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Brussels, 18 October 2007

Direct taxation: Infringement proceeding against Germany for its discriminatory rules applied to cross-border loss offset

The European Commission has formally requested Germany to modify its legislation on cross-border loss deduction which the Commission considers incompatible with the principle of freedom of establishment and the free movement of capital in the Single Market. The request takes the form of a ‘reasoned opinion’ (second step of the infringement procedure provided for in article 226 of the EC Treaty). If the relevant national legislations are not amended in order to comply with the reasoned opinion, the Commission may decide to refer the matter to the European Court of Justice.

Whilst losses generated in Germany can be offset without restriction within the same income category and against other income categories, German Income Tax Law (§ 2a, paragraph 1) restricts the scope for offsetting certain types of negative income from foreign sources to income in the same income category, generated in the same foreign state. This represents a difference of treatment of income and leads to higher taxation.

The provision attacked by the Commission (§ 2 of the German Income Tax Law) covers certain types of foreign losses (e.g. from permanent establishments and from the rental of property). For instance, losses from the rental of foreign property can only be offset against income from the rental of property situated in the same foreign country. The provision applies to both resident individuals and companies. In the Commission's view these tax provisions create a disadvantage and hence an obstacle to establishment in another EU state and to the free movement of capital.

The Commission's opinion is supported by the judgment of the European Court of Justice of 29.03.2007 in Case C-347/04 ("Rewe Zentralfinanz") and has been advocated in the Communication of 19.12.2006 [COM(2006)824] on tax treatment of losses in cross-border situations.

The Commission's case reference number is 1998/4684.
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