Inheritance tax law: Real estate in inheritance tax law

Introduction

Some special features apply to real estate with regard to inheritance and gift tax. Particularly in the context of so-called anticipated succession, i.e. the transfer of assets during one's lifetime, real estate offers a number of structuring options for tax optimisation, i.e. for reducing the tax burden. The tax valuation of real estate also repeatedly raises questions because the parties involved are often unaware of the value of the property and therefore the amount of inheritance tax. 

In another article, we have already described the Basics of German inheritance tax presented. We would like to refer to this here. For this reason, we are only presenting the relevant tax-free amounts here and will deal specifically with inheritance tax in relation to property below.

What allowances do the heirs receive?

The tax burden depends to a large extent on the personal allowances of the heirs. The allowances vary according to the relationship to the deceased. The following table shows the tax-free amounts in accordance with Section 16 ErbStG.

How is the specific tax calculated?

The personal tax rate is determined on the basis of the tax class to which the heir belongs:

On the other hand, the tax rate for the purchaser is determined by the specific acquisition value.

How is the value of the property determined?

If a property is part of the inheritance, the tax office determines the market value of the property. This is the price that could probably be realised for a property or plot of land in the event of a sale. The officials calculate this value using a standardised procedure in accordance with §§ 180 ff. BewG. Standardised procedure here means that the valuation is carried out on the basis of the available data; a site inspection does not take place. For this reason, the value determined by the tax office may deviate from the actual market value. If the value determined by the tax office appears to be higher than the market value, it makes sense for heirs to commission an expert to prepare an appraisal based on an inspection. Heirs can submit this appraisal in accordance with § 198 BewG in order to base the calculation of inheritance tax on a lower market value.

Once the value has been determined, further possibilities for preferential treatment should be considered. For example, the Inheritance Tax Act contains rules for reducing or avoiding inheritance tax altogether.

Letting the inherited residential property

If the inherited property is let, 90 per cent of the calculated value is taxed, § 13d ErbStG. This means that 10 per cent of the property value is not taxed. 

Use of the inherited property as a home by the spouse

The Inheritance Tax and Gift Tax Act provides for a complete tax exemption for the family home in accordance with Section 13 (1) No. 4 ErbStG.

For the deceased's spouse, the exemption provision pursuant to Section 13 (1) no. 4b) ErbStG requires that the deceased used a dwelling for their own residential purposes in a developed property within the meaning of Section 181 I no. 1-5 BewG up to the date of inheritance. This can be any developed property in which the centre of family life is located. However, it can be problematic if the spouse gives up owner-occupation before the end of the ten-year minimum utilisation period. This means that the exemption is cancelled retroactively. Inheritance tax is then payable in full.

An exception only applies if the purchaser is prevented from using the property himself for compelling reasons (e.g. need for care). In this case, there are no unfavourable tax consequences.

Use of the inherited property as a home by the children

A similar provision exists for the deceased's children in the form of Section 13 (1) No. 4c) ErbStG. The children must use the family home for their own residential purposes immediately after the inheritance. As this regulation is limited to the family home, the regulation only applies to this property. If the deceased has several homes, the other homes are not exempt. However, in deviation from the regulation for the spouse, the family home may not have a living space of more than 200 square metres.

The provision that the children must use the family home for their own residential purposes „immediately“ after the inheritance in order to benefit from the tax relief can also cause difficulties. In the case of properties in need of renovation, for example, this can lead to a considerable delay in moving in, which can then jeopardise the tax exemption. For example, there are several court judgements that have confirmed the refusal of tax exemption because the children only moved in a few months after the inheritance and could not prove that they were not responsible for the delay (Düsseldorf tax court, 10 March 2021, 4 K 2245/19 Erb; BFH, 28 May 2019, II R 37/16; Nuremberg tax court, 4 April 2018, 4 K 476/16). 

What options does the testator have for a more favourable arrangement?

Apart from the fact that the testator can effectively utilise the tax-free allowances in their last will and testament, there are also possibilities within the framework of so-called „anticipated succession“. One popular option is to transfer real estate during one's lifetime subject to a usufructuary right. The usufruct entitles the holder to draw the benefits of use from the property, Section 1030 BGB. However, the beneficiaries are already entitled to ownership during their lifetime. The legal regulation assumes that the usufructuary must ensure the maintenance of the property at his or her own expense in accordance with Section 1041 BGB, fulfil insurance obligations and bear public and private charges (e.g. property tax, sweeping fee, land charge or mortgage interest), Section 1047 BGB.

From a tax perspective, this can sometimes be more favourable than a transfer under inheritance law alone. For example, individual allowances of the beneficiary can be utilised more efficiently. However, there are also pitfalls here. Therefore, you should always seek legal advice before taking any action with unknown legal consequences. Dr Michael Gottschalk, a lawyer specialising in inheritance law in Düsseldorf and Krefeld, will be happy to assist you with this and all other questions.