Like-kind Exchanges Pursuant to Section 1031 Internal Revenue Code and their Consequences under German CFC-rules

On the basis of sound economic reasoning, numerous tax systems have provisions that allow for tax free exchanges of like-kind property. When the property is sold after the exchange the gain will usually be taxed so that it is in fact not a tax free exchange but rather a deferral of taxation until the sale of the property. After a brief overview of the basic like-kind exchange rides under the US Internal Revenue Code (IRC) and the basic concepts of the German Controlled Foreign Corporations (CFC-) rules, this article discusses the possible consequences of a like-kind exchange of US property by a US corporation, owned and controlled by shareholders resident in Germany under German CFC-rules. As a few examples will demonstrate, a like-kind exchange under US law could - if certain conditions are met - lead to the application of German CFC-rules thereby reversing the non-recognition event. In these instances, German CFC legislation overreaches the basic purpose of CFC-rules - to prevent or reduce abuse and designs for tax evasions.