Sales risk: Closed-end investments with trust structures

*by Johannes Fiala, Lawyer (Munich), Mediator (Univ.), MBA Financial Services (Univ.Wales), MM (Univ.), Certified Financial and Investment Advisor (A.F.A.), EC Expert (C.I.F.E.), Lecturer (Univ. of Cooperative Education), Banker (
“Most transportation taxes, including sales taxes, have no deeper purpose than to bring money to the state.”
Federal Fiscal Court (BFH), in: BStBl 1973, p.96 From an initiator’s point of view, the involvement of a trustee offers considerable advantages, for example in the case of KG investments. This is because there is no need for the “register publicity” of the subscribers and the administration is considerably facilitated in the case of transfer of shares. The participation of minors (often only possible with the prior consent of the guardianship court) is usually to remain as secret as the participation of celebrities.
Legal advice risk:
From the point of view of the intermediary or distributor, the decisive factor is how the trust is structured. The mere holding of a participation is not subject to a licence. If, on the other hand, further structuring tasks are added, such as the conclusion of financing agreements, the entire trust structure may be null and void due to a violation of the Legal Advice Act. For the financial advisor, who is obliged to carry out a “plausibility check” in accordance with the case law of the Federal Court of Justice, this is a very demanding task, because there is neither “the typical trust” nor a special law for it – and thus many different forms of trust can be found in practice.
Income tax risk:
Usually, the profits and losses for income tax purposes fall on the settlor. Disclosure of the trust to finance makes sense. It is essential that the trustee holds the interest only in the interest of the settlor/investor. Even without a trustee, there is a risk that an investment model will turn out to be a “snowball system” which will sooner or later become insolvent. It then happens that the trustor/investor also has to pay tax on profits that later turn out to be a “sham return”. A well-known example in the industry is the “ABMBROS” case, among others.
Inheritance tax risk:
The relatively new trust decree of the tax authorities has abolished the treatment as if the settlor/investor is directly and immediately involved. Previously, in the case of inheritance and donation, the value was determined by valuing the fund’s assets. In the case of asset management funds, such as private equity, the “Stuttgart method” was applied: The tax value was thus usually significantly below the market value. The commercial funds were doubly favoured, firstly because “only” the tax balance sheet values were applied, and then additionally because there were further deductions due to the business assets property. What is new now is that these privileges have been abolished – the decisive starting point for the valuation is the “surrender claim of the investor/trustee” against the trustee. The tax lawyer then calls this a “claim in kind”, which is valued at the “fair market value”.
Inheritance Tax Savings Schemes:
However, this view of things also enables the heir or donee to make tax-saving arrangements after an acquisition: one could think, for example, of only transferring these shares in trust within five years in order to avoid subsequent taxation. Without taking the safest route, e.g. obtaining binding information from the tax authorities beforehand, the prudent practitioner will not want to solve such problem situations. Another variant is the situation where the investor has neither a domicile nor a habitual residence in Germany. In the case of foreigners, rights to claims, such as the claim for restitution from the trustee, are currently tax-exempt. It would also be tax efficient to dissolve the trust in good time and/or to agree an effective safe clause whereby the trust terminates on inheritance and/or gift. This needs to be designed so that it is not seen as a workaround by the tax authorities at a later date. The interposition of a special additional limited partnership as asset manager can also have the desired tax-saving effects.
Liability risk in consulting:
Investors and their financial advisors should consider these options and, if necessary, make contractual adjustments, because statements on inheritance tax privileges – which are no longer valid today – were often made in the prospectuses and sales documents. This point can develop into a liability trap in the event of a long-term customer relationship or previous incorrect advice. Tax advice is not covered by the financial advisor’s liability for pecuniary loss. Please also read the decree FinMin. Bavaria of 14.6.2005 ‘Transfer of assets held in trust’.
Status: 03.11.2006
(experten report 8 1/2007, 58)

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Dr. Johannes Fiala Dr. Johannes Fiala

Dr. Johannes Fiala has been working for more than 25 years as a lawyer and attorney with his own law firm in Munich. He is intensively involved in real estate, financial law, tax and insurance law. The numerous stages of his professional career enable him to provide his clients with comprehensive advice and to act as a lawyer in the event of disputes.
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