INTERNATIONAL PROTECTION
OF FOREIGN INVESTMENT
Return to Yorkhill Law Publishing
Germany
Arndt
Begemann and Dorothee Garms
Krameyer v Falkenhausen Hanke & Partner
Essen, Germany
As a well-developed country, Germany always has been oriented towards capital export. Even when, in the 1980s, there was a significant increase in foreign direct investment all over the world, the balance of direct investment in Germany remained negative. From 1980 until 1991, Germany exported investment capital of DM 187.7 billion, whereas only DM 40.6 billion in capital investment was imported.1 This deficit continues to increase. Only in the sectors of service industries and trade is Germany receiving more investment capital than it exports itself.2
As shown above, Germany has been a capital-exporting country for a long time. This may explain why there is no special legislation on foreign direct investment. Nevertheless, there are many regulations of which a foreign investor in Germany must be aware, even if they do not address the issue of foreign investment directly.
After Germany was re-unified in 1990 by the accession of the German Democratic Republic (GDR) to the Federal Republic of Germany, it soon became clear that the former GDR, now called the New Federal States (Neue Bundesländer) and Eastern Berlin needed fundamental economic reconstruction. To fulfil this task, the federal government of Germany established a large programme of investment promotion.
Specifically for attracting foreign investors to the Neue Bundesländer, the Federal Ministry of Economics in 1991 founded the Foreign Investor Information Centre (Zentrum für die Betreuung von Auslandsinvestoren) in Berlin. The Foreign Investor Information Centre furnishes investors with project-specific information on:
The Foreign Investor Information Centre also offers practical assistance by establishing contacts for investors at the federal, state, and local levels. In 1997, the New German States Industrial Investment Council GmbH (IIC) was founded. This company, also located in Berlin, will increase investment promotion for the New Federal States including Berlin by concentrating on attracting large foreign companies in specific industries. Moreover, the Federal Ministry of Economics organises conferences and workshops for investors in the Neue Bundesländer.
The Federal Ministry of Economics stressed the special importance of foreign direct investment for the economic reconstruction in the New Federal States by the following statement in the Federal Parliament:
Foreign investors are bringing along with them not only capital, but also technical and management know-how and urgently needed knowledge about markets. They create jobs and promote competition.
Admission of Foreign Investment
As indicated above, Germany actively attempts to attract foreign investors, especially to the Neue Bundesländer. Understanding itself as a free and open market economy, Germany does not expect foreign investors to ask for a general admission to invest. However, there may be special permissions that must be applied for, (for example, concerning environmental questions). These are to be dealt with in the following sections.
General information about the German policy towards foreign investment may be found in the official notices of the Federal Ministry of Economics3 and the bulletins of the federal government. Specific regulations — as any federal law (Bundesgesetz) — must be published in the Federal Law Gazette (Bundesgesetzblatt), which is the official collection of statutes passed by the German Parliament. The statutes of the German states (Länder) must be published in the law gazette of the particular state. For example, all statutes passed in North Rhein-Westfalia are published in the Gesetz- und Verordnungsblatt für das Land Nordrhein-Westfalen.
Restrictions on Foreign Investment
Fiscal Legislation. In the context of foreign investment, fiscal legislation is not used as a restrictive means of policy. On the contrary, statutes concerning taxes are used for enhancing investment in a general and thereby also foreign investment.
Labour Legislation. German labour legislation does not require a certain number of German employees to be employed by a foreign investor. However, there are restrictions if the investor wishes to employ foreign personnel. There is a basic principle under German labour law, as well as under German Immigration Law, that a foreign person, in order to pursue commercial interests of any kind in Germany, regardless whether employed or self-employed, must obtain a residence permit as required by the Aliens Act (Ausländergesetz).4 Such residence permit must be obtained before the German territory is entered. Furthermore, there must be a work permit issued subject to the Regulation on Permits (Arbeitserlaubnisverodnung),5 unless such a person is a managing director or managing employee. Such persons do not need a work permit.
Requirements of Local Collaboration. German law does not require collaboration by foreign investors with municipal authorities. However, if investment is done by means of purchasing an operating business, one should have in mind that, in general, municipal authorities will be in charge when it comes to issuing necessary licences and permissions. There is no requirement that domestic investors be involved.
Capitalisation Requirements. Capitalisation requirements only apply to legal entities such as limited liability companies (Gesellschaft mit beschränkter Haftung) and corporations (Aktiengesellschaft). A limited liability company must have a minimum capitalisation of DM 50,000. The minimum capitalisation for a corporation is DM 100,000. If a limited liability company or corporation should become under-capitalised or insolvent, there is no obligation to contribute further capital. However, in such case, the managing directors must initiate bankruptcy proceedings. Failure to do so will be a criminal offence and result in personal liability.
Environmental Protection. There are no restrictions on investment or requirements directly related to environmental protection. However, if an investor wishes to operate a certain kind of business, there are extensive regulations on environmental matters of which he must be aware. The following serves as an overview of the relevant environmental aspects that might arise in doing business in Germany. An investor should have in mind that non-compliance with environmental legal provisions may result in criminal liability for the management.
Emission Control. The heart of German environmental legislation is the Federal Emission Control Act (Bundesimmissionsschutzgesetz)6 and its related ordinances and technical instructions. The basic aim of the Emission Control Act is to protect humans, animals and plants, ground, water, air, and goods from emission of obnoxious substances. Facilities that impose higher environmental risks need an official permit prior to construction and operation.7
Such facilities are enumerated by the 4th Ordinance on Emission Control. The Ordinance makes a further distinction between permits to be obtained through a public procedure as set out by the 9th Ordinance on Emission Control and section 10 of the Emission Control Act and those granted through a non-public procedure. The operation of such facilities also is subject to the rules set out by the Act on Environmental Impact Assessment (Umweltverträglichkeitsprüfungsgesetz).8 Environmental standards are established by the Technical Instructions on Noise Pollution Abatement (TA Lärm), the Technical Instruction on Air Quality Control (TA Luft), and the abovementioned Ordinances, especially the 13th Ordinance on Large Combustion Plants and the 17th Ordinance on Waste Incineration Plants, all implementing the precautionary principle.
Generally, a permit given under the Emission Control Act includes any other permits to be obtained, for example, a construction permit.9 However, this does not apply to necessary permits under the Federal Water Act (Wasserhaushaltsgesetz).10 It should be noted that operating a facility needing an official permit without such permit will be regarded as a criminal offence under the Penal Code (Strafgesetzbuch).11
Waste Management. Another environmental issue effecting investment may be waste management. Following European guidelines, the Federal Act on Waste Management and Product Recycling (Kreislaufwirtschafts- und Abfallgesetz)12 came into force in 1996. The purpose of the Act is to give priority to waste avoidance and waste recovery.13 Producers and owners of waste are obliged to:
Waste-disposal standards are set out by a number of ordinances and technical instructions. Furthermore, the Federal Act on Waste Management and Product Recycling has established a producer’s responsibility to produce and distribute products in compliance with the targets of the law.14 Standards to specify a producer’s responsibility under section 22 of the Act on Waste Management and Product Recycling are set out by ordinances. An investor who wants to operate a waste-management business must meet certain professional standards. Necessary permits will be given only to recognised waste-disposal facilities.15
Export Targets. As Germany has enjoyed a foreign-trade surplus for a long period, the government does not fix any export targets for the economy. Consequently, there are no requirements with regard to export targets that a foreign investor must meet.
Local Equity. There are no requirements imposed on foreign investors with regard to local equity.
Investment Incentives
Tax Relief and Exemption. Facing the task of the economic reconstruction of the former GDR, the government introduced several exceptions in the fiscal system which are applicable only to taxpayers resident in the Neue Bundesländer. Consequently, a foreign investor engaged in the New Federal States or East Berlin may benefit from the following tax reliefs:
Depreciation Allowance. A foreign investor engaging in the New Federal States or East Berlin may use a special accelerated depreciation allowance (Sonderabschreibung) on the purchase or production of depreciable movable and immovable assets. These assets may be written down to:
For all the allowances enumerated above, the investment deadline is 31 December 1998. The special allowance is in addition to straight-line method depreciation, and it can be used over a period of one to five years.
For the former West Germany, there also is a special accelerated depreciation allowance. This is in addition to the regular straight-line or declining-balance methods of depreciation. It may be used if the taxpayer has not more than DM 240,000 of income-producing assets or not more than DM 500,000 in employed trading capital (at the time of purchase or production). In this case, the purchase or production of new movable capital goods may be deducted up to 20 per cent in the first year or over a five-year period.
For the Old Federal States, a capital reserves allowance (Ansparabschreibung) also is applicable. Eligible taxpayers are those who qualify for the special accelerated depreciation allowance (see text, above). If a foreign investor meets these requirements, he is allowed to reduce his taxable profits by 50 per cent of the value of the planned purchase or production of depreciable movable goods over the two following tax years.
Until 31 December 1998, West Berlin also is eligible for some of the more generous tax incentives available for the new federal states.
Revaluation of Assets. In Germany, all taxpayers must act in accordance with the principles of valuation established in the Federal Valuation Act (Bewertungsgesetz).16 Therefore, there is no possibility for foreign investors to profit from a special revaluation of assets.
Investment Allowance. An investment allowance (Investitionszulage) is applicable to the New Federal States and East Berlin. For investment made until 31 December 1998, any manufacturing firm may deduct 10 per cent from its tax debt (loss-making firms receive refunds). This is valid for manufacturing or commercial craft firms with up to 250 employees and for wholesale and retail trade firms with up to 50 employees and not located in business, industrial, or special parks or zones. The maximum yearly investment allowable is DM 250,000.
Grants. The most important of the grant programmes is the Improvement of Regional Economic Structures Programme (Gemeinschaftsaufgabe), with funds provided from German federal and state sources and from European Union (EU) budgets. The following programme conditions are in effect until 31 December 1999.
For the New Federal States and East Berlin, most firms can receive grants for up to 35 per cent of an investment. This percentage is the maximum for all incentive programmes taken together. The grant funds can account for the full amount. Small and medium-sized manufacturing firms with up to 250 employees and a maximum turnover of ECU 40 million, or a balance sheet sum of ECU 20 million, can receive up to 50 per cent of an investment. In the cities of Berlin, Dresden, Erfurt, Halle, Jena, Leipzig, Schwerin, and Weimar, maximum grants as a percentage of new investment will be limited to 28 per cent for large firms and 43 per cent for smaller firms.
In the Old Federal States and West Berlin, there also are grant funds available, but these are restricted to investment in specially designated areas that are underdeveloped or economically depressed. Such areas currently cover about 22 per cent of the population of the Old Federal States. Here, the maximum grant is 28 per cent (for small firms) or 18 per cent (for large firms) of the investment for the start-up, expansion, or modernisation of most businesses. Acquisitions are eligible if a business is closed or about to be closed.
The grant amounts are decided at the state level, and they can vary considerably. Investment in manufacturing facilities and start-ups usually receive the highest grants. Not covered by the plan is the purchase of real estate and transportation vehicles.
Credit Programmes. There is a variety of credit programmes available, such as those established by the German Equalisation Funds Bank (Deutsche Ausgleichsbank) and the Reconstruction Funds Bank (Kreditanstalt für Wiederaufbau). There also are European Recovery Programme (ERP) funds and EU grant and loan-guarantee programmes applicable. All of these loan programmes charge below-market interest rates.
Especially for the New Federal States, there are Consolidation Funds administered by the states. These funds are considered emergency funds for small and medium-sized firms with liquidity difficulties. As there are more than 100 federal incentive and support programmes, as well as dozens of others at state and local levels, they cannot be enumerated here. Detailed information on the programmes is provided by the Foreign Investor Information Centre in Berlin.
Investment in Eastern Germany. One of the major problems due to Germany’s reunification has been the handling of the formerly state-owned property and property having been in a state trust. A great portion of such property was acquired by the former GDR by unlawful expropriation. Property of persons having fled from the GDR usually was put in a state trust. After reunification, the government had to find a way to give back property to former owners but without hindering development of the economy in Eastern Germany. The basic purpose of the Property Act (Vermögensgesetz)17 is to give back real estate, enterprises, and other property to former owners.
However, an investor being interested in certain property until 31 December 1998 may apply for a so-called ‘investment priority’ (Investitionsvorrangbescheid) under the Federal Act on Priority for Investment (Investitionsvorranggesetz).18 The investment priority will allow transfer of such property to the investor subject to a contractual agreement with the trustee, which may be a public entity such as a municipality or the former Federal Trust Agency (Treuhandanstalt, now Bundesanstalt für vereinigungsbedingte Sonderaufgaben) or its daughter companies. The former owner then will be entitled to compensation.19 An investment priority will be granted only if there are certain privileged investment purposes established by section 3 of the Act on Priority for Investment. In order to qualify for the priority, real estate investment must secure or increase employment, create housing space, or improve infrastructure.
A privileged purpose for investment in enterprises is given if employment is secured or increased or if the investment increases competitive capacity. Furthermore, investment may be privileged if the former owner has no sound concept to continue the business or the business without investment will have to be wound up. The application procedure is established in section 4 of the Act on Priority for Investment. In particular, a detailed description of the investor’s plans is required. If the investment is not carried out within the period given in the investment priority, the privilege will be withdrawn. Disputes arising out of the contract between the investor and the trustee will be dealt with by the civil courts; all other disputes are under the jurisdiction of the administrative courts.
Other Incentives. Aiming at the initiation of new investment, the German government has concentrated on using fiscal policy and grants, without making any distinction between foreign and domestic investors. Consequently, customs and taxes are charged on any investor in accordance with the same general principles. As a result, German law does not recognise customs duty relief or tax-free interest on loans for foreign investors; nor are salaries for technicians free of income taxes (see text, below, relating to taxation of income and double-taxation treaties).
Exclusions
In general, there are no business activities from which foreign investors are excluded. However, market entry in the fields of energy supply, postal services, telecommunications, and rail transport is restricted. In the field of energy supply, ‘demarcation contracts’20 de facto still lead to regional monopolies. In so far as postal services are concerned, the recently founded Deutsche Post AG has still the exclusive right to transport letters, at least for a transition period. As a result, a foreign investor has little chance to enter these markets at the moment.
Treatment of Foreign Investment
Article 3 of the German Constitution states that all persons are equal before the law and that no one may be subjected to discrimination. This applies not only to the individual as a private person but also to participation in business life. However, if not legally expressly stated or deriving out of certain legal and contractual relations, for example, in the field of labour law, this rule does not effect relations between individuals.
Article 3 of the Constitution applies to natural and jurisitic persons. Without expressly being stated in the German Constitution, this also is true for persons with domicile in the EU.21 Having been the constitution of a mere economic community, the European Community Treaty pays somewhat closer attention to economic relations to establish free trade between the Member States with a minimum of restrictions.
Protection of Persons and Property
The basic principles underlying the establishment of a free market economy are the right of free choice of profession22 and the guarantee of property.23 Although article 12 of the Constitution only applies to Germans, the considerable freedom of access to business enables any person, whether natural or juristic, whether national or alien, to engage in or to carry on a business. In general, foreign individuals enjoy the same standard of protection as applies to nationals. Although article 19, sub-section 3, of the Constitution addresses constitutional rights as applied to national juristic persons only, foreign juristic persons are entitled to the procedural constitutional rights and are protected by the ordre public. Furthermore, foreign juristic persons having domicile in one of the EU Member States by law24 have the same legal status with respect to constitutional rights as is accorded to national juristic persons.
Property rights, as described and defined by law, are guaranteed by the Constitution. Expropriation only is allowed within a very narrow scope. It can only be done subject to a law, to benefit the general public, and with provision of sufficient compensation. Expropriation may be initiated under the following laws:
Expropriation procedures are set out in the relevant law itself27 or are established in generally applicable laws dealing with expropriation procedures and compensation, such as the North Rhein-Westfalian Act on Expropriation of 20 June 1989. None of the abovementioned Acts makes any distinction based on nationality. On the contrary, the Federal Supreme Court expressly has ruled that protection against expropriation applies to foreign as well as national juristic persons.28 This protection is due to the international law principle of respect of acquired private rights (principe du respect des droits acquis), as established by article 1 of the Supplementary Protocol of the Convention for the Protection of Human Rights and Fundamental Freedoms.29
Granting of Permits
In regard to the granting of permits, German law distinguishes between foreign juristic persons and foreign natural persons. Generally, foreign juristic persons do not need a special permit to take up business activities as such. There may be regulations in trade law, for example, in the Federal Industrial Code (Gewerbeordung)30 that require permission for special commercial activities. Such permits are needed, for example, to take up business as a real estate agent or money broker or in the hotel and catering sectors. In such cases, foreign persons must meet the same standards as any German investor applying for the relevant permit.
Natural persons who want to invest and reside in Germany as self-employed persons must obtain a residence permit as required by the Aliens Act. The residence permit must be free of the imposition of any duties, and it must not contain any conditions of residence that prevent the foreign investor from entering business. If the residence permit is unrestricted in a sense shown above, German law makes no distinction between foreign and domestic investors concerning permits that must be obtained before entering business.
Import and Export Licences
According to section 9, sub-section 1, of the Federal Foreign Trade and Payments Act (Außenwirtschaftsgesetz),31 the export of goods from Germany in general is not subject to permission. Nevertheless, there are exceptions concerning the export of weapons, armaments, equipment for nuclear facilities, and goods of ‘dual use’.
These restrictions are based on the Foreign Trade and Payments Act, the Foreign Trade and Payments Ordinance (Verordnung zur Durchführung des AWG), and the Dual Use Ordinance (Dual-use-Verordnung).32 Any export of goods mentioned in one of these ordinances must be permitted by the authorities. The conditions under which such permits will be granted do not distinguish between domestic and foreign investors.
In regard to the import of goods into Germany, German law distinguishes between imports by EU residents and imports by residents of non-EU countries. According to section 10, sub-section I, sentence 2, of the Foreign Trade and Payments Act, persons not resident in the EU require an import licence. Importers resident in the EU do not need such permission if the merchandise is mentioned in the official import list (Einfuhrliste) as not requiring such licence. This import list (containing more than 10,000 goods) is an annex to the Foreign Trade and Payments Act. Its frequent alterations are published in the Federal Law Gazette.
When the import list indicates that the import of a specific commodity must be subject to permission by the authorities, EU residents also must apply for the respective permission. In this context, a foreign investor should keep in mind that an import of goods without permission in accordance with section 10, sub-section 1, of the Foreign Trade and Payments Act, intentionally or negligently, is an administrative offence as provided by section 33, sub-section 2(1a), and it will be punished by the imposition of an administration fine.
Authorisation to Employ
Employment is done by a contract between the employer and the employee. In this respect, there are no provisions restraining foreign investors from becoming an employer. Only if it is intended to train employees under the Federal Vocational Training Act (Berufsbildungsgesetz)33 must certain professional requirements established in the Act be fulfilled by any employer.34
Entry and Stay Visas
The Aliens Act states that any alien entering Germany must have a valid passport.35 Furthermore, there is a need for an entry clearance (visa).36 A visa can be applied for from the German Embassy in the home state of the alien person. Entry clearance may be granted as:
Exceptionally, illegal residence may be accepted as sufferance.41
As established by the Implementing Ordinance and its appendices, aliens of certain nationalities do not need a passport (a status which might be agreed within international treaties) or do not need an entry visa. However, generally, an entry clearance is afforded if a person wants to pursue commercial interests or be self-employed.42 Not subject to section 12 of the Implementing Ordinance is an occupation serving a foreign enterprise for a period up to three months. To be enabled to make business contacts and to engage in business activities beyond those preparatory to a business transaction or to establishing a company, aliens should apply for a residence authorisation as a so-called ‘business visa’.43 The person then will be allowed a multiple entry and exit visa for a total stay of three months annually.
Under the rules of the EU, especially that relating to freedom of movement,44 for entrepreneurs and workers between EU Member States and the prohibition of discrimination,45 nationals of Member States are entitled to the same treatment as German nationals and, therefore, have a legal right to be granted a residence permit and require no work permit.
Discrimination among Foreign Investors
Obviously, trade and investment advantages linked with the EU are available only to investors with domicile in an EU Member State. A way for nationals outside the EU to participate in such advantages may be to form a company with domicile in the EU. As long as the foundation of such a company cannot be regarded as an attempt to avoid the law related to aliens46 there will be no restrictions on an alien establishing such a company with domicile in Germany.
Furthermore, it should be noted that Germany, as well as the EU, is a member of the General Agreement on Tariffs and Trade (GATT). The purpose of GATT is to harmonise and co-ordinate trade between the Member States by most-favoured-nation treatment, extinction of foreign trade restraints, lowering of trade tariffs, and elimination of discrimination. However, GATT provides escape clauses under which restrictions on trade are possible. These allow the EU to establish restrictions through import ordinances. In addition, there may be restrictions on imports as a result of bilateral treaties. For instance, there is an agreement between the EU and Japan on the import of cars and light trucks.
Customs Union or Free-Trade Agreements
The European Community Treaty seeks a reduction of trade barriers, a common trade tariff, freedom of establishment,47 and the free movement of workers,48 services,49 and capital50 within the EU. A common agricultural market51 also has been created. European competition law52 is used to prevent trade restrictions by private agreements. Furthermore, the European Community Treaty provides for:
Whether introduction of a common currency (the ‘Euro’) will take place within the schedule set out by the European Community Treaty and the Maastricht Treaty depends on how many of the EU Member States are able to meet the convergence criteria. It is likely that almost all of the EU Member States will be able to meet the convergence criteria. This is due to the economic efforts that have taken place in the Member States. Although they are fit to be participants, Denmark and the United Kingdom have indicated that they will not join the common currency.
There also is a free-trade agreement relevant to Germany, creating the European Economic Area (EEA) between EU Member States and the Member States of the European Free Trade Association (EFTA).
Concerning the export of capital, section 22 of the Foreign Trade and Payments Act allows the German government to restrict the transfer of funds into foreign countries to prevent negative effects on the capital market. This provision has never been used. There are restrictions on the movement of capital concerning Iraq. These were imposed in accordance with section 52 of the Implementing Ordinance, which is based on section 7 of the Foreign Trade and Payments Act. The objectives of section 7 are the protection of the security and the foreign interests of Germany.
In general, no permission is required to export funds from Germany. Nevertheless, any foreign investor should pay attention to certain obligations to register capital movements in accordance with sections 59–69 of the Foreign Trade and Payments Ordinance. Within the European context, the Directive of the Council and the Parliament on crossborder money transfer should be noted. The Directive states that money transactions up to ECU 50,000 have to be perfected within six days and double fees are no longer allowed. The Directive has to be adapted by the Member States by mid-1999.
In regard to the import of capital, section 23 of the Foreign Trade and Payments Act authorises the federal government to restrict any such movement of funds when the equilibrium of the balance of payments or the purchasing power of the German mark is threatened. Restrictions based on this law were imposed in 1969–1971 and in 1971–1981; however, since 1981, the export of funds remains unlimited. The obligation to register the transfer of funds mentioned above also applies to the import of capital.
Tax Exemptions and Fiscal Incentives
General Regulations
Tax regulations in Germany are vast so that only a survey on the relevant matters of taxation can be given here. Generally, there are three groups of taxes in the German tax system. These are taxes on:
The most important taxes on income are the income tax itself (Einkommenssteuer), corporation tax (Körperschaftssteuer), and trade income tax (Gewerbeertragssteuer). The trade income tax is levied on business income by the local authorities of the municipality in which the business is situated. The second type of taxes in Germany is levied on capital. To this group belong the net assets tax (Vermögenssteuer), the land tax (Grundsteuer), and the inheritance and gift tax (Erbschafts- und Schenkungssteuer).
The most important taxes on transactions and consumption are the value-added tax (Mehrwertsteuer), followed by the fuel oil tax (Mineralölsteuer). In addition, important for foreign investors is the real estate transfer tax (Grunderwerbssteuer), which is levied whenever real estate is sold or bought in Germany. The various taxes noted above sum up to an overall tax burden on any investment in Germany, no matter if foreign or domestic. The extent of this tax burden is influenced as well by the legal form of the taxpayer (natural or juridical person), as well as by the method of financing the investment. Consequently, any foreign investor should look for professional advice in matters of taxes before determining either the legal form of his planned investment or the method of financing it.
Double-Taxation Treaties
As in most other countries, the tax system in Germany submits to taxation (by direct taxes) the worldwide income of any taxpayer. This principle would lead to a double-taxation of all incomes of a foreign investor resulting from his investment in Germany. To avoid such double-taxation, the federal Republic of Germany has concluded more than 60 double-taxation treaties (Doppelbesteuerungsabkommen) with other states. Such double-taxation treaties exist between Germany and all other countries belonging to the EU and with:
The double-taxation treaties aim at allocating the right to levy taxes between two sovereign states with different tax systems to avoid the same transaction being taxed twice under different rules.57 The German double-taxation treaties closely follow the model treaty that was published by the Organisation for Economic Co-Operation and Development (OECD) in 1977. The intent of the model treaty is to allocate the right of taxation to the country of residence, unless the income-earning activity is closely linked to the country of source.
To reach this aim, German treaty policy has traditionally followed the method of avoiding double-taxation by exemption. That means that income and assets are exempted from German taxation when the other country has the right to levy taxes. However, the exemption is subject to a saving clause as to progression. Because, in Germany, income tax (but not corporation tax) is levied on a progressively rising scale, the double-taxation treaties allow Germany to take into account foreign-source income normally tax-free in Germany when it determines the German tax rate applicable to the German-source income (Progressionsvorbehalt). This should be kept in mind by any foreign investor in assessing the future tax burden on his investment in Germany.
Foreign Tax Act
In addition to the double-taxation treaties dealt with above, the Federal Foreign Tax Act (Außensteuergesetz) is quite important for any foreign investor. It requires all trading between German and foreign-related parties, (for example, relatives, parent companies, or subsidiaries) to be at ‘arm’s length’. This is legally defined as being on terms and conditions that would have been agreed between non-related parties under otherwise similar conditions. Naturally, this broad and abstract principle must be interpreted by the tax authorities to work in practice. The Federal Ministry of Finance has given such an interpretation in its Circular of 23 February 1983, entitled Principles for the Audit of Income Determination of Internationally Associated Companies.58
The Foreign Tax Act is subsidiary to any existing double-taxation treaty. Nevertheless, any foreign investor is well advised to have its rules in mind when planning his business transactions and trading relationships with German subsidiaries. When a double-taxation treaty between Germany and a foreign state exists, it builds the common legal basis for the tax administrations in both countries. As a result, it structures the imposition of taxes on a foreign investor in Germany and in his home country.
Protection of Foreign Investment
Article 15 of the Constitution allows nationalisation to transfer real estate, natural resources, and production means from a private person to the state, provided there is a public need. This must be done by means of a formal law laying down the basis for nationalisation and provisions on compensation. However, nationalisation plays no practical role. More important are laws on expropriation, as indicated above. As noted, any law dealing with expropriating acts must determine compensation. Furthermore, there may be lawful or unlawful acts of the government not intended as expropriation, but having the same effect.59
The amount of compensation must be estimated by weighing the public interest against the interests of the affected person, not necessarily meaning a full compensation for the value of the expropriated object and resulting disadvantages. However, compensation at least must be paid to an extent that, theoretically, the object subject to expropriation can be replaced. Generally, replacement costs are indicated by the market value. Expropriation may be appealed against before the administrative courts. Disputes related to the amount of compensation, however, are under civil court jurisdiction.60
Although Germany is signatory to the Multilateral Investment Guarantee Agency (MIGA) Convention, founded by the World Bank in 1985, this does not mean that investment in Germany can be insured against non-commercial risks such as expropriation, loss due to war, or transfer risks. Article 14 of the MIGA Convention expressly states that investment in 23 industrial countries (of which Germany is one) cannot be insured.
Treaty Protection of Foreign Investment
Since 1959, Germany has concluded more than 70 bilateral agreements concerning the encouragement and reciprocal protection of investment. In 1997, four treaties were concluded with Kuwait, Lithuania, Namibia and Peru, and have been consented to by the Bundestag. In this respect, the treaty-making power of Germany has not been restricted by the European Community Treaty. The drafting of the bilateral treaties follows a model convention (Mustervertrag) set up by the federal government. The model treaty starts from a broad definition of investment, including:
Protected by the German bilateral treaties are all investors who have their domicile in the territory of the other contracting party; the territory in which the investor’s company was founded is irrelevant. The foreign investor is protected by any such treaty regardless of whether the respective company is controlled by residents of a third country. The bilateral agreements signed by Germany accord national treatment and contain a most-favoured nation clause. Moreover, it is provided that any regulation more advantageous, (for example, in multilateral treaties concerning foreign investment) has priority over the respective treaty. The model treaty also defines the term ‘expropriation’ in a broad way, and it states that any compulsory purchase without compensation is inadmissible.
Since the early 1950s, Germany has been a full member of GATT, which contains, inter alia, regulations on Trade-Related Investment Measures (TRIMs), Trade-Related Aspects of Intellectual Property (TRIPs), and a General Agreement on Trade in Services (GATS).
Articles 67–73 of the European Community Treaty address the progressive elimination of restrictions on the free movement of capital. These matters also are addressed in agreements concluded by the EU with third countries, including the recent association with countries in Central and Eastern Europe.61
Another multilateral treaty effective in Germany is the European Energy Charter Treaty. This agreement was signed in 1994 by the EU and 41 other states. It establishes a legal framework for the promotion of long-term co-operation in the energy sector and encompasses trade, competition, technology, access to capital, investment promotion and protection, and environmental matters. Although limited in its sectoral coverage, the large number of countries involved (51) makes the treaty unique among binding international arrangements containing substantive standards for the treatment of investment.62
Settlement of Investment Disputes
Germany has been a member of the International Convention for the Settlement of Investment Disputes (ICSID) since 1969. The Convention aims to provide a arbitration tribunal with respect to disputes between private investors and the Member States to enhance investment from abroad. Private investors can apply to the international arbitration tribunal without having moved through the instances of the courts of the host country. At the same time, the home countries of investors waive diplomatic protection to secure investment of their nationals.63 Decisions of the ICSID tribunal are recognised in the Member States under certain procedures established by articles 53–55 of the Convention.
In General
Typically, investment disputes may arise under civil procedure or recourse to the administrative courts.
Civil Courts
A matter may be brought before the civil courts if there are civil proceedings. Up to a value in dispute of DM 10,000, the first instance court is the Lower Municipal Court (Amtsgericht). The court of appeal is the Higher Municipal Court (Landgericht). No further appeal against a decision of the Higher Municipal Court is possible. Cases with a higher value must be brought before the Higher Municipal Court in the first instance. The court of appeal is the Higher Regional Court (Oberlandesgericht). If the value in dispute is more than DM 60,000, or it is allowed by the Higher Regional Court, a further appeal may be brought before the Federal Supreme Court (Bundesgerichtshof). Proceedings are governed by the Civil Procedural Code (Zivilprozessordnung)64 and by the Judicature Act (Gerichtsverfassungsgesetz).65
Administrative Courts
If there is a public investment grant or public investment guarantee being issued by the government in dispute, there may be proceedings before the administrative courts. The first instance will be the Lower Administrative Court (Verwaltungsgericht). Appeals are brought before the Higher Administrative Court (Oberverwaltungsgericht or Verwaltungsgerichtshof). If there is a leave to appeal by either the higher court or a successful appeal against a refusal of a leave to appeal, the dispute will be brought before the Federal Administrative Court (Bundesverwaltungsgericht). The rules of procedure are set out in the Rules of Administrative Courts (Verwaltungsgerichtsordnung).66 Subject to leave, appeals are brought before the Higher Administrative Court (Oberverwaltungsgericht or Verwaltungsgerichtshof).
Arbitration between Private Parties
In General
Any arbitration must result from a mutual agreement of the parties, and such agreement must be in writing.67 However, if there is no civil proceeding but an administrative law dispute involving public entities or government authorities, there will be no arbitration. Such cases only can be dealt with before the administrative courts if there is no amicable settlement prior to court proceedings.
Types of Arbitration
There are no binding procedures for arbitration. The Civil Procedural Code only sets out a few general provisions. Basically, the procedure and type of arbitration is determined by the parties. There are some national and international institutions providing procedural arbitration rules.
Provisions for Arbitration
The rules of arbitration proceedings between private parties are subject to their stipulation. However, it is recommended to negotiate application of the rules of one of the well-known arbitration institutions, such as the Deutscher Ausschuss für Schiedsgerichtswesen, the American Arbitration Association, the London Court of Arbitration, or the International Chamber of Commerce.
Enforcement of Judgments and Arbitral Awards
Any arbitration judgment must be recognised in a certain procedure, as set out in section 1042pp of the Civil Procedure Code, to be enforceable. Proceedings start with an application for the enforcement of the judgment. Such application must be submitted to the court that is chosen by the parties or would have otherwise had jurisdiction.68 Judgments of a foreign arbitration court may be declared enforceable, as well, subject to section 1044 of the Civil Procedure Code.