Risk of detection with interest-bearing foreign currency accounts
At the latest from 1 January 2025 must domestic banks including gains and losses arising from the disposal of Foreign currencies in interest-bearing investment accounts take this into account under the flat-rate withholding tax scheme and pay the tax due. This reporting obligation does not stem from a change in the law, but is based solely on the Federal Ministry of Finance’s (BMF) revised legal interpretation regarding foreign-currency gains.
1. The traditional legal view
For a long time, the tax authorities recognised that profits realised on foreign-currency investments outside the one-year tax holding period (the so-called ‘speculation period’) were treated as „other income“ were realised tax-free within the meaning of Section 23(1), first sentence, No. 2 of the German Income Tax Act (EStG). Consequently, such gains were not subject to the flat-rate withholding tax, meaning that neither a tax deduction was made by the domestic credit institutions nor were they shown on the annual tax certificate.
Under the previous legal framework, foreign exchange gains or losses were therefore only recognised in accordance with Section 22(2) of the Income Tax Act (EStG) in conjunction with Section 23 of the Income Tax Act (EStG) as private sale is recognised for income tax purposes at all, provided that less than one year elapsed between the acquisition and disposal of the foreign-currency amount giving rise to the currency gain or loss.
2. The tax authorities’ decision to move away from this approach in mid-2022
In the case of interest-bearing foreign-currency accounts – the following are therefore affected for example, overnight and fixed-term deposits, as well as loans in foreign currency – The tax authorities have no longer adhered to this legal interpretation since the letter from the Federal Ministry of Finance dated 19 May 2022 (IV C 1 – S 2252/19/10003:009, para. 131). According to the administrative view now in force, any realised currency gains are instead classified as income from capital assets – irrespective of the specific holding period – and are therefore always subject to the flat-rate withholding tax, see Section 20(2)(7) and (4) of the Income Tax Act (EStG).
Merely non-interest-bearing capital receivables and non-interest-bearing foreign-currency balances will therefore continue to be treated as a private disposal transaction, where applicable, in accordance with section 23(1), first sentence, no. 2 of the Income Tax Act (EStG).
3. Increased risk of detection due to the tax deduction during the current tax year
From 1 January 2025 at the latest – Until 31 December 2024, a grace period still applied as a transitional arrangement – Domestic credit institutions are required to withhold capital gains tax on profits from interest-bearing foreign-currency accounts, i.e. they pay capital gains tax to the tax authorities. For previous tax years – and also for foreign-currency accounts held with foreign credit institutions – whereas taxpayers were or are required to declare their income, on the other hand Declare this on your own responsibility!
Consequently, through the tax deduction and the reporting of the income in the annual tax statement, the tax authorities will become aware of interest-bearing foreign-currency accounts held with domestic credit institutions by the current tax assessment period at the latest, and is also expected to review previous years for similar income. In this regard, the tax authorities have the option – in addition to examining the specific income tax return of the taxpayer in question on a case-by-case basis – of also so-called collective requests for information from domestic credit institutionse. Consequently, provided that the conditions set out in Section 93(1a) of the German Fiscal Code (AO) are met, This investigation method makes it possible to identify interest-bearing foreign-currency accounts across the board and be thoroughly reviewed.
Anyone who has therefore unwittingly failed to file a tax return in the past faces an increased risk of detection in relation to domestic interest-bearing foreign-currency accounts, at the latest upon expiry of the non-objection period. It is essential to note in this regard that, in accordance with paragraph 324 of the BMF circular dated 19 May 2022, the revised legal interpretation is to be applied retrospectively to all pending cases. This means that, according to the tax authorities, even assessment periods that have already expired but have not yet become final are affected since the introduction of the flat-rate withholding tax!
Note: However, as the tax authorities’ new interpretation is not based on any change in the law, this retroactive effect intended by the authorities is highly questionable from the perspective of the principle of legitimate expectations. This is all the more true given that the tax authorities’ revised interpretation has the effect of tightening the law, as all currency gains must be included in the tax assessment, regardless of the specific holding period of the underlying capital claim.
Conclusion
Where taxable income from interest-bearing foreign-currency accounts has not yet been declared, serious consideration should be given to making a correction within the meaning of Section 153 of the German Fiscal Code (AO) or submitting a voluntary disclosure within the meaning of Section 371 of the AO.
If you are unsure whether you have declared your income correctly for tax purposes, or if you are concerned that proceedings may be brought against you, Criminal proceedings could be initiated, our Specialist lawyers for tax law and Tax consultant We’re happy to be of assistance.