* Banks used loophole allowing double ownership of shares
* Cost state billions of euros in tax - industry experts
* Loophole closed in 2012, practice banned
* Finance ministry may have missed earlier chances - documents
By Matthias Sobolewski
BERLIN, June 22 (Reuters) - German banks exploited a legal loophole that allowed two parties to claim ownership of the same shares, the financial watchdog will tell lawmakers this week, in schemes that could have cost the state billions of euros in tax over many years.
This double ownership allowed both parties to claim tax rebates. It has provoked public anger in Germany and is an embarrassment for the Berlin government, which has campaigned for years to root out tax evasion around the world.
The loophole was closed in 2012, with the means of claiming double ownership banned. But an analysis of documents related to a lawmakers’ investigation - seen by Reuters but not publicly available - suggests the finance ministry may have missed a chance to end the practice several years earlier, instead accepting a banking lobby proposal that allowed it to continue.
The finance ministry told Reuters that it had done all it could to end what it regarded as a criminal practice.
Such schemes centred around “short sales” - the sale of borrowed shares. A bank would loan out the stock in a way that made both the bank and the eventual buyer appear briefly to be simultaneous owners of the shares. This allowed both parties to receive a dividend tax rebate.
The financial watchdog BaFin estimates “a small double-digit number” of German banks were involved in such schemes, but has not named them. Many Germans have been particularly angered that Commerzbank - bailed out in the financial crash and still partly state-owned - has said it used the arrangement.
Commerzbank said there had been “some violations” but said it had not been involved in “systematic participation in such business”.
The debate over the so-called “Cum Ex” trades has gained fresh momentum following a German regional court ruling in February that found there was no legal basis for the double claiming of rebates, even before it was banned in 2012.
Public prosecutors have embarked on more than a dozen investigations in Frankfurt, Munich and Cologne to pursue banks for any rebates received through this loophole.
Lawmakers on a special parliamentary committee convened in February are investigating the practice and whether the government responded quickly enough to close the loophole. Industry experts say the practice had been going on for decades and had cost the state billions of euros.
Officials from the regulator will appear before the committee on Thursday. Finance Minister Wolfgang Schaeuble and three predecessors dating back to 1998 will appear in the coming months and will likely face questions on who profited from Cum Ex deals and why the authorities let them continue until 2012.
“Cum Ex” deals were known by state officials to be problematic more than a decade ago but the finance ministry accepted a banking industry plan to change the law - a plan which opened another loophole, documents seen by Reuters show.
The documents, which track the conception in 1997 of the rule changes, through the drafting process, to a final law passed in 2007, show the ministry picked up and eventually implemented the proposal.
A document has been presented to the parliamentary committee, dated May 21, 1997, from Deutsche Bank’s tax department to industry lobby group, the Federal Association of German Banks (BdB). In it, Deutsche proposes an extra levy to make up for any tax shortfall created by such Cum Ex transactions, but with one significant exception: foreign banks and clients would not be included.
Deutsche said this week that it had not participated in an organised Cum Ex market but could not rule out that its clients had engaged in such transactions.
The Deutsche Bank proposal was taken up by the lobby group.
The German federal finance office wrote to its superiors at the finance ministry on Oct. 6, 2005, saying: “The legislation proposed by the Federal Association of German Banks is ... fully suitable for governing the problematic cases of short-selling”.
In 2007, the amendment proposed by the lobbyists became law. This allowed banks to continue using such trades for another five years, so long as their clients involved were foreign - for example a hedge fund in London or Paris.
“The proposal made was specifically aimed at being good for the banks and bad for the tax authorities,” Green party lawmaker Gerhard Schick has told the committee.
In a letter to clients dated Aug. 29, 2008, and seen by Reuters, French bank BNP Paribas said it had attended a meeting at the lobby group to determine who was obliged to pay the new levy.
“The obligation to withhold tax on short sales only affects German banks selling securities by order and on behalf of their clients,” the letter read. “Non-German financial institutions ... are not liable to monitor and withhold tax.”
BNP declined to comment.
Former BdB director Hans-Juergen Krause told the parliamentary committee that it was not the lobbyists’ aim to find gaps in the law. “We never looked for loopholes,” Krause said.
But at least one official was sceptical of their motives from the outset. In the western state of North Rhine-Westphalia, Germany’s industrial hub, a civil servant in the regional finance ministry took aim at the lobbyists’ proposal in an internal report in October 2005.
There could only be one owner of a stock at any one time, she argued.
“The wish of the (banking) associations to develop a legal fiction is to be rejected,” she wrote in the document, adding that the new complicated rules proposed would serve to legalise a practice which was “without a civil law basis”.
Her concerns went unheeded as the finance ministry decided to follow the BdB proposal.
Now German authorities are poring over the validity of that decision and the wider legality of the Cum Ex schemes.
In a case in February this year, a court in the state of Hesse - home to Germany’s financial capital Frankfurt - ruled there was no legal basis for the double claiming of rebates, as occurred with the trades.
Banks have already paid hundreds of millions of euros in back taxes and tens of millions to settle disputes with German authorities.
For one, Maple Bank GmbH in Frankfurt, the scandal has proven disastrous. It was plunged into insolvency in February after tax officials demanded over 300 million euros in repayments, and is closed for business.
($1 = 0.8938 euros)
Writing by Paul Carrel; Editing by John O'Donnell and Pravin Char