New transfer pricing regulations for financial transactions and cash-pool in Germany

New German tax law increases the scope of the required transfer pricing analysis for inbound financial transactions with effect from 1 January 2024 onwards. The new rules will affect any existing or new IC financing, inlcluding cash-pool arrangements.

A new tax law has been introduced in Germany on intra-group financing which could affect your German operations. The new rules define “the German way” on how to interpret the arm’s length principle for inbound financial transactions and as such set the requirements for taxpayers to consider.

In a nutshell some key outtakes:

• deviations from the group’s credit rating need to be thoroughly explained and the credit rating analysis of the borrower needs to be linked to the group rating,
• a debt capacity analysis is now compulsory, and
• a detailed factual and functional analysis needs to be prepared for cash pool leaders and financing companies earning a non-routine reward.

Any existing or new IC financing (including cash-pool arrangements) will be affected by these new rules.

What happened in the legislation process?

On 27 March 2024, the “Growth Opportunities Act” (German: “Wachstumschancengesetz”) was promulgated in the Federal Law Gazette. In the Außensteuergesetz (“Foreign Transactions Tax Law”), the law now stipulates specific, novel rules for income corrections for financing transactions between related parties.

Which intra-group transactions are affected?

All cross-border intra-group inbound financial transactions, in particular loans. Also, group cash pools and inhouse banks are affected.

Key contents of the new TP regulations on intra-group financing

The legal principles on arm’s length analyses in connection with intra-group financing were extended to include provisions on the deductibility of interest expenses and the classification of routine financial services (new paragraphs 3d and 3e, respectively, in Section 1 Foreign Transactions Tax Law).

Deductibility of interest expenses

Interest expenses of a domestic taxpayer arising from a cross-border financial transaction are generally only tax deductible:

• if the domestic taxpayer demonstrates that he could have provided the debt service from the issue/renewal date (“Debt Capacity Analysis”) and that the financing is commercially necessary as well as used for the purpose of the business (“Business Purpose Test”); and
• to the extent the applied interest rate is equal or below the interest rate that would be granted by an external third party based on the group credit rating. If it is proven in individual cases that a rating derived from the corporate group rating (“Credit Rating Analysis”) corresponds to the arm‘s length principle, this must be taken into account when calculating the interest rate (“Interest Rate Analysis”).

Routine financial services

The new law classifies a pure brokerage service or forwarding of a financing transaction as well as typical treasury functions (such as liquidity management) or activities as financing company as a low-function and low-risk service (which is to be rewarded with a routine compensation). An exemption for a non-routine compensation is possible if the taxpayer evidences a more complex profile for the financial service providing company based on a functional and risk analysis (which would conversely allow a non-routine reward).

Effective date

The new legislation is effective from 1 January 2024. Based on the wording of the new law it should be expected that the German tax authorities will apply the new legislation also to existing intercompany financial transactions (i.e. to those incepted prior to and still effective after 1 January 2024).

If you would be interested in more information about this new regulation, please contact us.