Limited legal power of the CFC tax law in relation to foreign foundation-based income structures? A critical analysis and solution

Why this hidden tax pathway matters

Most people assume that when a country passes tough laws against profit shifting, large companies can no longer move money to low‑tax jurisdictions so easily. This article shows that this assumption is too optimistic. It explains how a special kind of legal vehicle—a foreign foundation with no shareholders—can create a blind spot in key anti‑avoidance rules known as controlled foreign company (CFC) laws. Using a concrete example involving Germany and Malta, the author demonstrates that substantial income can still be taxed at very low rates while remaining outside the reach of rules that were designed to prevent exactly this kind of tax planning.

The basic idea behind anti‑avoidance rules

CFC rules are supposed to stop companies from parking profits in low‑tax subsidiaries abroad. If a foreign entity controlled by a domestic taxpayer earns mostly passive income—such as interest on loans or returns on financial assets—at a very low tax rate, CFC laws usually force that income to be taxed back in the home country as if it had been earned there directly. This approach assumes two things: that it is possible to tell when income is taxed at a low effective rate, and that the law can clearly identify who “owns” or controls the foreign entity so that its profits can be attributed to the right taxpayer.

How orphan foundations fall through the net

The article focuses on foreign foundations that have their own legal personality and independent assets. Unlike companies, these foundations have no shareholders and no nominal capital that anyone can own. Instead, they have beneficiaries who may receive payouts, but who do not hold a legal share in the foundation’s assets or profits. Because current CFC rules are built around shareholdings, capital stakes, and profit rights, they struggle to treat such foundations as controlled entities whose income can be attributed to a domestic taxpayer. The author argues that these “orphan” structures expose a structural weakness in CFC design, not just in Germany but across regimes inspired by the EU’s Anti‑Tax Avoidance Directive (ATAD).

A real‑world example using Malta

To make this abstract problem concrete, the study examines a specific structure. A German company fully owns a Maltese subsidiary. That subsidiary in turn is the sole beneficiary of a Maltese foundation, which holds financial assets and earns only passive foreign income. Malta operates a flat‑rate foreign tax credit and refund system: the foundation is formally taxed at a high corporate rate, but a special credit and a generous refund to the beneficiary company reduce the overall effective tax burden on distributed income to about 6.25%. From an economic perspective, this is low‑tax income. Yet under German law, the German parent does not have the kind of capital or profit participation in the foundation that CFC rules require for income attribution, so the low‑tax income is never pulled back into Germany’s tax net.

Why existing rules cannot see the full picture

The paper shows, step by step, how both German law and the ATAD framework fail to catch this structure. First, when determining whether there is low taxation, CFC rules usually look only at the tax paid by the foreign entity itself, not at refunds received by its shareholder or beneficiary. In the Maltese system, the foundation’s own tax bill looks moderate rather than very low, and the key reduction happens later via a refund to the beneficiary. Second, even where national law tries to adjust for such refunds, it still requires a specific kind of ownership link before income can be attributed back home. Because foundations have neither share capital nor legally defined profit shares, beneficiaries and ultimate parent companies do not qualify as participants under these definitions. Special German rules for foreign family foundations also do not help here, because they only apply when the founder or beneficiaries themselves are German taxpayers, which is not the case when the immediate founder and beneficiary is a foreign company.

What the study suggests should change

In its conclusion, the article argues that current CFC laws, as designed, are largely powerless against foreign foundation‑based arrangements, even when these clearly achieve low effective tax rates. This undermines both the effectiveness and the perceived fairness of international tax rules. To fix this, the author proposes expanding the legal definition of relevant participation in a controlled foreign entity. Instead of focusing solely on shares and profit rights, CFC regimes should also consider who is directly or indirectly entitled to benefits from a foundation’s income or to its assets when it is wound up. By tying attribution to real economic benefit—such as rights to distributions or liquidation proceeds—legislatures could bring opaque foundations within the scope of CFC rules and close an important loophole in the fight against international tax avoidance.

Citation: Kollruss, T. Limited legal power of the CFC tax law in relation to foreign foundation-based income structures? A critical analysis and solution. Humanit Soc Sci Commun 13, 327 (2026). https://doi.org/10.1057/s41599-026-06770-7

Keywords: controlled foreign companies, foreign foundations, international tax avoidance, Malta tax regime, EU Anti-Tax Avoidance Directive