Münster tax court of 17 February 2026 - 13 K 905/24 opens up the escape clause for a classic VC financing instrument. What VC investors, family offices and corporate groups with investments in young growth companies need to know now.

What it's all about - a brief review of a much-discussed standard

The 95% tax exemption for investment income pursuant to Section 8b KStG is the centrepiece of corporate income tax on investments. To ensure that group structures do not lead to multiple taxation, paragraph 1 exempts profit distributions and paragraph 2 exempts capital gains from subsidiary corporations from taxation in principle. The flip side is found in paragraph 3: expenses and losses from the participation are generally not recognised for tax purposes. The BFH has repeatedly justified the meaning and purpose of the exclusion of deductions with the need to establish a correspondence for the expenditure side with the tax exemption for capital gains stipulated in Section 8b (2) KStG (see BFH of 9 January 2013 - I R 72/11, BStBl. 2013, II 343). In particular, losses from the sale of shares, liquidation and reductions in profits resulting from the recognition of the lower going concern value cannot be claimed for tax purposes (see BFH of 24 April 2024 - I R 11/23, BStBl. II 2024, 790).

History: From „equity to debt“ - and the reaction of the legislator (JStG 2008)

The deduction prohibition in Section 8b (3) sentence 3 KStG was limited to equity financing by shareholders prior to the JStG 2008. The structuring incentive was obvious: anyone who simply provided their group subsidiary with debt capital instead of equity capital could claim partial amortisation of the loan receivable with tax effect. In its judgement of 14 January 2009 (I R 52/08, BStBl. II 2009, 674), the BFH clarified that such partial write-downs are not subject to the deduction prohibition in Section 8b (3) sentence 3 KStG - unsatisfactory from the point of view of the tax authorities.

The legislator followed suit with the Annual Tax Act 2008: Section 8b (3) sentence 4 et seq. KStG has since extended the prohibition of deduction to certain debt financing (with a parallel provision in section 3c (2) sentence 2 et seq. of the EStG for co-entrepreneurs). Unlike sentence 3, however, the extension requires a „qualified participation“ of more than one quarter in the share capital or nominal capital of the borrowing entity. The chosen wording „participates or was“ also makes the entire investment history relevant (BFH of 12 March 2014 - I R 87/12, BStBl. II 2014, 859).

Important conclusion under EU law from the 25% threshold: According to the BFH, the provision is to be measured against the freedom of establishment, not the free movement of capital (see BFH of 24 April 2024 - I R 41/20, BStBl. II 2024, 785; and BFH of 24 April 2024 - I R 11/23, BStBl. II 2024, 790). This means that only in EU situations could European law offer protection against the deduction prohibition in section 8b para. 3 sentence 4 et seq. of the German Corporation Tax Act (KStG).

The escape clause: Section 8b (3) sentence 7 KStG

The legislative instruments would be excessive without a corrective. Section 8b (3) sentence 7 KStG (in the previous version: sentence 6) therefore provides for a Escape clause before: Sentences 4 and 5 do not apply „if it is proven that a third party would also have granted the loan in otherwise identical circumstances or would not yet have reclaimed it“.

For a long time, it was unclear how high the hurdle for this arm's length evidence actually was. In the spring of 2024, the Federal Fiscal Court (BFH) put down important markers: „Generally, no excessive requirements are to be placed on the proof“ (BFH of 24 April 2024 - I R 41/20, para. 46, BStBl. II 2024, 785). The Lack of collateral does not in itself speak against arm's length as long as the risks are priced in via an appropriate interest surcharge and thus compensated for (BFH of 24 April 2024 - I R 11/23, para. 42, BStBl. II 2024, 785). This message carries weight in practice - especially in the case of tax audits. If, for example, the tax audit continues to focus schematically on the lack of collateral, etc., the judgement published in the Federal Tax Gazette can be used to argue that the BFH requires an overall assessment.

Münster tax court 20.2.2025: Successful escape for foreign currency loans

The first practical „serious case“ was decided by the 10th Senate of the Münster tax court in its judgement of 20 February 2025 (10 K 764/22, EFG 2025, 876) for the 2016 year of dispute. A domestic AG had granted its Swiss 100% subsidiary two unsecured loans in CHF at LIBOR + 1.5% points and refinanced itself within the group on a „matched“ basis (micro hedge). The repayment led to considerable exchange rate losses, which the tax office did not want to allow as a deduction with reference to Section 8b (3) sentence 4 KStG.

The tax court upheld the claim in its entirety:

  • The conclusion of the currency hedging transaction already speaks in favour of arm's length.
  • The lack of collateralisation is standard market practice - a corresponding market for unsecured loans has been proven.
  • The interest rate with a premium of 1.5% points on the standard market interest rate compensates for the lack of collateral in an appropriate amount.
  • An external credit rating analysis (Moody's RiskCalc™) underpinned the subsidiary's creditworthiness.

The Escape was thus successful before the Münster tax court. The appeal is pending before the BFH under file number I R 6/25.

FG Münster 17.2.2026: Escape now also for unsecured convertible loans

In its judgement of 17 February 2026 (13 K 905/24, BeckRS 2026, 6187), the 13th Senate of the Münster tax court followed up - this time on a matter that is particularly relevant for the VC and growth financing scene: a Unsecured convertible loan.

Here too, the Senate came to the conclusion that the arm's length comparison can be proven and that the escape clause of Section 8b (3) sentence 7 KStG applies. The court emphasises - in line with the BFH and contrary to the explanatory memorandum to the law - that the requirements for the proof must not be overstretched and that the economic logic of the financing decision must be taken into account in a tax assessment. Growth phase with increased risk profile must be recognised. In the case of convertible loans in particular, unsecured and subordinated are standard market practice - a „demand for collateral“ would be impractical and would rob the instrument of its purpose. The advantage in this case - as is often the case in VC and growth financing processes - was that there were other third-party comparisons from other investors.

Practical relevance: The economic „win-win“ of transformation instruments

Convertible loans are so popular in growth financing because they represent an elegant risk/reward asymmetry. Those who finance exclusively via the conversion instrument benefit in both directions:

  • In case of success the investor converts the loan into equity; depending on the structural organisation, this may be possible on a tax-neutral basis. Subsequent capital gains after conversion benefit from the tax exemption of Section 8b (2) KStG.
  • In the event of failure the loan qualification remains in place. Partial amortisation is tax-deductible provided the 25% threshold of Section 8b (3) sentence 4 KStG is not exceeded or the arm's length comparison is successful.

For the typical VC investment structure There is an additional simplification: a venture capitalist will rarely exceed the threshold of more than a quarter of the share capital. This means that the prohibition of deduction in section 8b para. 3 sentence 4 KStG does not apply in many cases - the dispute over the escape clause often does not even arise. This does not change the fact that the escape clause retains its full significance for classic group growth financing in which the holding company has a significantly higher stake.

Attention in a cross-border context: convertible loan ≠ convertible bond

In cross-border constellations, a second look should be taken at the chosen instrument, especially with regard to the defence legislation on so-called „hybrid mismatches“. The differentiation under civil law and tax law between Convertible loan (convertible loan) and Convertible bond (convertible bond) is not only interesting from a dogmatic point of view. It can have an impact on:

  • the qualification as equity or debt capital in the respective country of domicile,
  • the application of withholding tax regulations and DTAs,
  • the treatment of the conversion as an exchange or acquisition transaction and
  • the applicability of section 8b (3) sentence 4 et seq. KStG including the escape clause.

Take-aways

  1. The escape clause lives on. Following the judgement of 20 February 2025 (foreign currency loans) and the current judgement of 17 February 2026 (convertible loans), Section 8b (3) sentence 7 KStG is no longer a theoretical standard - the case law of the tax courts shows a clear path.
  2. „No excessive requirements“ is more than just an empty phrase. Anyone who documents creditworthiness analyses, market comparisons and comprehensible pricing logic has a realistic chance of success in the event of a dispute.
  3. Unsecured loans are not harmful per se. An appropriate risk premium in the interest rate compensates for the waiver of collateral - this now also applies explicitly to convertible loans.
  4. Check participation threshold. If the shareholding is below 25%, the question of the escape clause does not even arise. In the case of VC structures in particular, this often eases the situation one step earlier.
  5. Set up documentation in the investment phase - not just in the tax audit. External creditworthiness analyses, benchmarking studies and clean pricing documentation are the central components of a reliable arm's length comparison.
  6. In a cross-border context choose the instrument consciously. Convertible loans and convertible bonds can have completely different tax consequences.

Yours TAXGATE Team supports VC investors, family offices and corporate groups in the structuring, documentation and defence of intragroup and quasi-equity financing - from the contractual design and preparation of robust arm's length documentation to support in tax audits and objection/complaint proceedings. Please contact us if you use or wish to use convertible loans, shareholder loans or hybrid financing instruments - we will check with you whether the escape clause of Section 8b (3) sentence 7 KStG is applicable to your structure.