Hidden profit distributions for stock corporations

A hidden profit distribution is a reduction in assets or prevented increase in assets occurring at a corporation that is caused by the corporate relationship, affects the amount of profit and has no connection to an open distribution. The case law of the German Federal Fiscal Court (BFH) generally assumes that this is caused by the corporate relationship if the corporation grants its shareholder a pecuniary advantage that it would not have granted to a non-shareholder if it had acted with the diligence of a prudent and conscientious manager.

In the present case, the tax treatment of sales and profit bonuses received as management board remuneration by the management board member with sole power of representation, who is also a minority shareholder of a stock corporation (AG), was disputed. In its decision of October 24, 2024 (file no. I R 36/22), the BFH had therefore to answer the legal question of whether the agreement concluded between the AG and the minority shareholder had its origins in the corporate relationship and could therefore violate the arm's length principle and therefore constitute a hidden profit distribution.

The fiscal court of first instance correctly stated that – according to previous considerations in case law – sales bonuses with no upper limit entail the risk of a reduction in profits or an increase in sales that neglects the return. However, its decision to treat the turnover and profit-related bonus payments to the minority shareholder board member as a hidden profit distribution did not stand up to review by the BFH. This is because its ruling was based on the legal principles developed for limited liability company (GmbH) managing directors and disregarded the structural differences in the decision-making structures between an AG and a GmbH, which influence the assessment of causation. This is because the AG is represented by its supervisory board when determining the total remuneration of the individual management board member. The supervisory board must ensure that the remuneration of the management board member is commensurate with the tasks and performance as well as the economic situation of the company and is not unreasonably high.

According to the BFH, an agreement with the minority shareholder appointed to the management board only fails to satisfy the material arm's length comparison if the supervisory board had unilaterally aligned itself with the interests of the management board member. In the case in dispute, two members of the three-member supervisory board were also minority shareholders, each holding one third of the shares; the third member did not hold a stake in the AG. In particular, there was no situation of control by the management board in the case in dispute, as it was only a minority shareholder and there were no family relationships between the management board and the members of the supervisory board. Representation of the interests of the management board member by the supervisory board of the AG should only be considered in exceptional cases in such a constellation.

In order to fully assess the specific circumstances, the fiscal court should have taken into account both the structural differences between the company forms and the testimonies of the other two shareholders regarding the appropriateness of the bonus payments to the minority shareholder board member. As this was not done, the BFH set aside the first instance judgment and referred the case back for a new hearing and decision.