Case Study: Germany-Hungary Tax Treaty, Permanent Establishment Based on Place of Management
If tax issues are detected in companies with a higher turnover and employing many people going back several years, large sanctions can always be expected. Preventing this is greatly facilitated if the tax consultants assisting the companies in each country have significant experience in international taxation and communicate and consult with each other regularly.
The application of tax rules often poses difficulties for practitioners responsible for implementation. Below is a case study that makes the mistakes that can be made in practice clearly visible.
German Group in Hungary
Some years ago, a German group of companies decided to adapt to the growing European trends in the industry and set up companies in several Eastern Member States of the EU, in the so-called low-wage and low-tax countries, because in international traffic, the drivers are generally taxable in the country, where they are employed (however, according to the applicable international tax treaties). This is how limited companies were established in Hungary.
The company group carries out international transport activities, with their vehicles built for international traffic, they have contracted with international transport agencies, and transported freight and passengers between specific destinations, typically European Union countries.
The newly founded companies acquired some of the necessary equipment for operation, recruited employees, leased vehicles, and rented sites. The employees were registered in the country where the company was based, and where the vehicles were leased and operated, and the companies held all the required operating licences in the country where they were based.
Place of Management
The management of the Hungarian company was entrusted to Hungarian executives and German managing directors of the group. According to the division of labour, the German managing directors made business decisions, organized the transports, and handled the orders, while the Hungarian executives present at local level handled the affairs related to employees, tasks related to banks, obtaining the necessary permits, etc. However, during the organization of work, they ignored the fact that the German managing directors were still involved in the management of the German company: they also made business decisions related to the German company while being in Hungary.
After the launch of its activities in Hungary, the vehicles of the company group travelled the roads of Europe in increasing numbers, with nearly 100 vehicles and about 200 employees working in the companies. Both in Hungary and Germany, companies regularly used repair and other services, so after a while the presence of many vehicles with foreign license plates became particularly striking.
Permanent Establishment in Hungary
After many years of operation of the companies, the competent Hungarian tax office came to the conclusion within the framework of an audit that during the period examined by it, the German company had established a permanent establishment in Hungary for both corporate tax and value added tax purposes in view of its management, but it was not registered in Hungary in accordance with the regulations, i.e. it was not registered for corporate income tax and VAT purposes. As a result of the permanent establishment, they would have had to pay corporate income tax in Hungary and VAT on certain activities and purchases, because it was not considered to be outside of Hungary for VAT purposes and therefore, could not have applied the so-called reverse charge mechanism either.
The tax deficit found amounted to a significant amount, and within the framework of international legal assistance, the Hungarian tax authority also acted against the German company in Germany and initiated enforcement proceedings.
The above example clearly shows that in the case of cross-border activities, special attention must be paid to ensure that the tax authorities cannot detect this type of error. It is a common experience that if problems are detected in companies with a higher turnover and employing many people going back several years, large sanctions and strict attitude can always be expected. Preventing this is greatly facilitated if the tax consultants assisting the group in each country have significant experience in international taxation and communicate and consult with each other regularly.
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