II. Regulatory framework

All cases that have been revealed involved the suspicion of evading income tax. In some cases, preliminary proceedings were instituted based on the suspicion of evading turnover tax.

1. Turnover tax (VAT)

1. According to German law, the obligation to pay turnover tax only exists if a service (“Leistung”) is rendered in Germany (“Inland”) by an entrepreneur (“Unternehmer”).

According to § 2 of the German Turnover tax Act, a entrepreneur (“Unternehmer”) is a person who performs business or professional work on a self-employed basis. When judging whether “self-employment” in these terms is involved, it does not depend on what the contractual arrangements are called, but on what the case actually is. Self-employment is not involved if the German company in which the work was performed gave precise instructions regarding place, time and content of the work. Criteria for this are fixed working hours and clearly defined work, always at the same place with fixed remuneration. Further evidence would be a constant co-operation with other colleagues, incorporation into the company, an understanding that the consultant has to be present for at least a certain period of time, no own entrepreneurial risk, compensation for overtime, etc. The activities of the IT consultants known in the practice are presently classified as “self-employment”, i.e. the tax office assumes that the person concerned actually is an “entrepreneur.”

Therefore the place of performance becomes essential. This is determined by § 3a of the Turnover tax Act. In the cases in practice that have already been revealed, preliminary proceedings were initially instituted because of turnover tax evasion, because there was the suspicion that the agencies were possibly only pseudo-companies, whose sole purpose was to provide a “Post box” for the purposes of handling payments. This suspicion was not confirmed.

At present, it is mainly assumed – also on the part of the tax offices – that an obligation to opt for turnover tax does not exist in Germany.

2. Income tax

In terms of income tax, according to German fiscal law, the so-called worldwide income principle (§ 1 Section 1 Clause 1 of the Income Tax Act) applies. It states that any person living or normally residing in Germany is obliged in principle to declare all money earned throughout the world to the German authorities and to pay taxes on this according to German law. Whether someone has his residence in Germany is determined according to § 8 of the Income Tax Act, i.e. it depends on the actual domicile or on whether circumstances suggest that a residence is actually being made use of.
The legal situation regarding income tax is therefore quite simple in principle: If a consultant actually receives money via so-called offshore accounts abroad, then from an objective point of view, this is tax evasion.
The result could be different if corresponding money is taxed in a country with which a double tax agreement exists. Such constellations, however, have not been known in practice.

That means that the German tax authorities can demand supplementary tax on income. If one assumes deliberate tax evasion, then the tax statements of the previous 10 years can be altered. Factually, the period is often 11 or 12 years because the 10-year period does not usually commence with the end of the year.

In the case of tax evasion, 6% tax evasion interest has to be paid in addition to the remargined taxes.

The tax authorities are currently tending towards lumping together all similar cases. This goes to such lengths that tax statements were even issued in cases where it was only determined that on the part of the contracting company, more money was paid to the agencies than the consultants received (after deducting agency and handling fees between 4% and 20%).

In the end, speculations form the basis of the work. Such tax estimations are likely to have exceeded the limitations of what is constitutionally permissible. According to the current state of knowledge, there are indications that management companies have kept money for their own purposes meaning the consultant never had access to it. In many cases, those involved did not even know that in some cases, the contracting companies paid the agencies much more money than the consultants received themselves.

It will be a bit more difficult in those cases where offshore or trust accounts were actually opened. If one assumes that these accounts were indeed not usually in the name of the respective consultant, then it depends on whether or under which conditions money flowed in terms of § 11 Income Tax Code. The reason for this is that consultants usually have to pay tax on income as soon as they have the economic power to dispose of the money. This is the case when the consultant can factually determine what happens to the money. To do this, it is at least essential for him to know about the money at all.

The tax investigations are of the opinion that the consultants disposed of the money at that moment when they instructed the management company to keep the money in a prefix number account.

That is too general. Each individual case will rightly have to be investigated separately. In particular, one can presume that many consultants were by no means aware of the money the agencies received.

Some examples:

1) The consultant A had money for his retirement paid to an account abroad on a regular basis and paid no tax on it.

* In this case, there is obviously the obligation to pay taxes in Germany.

2) Consultant N was paid extra money after termination of his work, in order to tide over temporary unemployment.

* In this case, it can be debated whether the consultant already “disposed” of the money at the time it was paid into a trust account or at the time it was paid out to him. This determines the time of the liability to pay taxes – and, where applicable, the statute of limitations.

3) Consultant X was given a loan.

* In this case, the circumstances of this individual case will have to be considered. It rightly depends on whether the loan was provided at the usual market conditions, i.e. whether there are, for example, clear regulations about credit securities, interest and terms of repayment.

4) Consultant Y was promised orally that money is at his disposal on call. However, he has never seen it. Now, after the allegations against the management companies became public, he was denied payment. There are no agreements in writing.

* If, in this case, one would insinuate that the money that flowed is to be assigned to the consultant as income to be taxed, this would mean that the person concerned would have to pay tax on money he never received.

In reality, sums far exceeding 100,000.00 Euros are often involved. If the tax office were to assert their general suspictions, this could mean the person concerned faces a financial ruin.