The Finance Court had denied a timber trading group’s deduction of €4 million paid by one group company to a sister partnership as compensation for sawmill construction defects.
The Finance Court had refused the deduction because no written agreement existed between the related parties, without assessing all relevant circumstances under the arm’s length principle.
Judgment of the Federal Constitutional Court
The Federal Constitutional Court annulled a judgment of the Finance Court. The Court found the approach of the Finance Court arbitrary and contrary to Article 3(1) of the Basic Law, as written form cannot be treated as an independent legal requirement. The case was sent back to the Finance Court for a full assessment, while other parts of the complaint were dismissed as inadmissible.
Excerpts in English
“(1) As the appellants have correctly pointed out, the Finance Court 50, contrary to the decision of the Federal Constitutional Court (see BVerfG, decision of the 1st Chamber of the Second Senate of 7 November 1995 – 2 BvR 802/90 -) and the established case law of the Federal Finance Court based thereon (see BFH, judgment of 23 November 2021 – VIII R 17/19 -, BFHE 275, 127, para. 18 with further references), the court did not carry out the overall assessment of all relevant circumstances required in the context of the arm’s length principle, but based its decision solely on the fact that the companies involved had not entered into any written agreements in advance. In doing so, the Finance Court did not consider the complete absence of agreements to be decisive, but rather the failure to conclude written contracts. It expressly left open whether ‘any implied agreements’ on contract manufacturing or agreements on the payment of damages had been concluded. In its ruling, it consistently refers to ‘written contracts’ or ‘written agreements’. It also expressly stated: ‘[…] contrary to the opinion of [the appellant in 1.], the requirement for written contracts that may arise from the arm’s length principle is not merely a superfluous formality.’
(2) In focusing on written agreements, the Finance Court does not address the extensive case law of the highest courts on the question of the required overall assessment of all circumstances in the context of the arm’s length principle, but merely cites the judgment of the Federal Finance Court of 29 July 2015 – IV R 16/12 . However, even according to this ruling, there is an obligation to make an overall assessment based on the facts established by the Finance Court (para. 21). No such overall assessment can be inferred from the contested ruling of the Finance Court.
(3) In this respect, the interpretation of the Federal Finance Court in its contested decision rejecting the appeal against the refusal of leave to appeal is also not to be followed, according to which the Finance Court based its decision on the absence of contractual agreements made in advance on the one hand and on the failure to conclude written contracts on the other. Such a combination of criteria cannot be inferred from the judgment of the Finance Court. On the contrary, the Finance Court rejected requests for evidence on the question of implied or verbal agreements on the grounds that the question did not arise if the ‘strict arm’s length principle’ applied here and written agreements on a contract manufacturing relationship were required.
(4) Contrary to the opinion of the Federal Ministry of Finance, the Federal Constitutional Court is not acting as a ‘quasi-appeal court’ in the present case. The Federal Constitutional Court has repeatedly ruled on the arm’s length principle at issue here that the result of a factual assessment of the arm’s length principle is, in principle, not open to constitutional challenge (see BVerfG, decisions of the Third Chamber of the Second Senate of 16 July 1991 – 2 BvR 47/90 -, juris, para. 3; and of 27 November 2002 – 2 BvR 483/00 -, para. 2). However, in its decision of 7 November 1995 – 2 BvR 802/90 – (juris, para. 25 to 27), the First Chamber of the Second Senate of the Federal Constitutional Court objected on constitutional grounds to the fact that a single criterion is made an independent element of the offence. This is the case here. The annulment of the judgment of the Thuringian Finance Court follows solely from the fact that it considered only the lack of written form to be decisive and thus elevated compliance with the written form to an element of the offence.
b) The judgment of the Thuringian Finance Court is also based on Article 3(1) of the Basic Law in its 54 interpretation as a violation of the prohibition of arbitrariness by the court (see BVerfG, decision of the 3rd Chamber of the First Senate of 22 September 2023 – 1 BvR 422/23 -, para. 24; decision of the 1st Chamber of the First Senate of 16 January 2025 – 1 BvR 1182/24 -, para. 35). It is not certain that the Finance Court would have reached a different conclusion in the required overall assessment. Conversely, however, it cannot be ruled out that the Finance Court would have decided differently on the merits in an overall assessment (if necessary after taking evidence).”
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