Tax penalty for emigration: Drastic tightening of exit taxation in germany

From 1 January 2022, moving away from Germany will become massively more difficult in terms of taxation, especially for family businesses and entrepreneurial families. The new version of § 6 of the Act on the Taxation of Foreign Relations (AStG) will come into force on 1 January 2022 and will bring significant changes. In particular, the interest-free deferral for an indefinite period in the case of departures of EU/EEA citizens within the EU/EEA area will be abolished. In addition, the personal scope of application and the so-called returnee regulation have been revised.

Entrepreneurs who are thinking about leaving Germany for a more business-friendly government must be aware that a move away from Germany may be accompanied by high tax liabilities, due to the so-called exit tax. 

Under certain conditions, people living in Germany who move abroad must pay income tax on their shareholdings in corporations. The tax is levied on the notional profit from the increase in assets when holding a share in a corporation at the time of departure from Germany. This ficti-tious value is taxed as income – without a sale taking place. The reason for this is that in most dou-ble taxation agreements the right of taxation on the profit from the sale of such shareholdings is assigned to the state of residence. By means of an exit tax, Germany therefore secures the right to tax the hidden reserves formed in a corporation up to the time of the exit. 

This already has the effect of making it massively more difficult for all persons who hold shares in corporations of at least one percent, especially entrepreneurs, to leave Germany. Until now, the law had provided for instruments that substantially lessened the obstacles to moving to a country in the EU/EEA area. 

However, under the guise of the European Anti-Tax Avoidance Directive, the German legislator has now also revised the exit taxation for privately held company shares. The following changes have been introduced, which have significant implications for shareholders who are considering leaving Germany. 

Under the current law, individuals who have held at least one percent of the shares in a domestic or foreign corporation in the last five years and who have been subject to unlimited tax liability in Germany for at least ten years are affected by the exit taxation. This 10-year period does not have to be fulfilled in one go, but all periods up to the departure apply. 

With the new regulation in the Implementation Act, the criterion for taxation, instead of the 10-year period, is at least seven years of unlimited tax liability in Germany during the last twelve years. This reduction will already affect a larger group of persons.

The most serious tightening, however, is the abolition of the unlimited deferral. Until now, in the case of a departure within the EU/EEA area, there was the possibility of deferring the tax owed for an unlimited period of time, without interest and without a security deposit, as long as the liable person is a citizen of an EU/EEA state and continues to hold his shares. 

This permanent deferral will no longer exist under the new law and that is precisely the crux of the matter. From 1 January 2021, the tax will be due and payable immediately upon departure. Tax-payers will only have the option, upon application, to pay the tax due over seven years in equal, non-interest-bearing instalments. However, they must provide the tax office with security for this. Company shares will not be accepted as security. 

Considering that no actual sale of the shares has taken place, this can lead to massive liquidity problems for the obligated parties. Especially since the amount of the exit tax depends on the tax-payer’s personal income tax rate. Thus, if a taxpayer is not able to provide a security whose value is accepted by the tax office, the tax becomes immediately due even in the case of a move within the EU. For many people, this can in fact make it impossible to move away from Germany. Other-wise, if they do not want to sell their holdings, they are facing a tax claim that exceeds their liquid assets many times over.

Regarding the European principle of the free movement of persons, it is therefore extremely doubtful whether this provision will remain in force. Compared to domestic moves, moves within the EU/EEA area will be less taxed by the reform of exit taxation.

In relation to Switzerland, which is considered a third country in this respect despite the Agree-ment on the Free Movement of Persons, the European Court of Justice recently ruled on the im-mediate due date of the exit tax. In its judgement of 26 February 2019, it ruled that the immediate taxation of the increase in value of a share in a corporation at the time of the departure to Switzer-land violates the Agreement on the Free Movement of Persons concluded between the European Union and Switzerland. 

The reaction of the German legislature to this ruling speaks volumes. Instead of equal treatment of Switzerland based on the FMPA, it was made clear that in the case of a move to Switzerland, the tax must be paid in five equal annual instalments, interest must be paid on these instalments and a security must be provided. There is therefore no such thing as equal treatment. 

The new version of the exit taxation, which will come into force on 1 January 2022, will in no way correct the unequal treatment. The German government’s solution no longer differentiates be-tween EU/EEA and third countries but treats all departures from Germany as if they were third countries. There is no longer any differentiation as to the relationship of the other state to Ger-many. In practice, this means that the German tax authorities are in fact restricting the freedom of movement for business-related departures to Switzerland and other countries and circumventing the legal consequences of the ECJ ruling by treating all countries equally. 

Therefore, anyone who lives in Germany, is subject to departure tax and is considering moving to another country must be aware of these tightening measures. If the place of residence is to be moved to another country in the EU/EEA area, consideration should be given to doing so before the end of 2021. In this way, it is still possible to benefit from the current legal situation and thus from the unlimited deferral. For Germans who want to change their domicile to Switzerland, the bittersweet awareness remains that they will be neither better nor worse off regarding the exit tax starting January 2022 than persons who change their domicile within the EU or the EEA. 

Are you considering moving away from Germany and would like to know more about this topic? For further information or in-depth advice on the tax consequences of a move, the experts at our law firm will be happy to assist you.