Development of case law on the interpretation of the DTA Germany - Switzerland in 2014

Decisions on cross-border labour income

Details of the regulation for cross-border commuters and interpretation of Article 15, para. 4 DBA

In 2014, the fiscal courts repeatedly addressed the issue of taxation of cross-border labour income. The judgment of the FG Baden-Württemberg of 18 September 2014 (3 K 1837/14) is relevant from two points of view: On the one hand, the court had to assess the effects of an equitable decision on the calculation of non-return days after the decree of the OFD Karlsruhe. On the other hand, the provision of Article 15, para. 4, sentence 1 DBA or the term "director" used there had to be interpreted.

Basic classification as a cross-border worker

In 2009, the plaintiff worked in the management of a Swiss stock corporation and was resident in Germany. The plaintiff and the tax office agreed that the plaintiff had not returned to his place of residence in Germany for more than 60 days because of the work he had done, so he was not classified as a frontier worker (Article 15a, para. 2, second sentence, DBA).

Based on its own calculations, the court came to the conclusion that the 60-day limit had been undercut. This calculation is based on the case law of the Federal Court of Finance (see, for example, Case I R 76/09 of 17 November 2011): Accordingly, days on which the claimant returned to his place of residence in Switzerland from a (several-day) business trip to third countries cannot be taken into account. The same applies to weekends and holidays on which the plaintiff was on business trips. In contrast, the court's calculation of non-return days includes days on which the plaintiff did not stay at his place of residence during a business trip but stayed overnight in Germany. For this constellation, however, the Senate expressly emphasizes that (due to the lack of relevance of the decision) it still leaves open whether it would follow this legal interpretation in a dispute.

Fairness regulation as a basic decision

However, in the Court's view, this calculation of the actual number of non-return days was not decisive for the assessment in the dispute. Rather, it had to be taken into account that the tax office, by way of an equitable decision, recognised more than 60 days of non-return. This equity regulation was based on an instruction of the Karlsruhe Regional Tax Office of 3 May 2010, in which the tax authorities were instructed not to apply the quoted case law of the Federal Court of Finance in the year of the dispute if it was to lead to a lower number of non-return days and the assumption of cross-border commuter status. In these cases, the principles of the understanding agreements with Switzerland (letter from the Federal Ministry of Finance of 19 September 1994, BStBl I 1994, 683 and of 7 July 1997, BStBl I 1997, 723) and the corresponding recognition as a non-return day must be assumed in the interests of the taxpayer.

The Senate considered this equity decision to be binding. It is to be regarded as the basic notice for the assessment of income tax and is therefore binding on the latter (Paragraph 171(10) of the Abgabenordnung (General Tax Code)). In the event of a dispute, this equity measure was final and thus not subject to judicial review.

Autonomous application of Article 15a DBA

Since the plaintiff was therefore not classified as a frontier worker within the meaning of Article 15a DBA, the question also arose as to whether he was subject to the special agreement provision of Article 15, para. 4 DBA for senior executives. This question is relevant to the income attributable to activities carried out in Germany or in third countries. The persons at senior management level listed in the standard are also taxed with regard to these activities in the state of domicile of their capital company, because it is assumed that their activities are particularly closely related to the company's domicile. According to its unambiguous wording, Article 15, para. 4 DBA covers only a limited group of persons with a listed job title.

The plaintiff was entered in the competent Swiss commercial register with the right to sign "collective signature for two". No other job title was applied for registration. In the opinion of the recognising Senate, the registration had nevertheless sufficiently expressed that the plaintiff was performing the activity of a "director". This is the conclusion the Senate reached after a thorough examination of the practice of the commercial register. Accordingly, the relevant commercial register office at the level of the director regularly waives the registration of this job title. The way in which the applicant's activity is structured in contrast to other job descriptions also argues in favour of classifying the activity in the year in dispute as that of a director. According to the findings of the court, the plaintiff also had the power of representation and management of a "senior executive" within the meaning of Article 15, para. 4, sentence 1 DBA, as required by the case law of the Federal Court of Finance.

No binding character of the understanding agreement of 30 September 2008

Finally, the agreement on Article 15, para. 4 DBA (letter dated 30 September 2008, BStBl I 2008, 935), according to which the standard is only to be applied to persons whose function is entered in the Commercial Register for reasons of simplification, remained irrelevant for the Senate. Since the wording of the DTA does not provide any point of reference for this interpretation, the agreement exceeds the permissible "border mark" for the correct understanding of the agreement and is not binding on the court.

Calculation of non-return days

In two further decisions (judgements 3 K 1831/14 and 3 K 1832/14 of 18 September 2014), the FG Baden-Württemberg also dealt with the calculation of non-return days within the meaning of the regulation for cross-border commuters, whereby the focus in these cases was on the special case of the performance of so-called free on-call services. Both plaintiffs were cross-border commuters resident in Germany. In Switzerland, they were employed in a therapy centre or a home for pupils in need of care. Under their employment contracts, they were obliged to perform night work on fixed days following the working day. During these services they slept in a night room in the company. In the case of one of the plaintiffs, he was awakened once or twice at most for business reasons in order to offer comfort to the young people in a short conversation. There were no other stresses during the night.

The understanding agreement in force in the year of the dispute (letter from the Federal Ministry of Finance of 19 September 1994, BStBl. I 1994, 683 and of 7 July 1997, BStBl. I 1997, 723) stated inter alia "A day of non-return is not to be assumed simply because the working time of the individual at his place of work extends over more than one calendar day, either due to the starting times or due to the duration of the working time (...) The exercise of work within the meaning of para. No. 1 of the minutes of the hearing must therefore be considered to be "all periods for which there is an obligation to be present at the place of work by virtue of the employment relationship" (these passages have now been incorporated into § 8 of the German-Swiss Consultation Agreement Ordinance of 20 December 2010).

In the opinion of the FG Baden-Württemberg, the plaintiffs' night service was not a work activity within the meaning of the agreement. At the time of sleep, there was already a lack of activity in itself. In the disputes, a so-called "sleep of the righteous" was to be assumed, since only in rare exceptional cases (at most once or twice per year of dispute) did an interruption of sleep due to work occur at all. In view of the negligible amount of work involved, there had actually been no crediting of working time and only a small amount of compensation for the respective night services. Accordingly, from the point of view of treaty law, the service had been completed with the end of the day's work and the overnight stay in the company constituted a non-return to the place of residence for occupational reasons. Consequently, there was no work activity extending beyond midnight within the meaning of the understanding. This is an approach based on treaty law, so that it was irrelevant to the court that Swiss labour law classifies overnight stays in the company as working time. In the view of the recognising Senate, the result found, according to which the tax law is due to the State in which the activity is carried out, is also justified in the light of the meaning and purpose of Article 15a, para. 2, sentence 2 DBA. Failure to return for more than 60 days documents such "rootedness" in the State in which the work is carried out, which legitimises its right to tax. In the cases in dispute, the special feature was that no compensation for leisure time was granted, but only a small amount of compensation. According to the court, these additional night services, i.e. those performed beyond the normal working hours, argue in favour of a more intensive "rooting" in the country of employment.

While the judgement in the proceedings 3 K 1831/14 is final, a complaint of non-admission was filed in the partial parallel proceedings 3 K 1832/14 (pending under file no. BFH I B 27/15).

Analogous application of hardship compensation to cross-border commuters

In its decision of 27 November 2014 (I R 69/13), the Federal Court of Finance confirmed the application of the hardship compensation scheme in § 46 paragraphs 3 and 5 of the Income Tax Act (hereinafter: EStG) for cross-border workers employed in Switzerland within the meaning of Article 15a DBA.

Tax exemption of additional income under national tax law

The background to the hardship compensation is the "exemption limit" for additional income in § 46, paragraph 2, no. 1 EStG. According to this standard, no tax assessment is to be carried out if a taxpayer does not earn any other taxable income in excess of the limit of 410 euros in addition to salary, where tax is deducted directly from salary. Up to an amount of 410 euros, additional income in these cases therefore remains tax-free. Under § 46, paragraph 3 EStG, this "exemption limit" also applies to the assessment cases of § 46, paragraph 2, nos. 2 to 8 EStG, which is intended to ensure equal treatment of all employees.

If the amount of additional income is just above this exemption limit, § 46, Subsection 5 in conjunction with § Section 70 of the Income Tax Implementing Regulation provides for so-called extended hardship compensation. This mechanism ensures that the impending sudden increase in the burden on workers in a transition zone of up to EUR 820, which may occur if the "exemption limit" is slightly exceeded, is gradually reduced.

Analogous application to cross-border commuters with Swiss (main) employer

In the year of the dispute, 2010, the plaintiff was resident in Germany and employed by a Swiss employer and was therefore a cross-border commuter in accordance with Article 15a DBA. If he had been employed by a German employer, he would have directly benefited from the hardship compensation. In its decision, the Federal Court of Finance (BFH) confirms the view of the Baden-Württemberg Higher Regional Court in the lower instance (3 K 2356/12 of 18 April 2013) and applies the hardship compensation for reasons of equality law analogously to the plaintiff. There was no apparent objective reason to deny a cross-border commuter the hardship compensation which he would have been entitled to without further ado if he had been employed by a German employer. It is true that a Swiss employer does not deduct income tax, so that no direct application of § 46 (5) in conjunction with paragraph 2 of the Income Tax Act. However, since in these cases the taxpayer must be assessed in accordance with the basic rule in § 25, para. 1 EStG, the hardship compensation rules in § 46, paras. 3 and 5 EStG can be applied analogously. Also, contrary to the opinion of the tax authorities, the income from employment received in Switzerland was not considered "non-wage taxed additional income" within the meaning of § 46, Subsection 5, in conjunction with § Section 70 of the Income Tax Implementing Regulation. Rather, the objective of equal treatment requires that such income be regarded as 'principal income subject to income tax', because in this way a frontier worker is able to benefit from the tax advantages which he would have received from a German employer.

Cross-border pensions

Taxation of a withdrawal from a Swiss public pension fund

Proceedings I R 83/11, which the Federal Court of Finance partially concluded with an interim judgement on 20 August 2014, deal with the taxation of a preferential withdrawal for residential property from the insurance fund for state employees of the Canton of St. Gallen.

The plaintiffs are taxable persons resident in Germany who, during the year in dispute, were employed as public employees in the canton of St. Gallen. They were therefore cross-border commuters within the meaning of Article 15a DBA and were subject to German taxation law. The applicant was a member of the Insurance Fund for State Employees. This insurance fund serves to protect against the economic consequences of old age, disability, death and non-renewal through no fault of the insured person. Within the framework of the Occupational Pensions Act (hereinafter: BVG), a distinction is made between the compulsory and the supplementary compulsory pension schemes. The minimum benefits provided for by law are referred to as BVG minimum benefits and the corresponding insurance scheme as BVG mandatory benefits. If the benefits paid by the respective pension funds are higher than the BVG minimum benefits, this is referred to as over-obligation.

Upon request, the insurance fund granted the plaintiffs a lump-sum withdrawal to promote home ownership (so-called advance withdrawal for home ownership), whereby the benefits were paid partly from the mandatory and partly from the supplementary obligation. The tax treatment of this advance withdrawal was disputed. The Senate bases its decision on the judgment of X. Senate of 23 October 2013 (BFH X R 33/10). Accordingly, a termination benefit from a Swiss public-law pension fund with the tax component contained therein is taxable as "other benefit" pursuant to § 22 No. 1 sentence 3 lit. a.aa EStG and not tax-free pursuant to § 3 No. 3 EStG. The right of taxation is thus due to the Federal Republic of Germany as the State of residence in accordance with Article 21 DBA. Since the pension benefits are also based on contributions by the employee, they are not subject to the principle of the State insurance fund in accordance with Art. 19 para. 1 DBA, nor are they to be regarded as a retirement pension in accordance with Art. 18 DBA.

No difference in treatment between compulsory and supplementary benefits

The plaintiffs had raised the issue of differentiating between benefits under the mandatory and the voluntary system. In the opinion of the court, such a differentiation in income tax is not supported by the findings of the FG. As these are legal issues concerning foreign law, there is a procedural obligation in this respect. With regard to the law of agreements, the Senate was also bound by the assessment of the lower court, according to which the advance withdrawal for housing promotion purposes was pensionable, both with regard to the mandatory and the voluntary nature. The First Senate also takes into account the fact that the benefits were partially economically induced by the plaintiff through the legally based contribution payments to the insurance fund. This justifies not qualifying the benefits as remuneration "for services rendered" within the meaning of Articles 18 and 19, para. 1, first sentence, DBA, in the same way as leaving directors of the pension funds.

Taxation under national law

Because of the more far-reaching questions regarding the income tax treatment, the recognizing senate again submits the case to the X. Senate. The First Senate considers it to be relevant to the decision and not clarified whether the so-called advance withdrawal is tax-exempt under § 3 no. 3 EStG. If this question is answered in the negative, the question arises whether the advance withdrawal pursuant to § 34, Subsection 1, in conjunction with para. 2 no. 4 EStG and/or whether the employer's contributions are tax-exempt under § 3 no. 62 EStG (on questions of the income tax treatment of benefits from the Swiss pension fund, see also, for example, the decisions of the Federal Court of Finance (BFH) VIII R 31/10, VIII R 38/10 and VIII R 39/10 of 26 November 2014; BFH VIII R 40/11 of 2 December 2014 and, with regard to the early retirement of a frontier worker under the agreement FG Baden-Württemberg 3 K 1507/13 of 18 September 2014).

Avoidance of double taxation in Switzerland/Tax creditFull flat-rate tax credit even in the case of partial taxation

In two proceedings (2C_750/2013 and 2C_79672013), the Swiss Federal Supreme Court ruled on 9 October 2014 on the impact of the partial taxation or partial rate procedure on the amount of credit for foreign withholding tax. The claimants were taxable persons resident in Switzerland who received dividends from a German company. Under Article 10, para. 1 DBA, this income may be taxed by the State of residence, i.e. in the event of a dispute in Switzerland. Under Article 10, para. 2 letter c DBA, however, the State in which the company is registered, i.e. Germany, may also levy a tax. This so-called base tax amounts to 15% of the gross amount of the dividends. In order to eliminate the resulting legal double taxation, Article 24 DBA provides for a credit mechanism. According to Art. 24 para. 2 no. 2 DTA, from Switzerland's point of view, discharge can be provided by three different methods.

Crediting foreign taxes in Switzerland

In order to implement this, the Federal Council issued the Ordinance on the flat-rate tax credit (hereinafter referred to as the PStAV), which grants the taxpayer a flat-rate tax credit. In this context, "lump sum" means that the relief on all three tax levels (federal, cantonal and municipal) is made in one total amount. However, this crediting is limited in two respects: In accordance with the DBA regulation, there is a maximum amount. The imputation amount may not exceed the sum of the Swiss tax payable on the income (in a ruling of 26 September 2014, 2C_64/2013, the Federal Supreme Court discussed the composition of this maximum amount in detail). And in principle, it is only granted if a domestic tax has accrued at all on this income and thus a double burden has arisen. This basic principle - "no domestic crediting of foreign tax without domestic tax" - is laid down in Art. 3 (1) PStAV.

In order to counteract the economic double burden on the shareholders of corporations or cooperatives, the Swiss tax laws of the Confederation and the cantons again provide for partial taxation systems. Different systems can be distinguished. For example, investment income at federal level is only taxable at 60% (for investments held as private assets) according to a partial income method. At the cantonal level (e.g. § 34 para. 4 of the Tax Act of the Canton of Zurich), so-called partial rate procedures are also applied. In this case, the entire investment income is taxable - but a correspondingly reduced tax rate applies.

This raises the question of the relationship between the systems for avoiding legal (international) double taxation and for avoiding economic double taxation. Article 5(4), first sentence, PStAV provides that 'dividends and income equivalent thereto which are subject only to partial taxation (...) shall be regarded as untaxed income for the part which is exempt from assessment of income tax'.

Application to the crediting of German capital gains tax on dividends

In the dispute proceedings the question arose to what extent the base tax levied at source in Germany could be taken into account for the purposes of the flat-rate tax credit. In answering this question, the Federal Court considers that no distinction should be made between the different partial taxation procedures (e.g. partial income and partial rate procedures) - the various methods differ only in the type of procedure chosen to reduce taxation, but in the end achieve the identical objective. According to both methods, the entire income from investments is taxable - it is only subject to the correspondingly reduced taxation. However, according to the court, the income must be considered "taxed" for the purposes of avoiding double taxation. Accordingly, the assertion made in the first sentence of Article 5 para. 4 PStAV is a "fiction" which is contrary to Article 24 para. 2 no. 2 DBA. The first sentence of Article 5(4) PStAV was therefore not applicable in the case in point and a full flat-rate tax credit was to be granted.

Foreign tax law

Additional taxation on rental income of a Swiss intermediate company

In its ruling 2 K 618/11 F of October 30, 2014, the FG Münster deals with the tax recording of passive rental income of a Swiss intermediate company. In the years in dispute, the plaintiff was the sole shareholder of a Swiss company as well as a company domiciled in Germany whose subsidiary was domiciled in Switzerland. Both Swiss companies generated income from the rental of their Swiss properties, with income tax rates there below 25%. The plaintiff himself had an apartment in Germany and spent at least two days a week there.

Requirements for supplementary taxation according to § 8 AStG for rental income

The subject of the dispute was primarily the application of the Foreign Tax Act (hereinafter referred to as the AStG) to this matter. The court classifies the income as pure rental income and as so-called passive income within the meaning of the AStG. This income is subject to "low taxation" in Switzerland within the meaning of § 8 of the AStG. The only factor to be taken into account is the income tax burden - any property gains tax that may be incurred in the event of a sale should not be added to this calculation.

Acceptance of permanent residence in Germany

A connection of the subject matter of the dispute for application of the DBA results from § 8 para. 1 no. 6 letter b AStG. Income from the letting of immovable property does not constitute passive income if the taxpayer proves that it would have been exempt from tax under a convention for the avoidance of double taxation if it had been received directly by the unlimited taxable person.

With regard to this question, in the view of the Recognising Senate, it could be left open whether the plaintiff had his centre of life in Switzerland and was therefore deemed to be resident in Switzerland under Article 4, para. 2 letter a DBA. According to Article 4, para. 3, sentence 1 DBA, the Federal Republic of Germany may tax a natural person who has a permanent residence in Germany in accordance with the provisions on unlimited tax liability, notwithstanding other provisions of the agreement. According to the case law, a dwelling is a "permanent" if it can be used permanently on the basis of a long-term legal position and is in fact used regularly. It must appear as a contact point for the taxpayer, integrated into the general rhythm of life. The plaintiff fulfilled these requirements by continuously owning an apartment in Germany during the years of the dispute and also living in it at least two days a week.

No tax exemption of Swiss rental income in Germany

According to the court's findings, the income would not be taxable under Art. 3 Para. 3 Sentence 2 in conjunction with Art. 3 Para. 3 Sentence 2 if the plaintiff had a direct connection. Article 24, para. 1, no. 1 DBA has been tax-exempt in Germany. The list in Article 24, para. 1, no. 1 DBA was exhaustive. In the event of a dispute, none of these types of income is exempt. In particular, the Swiss real estate does not serve any permanent establishment located there. This question should only be based on the rental activity and not on any other activities of the company - from the system of Sections 7 et seq. AStG, it was apparent that income from various activities that could not be assessed uniformly had to be considered separately.

In addition, the Court of First Instance states that there are no "profits within the meaning of Article 7", which Article 24, para. 1, no. 1 DBA presupposes. In the view of the recognising Senate, the case law of the Federal Court of Finance can be relied upon in principle for the demarcation of a business activity from private asset management, insofar as Germany is the user state, in the area of property trading. With this, the Senate refers in particular to the so-called three-object boundary (see resolution of the Grand Senate of the Federal Court of Finance of 10 December 2001, GrS 1/989). Applying the relevant standards, no commercial property trading could be established in the dispute.

Community law conformity of supplementary taxation

Furthermore, the FG Münster also confirms the conformity of §§ 7 ff. AStG. An appeal procedure is pending under the case number BFH I R 78/14.

Decisions relating to the Agreement on the Free Movement of Persons

The Agreement on the Free Movement of Persons between Germany and Switzerland is also repeatedly the subject of financial jurisdiction.

Infringement of the Agreement on the Free Movement of Persons by means of the canopied taxation

In particular, mention should be made here of the proceedings 3 K 2654/11 before the Baden-Württemberg Finance Court, in which the latter referred the question to the ECJ for a preliminary ruling on whether the emigration provision in the first sentence of Article 4, para. 4 DBA is compatible with the Free Movement of Persons Agreement (FZA).

According to this provision on the so-called canopy taxation, the Federal Republic of Germany may, notwithstanding other treaty provisions, tax the income originating in the Federal Republic of Germany of a natural person resident in Switzerland who is not a Swiss citizen and who was subject to unlimited tax liability in Germany for a total of at least five years, in the year in which the unlimited tax liability last ended and in the following five years. The background to this "deferment of the entitlement to the agreement for the so-called "latecomer" is the fear of a "tax evasion" to Switzerland.

As a German national moving away,
the plaintiff was subject to the elements of Article 4, para. 4, first sentence DBA. As a cross-border commuter resident in Switzerland, he would also have been taxable exclusively in Switzerland with his income earned in Germany in accordance with Article 15a, para. 2 DBA. However, as the court found that it did not fulfil any of the exceptional conditions of the emigration regulation, Article 4, para. 4, sentence 1 DBA suspends the other provisions of the agreement and assigns Germany the right of taxation.

The FG Baden-Württemberg considers that Art. 7 para. 1 and Art. 9 para. 1 of Annex I FMPA are affected by the DBA provision. The plaintiff is a border worker in dependent employment within the meaning of Article 7 FMPA. Article 9(1) of Annex I FMPA prohibits nationals of a Contracting Party from being treated differently from national workers in the territory of the other Contracting Party with regard to employment and working conditions on the basis of their nationality. Paragraph 2 of this provision extends equal treatment to "the same tax and social advantages as those enjoyed by national workers".

The deciding Senate concedes that the plaintiff is not treated differently as a "national of a contracting party" (namely Germany) in the "territory of the other contracting party" (namely Switzerland). The discriminatory taxation takes place in the Federal Republic itself and thus not by the "other contracting party". In the opinion of the Senate, however, the plaintiff is thus in a situation vis-à-vis the Federal Republic of Germany which is comparable to that of other persons who enjoy the rights and freedoms guaranteed by the Agreement on the Free Movement of Persons. In the opinion of the court hearing the case, he must therefore be able to rely on Article 9(2) of Annex I to the FMPA against the Federal Republic of Germany.

With reference to the case law of the ECJ, the Senate further assumes that the first sentence of Article 4, para. 4 DBA is likely to impair the objective of freedom of movement between the contracting states, which is the purpose of the agreement on the free movement of persons. With regard to the restriction to German citizens, the provision also constitutes a violation of the prohibition of discrimination on grounds of nationality under Article 2 FMPA. Finally, the Senate states that Art. 21 para. 1 FMPA also does not preclude the non-application of Art. 4 para. 4 sentence 1 DBA under European law. According to this provision, bilateral double taxation between Switzerland and the Member States of the European Community shall not be affected by the provisions of the Agreement on the Free Movement of Persons. However, in the opinion of the deciding senate, provisions in double taxation agreements should not contravene the prohibitions of discrimination under Community law. Rather, the application of the DTAs is overridden by the obligation to observe the fundamental freedoms enshrined in the Agreement on the Free Movement of Persons.

The case is pending before the ECJ under case number C-241/14. The decision of the ECJ is eagerly awaited.

Change of cantonal domicile

A decision on the Agreement on the Free Movement of Persons also had to be taken from the Swiss perspective. For example, in its decision of 29 January 2014 (2C_490/2013), the Swiss Federal Supreme Court found that the FMPA had been infringed by certain modalities of the Swiss withholding tax on income from employment. The claimant was a German citizen who had moved from the canton of St. Gallen to the canton of Schwyz in the year of the dispute. In accordance with Art. 38 para. 4 StHG, in this case the intercantonal allocation of the right of taxation was made pro rata temporis. The plaintiff saw this as a disadvantage compared to a Swiss citizen, who in this case would have been taxed for the entire year in the (tax-advantaged) Canton of Schwyz. The Federal Supreme Court confirms an unjustified violation of the ban on discrimination under Art. 2 and Art. 9 para. 2 of Annex I FMPA. In the event of a dispute, the decision could be revoked on the basis of a generally incorrect calculation. The question of the likewise alleged breach of the prohibition of discrimination on grounds of nationality under Article 25, para. 1 DBA could be left open by the court after this result.