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German Federal Fiscal Court ruling potentially provides reduced withholding rates to certain US entities

By Timothy Santoli, Rich Williams and Ryan Zucchetto

In a decision dated 26 June 2013 (Doc No I R 48/12, original available here), the German Federal Fiscal Court (a court of last resort in Germany over tax and custom matters) was tasked with determining whether an ‘S’ corporation (a US corporation that is a pass-through for US tax purposes but not for German tax purposes) is considered a US resident under the 2006 protocol of the German-US income tax treaty (the Treaty). Article 10, Paragraph 2 of the Treaty provides in part that if a German company pays a dividend to a US resident, German withholding tax imposed on the receipt of such dividend shall not exceed (i) five per cent if the beneficial owner of the dividend is a company that directly owns at least 10 per cent of the voting stock of company paying the dividend, or (ii) 15 per cent in all other cases. Article 1, Paragraph 7 of the Treaty generally states that if ‘an item of income… derived by or through a person that is fiscally transparent’ pursuant to US or German law, then ‘such item shall be derived by a resident of a State to the extent that the item is treated for the purposes of the taxation law of such State as the income, profit or gain of a resident.’

In the case, the S corporation, a 50 per cent shareholder of a German company, received dividends from the German company. The German court held that the S corporation was considered a US resident for purposes of the Treaty and thus subject to a reduced withholding tax rate of five per cent. In interpreting Article 1, Paragraph 7 of the Treaty, the German Federal Fiscal Court determined that the two references to ‘resident’ did not necessarily imply the same resident…

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