Distinction between immediate taxation and inflow taxation
With immediate taxation, the profits that arise can be taxed immediately, thus on the date of the disposal. In such a case, the tax-free allowance for business disposals and a reduced tax rate would be applicable. The capital gain that would have to be reported would be the difference between the present value of the pension (minus any selling costs) and the carrying amount of the capital account of the business for tax purposes. The profit component included in the pension payments would then moreover constitute other income.
Alternatively, sellers may choose so-called inflow taxation and thus spread out the tax payments over time. They may treat the pension payments, where applicable, as subsequent operating income. In such a case, the profit would only arise when the capital portion of the recurring payments exceeds the seller’s capital account for tax purposes plus any selling costs they may have incurred. The interest component included in the recurring payments would constitute subsequent operating income already on the date when the payment is received.
The Federal Fiscal Court on exercising the right to choose
The Federal Fiscal Court (Bundesfinanzhof, BFH), in its ruling of 29.6.2022 (case reference: X R – 6/20) decided that the right to choose may also be exercised in the case of business disposals where business owners give up their businesses and only sell the operating assets in return for recurring payments. In the underlying case, a woman had given up her craft business in 2013 and had sold the operating assets to a GmbH [a German limited liability company] in return for payment of a lifelong pension in the amount of €3,000 per month. The respective local tax office was of the opinion that, in this case, immediate taxation was mandatory. The tax office therefore calculated a gain from relinquishment that also included the net present value of the life annuity.
The BFH judges made reference to the fact that in the event of immediate taxation and the seller’s early death more would have to be taxed than had actually been paid to the seller. Against this background, the settled supreme court case law has opened up the right to choose inflow taxation spread out over time.
Outcome: According to the BFH, in cases where businesses are relinquished and, at the same time, the operating assets are sold, it is likewise in the interest of the seller not to have to pay more income tax than an amount based on the pension payments that have actually been received. That is why this choice must be made available to such sellers, too.