Multinationals Must Consider German Transfer Pricing Complexities

With the adoption of the German Mindeststeuergesetz, or German GLoBE Rules, at the end of 2023, Germany has fulfilled its requirements under Council Directive (EU) 2022/2523 on ensuring a global minimum level of taxation for multinational enterprise groups and large-scale domestic groups in the EU.

The underlying political objective is to counteract tax structures of large MNEs. These reforms are closely based on the Pillar Two Global Anti-Base Erosion Model Rules.

Against this backdrop, MNEs that operate in Germany should consider the implications of required transfer pricing adjustments to minimum tax calculations for all jurisdictions. They should weigh the advantages of multilateral/bilateral advance pricing agreements versus unilateral APAs and safe-harbor rules in low-tax jurisdictions, and be aware of timing disparities in relation to transfer pricing adjustments for corporate and minimum tax purposes.

Complex Layers

One of the less-discussed implications of the German GloBE Rules is the additional layer of complexity for MNEs on transfer pricing. MNEs must comply with extensive national and international transfer pricing guidance and regulations.

As German tax authorities are adopting increasingly robust positions in relation to these rules, transfer pricing will face even more challenges in the world of Pillar Two. Certain transfer pricing adjustments to MNEs’ income/loss figures are required for Pillar Two purposes if cross-border transactions between related entities are either inconsistently recognized in the accounts of the involved group entities or aren’t in line with the arm’s-length principle. Those adjustments are far from straightforward.

No New Transfer Pricing Guidelines

The good news is that the German GloBE Rules aim to reflect “standard” transfer pricing principles, providing no additional guidance on what is considered to occur at arm’s length. Rather, transfer pricing adjustments under the German GloBE Rules should prevent further increases in double taxation and/or double non-taxation.

The German GloBE Rules, although generally aligned with the proposed Organization for Economic Cooperation and Development GloBE Rules from 2021, contain some modifications addressing unilateral transfer pricing adjustments in low-tax jurisdictions. They also contain proposed OECD provisions intended to prevent the generation of artificial losses within local transactions between related entities.

In essence, there are three different scenarios in which MNEs may find themselves in relation to transfer pricing adjustments.

Scenario 1: No transfer pricing adjustments. If all entities involved in a transaction record the same transfer prices for both financial and tax accounting purposes, and all involved tax authorities agree with those transfer prices, no transfer pricing adjustments under the German GloBE Rules are required.

Scenario 2: Bilateral transfer pricing adjustments. Where an MNE seeks tax certainty by applying for a bilateral/multilateral APA, the respective tax authorities agree what is considered to occur at arm’s length. There’s no double taxation for corporate tax purposes.

As such, further transfer pricing adjustments should only apply if the respective transaction was already reflected in the financial accounts or tax returns of any involved entity before the APA was entered into. Given the time-intensive nature of APAs, this will likely be the case for at least one year within the covered APA period.

Scenario 3: Unequal treatment of unilateral transfer pricing adjustments in high-tax jurisdictions versus low-tax jurisdictions. MNEs often face unilateral transfer pricing adjustments leading to double taxation issues.

Let’s say that during a tax audit, the German tax authorities increase the brand license fee that a German parent company should have received from a related entity located in a low-tax jurisdiction, but a corresponding adjustment isn’t performed in that jurisdiction. Double taxation inevitably arises—at least in the absence of a mutual agreement procedure being invoked.

To avoid further distortions due to an additional minimum tax under Pillar Two, the German GloBE Rules foresee that this already double taxed amount will still be considered while determining MNEs’ income/loss figures for Pillar Two purposes. This will lower the additional minimum tax for the low-tax jurisdiction. Similar considerations apply in case unilateral APAs are negotiated in high-tax jurisdictions.

This mechanism doesn’t apply if the unilateral transfer pricing adjustments occur in low-tax jurisdictions. For example, unilateral APAs in low-tax jurisdictions are disregarded for determining the minimum tax under Pillar Two.

This means that the same minimum tax needs to be paid in the low-tax jurisdiction with or without a unilateral APA. Because minimum taxation can’t be avoided through their use, unilateral APAs and use of safe-harbor rules in low-tax jurisdictions will become less attractive.

Timing Disparities

Transfer pricing adjustments for domestic corporate tax and Pillar Two tax purposes must consider timing disparities.

For example, if German tax authorities apply a transfer pricing adjustment to an intercompany transaction that occurred in 2024 during a tax audit in 2027, these changes would be reflected in the 2024 corporate tax return of the German entity. This applies regardless of whether the adjustment increases or decreases the resulting tax liability.

However, this principle doesn’t apply in the context of the German GloBE Rules. Although transfer pricing adjustments leading to higher tax liabilities are considered in the year the respective change is made, transfer pricing adjustments leading to lower tax liabilities need instead to be considered in the year the relevant transaction occurred. This will have far-reaching consequences because of retroactive recalculation of minimum tax under Pillar Two.

Key Takeaways

MNEs operating in Germany should consider several key takeaways. First, bilateral/multilateral APAs simplify the application of the German GloBE rules and increase overall tax certainty for MNEs. Unilateral APAs and safe-harbor rules in low-tax jurisdictions are potentially less attractive for MNEs due to the German GloBE rules because they are disregarded for Pillar Two purposes.

To prepare for tax audit negotiations, implications of transfer pricing adjustments on possible minimum tax calculations in all jurisdictions must be considered as an additional layer, as MNEs’ overall tax burden may increase. MNEs should be mindful of timing disparities in relation to transfer pricing adjustments for corporate and minimum tax purposes.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Philipp Redeker is an attorney, tax adviser, and partner at Freshfields Bruckhaus Deringer.

Viktoria von Abel is an economist, tax adviser, and associate at Freshfields Bruckhaus Deringer.

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