Developments in the recent German budget address internationally mobile employees working in Germany, potentially resulting in a payroll withholding obligation for German employers. While pending being approved into law, the proposed regulations could have a considerable impact for employees in certain roles and those who travel to Ger-many frequently for business. If the amendment is ratified, the law should come into force on 1 January 2020.
Economic employer tax trap
Where an employee travels to Germany on business, the relevant double taxation treaty typically provides that Germany can tax employment income, if any of the following criteria are met:
- the employee stays in Germany for more than 183 days in a specific 12-month peri-od/calendar or tax year
- the remuneration is paid by or on behalf of a German employer (economic employer)
- the remuneration is borne by a permanent establishment the employer has in Germany.
Employers are therefore advised, even in cases where the so-called ‘183-day rule’ does not apply, to determine if the other criteria could trigger a tax liability in Germany.
The criteria for an ‘economic employer’ are particularly important. The German tax authorities focus on the economic considerations rather than the civil law aspects of whether an individual has a deemed employment with a German entity. A company will be regarded as an economic employer in Germany, if they meet either condition 1 or 2, and condition 3 below:
- it has borne all or some of the employee’s remuneration,
- remuneration should have been paid by the German business in accordance with the principles of arms-length compensation
- the employee is organisationally integrated into the German company.
Whether or not a cost recharge needs to be made as per the arm´s length principle is often subject to discussions with the German tax authorities and should be well documented.
Previous tax treatment in Germany
Domestic employers are obliged to withhold German ‘wage tax’ and can be made liable by the tax authorities for any wage tax not withheld. However, in case of internationally mobile employees, the current rules provided that an obligation only exists if the German company was charged the costs of the assignment. For example, the German company has claimed and received financial compensation from the foreign company for an employee.
In this context, internationally mobile employees may be taxable in Germany but there is current-ly a regulatory gap where a tax liability exists, but there is no cost recharge to the German entity. The employer is not obliged to withhold wage tax. Accordingly, any tax due is reflected in the employee´s German income tax return.
Planned change in German tax law
The current legislative draft of the Annual Tax Act 2019 provides for the following amendment to address this regulatory gap:
‘In cases of international posting of workers, the receiving company established in Germany…shall be a domestic employer if it bears the remuneration for the work performed or should have borne it in accordance with the arms-length principle.’
In future there will also be an obligation to withhold wage tax in cases where employment costs have not been passed on to the German entity but should have been as per the arm´s length principle. If no wage tax was withheld for the employee, the employer will be liable for the wage tax due at the unfavourable tax class VI, the highest German tax rates for employment income.
The risk of liability for wage tax in connection with international employee assignments to Ger-many is increasing because of the planned amendment to the law.
Employers need to review their internationally mobile workforce and identify the potential tax obligations this generates to avoid unanticipated liability and costs. In the case of assignments to affiliated companies in Germany, it is advisable to document why, or why not, the receiving com-pany should be regarded as an ‘economic employer’ with reference to transfer pricing policy.
Additionally, it may be advisable to obtain a binding wage tax ruling from the German tax authori-ties (Lohnsteueranrufungsauskunft) that would confirm whether a withholding obligation exists.
If you have any questions with regards to these changes please contact: