Germany proposes changes in administrative principles on transfer pricing for intra – group financing

As we informed you in our previous article, the German Growth Opportunities Act introduced significant changes to the transfer pricing rules for intra-group financing from 1 January 2024. The different perspective on compliance with the arm's length principle in transactions has brought many unresolved questions for multinationals on the application of the new legislation. The German Ministry of Finance therefore published a proposal on 14 August 2024 to modify the administrative transfer pricing principles.

The draft contains practical clarifications for taxpayers, including e.g. the following points:

• The deductibility of interest costs depends on whether and to what extent a relevant financing relationship exists. Debt capacity analysis (substantiation of the debt sustainability) and description of the economic necessity and corporate purpose of the borrowing must be performed, while it is expected that there is a reasonable prospect of a return that covers the financing costs. Debt-financed profit distributions (dividend payments) are permissible and the corresponding interest costs in general qualify as tax deductible. In the case of acquisition financing, the inclusion of a capital buffer and the short-term investment in an intra-group cash pool is considered in general as arm’s length.
• The credit rating of the group remains decisive for the determination of the interest rate, unless the borrower’s rating is better.
• The transfer pricing method for the determination of the arm’s length interest rate is in generally the Comparable Uncontrolled Price Method. Low-functional and low-risk financing companies are only entitled to a risk-free return. If additional functions or risks are borne, there is a further transaction between the financing company and the company exercising the control. Only financing activities carried out abroad are regularly to be regarded as low-functional and low-risk, for domestic transactions a function and risk analysis is needed.
• These principles should not apply to loan arrangements entered into before 1 January 2024, unless the loan arrangements were significantly amended after 31 December 2023. However, the application of the rules for low-functional and low-risk financing companies is not grandfathered.

We will monitor the further development of the legislative process. Should you be interested in more details, please contact us.