BFH rules on how to determine typical market rates for intra-group loans

The Bundesfinanzhof (BFH) – Germany’s Federal Fiscal Court – ruled on May 18, 2021 that the preferred method for determining whether the interest rate on an intra-group loan reflects the typical market rate is to compare prices (case ref.: I R 4/17).

If a company loans money to another company that is part of the same corporate group, the interest rate may be used to shift profits from one group member to a sister company. If both foreign and domestic companies are part of the group, this may also be used to take advantage of lower tax rates at the registered office of the sister company.

We at the commercial law firm MTR Rechtsanwälte note that these kinds of tax arrangements are not what the legislature intended, which is why companies cannot arbitrarily determine the rate of interest; certainly, the tax office only recognizes interest at the rate that would have been agreed between non-related companies. The Bundesfinanzhof has now ruled on the method that the tax authorities should use to make this kind of arm’s length comparison.

In the case in question, a company based in Germany that was part of corporate group had taken out several loans with a company in the Netherlands, with the latter acting as a group financing company. Both the tax office and the fiscal court concluded that the interest rates that had been agreed for the loans were too high, having carried out an arm’s length comparison using the cost-plus method.

This was the wrong approach according to the BFH, which held that the preferred method for determining whether the rate of interest agreed on an intra-group loan reflects the typical market rate is the price comparison method, according to which the interest rate that has been agreed is compared with interest rates in comparable transactions between independent companies that do not belong to the same group. The Court went on to clarify that it is only in cases where this kind of price comparison is not possible that the appropriate rate of interest can be determined using the cost-plus method, which, according to the BFH, is based on the costs incurred by the lender plus a reasonable profit mark-up.

The creditworthiness of the borrower is also an important factor in determining the appropriate rate of interest. The BFH noted in this regard that, in principle, it is the creditworthiness of the individual company and not of the entire group that must be taken into account.

Experienced lawyers can be trusted to provide counsel and assistance should disputes arise with the authorities.