German Court Eases Requirements for Formally Documenting Related-Party Contracts

Germany's Federal Constitutional Court (BVerfG) issued a significant ruling in May 2025 regarding the tax deductibility of contracts between related entities. Previously, tax authorities often required such agreements, particularly those involving substantial amounts, to be in writing to be recognized for tax purposes.

The case involved a company that had constructed a facility for its sister company without a formal written contract. Tax authorities denied a deduction for a subsequent damages payment, citing the lack of a written agreement. The BVerfG has now rejected this strict stance, ruling that the absence of written form alone is not sufficient grounds for tax denial. Instead, a comprehensive assessment of all circumstances, consistent with how unrelated parties would transact, is paramount.

This decision emphasizes that the actual execution and documentation of an agreement are more critical than its formal structure. While written form is no longer an absolute prerequisite, companies are still advised to meticulously document their agreements. This practice aids in demonstrating the substantive and market-conform nature of transactions during tax audits.

Moving forward, businesses must focus on the practical implementation and documentation of their related-party contracts. While written agreements remain advisable for clarity and to minimize disputes with tax authorities, the court's ruling suggests that substance will be given greater weight. Companies should ensure their internal contract terms align with market practices observed between independent parties.