New administrative principles on transfer pricing published

Tax authorities concretise the arm's length principle

Shortly before the end of the year, the Federal Ministry of Finance (BMF) published a new edition of the "Administrative Principles on Transfer Pricing - Principles for the Correction of Income pursuant to Section 1 AStG". With these principles, the tax authorities codify their interpretation of the arm's length principle for business relationships with foreign related parties, in particular affiliated companies. It essentially refers to the OECD's Transfer Pricing Guidelines 2022, which are also attached to the new edition. At the same time, it concretises the OECD formulations, which by their nature are quite open, and thus provides tax auditors in particular with an interpretation aid. The new administrative principles will generally replace the previous letter dated 6 June 2023 from the 2024 assessment period. 

Draft on Group financing largely adopted

The early new edition had become necessary, among other things, because new provisions on group financing had been introduced into the German Foreign Tax Act (AStG) with the Growth Opportunities Act. These new regulations make the tax recognition of financing costs in a cross-border group environment - in terms of reason and amount - dependent on certain conditions and also deal with the tax qualification of certain financing services (blog post from 9.4.2024). In particular, the new regulations on the recognition of interest expenses (Section 1 (3d) AStG) had caused great uncertainty among users, as they introduced a large number of undefined legal terms. To counteract this uncertainty, the revised section of the administrative principles on financing relationships was published in draft form in August 2024 (blog post from 20.8.2024).

In the final administrative principles that have now been published, the passages on financing relationships from the draft have essentially been adopted - albeit with some changes.

• With regard to the "ability to service debt" criterion, the explanations from the draft remain unchanged, according to which both follow-up financing and particularly risky financing relationships (e.g. start-ups) are generally to be taken into account and recognised for tax purposes. In the case of short-term capital transfers, in particular from a cash pool, the provision of debt servicing should be assumed on a regular basis. In addition, the rating used at the time the contract is concluded can be used as a credible basis, provided the rating classification is investment grade.
• The criterion of "economically necessary" was specified to the effect that the financing should be necessary for the operation or maintenance of the business activity and should, for example, serve to finance working capital or investments in equipment.
• The "utilisation for the purpose of the company" also continues to exclude the investment of larger amounts in an overnight money account or in the Group's internal cash pool. However, it should be possible to hold liquidity reserves or capital buffers that are customary for third parties - as well as to take out loans for the purpose of distributing profits "within the scope of the company's customary distribution policy".

As in the draft, a hierarchy of the various rating systems applies for the review of the interest rate, whereby the rating of the corporate group (corporate group) is to be used as a basis. In addition, a derivation of the corporate group rating based on the financing costs of the corporate group vis-à-vis external third parties can also be accepted - without the existence of an external rating. The administrative principles provide practical guidance on the transition from group rating to individual rating (top-down) or in the opposite direction (bottom-up).

The administrative principles also confirm that the new regulations will apply in full from the 2025 assessment period - including for financing relationships that were established before the law came into force. In this case, it should be sufficient to substantiate the requirements for recognition as at 31 December 2024. For new financing arrangements or significant changes to existing financing arrangements, the new regulations will already apply in 2024.

Amount B may be used

The second significant change compared to the Administrative Principles on Transfer Pricing 2023 concerns the reference to the simplified OECD approach (Amount B) for basic sales and marketing activities (blog post from 6.3.2024). From the 2025 assessment period, the German tax authorities will generally allow transfer pricing to be determined using the simplified approach - but only in relation to the countries named in the OECD report if a double taxation agreement exists with these countries and they are not non-cooperative tax jurisdictions within the meaning of the Tax Haven Defence Act.

It remains to be seen to what extent the simplified calculations of Amount B will actually significantly change transfer pricing practice for distribution companies in the future. For the time being, the scope of application for German companies is limited to a few and rather exotic countries.

Putting all financing relationships to the test

Even if the tax authorities - as in the draft - stick to their generally business-friendly interpretation, the new statutory regulations on financing relationships represent a considerable burden for the companies affected. From 2025, these will also apply without restriction to existing financing arrangements, so that a review and, if necessary, adjustment at the turn of the year 2024/2025 is urgently recommended. 

BMF letter dated 12 December 2024: Administrative principles for transfer pricing 2024 - Principles for the correction of income in accordance with section 1 AStG