Taxation of Basel III-Compliant Instruments

February 2012

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Under Basel III and Capital Requirements Directive IV (CRD IV), the regulatory criteria of certain capital instruments such as hybrids are subject to significant changes. The minimum Common Equity Tier 1 requirements will rise to 75 per cent (from 50 per cent) in 2015, whereas the Additional Tier 1 quota will decrease to 25 per cent or less. Therefore, banks might be more inclined to issue new hybrid instruments during the interim phase.

From a German tax perspective, the success of newly implemented hybrids will depend on whether these hybrids can be treated as debt at the level of credit institutions. With regard to the criteria for Additional Tier 1 capital, there is some likelihood that the German tax authorities will classify such instruments as equity and, consequently, deny tax deductibility. Depending on the terms of such hybrid items, however, a debt characterization should be achievable, provided that either a profit-related coupon or a participation in the liquidation proceeds is avoided. When taking tax planning measures as regards new hybrid instruments, one must bear in mind that there are currently no reliable guidelines from the German tax authorities. Therefore, it is expected that German institutions will enhance their Tier 1 capital through different routes, whether this is advantageous from a tax perspective or not.

Published in ‚ÄúDerivatives and Financial Instruments‚ÄĚ, IBFD January/February 2011, p. 17 et seq.