Germany: Cross-border employee assignments - liability for wage tax?

Europe

The decisive factor for wage tax liability in the international assignment of employees is not who pays the wage.

For the employee, the question is: in which country must the individual pay tax on his salary. The employer, but also the company hosting the employee temporarily, is confronted with the question of whether and in which country wage tax is to be withheld from the employee's remuneration and paid to the tax authorities. In case of mistakes the company may be liable for the wage tax not paid, possibly for salaries paid out over a period of years.

In many cases of cross-border employee assignments, the question of which state is entitled to the right of taxation and whether and who is obliged to withhold wage tax depends on who is to be regarded as the economic employer, not on the duration of stay in the foreign state. The Federal Fiscal Court has now repeatedly dealt with the question of when and under which conditions a company is to be regarded as an economic employer (BFH, ruling dated 4 November 2021 - VI R 22/19).

International treaty law recognises the concept of economic employer

In most cases of short-term employee assignments abroad, the employment contract with the transferring group company continues to exist and the latter remains the employee's employer under civil law.

However, applying double taxation law, the receiving company may be the economic employer if:

  • the company economically bears the wages for the work performed for it;

  • the assignment of the employee is in the employee's interest;

  • the employee is integrated into the work process of the receiving company; and

  • the employee is subject to the company's instructions.

If the receiving company or group fulfils these conditions in the foreign country, the foreign state generally has the right to tax the salary and the receiving foreign company or company group may be obliged to withhold wage tax.

German law has obligations for the economic employer as well

German law requires that the economic employer to withhold wage tax. This applies in particular to cases in which a foreign employee holds temporary employment by a group company in Germany and this company is regarded as the economic employer. If the obligated company does not comply with the wage-tax withholding, it can be held liable for the wage tax not withheld.

Tax authorities want to subject payments of foreign companies to German wage-tax deductions

The Federal Fiscal Court judged the complaint of a German subsidiary of a corporation domiciled in Switzerland. The two companies had concluded a service agreement by which the Swiss company made one of its employees available as managing director (Geschäftsführer) to its German subsidiary in order to fill a vacancy in management. The managing director was also the CEO of the Swiss parent company. The managing director was at the same time CEO and sole shareholder of the Swiss parent company.

The German subsidiary was responsible for the employee's actions. It paid its parent company remuneration for the managing director's services that an independent third party would also have paid, but without an additional profit margin for the parent company. The German tax authorities were of the opinion that the payments to the Swiss company should be subject to German wage tax and therefore issued a corresponding liability notice to the German subsidiary.

BFH: only the reimbursement of wages is not sufficient

The Federal Fiscal Court found that the German host company did not become an employer (and liable to withhold wage tax) only by reimbursing the managing director's salary to the Swiss parent company. This fact replaces the lack of an employment or service contract between the employer and the employee. In addition, however, the other requirements would have to be fulfilled.

It is also necessary that the assignment of the employee is in the interest of the receiving enterprise, that the employee is integrated into the work process of the receiving enterprise and is subject to its instructions.

Bearing the remuneration must actually take place

In the opinion of the Federal Fiscal Court, the mere agreement of a compensation payment between the companies was not sufficient to establish an economic bearing of remuneration.

The fact that the German receiving company economically bears the remuneration of the managing director requires that the agreement has actually been executed and the payments are linked to the remuneration received by the managing director (from the Swiss company). If there is no such connection, the German company does not bear the remuneration. Instead, it is simply a service between the companies whose price component is the remuneration for the managing director.

Activity must be in the interest of the receiving company

The Federal Fiscal Court clearly confirmed that the activity of the managing director must be in the interest of the German receiving company. This was the case here since the appointment of a managing director is typically in the company's own interest. In this situation, the interest of the shareholder – in this case the Swiss company – is usually subordinate.

Integration into the receiving company's work process required

According to the Federal Fiscal Court, a managing director is not automatically integrated into the hierarchy and the processes of a company because he is at the top. In the case of a managing director, a distinction has to be made between the appointment as a representative body according to corporate law and the employment relationship. Appointment and dismissal as a representative body are exclusively corporate legal acts by which statutory competences are transferred or withdrawn. In contrast, the employment for the purpose of acting as a representative body is regularly served by a mutual contract under the law of obligations.

If the relationship can be considered an employment relationship depends on the general criteria for distinguishing self-employed from non-self-employed activities. Therefore, the activities of the managing director of a private limited company (i.e. a GmbH) must be assessed by primarily considering the circumstances of the individual case and not generally the managing director's position as a member of the executive body.

Remuneration not at arm's length can be hidden profit distribution

The remuneration agreed upon between the affiliated companies and the actual payment must be at arm's length. If it is not, the excessive part can be qualified as a hidden profit distribution and not as a payment of wages. In this case, there would be no wage tax but a withholding of capital gains tax.

As a result, an upstream assessment of each individual case is recommended

It has been shown that cases of cross-border employee assignments also arouse the fiscal desires of the tax authorities. It is therefore important to carefully clarify each individual case in advance in order to avoid unexpectedly and unnecessarily becoming involved in tax liability discussions and legal disputes.

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