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The general election: the implications

The coalition of the Social Democrats (SPD) and the Greens, who won the September 22, 2002 German general elections, resulted in the decision to significantly increase taxes and cut spending as a measure to achieve a balanced budget by 2006. However, Hassan Sohbi of Osborne Clarke does not think the plans to raise taxes in Germany will have a huge impact on the private equity market. Some of the key changes include:

Capital gains on privately held stock and property

Capital gains on privately held stock and property on the sale of stock and real property are currently tax free if the following conditions are met: (i) stock: less than one per cent of the equity of the company and held longer than one year after the purchase, (ii) property held for 10 years. Under the new tax regime capital gains would be fully taxable irrespective of how long the asset was held. However, corporations will continue to benefit from the main tax reform of 2001 under which capital gains derived from the sale of holdings of corporations in other corporations and dividends received from subsidiaries are tax free.

Bank secrecy rules

Bank secrecy rules will also be relaxed to allow the tax authorities to monitor the correct taxation of capital gains and dividends.

Minimum taxation for corporations and restriction on loss carry-forwards

The use of loss carry-forwards by corporations (AGs and GmbHs) to reduce taxation on current profits will be restricted. Large corporations, in particular, had in many cases not paid taxes in Germany because of the size of their loss carry forwards, quite often generated by foreign subsidiaries. Under the new tax regime corporations will have to pay corporation tax on at least half of their current fiscal year profits irrespective of any loss carry-forward and could only carry a loss forward for seven years. Loss carry forwards will not be useable if over 50 per cent of the interests in a corporation are sold.

“The proposed measures have been heavily criticised by many,” says Sohbi. The Association of Small Shareholders feels that private stockholders are being treated unfairly, since corporations will continue to enjoy the tax break introduced in 2001. The industrial associations have announced that they are considering contesting the minimum taxation rules before the Federal Constitutional Court. One of the negative effects will be that it will eliminate the use of loss carry forwards which may become a deterrent for the acquisition of companies in a turnaround situation.”

“Whether these measures will be passed is uncertain,” says Sohbi since they will not only have to pass the Federal Parliament (Bundestag), but also the Federal State Assembly (Bundesrat), in which the opposition parties hold a majority. “However, it is doubtful whether the opposition will actually block these measures, as some may prove popular, in particular the plan to introduce a minimum corporate tax,” he said.