Investment tax reform


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With the adoption of the Investment Tax Reform Act (Investmentsteuerreformgesetz, InvStRefG) dated 19 July 2016 (Federal Law Gazette I, p. 1730), the Grand Coalition has now put into practice a project that had been in progress for several years. The objectives of the reform are to mitigate European legal risks by introducing equal treatment of domestic and foreign funds, and to simplify taxation while reducing opportunities for tax avoidance. This will make it difficult to take advantage of tax loopholes by using far-reaching flat-rate payments. Considerable simplification of taxation is achieved in that the calculation of tax requires only four key figures, which can be determined largely without the involvement of the investment fund.
The start date of the new tax regime is envisaged for 1 January 2018.

The new Investment Tax Law

The InvStRefG forces the banking and fund industry to make considerable efforts to integrate all regulations into their IT systems within the deadline.

We have been following this topic since the first discussions in 2011 and are currently preparing the necessary concepts for implementation. In this our aim is to ensure the timely implementation of the fiscal regulations in SECTRAS on an equal footing with our clients and in close collaboration to meet their individual requirements and wishes.

The input side of the funds, the taxation of investors, the generation of tax certificates, the adjustment of the tax-box interface and many other topics relating to the investment tax reform will all be implemented in SECTRAS.

With CPB as your trusted and reliable partner by your side, the investment tax reform is no longer a daunting prospect.

A summary of the legal changes

The reform of investment taxation makes a radical break with the currently applicable tax law relating to fund units and presents major challenges for the banking world in particular. The overwhelming majority of the tax rules currently applicable to investment funds will become invalid overnight on 1 January 2018, and will be replaced by new, entirely different taxation rules.

One of the essential core ideas of the reform is the abolition of semi-transparent taxation of the holder of fund units. This principle means that those who invest in fund units are currently taxed in the same way as if they had directly acquired the assets (for example, shares, bonds). The fund itself is not subject to taxation, so the gains are passed transparently to the investors, with whom they are then subject to domestic taxation.

In the future this transparency principle will no longer apply to mutual funds. The legislation provides for the principle of separation in taxation, under which both the investment fund and its investors are taxed. For the fund this means that it will in future be subject to (limited) corporation tax liability on certain domestic income, which will be levied by the depositaries in the form of investment income tax at the time of receipt. The investor is subject to a modified cash-flow tax, which is to be observed by the custodians.

Processing of investment funds

In addition to mutual funds, which are now simply referred to as ‘investment funds’, special funds still exist under the new investment tax law, and the previous transparent taxation principle is to apply to investors in these special funds even beyond 2018. However, private investors are not allowed to invest in such funds, nor may they indirectly participate. Although the transparent taxation appears to be familiar at first glance, there are a number of new developments with which the depositaries of special funds and also their investors’ custodians must concern themselves.

The various transparency options for domestic investment income and domestic real estate income, and the necessity for depositaries to record the master data of investors in special investment funds in their systems in order to be able to take account of their tax status on the inflow of income, might be named as examples here.

Summary of the changes for investment funds

  • In the case of distributions, the distributed amount is fundamentally subject to investment income tax. If, however, the fund is in liquidation, it is necessary to differentiate retrospectively between the distribution of capital and an increase in value, and to reimburse the investor’s tax.
  • From 2018, reinvestment must remain tax-exempt. As a substitute for this (and for funds with only minor distribution), the advance lump sum has to be calculated annually and subjected to investment income tax. In the case of purchase during the year, the lump sum is to be applied only on a pro rata basis. If the fund units are held within the framework of occupational pensions or by insurance companies under certain pension annuities or life insurances, or to safeguard old-age provisions for health and long-term care insurance, no advance lump sum is applied. The custodian must therefore store these new facts in the system and take them into account when applying the lump sum.
  • The advance lump sums levied during the holding period must then be deducted from the taxable profit within the framework of the determination of the capital gain. The current complex determination of the results of sales is eliminated, but is replaced by a new way of determining the results, taking into account the accumulated advance lump sums.
  • All the above-mentioned tax-relevant amounts, i.e. distributions, advance lump sums, and capital gains, are subject to a partial exemption that is intended to compensate for the taxation of the investment fund on the income side of the investment, which is detrimental from the investor’s point of view. The level of the partial exemption rates depends on the type of fund, as determined by its investment rules and the investor group. For the purposes of the deduction of investment income tax, the partial exemption rates of private investors apply to all investors.

Transition to the new regime

A particular challenge arises for custodians in the transition phase from today’s tax regime to the new taxation rules. As at the reference date, all fund units must be fictitiously sold and the tax effects thereof stored in the systems until the subsequent sale or redemption of the fund units. Simultaneously with the fictitious sale, a fictitious acquisition under the new tax regime takes place. From this point onwards, all portfolio holdings contain a memo item in the form of the notional proceeds of the sale, which must then be taxed by the custodian bank at the time of the actual sale, in addition to the gains made after 1 January 2018. If the fund company has changed its investment conditions one or more times during the holding period, further memo items will be added, since any change in the type of fund also triggers a fictitious determination of the capital gain, which the banks must store until actual disposal. It remains to be seen whether the hoped-for simplification in banking practice compared to the current taxation on disposal can be achieved here.

Apart from the tax law issues and the necessary adjustments to the IT systems to map the transitional rules, the large number of fund classes affected must also be taken into account. Up to 130,000 funds have to be fictitiously sold and repurchased. In the case of a medium-sized custodian, several million transactions can quickly mount up, which have to be subjected to fictitious taxation under the FIFO principle. Although the legislator has provided a deadline at the end of 2020, making the conversion as early as possible seems to be the less problematic solution.

Useful to know

As well as the mandatory tax changes for funds, CPB will assist its SECTRAS customers with the early conversion of all units to the new regime taking the most automated approach possible.

To this end, the information provided by WM-Datenservice will be continuously and automatically monitored and fictitious sales and purchases will be generated once the conversion data have been published.

The end-user banks can decide – by means of system parameters – whether they want the process to be semi-automated with options for appropriate control, or fully automated.

Your Contact

Sergio do Adro

Head of Customer Development
Phone: +49 (9371) 9786-77

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