Germany’s Tax Attractiveness Pales in International Comparison

International tax competition is increasingly concentrated on companies with high intangible assets. At the same time, decision-makers are increasingly implementing measures to counteract this tax competition – frequently perceived as excessive and unfair –, leading to additional costs for all companies in Germany. In addition, the German tax system is becoming less and less attractive compared to other countries. The interplay of these three developments is posing a threat to the competitiveness of German family-run businesses in particular. These are the findings of a recent study carried out by the Centre for European Economic Research (ZEW) in Mannheim on behalf of the Foundation for Family Businesses in Germany and Europe.

In the study, which analyses developments in international tax competition as well as the effectiveness of fiscal countermeasures, ZEW researchers have found that competition has grown significantly in the past decades. This holds particularly for the field of corporate taxation. This development becomes most evident in the increase in competitive pressure resulting from tax cuts in several countries. The most recent example here is the “Tax Cuts and Jobs Act” resolved by the US government, which has brought about a nationwide reduction in the corporate tax rate from 35 per cent to 21 per cent. While a number of other industrialised countries have either announced or already implemented tax reductions, Germany – which is already a high-tax location – is becoming one of the highest-taxed countries in the world.

The intensification of tax competition is also occurring in the form of “smart tax competition”, with fiscal instruments being designed to attract targeted, highly mobile activities. As a result, countries are developing tax systems that have a strong bias towards intangible assets. With reduced profit tax rates resulting from patent boxes and tax benefits for R&D investments, these tax schemes are particularly tailored to the needs of research-intensive and innovative businesses. The fact that tax competition is increasingly focused on these companies is also reflected in the rising number of EU Member States offering patent boxes. While in 2000 there were only two Member States that had introduced patent boxes, patent box regimes are now in force in a total of 14 EU countries, a trend which benefits especially companies with digital business models. On the other hand, German family businesses, which tend to have higher tangible assets and a higher proportion of value added from traditional business models, are less likely to benefit from this development.

In order to curb excessive tax competition, policymakers have introduced a number of fiscal countermeasures. One of the most prominent measures is the BEPS (Base Erosion and Profit Shifting) project initiated by the OECD, which aims to address tax practices perceived as unfair. However, with the unilateral adoption of licence barriers and the current debate revolving around the introduction of an obligation to report abusive and overtly aggressive tax planning schemes, Germany is “over-fulfilling” the implementation requirements resulting both from the multinational strategies adopted at the EU level and within the framework of the BEPS project. In case of the German licence barrier, the tax deductibility of business expenses for international licence payments is particularly limited. When it comes to the obligation to report tax planning arrangements to tax administrations, there is also the risk that Germany will far exceed the minimum standards set by the OECD, which could also include purely national arrangements. The additional burden resulting from overachieving the BEPS targets affects all companies. Family businesses could be put at a disadvantage, since the potential economic benefits from tax competition are relatively low for these companies compared to the additional costs.

Reducing corporate taxes to strengthen Germany’s competitiveness

As a result of Germany becoming an increasingly less attractive tax location, the preferential treatment of companies with digital business models in tax competition and the fact that the fiscal countermeasures apply to all companies in Germany, the tax environment for family-run businesses is running the risk of becoming less and less competitive. In order to counter these developments, the ZEW researchers recommend a review of the corporate tax burden in Germany. In view of increasing competitive pressure, there is an urgent need for action. Reducing the corporate tax burden, for instance, would not only strengthen the competitiveness of businesses but also discourage companies from shifting real investments.