actually be implemented for its entire term. In its ruling of November 2, 2022, case no. I R 29/19, the German Federal Fiscal Court comments in particular on the second-mentioned requirement if insolvency proceedings have been opened over the assets of both the controlling company and the controlled company.

In the case in dispute, a consolidated tax group for income tax purposes was agreed starting in 2006. At the time of the opening of insolvency proceedings on June 1, 2009, the approved annual financial statements for 2006 and 2007 and only provisional annual financial statements for 2008 were available. As a result, the insolvency administrator submitted amended tax returns for the tax group parent for the years in dispute 2006 and 2007, in which, in contrast to the assessments previously subject to review, he no longer declared a consolidated tax group for income tax purposes due to the lack of actual implementation of the profit transfer agreement. The tax office, on the other hand, continued to assume that a consolidated tax group existed. The German Federal Fiscal Court essentially agreed with the insolvency administrator, but referred the case back to the tax court of first instance for further clarification of the facts.

The actual implementation of a profit transfer agreement requires, among other things, the final determination of the correct result under commercial law both at the level of the controlling company and at the level of the controlled company. If a provisional annual financial statement of the controlled company can no longer be corrected due to insolvency and a different result would have to be shown in the final annual financial statement if the accounting principles under commercial law had been applied correctly, the profit transfer agreement is deemed not to have been implemented. As a result, there is an overall (retroactive) non-recognition of the consolidated tax group for income tax purposes. In the case in dispute, this meant that the insolvency administrator obtained tax refund claims to secure the assets and satisfy creditors due to the significantly reduced annual net profit of the controlling company.

Irrespective of this, it must be taken into account that the liabilities from the profit transfer agreement become insolvency claims within the meaning of Section 38 of the German Insolvency Code, which may generally no longer be serviced.