Capital 6: Business Taxation I

Question 1

What are the connecting factors of business taxation - What are the different types of taxes.

Answer 1

1.Personal taxes: Natural persons and Legal persons

2.Taxes on objects: Businesses and Real Estate

3.Transaction taxes: Services and Transfer of property

–>No seperate and uniform taxation exists

Question 2

What are the two main tax subjects under the dual system of business taxation?

Answer 2

• Natural persons (individuals)
• Separate legal entities (corporations)

Question 3

Dual system

How are natural persons e.g. sole propreitors and partners of a partnership taxed under the transparency principle in the dual tax system

Answer 3

the transparency principle is applied:

• Personal income tax
• Taxed on worldwide income.
• Business income includes all assets and liabilities, as contractual separation between business and owner is impossible.
• Income is classified as business income.
• Based on the accrual method of accounting

Question 4

How are corporations taxed under the dual system?

Answer 4

• Corporate income tax applies
• Taxed on worldwide income and business income.
• Uses the accrual method.
• Retained income is sheltered from taxation at the shareholder level (deferral principle).

Question 5

How are shareholders of corporations taxed?

Answer 5

• Personal income tax on capital income (e.g., dividends, capital gains)
• Taxation based on the cash method

Question 6

What are the rules for contractual relations between a corporation and its shareholders?

Answer 6

• Possible under civil law (e.g., management, financing, lending)
• Accepted in tax law if concluded on an arm’s length basis
• Shareholders’ personal income may include categories such as employment income, capital income, and rental income

Question 7

What determines the tax liability of a sole proprietor?

Answer 7

• Unlimited liability: Based on residence or habitual abode, taxed on worldwide income
• Limited liability: Based on income from domestic sources.

Question 8

What type of income category is income from a sole proprietor taxed ?

Answer 8

Business income is taxed

Question 9

How is business income determined for sole proprietors?

Answer 9

• Calculated based on profit
• Uses the accrual method (with an exception for SMEs, which can use modified cash flow)
• The profit amount is taxed regardless of whether it is retained or withdrawn

Question 10

What is the date of taxation for sole proprietors?

Answer 10

• Based on the accrual method.
• Applied on an annual basis.

Question 11

How are losses treated for sole proprietors?

Answer 11

• Losses can be offset against income from other sources (limited by personal income tax rules)
• Losses can also be deducted from total income in previous or subsequent years.

Question 12

Why are contractual relations impossible for sole proprietors?

Answer 12

• The business has no separate legal capacity
• All profits are classified as business income
• All assets are considered business assets.

Question 13

What tax rates apply to sole proprietors?

Answer 13

• Progressive tax rates generally apply
• Joint taxation depends on the personal circumstances of the proprietor
• Special concepts (e.g., dual income tax in Nordic countries).

In Germany:
- Retained profits taxed at 28.25%.
- Withdrawals taxed at 25%.
- Overall tax rate: 46.19%.

Question 14

How is a corporation taxed at the corporate level?

Answer 14

• Taxed on corporate income (tax bases, rates, and systems).
• May include additional taxes (e.g., profit and non-profit taxes) or special taxation concepts like the dual income tax (DIT)

Question 15

How are shareholders of a corporation taxed?

Answer 15

Shareholders pay personal income tax on dividends and capital gains

Question 16

Can corporations and their shareholders have contracts?

Answer 16

Yes, subject to:

• Payments being deductible at the corporate level, verified by the arm’s length test.
• Payments being taxed at the shareholder level as personal income (e.g., employment income, rental income)

Question 17

What defines a corporation in terms of taxation?

Answer 17

• Own legal capacity
• Legal status depends on its legal form (e.g., Aktiengesellschaft, limited company, European company)
• Subject to unlimited taxation on worldwide income based on its residence
• Taxation is independent of the taxation of individual shareholders.

Question 18

Which question do we need to ask ouselves when looking at specific tax scenarios? For example the taxation of a business?

Answer 18

Liability to tax:
- unlimited vs.
- limited liability

Type of income:
- trade or business or
- personal income?

Determination of income:
- Accrual vs.
- Cash

Date of taxation:
- Accual/Cash,
- annually?

Question 19

What is liabiltiy to tax, type of income for corporations?

Answer 19

Liability to tax

Unlimited liability: Resident corporations
- Legal seat or effective place of management
- Worldwide income

Limited liability:
- Non-resident corporation
- Source (domestic) income

Type of income
- Companies having an own legal capacity are treated as a trade or business in commercial law (book-keeping)

• All income is treated as business income

Question 20

How is profit determined using the balance sheet approach?

(Adjusted for: ..)

Answer 20

Net business assets at the end of the tax period

• Minus net business assets at the beginning of the tax period
• Equals the change in equity during the tax period.

Adjusted for:
- Add: Withdrawals
- Subtract: Contributions
- Adjust: Specific modification for CIT (Corporate Income Tax)

= Profit of the tax period:
+ Non-deductible items for tax purposes
- Tax exempt income

= Taxable income of the tax period

Question 21

How is profit determined using the profit and loss account approach?

Answer 21

Total receipts of the tax period (as accrued)

• Minus total expenses of the tax period (as accrued)
• Equals: Net receipts of the tax period

Adjusted for:
- Add: Withdrawals
- Subtract: Contributions
- Adjust: Specific modification for CIT (Corporate Income Tax)

= Profit of the tax period:
+ Non-deductible items for tax purposes
- Tax exempt income

= Taxable income of the tax period

Question 22

What is CIT, and how does it modify taxable income?

Answer 22

Corporate Income Tax (CIT) modifies taxable income by adding or deducting specific items beyond the calculation of equity changes

Question 23

What are examples of additions to taxable income for CIT?

Answer 23

• 50% of fees paid to supervisory board members (e.g., in Germany)
• Interest paid on shareholder debt financing, subject to thin capitalization rules.

Question 24

What are examples of deductions from taxable income for CIT?

Answer 24

• Donations to non-profit organizations, within limits (e.g., France, Germany)
• Intercompany dividends and capital gains, under specific conditions.