Contributions by a Limited Partner

The share of the loss of a German limited partnership with a limited liability company as a general partner (GmbH & Co. KG) cannot be offset or deducted against other income from a business or other types of income, but can only be offset against future income from the same participation to the extent that a negative capital account of the limited partner arises or increases. Capital transfers by the limited partner in the form of contributions to the equity capital of the partnership can reduce a negative capital account of the limited partner and enable immediate loss compensation in the year in which the loss arises. The handling of such contributions is not further specified in the wording of Section 15a of the German Income Tax Act and is therefore extremely disputed in practice, as current case law shows.

Requirements of Contributions

In its ruling of November 10, 2022, Case No. IV R 8/19, the German Federal Fiscal Court commented on the requirements for (optional) contributions within the meaning of Section 15a of the German Income Tax Act.

In the case in question, three natural persons were limited partners of a GmbH & Co. KG, which was founded in the year 2006; a management limited liability company (Verwaltungs-GmbH) held 0 % of the assets as general partner.

According to the articles of partnership, the GmbH & Co. KG kept the following accounts for each partner:

Capital Account I	Entry of the fixed capital share of the partner	Equity Capital
Capital Account II (Revenue Reserve Account)	Entry of non-withdrawable profit shares as well as loss shares attributable to the partner	Equity Capital
Loss Carried Forward Account	Entry only to the extent that the credit balance on the capital account II is not sufficient to cover the partner’s share of losses	Equity Capital
Private Account	Entry of withdrawable profit shares as well as current withdrawals and contributions	Debt Capital
Common Capital Reserve Account	Entry of the partners’ contributions called in on the basis of a shareholders’ resolution	Equity Capital

A limited partner granted a loan to the GmbH & Co. KG on December 28, 2006 in the amount of EUR 350,000. On December 13, 2008, a supplement to the loan agreement was agreed and the aforementioned loan in the amount of EUR 185,000 was terminated. Furthermore, it was planned that the limited partner would make a contribution to his limited liability capital account in the amount of the terminated amount. This transaction was recorded in the financial accounting of the GmbH & Co. KG without any payment flow by crediting the limited partner’s capital account II. As a result, the share of the loss attributable to the limited partner was initially treated as fully compensable. After an external audit, however, the tax office argued that the contribution entry made was not to be taken into account within the meaning of Section 15a of the German Income Tax Act; it considered the share of the loss to be merely offsettable due to the already existing negative capital account and increased the share of profit attributable to the limited partner accordingly. The German Federal Fiscal Court took the same view.

Accordingly, a contribution within the meaning of Section 15a of the German Income Tax Act is only deemed to have been made if something has accrued to the company’s assets from outside for the account of the limited partner, which increases the company’s balance sheet value, i.e. increases the company’s assets or reduces its liabilities, and thus has an influence on the equity capital account and is thus subject to access by the company’s creditors. This includes both the so-called conditional contribution actually made by the limited partner, i.e. his mandatory contribution, and optional contributions made by the limited partner to the equity capital of the partnership. A requirement for the latter, however, is that the contribution results in an increase in the partnership assets and an economic burden on the limited partner. This can only be assumed if the articles of partnership permit the limited partner to make an optional contribution or if there is an effective shareholder resolution to this effect.

In the case in question, the articles of partnership did not contain any express provision on the admissibility of optional contributions by the limited partners, taking into account the capital account structure. In the opinion of the German Federal Fiscal Court, the entry of such contributions on the capital account II was in any case incorrect, as this account in particular did not provide for the entry of optional contributions.

According to the articles of partnership, contributions could be made either to the private account of the limited partner or to the common capital reserve account, whereby an increase in the reserve account through contributions required a corresponding shareholder resolution. In the opinion of the German Federal Fiscal Court, the agreement concluded in the case in question on December 13, 2008 on an supplement to the loan agreement did not constitute a shareholder resolution in the absence of an apparent invitation to the shareholders’ meeting, but rather an agreement under the law of obligations between the persons involved in the conclusion of the agreement. Similarly, the approval of the annual financial statements did not constitute the consent of all partners to an optional contribution by the limited partner.

Thus, only the private account of the limited partner remained for the entry of the contribution. However, this was a receivables or loan account (= debt capital) and not a capital account (= equity capital). This is because the partners could demand payment of the credit balance entered on the private account at any time in accordance with the articles of partnership. In contrast, contributions within the meaning of Section 15a of the German Income Tax Act are characterized precisely by the fact that they cannot be freely withdrawn.

The – actual - entry of the amount of EUR 185,000 on the limited partner’s capital account II, which was neither covered by the provisions of the articles of partnership nor by an effective shareholders’ resolution, thus ultimately did not result in a contribution within the meaning of Section 15a of the German Income Tax Act that would lead to the limited partner’s losses incurred in the year in dispute being offset and deductible. The tax office therefore correctly determined that the loss could only be offset in the future.

Additional Withdrawals and Off-Balance-Sheet Adjustments in the Development of Capital Accounts

In its court ruling dated April 13, 2022, Case No. 13 K 141/20 (appeal, German Federal Fiscal Court IV R 10/22), the Fiscal Court of Muenster commented on whether and to what extent, on the one hand, cross-year additional withdrawals and, on the other hand, off-balance sheet addition amounts can have an influence on the negative capital account of a limited partner for the purposes of Section 15a of the German Income Tax Act.

In the case in question, the limited partner of a limited partnership made high withdrawals in the profit years 2014 and 2015 and reinvested them in the loss year 2016; on balance, however, the contributions in the period from 2014 to 2016 were only around EUR 5,000 higher than the withdrawals. The share of the loss attributable to the limited partner in the amount of approximately EUR 85,000 was therefore treated as compensable in the assessment return for 2016.

The tax office, however, determined a merely offsettable loss, taking into account a tax adjustment item with regard to the repatriation of additional withdrawals, and consequently calculated a share of profits attributable to the limited partner. In addition, the tax office did not take into account the amount to be added off-balance sheet within the scope of a recognized investment deduction amount when calculating the offsettable loss.

The Fiscal Court of Muenster objected to the opinion of the tax office insofar as it took into account a tax adjustment item with regard to the repatriation of additional withdrawals when calculating the offsettable loss. Even if the limited partner, on balance, only made contributions of around EUR 5,000 in the years 2014 to 2016, the tax loss attributable to him in 2016 of around EUR 85,000 is fully offsetable or deductible within the meaning of Section 15a of the German Income Tax Act, irrespective of the associated increase in his - even after the contributions - negative capital account. The contribution in the year in question was higher than the loss attributable to the limited partner; the contribution therefore created loss compensation potential and the loss of the current year did not - viewed in isolation - increase the negative capital account. This is because contributions or withdrawals made in previous years may not be included in the calculation of the offsettable loss of another year according to the basic legal concept of Section 15a of the German Income Tax Act in the form of a strictly year-related consideration; in the opinion of the Fiscal Court of Muenster, there is no legal basis for this.

With regard to the amount to be added off-balance sheet within the scope of a recognized investment deduction amount, which the tax office did not take into account when calculating the offsettable loss, the Fiscal Court of Muenster agrees with the approach of the tax office. This is because an off-balance sheet adjustment does not affect the amount of the capital account within the meaning of Section 15a of the German Income Tax Act; consequently, neither the partnership assets nor the external liability of the limited partner are affected.