Prohibition of deduction for exchange rate losses on debt financing until assessment period 2021
When determining the income of taxable corporations, profit distributions and capital gains from investments in other corporations and associations of persons, among other things, are not recognised (Section 8b (1) and (2) of the German Corporate Tax Act (KStG)) in order to avoid taxation at several levels of participation. This favourable treatment is offset by a general prohibition on the deduction of related profit reductions in accordance with Section 8b (3) sentence 3 KStG. According to sentence 6, which was added in mid-2021, exchange rate losses are expressly not considered reductions in profits with effect from the 2022 assessment period. The German Federal Fiscal Court (BFH) clarified whether this was already the case in certain constellations under the legal situation applicable until the assessment period 2021 in its rulings of 24 April 2024 (case no. I R 11/23 and I R 41/20).
In one case (case no. I R 11/23, ‘EU case’), a Public limited company (AG) based in Germany granted several indirect wholly-owned subsidiaries based in Sweden a loan in Swedish kronor without concluding corresponding currency hedging transactions. The resulting payment claims led to exchange rate losses, which the AG claimed for tax purposes in the year 2009. The BFH finally denied this.
Exchange rate losses on foreign currency shareholder loans generally do not reduce the income of the corporation granting the loan under the legal situation applicable until the assessment period 2021, as they - subject to the other requirements - fall within the material scope of application of Section 8b (3) sentence 4 KStG due to the broad wording. This is because it is intended to cover ‘all’ profit reductions associated with the shareholding and to prevent arrangements in which the share-related deduction prohibition under Section 8b KStG is circumvented by granting shareholder loans instead of equity. Furthermore, it is not market-determined reductions in value but the company relationship that justifies the assumption of the exchange rate risk by invoicing in a foreign currency (instead of in euros).
The BFH does not consider the inclusion of exchange rate losses in the scope of application of Section 8b (3) sentence 4 KStG with effect until the assessment period 2021 to be unconstitutional, irrespective of the new regulation from the assessment period 2022. In addition, the escape clause existed and still exists, according to which the prohibition of deduction for profit reductions does not apply if a third party would have granted the loan under otherwise identical circumstances or would not have reclaimed it. However, as the Fiscal court had not made any findings to this effect in the case in dispute, the BFH referred the decision back to the Fiscal court.
Notice:
Due to the factual uncertainty as to whether the application of section 8b (3) sentence 4 KStG to exchange rate losses is already excluded by an ‘escape’, the BFH did not examine whether and, if so, under what conditions the conformity of the provision with EU law in connection with exchange rate losses is to be denied, and refrained from making a referral to the European Court of Justice due to the status of the proceedings.
Due to the factual uncertainty as to whether the application of section 8b (3) sentence 4 KStG to exchange rate losses is already excluded by an ‘escape’, the BFH did not examine whether and, if so, under what conditions the conformity of the provision with EU law in connection with exchange rate losses is to be denied, and refrained from making a referral to the European Court of Justice due to the status of the proceedings.
In the other case (case no. I R 41/20, ‘third country case’), a German-based AG did not grant an original shareholder loan to its wholly-owned sales subsidiary (Ltda) based in Brazil. Instead, it settled its trade receivables from the Ltda in Brazilian real with a payment term of 90 days without concluding exchange rate hedging transactions. However, Ltda regularly settled its trade payables to the AG in the years 2013 to 2016 well after the agreed payment term. This resulted in a net exchange rate loss in the 2014 year of dispute, which the tax office categorised as a profit reduction for the AG and added to the off-balance sheet. The fiscal court and BFH agreed.
The deferral of trade receivables constitutes a relationship that is economically comparable to a loan within the meaning of Section 8b (3) sentence 7 KStG (old version). This is because the minimum term required in this respect was met with the de facto deferral of the receivables for more than 90 days after the due date. This also served a financing purpose: to provide the Ltda with liquidity in an economically strained situation and thus secure its financial requirements. With regard to the prohibition of deduction for these loan-like shareholder receivables in foreign currency until the assessment period 2021, the BFH argues in the same way as in the proceedings explained above (case no. I R 11/23).
In addition, the exchange rate risks associated with the choice to invoice trade receivables similar to loans in the recipient's national currency (instead of in euros) are caused by the company relationship. This is because - in comparison to equity financing - the shareholder can also make losses in substance due to a realised exchange rate risk tax-deductible. Although the ‘escape’ is also possible in principle in the case of exchange rate losses from loan-like receivables, it does not apply in the case in dispute due to the lack of comparability with receivables from third parties, as these were recognised in euros - i.e. without exchange rate risk. There was no evidence that third parties had waived the recovery of trade receivables due and invoiced in local currency.
Notice:
A deduction of exchange rate losses in the case of third countries is also not required for reasons of European law. The freedom of movement of capital applicable to third countries (Art. 63 (1) of the Treaty on the Functioning of the European Union (TFEU)) is superseded by the freedom of establishment (Art. 49 TFEU) due to the shareholding requirements of more than 25 % in Section 8b (3) sentence 4 KStG.
A deduction of exchange rate losses in the case of third countries is also not required for reasons of European law. The freedom of movement of capital applicable to third countries (Art. 63 (1) of the Treaty on the Functioning of the European Union (TFEU)) is superseded by the freedom of establishment (Art. 49 TFEU) due to the shareholding requirements of more than 25 % in Section 8b (3) sentence 4 KStG.
These BFH rulings are highly relevant in practice due to the numerous outstanding old cases up to the assessment period 2021. This is because the escape clause is also generally applicable to exchange rate losses on shareholder loans and loan-like shareholder receivables in foreign currency if the arm's length comparison is successfully proven. This is also shown by the judgement of the Münster fiscal court from 20 February 2025 (case no. 10 K 764/22 K, ‘third country case’; appeal BFH I R 6/25), according to which in the case of a Limited liability company (GmbH) based in Germany, which had granted two unsecured loans in Swiss francs to its wholly-owned subsidiary AG based in Switzerland in 2015, the exchange rate losses incurred in 2016 after a partial repayment of the loan amounts ultimately did not constitute a reduction in profits. In the opinion of the fiscal court, the arm's length comparison required for an ‘escape’ was fulfilled, as the GmbH had compensated for the lack of collateralisation of its loans by charging a premium on the standard market interest rate and had also proven the arm's length nature of its loans through an external creditworthiness analysis of its Swiss subsidiary AG.