Private ClientsSuccession, Wealth and Foundations16.11.2022 Newsletter
Transfer of real estate – significantly more expensive from next year onwards
According to the current draft of the German Annual Tax Act 2022 [Jahressteuergesetz 2022, JStG 2022], which will apply from 01 January 2023, the regulations on the valuation of gifts and inheritances of real estate are expected to be significantly tightened. Real estate owners who wish to transfer real estate free of charge, especially by way of anticipated succession, should urgently check whether they can save taxes by transferring it this year.
The taxation of gifts and inheritances of real estate
The donation or inheritance of real estate generally triggers inheritance and gift tax. There are exceptions only in a few cases, such as corporate assets or in certain cases of owner-occupied family real estate. Our article on tax benefits when inheriting a family home can be found here.
In all other cases, this depends on the extent of the personal allowances of the acquirers. For example, an allowance of 500,000 euros is available between spouses every 10 years. For transfers to children it is 400,000 euros, for transfers to grandchildren 200,000 euros, per (grand)parent and (grand)child. For transfers to distant relatives and non-family, the allowance is only 20,000 euros.
In view of how the value of real estate has developed in recent years, this value is likely to be quickly exceeded. Hence, the value taken by the tax office as a basis for determining the inheritance and gift tax is decisive. The current draft of the Annual Tax Act 2022 (JStG 2022) provides for a significant tightening of the requirements for evaluating real estate.
According to the German Valuation Act [Bewertungsgesetz, BewG], real estate is primarily evaluated according to a procedure that is specifically determined for the purposes of inheritance/gift tax (so-called asset value approach or income approach). In the past, the calculation often resulted in lower values than the current market value of the property. If the value calculated in this way was higher than the market value, the possibility existed of proving this by means of an expert opinion, which was then taken as the basis for the valuation. This mechanism ensured that the tax value was mostly lower, but in no case higher, than the current market value. The statutory procedure, which was generally favourable in the past, has now been tightened up considerably, with the result that the tax value of real estate will far more frequently correspond to the market value. In addition, the number of cases in which the market value is even exceeded is likely to increase. As a rule, the tax value and thus the gift tax is likely to be significantly higher than before.
Significant tightening planned with the Annual Tax Act 2022
Particular attention should be paid to the amendments to Secs. 177 et seq. BewG provided for in Articles 12 and 13 of the current "Draft Annual Tax Act" (JStG 2022). These are the provisions that deal with the valuation of real property (undeveloped and developed properties). According to the federal government’s official explanatory memorandum to the draft JStG 2022, the background for this change is the German Inheritance Tax Reform Act 2008 [Erbschaftssteuerreformgesetz 2008, ErbStRG 2008] and the realignment of the real estate valuation for inheritance tax purposes contained therein. In the meantime, the German Real Estate Valuation Ordinance [Immobilienwertermittlungsverordnung, ImmoWertV] was enacted in 2021 and contained new, specific regulations for determining the market value of real estate. According to the federal government, the BewG - and therein specifically the procedures for evaluating developed land by means of the income approach and asset value approach - is now to be adapted to this changed regulatory situation.
The JStG 2022 is already in the concrete consultation and hearing phase before the Finance Committee of the Bundestag. The Bundesrat has already taken a position on it. The JStG 2022 is expected to come into force with effect from 01 January 2023.
What precisely is going to change?
The BewG provides various procedures for property valuation. With the amendments contained in the JStG 2022, the federal government is making - almost inconspicuous - changes to individual calculation factors within the valuation procedures, while the fundamental method remains the same. These changed calculation factors may result in a higher property valuation and, as a result, to a higher (inheritance) tax assessment basis. Specifically:
- the deductibility of management costs is to be limited,
- the so-called property interest rates are to be adjusted,
- special regional factors are to be taken into account to reflect regional construction cost differences, and
- the so-called value numerals are to be adjusted to the current market level.
The deductibility of management costs(No. 1) plays an important role in the case of rental properties, as they can be deducted from the property’s income. Whereas management costs could be recognised to date on the basis of expert empirical principles or, alternatively, on a lump-sum basis, this will no longer apply under the JStG 2022. In the future, it will only be possible to deduct fixed amounts per property for administrative costs and sqm-dependent lump sums for maintenance. This can lead to a significant increase in the tax assessment base of up to 20 to 30 percent.
The property interest rate (No. 2) shows the increase in the value of the property expected in the future. The main factors here are location, property type and residual useful life. In the future, it will no longer be possible to determine the property interest rates according to expert committees - as has been the case to date – as they are to be based on the values set out in the ImmoWertV on a lump-sum basis. This is likely to reduce property interest rates in structurally weaker regions as well, which may lead to a higher tax assessment basis.
The newly introduced regional factors (No. 3) further increase the tax assessment base by multiplying them by the standard production costs and floor space. This is also intended to even out structural differences and bring real estate prices in metropolitan areas into line with the market situation, the effect of which will also be to increase taxes in these regions. As a result, a property with the same production costs and of the same size in Munich, Hamburg or Berlin, for example, will therefore be subject to higher inheritance and gift tax.
The value numeral (No. 4) is also intended to further bring the property valuation into line with the actual conditions on the real estate market. These apply in particular when there is no expert assessment of the structural strength of the region and location of the property.
What needs to be done?
Real estate owners who are planning a transfer of real estate assets in the near future - whether by gift, inheritance or bequest - should urgently check in good time before the end of the year whether inheritance and gift tax can be saved by conducting the transfer this year, i.e. before the JStG 2022 comes into force. This fundamentally requires that property change be entered in the Land Register before the end of 2022. In exceptional cases, however, it may be sufficient if only the application for the change of registration has been submitted.
In addition, when making the gift, the donor can flexibly reserve numerous rights that also protect him in the event of an early transfer, e.g. to his children. For example, the donor can reserve the full use of the property within the framework of a usufructuary right, which can also further reduce the value of the gift for the acquirer and thus also the tax burden. In addition, the donor can provide for comprehensive rights of revocation and grounds for reversion and thus retrieve the property in certain cases (e.g. if the donee resells it against his will). In the case of extensive real estate portfolios, one could ultimately consider setting up a family company to take on the properties and ensure that they remain in the family for as long as possible.
We would be happy to advise you on these various structuring options and their tax savings potential.