In its judgement of 4 October 2016 (IX R 43/15, published on 25 January 2017), the Federal Fiscal Court ruled that the capital gain from an equity investment in a company does not lead to income from employment solely if the so-called management participation was held by an employee of the group of companies and was only offered to senior employees. It thus confirms the judgement of the Cologne tax court of 20 May 2015 (3 K 3253/11) and provides clarity for consulting practice in this respect.

In tax audits of management shareholdings in the company, the tax authorities and corporate practice typically come up with questions of demarcation with regard to a possible overlapping of the special legal relationship (shareholding) with the existing employment relationship. Such an overlap would result in profits from the sale of these equity interests by managers being taxed at up to 45% (remuneration) instead of 25% (flat rate withholding tax) or in accordance with the partial income method.

According to established case law, there is no remuneration if the benefit is granted on the basis of other legal relationships or other relationships between the employee and employer that are not based on the employment relationship. Such legal relationships demonstrate their independence and autonomy in particular by the fact that they could also exist independently and detached from the employment relationship (BFH, VI R 69/09 mwN.). Accordingly, a (managerial) employee can hold a capital share in their employer without this generating income in connection with the employment relationship. employment relationship. The current income generated from this is then not income from employment, but income from capital assets (BFH, IX R 111/00 and others). In the event of the sale of the capital shareholding, taxability according to the relevant sale conditions of the Income Tax Act (§§ 17, 20 Para. 2, 23 EStG) can be considered.

With the judgement now published, the BFH has once again clarified (see also BFH, VI R 69/06; BFH, I R-42/12) that a capital gain from such an equity investment is in particular not can be reclassified as salary solely because the shareholding (i) was held and sold by an employee of the company and (ii) can only be acquired by certain employees, usually senior managers.

In this case, the BFH expressly agreed with the administrative opinion not according to which an inducement could be given by the employment relationship if (i) such an investment was only offered to "hand-picked" employees, (ii) exclusion from the investment vehicle upon termination of the employment relationship would have had an effect on the amount of the severance payment and (iii) senior management only had a theoretical risk of loss due to their "insider knowledge".

With regard to the risk of loss, the Cologne tax court had, in our opinion, already made appropriate statements, according to which an effective risk of loss was also borne by the participating managers. This is because it cannot be decisive whether a potential risk of loss from the equity investment must be regarded as low, medium or significant. Only the fact that there is an actual risk of loss - even if only a small one - and that this can be realised (partial or complete loss of the capital contribution) if, for example, an economic imbalance occurs, can be economically decisive.

In this case, the BFH also took into account the fact that, in addition to the managers and employees involved, other significant investors in the form of private equity companies are also involved. This circumstance in particular makes it possible to compare their conditions of participation with those of the managers. In addition, the sale of the equity investment in this case is part of an overall sale of their shareholdings by all shareholders to other investor groups.

This case law has a broad impact on the numerous management participations in the private equity environment. It can therefore be assumed that the Federal Ministry of Finance will critically examine the legal interpretation further developed by the BFH. From the perspective of advisory practice, it would be desirable for the judgement to be published soon in the Federal Tax Gazette, with which the tax authorities confirm the application of the judgement beyond individual cases.

Dr Thomas Elser and Tobias Stiegler are tax advisors at TAXGATE, a tax law firm specialising in transactions, investments and tax compliance.