Germany: BFH – Economic Ownership in Share Trading Around Dividend Record Date

This article summarizes the significant German Federal Fiscal Court (BFH) judgment dated 13 November 2024 (I R 3/21), previous instance: Fiscal Court (FG) Munich, judgment dated 14.12.2020 – 7 K 899/19, regarding the tax attribution of shares in dividend-related transactions.

Guiding principle of the BFH: When determining tax attribution of shares under Sec. 39 AO (German Fiscal Code), the focus must be on who objectively and factually holds the essential rights associated with full ownership of shares, regardless of whether the holder subjectively intends to exercise these rights.

When it comes to share transactions around the dividend date, two legal questions usually come up in the tax context: First, it's important to figure out who the shares are attributed to. Second, a so-called “abuse of legal structures” needs to be checked.

Background on Dividend-Related Share Trading

The tax treatment of share transactions around dividend record dates has been heavily debated, particularly following the "Cum/Ex" scandal. Three main transaction types are distinguished:

1. Cum/Ex Transactions with Short Sales: These involved selling German shares with dividend rights (cum) shortly before the dividend record date but delivering them after the record date without dividend rights (ex). Through foreign short sellers, it was possible until 2011 to exploit banking system inadequacies, resulting in incorrect tax certificates and improper crediting of withholding taxes.

2. Cum/Cum Transactions (Dividend Stripping): Here, shares are sold with dividend rights and delivered on time with dividend rights intact. The goal is to help foreign shareholders avoid definitive tax burdens by temporarily transferring shares to domestic persons who can fully credit withholding taxes.

3. Structured Securities Lending: These transactions involve lending shares from entities where dividends are not tax-exempt to borrowers who can claim tax exemption under Sec. 8b KStG (Corporate Income Tax Act), artificially creating deductible business expenses.

Development of BFH Case Law and Reactions by German Tax Authorities

The topic of dividend-related share trading has a longer history in case law. In its first of several rulings, the BFH recognized that in the case of transactions after the dividend record date, the economic ownership of the acquirer may generally still exist in accordance with Section 39 AO (BFH, ruling dated 15 December 1999 – I R 29/97). In the judgment dated 18 August 2015 – I R 88/15, the BFH restricted this in individual cases, but modified the criteria again in its judgment dated 29 September 2021 – I R 40/17.

The German Federal Ministry of Finance (BMF) issued a letter in 2021 regarding these transactions, which, however, does not yet incorporate the new case law since then (BMF letter dated 09 July 2021, BStBl. I 2021, pages 995 and 1002).

The Current BFH Decision Dated 13 November 2024

The case involved structured securities lending with British shares, which is the third constellation mentioned above. The BFH mainly dealt with the legal question of economic ownership:

• Generally, the borrower as legal owner is also the economic owner of lent shares.
• Economic ownership may exceptionally remain with the lender if the borrower receives only a "formal legal position" or "empty ownership shell".
• However, this exception does not apply when the borrower has "economic disposal authority" - meaning they bear market risks and can freely dispose of the securities.
• However, the subjective intent to exercise rights is irrelevant. Only the objective legal and factual ability to exercise rights matters.

However, the BFH remanded the case to the Fiscal Court for examination of a potential abuse of legal structures (Sec. 42 AO), noting that if the security arrangement served no purpose beyond tax advantages, this could indicate abusive structuring.

Implications for Cum/Cum Transactions

This decision significantly impacts past Cum/Cum transaction assessments:

• Most domestic acquirers likely had the required "economic disposal authority".
• The 2021 BMF guidelines on economic ownership criteria appear outdated.
• Claims by the tax authorities against Cum/Cum transactions being an abuse of legal structures remain difficult to establish, particularly given:
  • The BFH precedent excluding Sec. 42 AO for typical banking transactions (BFH, judgment dated 29 September 2021 – I R 40/17),
  • that the 8^th Senate of the BFH (judgment of 15 November 2022 – VIII R 21/19, BStBl. II 2023, 567) recently also rejected abuse of legal structures in a very similar case (sale of dividend claims) and
  • EU law considerations regarding discriminatory taxation of foreign shareholders and the fact that avoiding EU-law-incompatible taxation until 2012 can hardly be considered abusive.

The decision also affects criminal tax law assessments, as recent court decisions based on different economic ownership criteria may need reconsideration in light of the BFH's clear guidance.