Inheritances and gifts with a foreign element

PrintMailRate-it
Cases which involve a cross-border inheritance or gift are on the rise. On the one hand this is due to the fact that potential bequeathers or benefactors increasingly live more abroad and on the other hand because the successor generation, i.e. the inheritors or recipients, also live abroad, study abroad or are engaged in a career abroad. Furthermore, the different asset values such as real estate, company shares, bank accounts and depots, etc. are often located in different countries.
 
The challenge for consulting services in such cases is to reconcile the applicable requirements of civil law and tax law in the respective countries in order to realise as far as is possible the plans of the bequeather or benefactor with regard to the succession planning and also to mitigate tax. The following points are an overview:

 

Patchwork of regulations in inheritance law and inheritance tax law

Double taxation or deduction of foreign inheritance tax

New opportunities for a higher non-taxable threshold for persons with limited tax liability

Caution: there is a risk of double taxation with foreign capital assets

Holiday homes abroad and their drawbacks

 

Patchwork of regulations in inheritance law and inheritance tax law

Inheritance tax law and gift tax law are inconsistent within the individual countries of the European Union and also outside of the European Union. The legal systems refer to different criteria in the areas of civil law and tax law. This often leads to a collision of the applicable inheritance law and to a double taxation of the same process in different countries. The EU succession regulation represents a first step towards the harmonisation of inheritance law and procedural law within the EU. The succession regulation applies to inheritance cases from August 17, 2015.
 

Double taxation or deduction of foreign inheritance tax

The EU succession regulation, however, has no influence on individual cases on the applicable inheritance tax law and gift tax law. The tax law follows its own course and remains inconsistent in the different countries. Double taxation can be avoided through a double taxation agreement. However, in the area of inheritance law, Germany has only concluded a double taxation agreement with six countries which are Denmark, France, Greece, Sweden, Switzerland and the USA. If a double taxation agreement is not applicable, there is the possibility that the inheritance tax paid on the foreign assets is offset against the inheritance tax to the extent that this is also to be paid according to German law. The person liable to the tax must in this case make a corresponding application.
 
The following typical constellations in an international context illustrate the drawbacks and opportunities for consulting services for the international succession.
 

New opportunities for a higher non-taxable threshold for persons with limited tax liability

For persons in Germany with limited tax liability who only transfer so-called domestic assets, the non-taxable threshold for inheritance and gift tax was at a level of only 2,000 euros. As a result inheritance tax is applicable already for low transfer values. By contrast, depending on the family relationship, persons with an unlimited tax liability benefit from a non-taxable threshold of between 20,000 and 500,000 euros every 10 years.

 

The limited tax liability is present, for example, when none of those involved in the transfer such as in the case of an inheritance neither the bequeather nor the inheritor has his place of residence or place of abode in Germany. In the case of limited tax liability, as opposed to the case of unlimited tax liability, the whole of the world assets are not subject to inheritance tax, but only the assets located in Germany pursuant to § 121 German Valuation Act (BewG) (domestic assets). In Germany this is often real estate which a bequeather living abroad has bequeathed to his inheritors who also live abroad. If, on the other hand, one of those involved has his place of residence in Germany, then the tax liability is unlimited which applies to the complete world assets of the individual.
 

Example 1:

A mother who resides in the Netherlands gives a piece of real estate in Germany to her daughter who also resides in the Netherlands.

 
The inheritance of the real estate by the daughter is subject to limited inheritance tax liability. In accordance with German inheritance and gift tax law the daughter is only allowed a personal non taxable threshold of 2,000 euros.

 
In such a case the European Court of Justice (ECJ) ruled that this constitutes a violation of the free movement of capital as far as the bequeather or the recipient has his place of residence in an EU-member state (ECJ April 22, 2010, C 510/08, Mattner). If one of those involved in the transfer had his place of residence in Germany, the acquisition would be liable to unlimited tax liability and an applicable non-taxable threshold of 400,000 euros so that the inheritance tax burden would be been considerably less.

 

If the case is in a country outside of the EU, the ECJ came to the same conclusion (ECJ October 17, 2013, C-181/12, Yvon Welte).

 

Example 2:

A woman who resides in Switzerland passes on a piece of real estate in Germany to her husband who also resides in Switzerland. The ECJ also ruled here that in the case of limited tax liability for those involved living in a country outside of the EU the higher non-taxable threshold is applicable. In the specific case this means a non-taxable threshold of 500,000 euros (tax exempt amount for spouse) is applicable.
 

Optional rights

The German legislator reacted to the first ruling of the ECJ in 2010 and added an optional right in the inheritance tax law for gifts and inheritance cases with effect from December 13, 2011 for persons with limited tax liability. Accordingly, unlimited tax liability can be applied for when the bequeather, person giving or recipient at the time the tax is levied has his place of residence in a member state of the EU or the European economic area. An application for the optional right can also be made for inheritances which took place prior to December 13, 2011. For taxpayers who live in a country outside of the EU, the optional right is currently not available.
 
If an application is made for unlimited tax liability, the increased personal non-taxable threshold is applied, but at the same time the complete world assets are also subject to inheritance tax. In addition, with regard to the option and the determination of the inheritance tax, all inheritances which occur ten years before and ten years after the case will be subject to unlimited taxation. If use is made of the optional right, a calculation must first be made as to whether the option will lead to a lower inheritance tax burden. This is because despite application of the higher non-taxable threshold the option can lead to a higher inheritance tax burden due to the taxation of the world assets.
 

Is the optional right compatible to EU law?

The answer to this question is no. In the case of Sabine Hünnebeck, the German Finance Court (FG) in Düsseldorf has considerable doubt as to whether the optional right was an adequate measure to regulate German taxation to be compatible to EU law. Therefore, the FG in Düsseldorf referred the question to the ECJ (FG Düsseldorf of October 22, 2014, AZ 4 K 488/14 Erb) for examination. The ECJ then on June 8, 2016 (C-479/14) ruled that the optional right is not compatible to EU law.
  

How should those with limited tax liability act?

Persons with limited tax liability should appeal against inheritance and gift tax assessments which fail to take into account the higher non-taxable threshold level with reference to the ECJ ruling. If in the past an application was made to exercise the optional right, the person should consider whether due to the possible negative consequences it should be withdrawn. A withdrawal is possible for the material enforceability of the tax assessment. In such cases the person is advised to seek advice from a tax expert.
 
In the EU and countries outside of the EU it is therefore possible in future to use the higher non taxable threshold to reduce the burden of inheritance tax.
 

Caution: there is a risk of double taxation with foreign capital assets

A considerable inheritance tax burden may result when, for example, a bequeather living in Germany passes on substantial capital assets which are invested abroad. In such a case the inheritance is subject to unlimited tax liability. If the capital assets are at financial institutes, e.g. in Spain, the Spanish state can under certain conditions additionally make the inheritance subject to Spanish inheritance tax. The result is an inheritance tax burden in Germany as well as in Spain. There is no double taxation agreement with Spain in the area of inheritance tax. An offsetting of the inheritance tax incurred in Spain against the German inheritance tax is according to current legislation not an option because the capital claims against financial institutes acc. to § 121 BewG are not defined as foreign assets. The German Federal Court of Finance (BFH) in its ruling of June 19, 2013, AZ II R 10/12 confirmed this result and does not see a conflict with European law. In the absence of a European harmonisation of the term for foreign assets this situation indeed leads to a double taxation, but neither the constitution nor the European Convention on Human Rights require that the foreign inheritance tax is to be offset against German inheritance tax. Accordingly, the BFH is in line with the ECJ (ECJ ruling of February 12, 2009, C-67/08, Margarete Block). The BFH, however, has noted that the excessive confiscatory tax burden may require an equitable measure.
 
Taxpayers should therefore in each individual case have the chances of success of an equitable measure examined. The best, however, is to avoid double taxation right from the beginning, for example, by the timely reallocation of capital assets into assets which fall under the offsetting regulations, or the taking of financial investment in countries with which there is a double taxation agreement in the area of inheritance tax.
 

Holiday homes abroad and their drawbacks

The well-known Finca in Spain can present inheritors with an unpleasant surprise when it comes to inheritance tax. If the Spanish real estate is passed on to an inheritor living in Germany, the acquisition is subject to unlimited German inheritance tax liability and also limited Spanish inheritance tax liability. Although the Spanish inheritance tax under certain conditions can be offset against the German inheritance tax, an offsetting is, however, only to the extent that the Spanish inheritance tax does not exceed the German inheritance tax. This means that the taxpayer in the end has to accept the higher tax level. Apart from a few examples the non-taxable thresholds in Spain are low and the tax rates in comparison to German rates are high which means for the total tax burden in such cases the Spanish level is decisive.
 
In the past German citizens often acquired Spanish real estate indirectly through a Spanish corporation in order to bypass the limited inheritance tax obligation in Spain. In the meantime within Europe such real estate companies are commonly subject to limited inheritance tax liability in the respective countries.
 
Apart from that the holding of a piece of holiday real estate via a foreign corporation can lead to a concealed profit distribution which is subject to tax. In the case of the use without charges of a piece of holiday real estate by the shareholder of the foreign corporation a prevention of an increase in assets is triggered at the company level. This is because a proper and conscientious managing director would not have allowed a third party to use the real estate free of charge. Such a concealed profit distribution to a domestic shareholder constitutes income from capital assets (§ 20 par. 1 no. 1 of the German Income Tax act, EStG). The right of taxation of dividends and concealed profit distribution is usually in the country where the shareholder is resident. The amount of the concealed profit distribution can be calculated from the rental value.
 
In addition, a later relocation abroad of the bequeather previously subject to unlimited tax liability in Germany to his foreign holiday real estate may have further consequences in terms of income tax. This is because with the relocation abroad under certain circumstances a disposal of shares in the corporation (§ 6 Abs. 1 AStG) is simulated. The market value less acquisition costs are taken to be the profits from the disposal. The tax amount can be deferred free of interest in the case of a relocation abroad to the EU or EU economic area. This deferral, however, will be revoked by the German tax authorities when all parts have been disposed of, or, for example, in the course of the succession or when a gift is passed on to a legal successor (e.g. descendants in Switzerland) who does not have a place of residence in the EU or EU economic area.
 
The purchaser of Spanish real estate should observe the consequences in terms of inheritance tax and also the not inconsiderable effects on income tax. This is particularly applicable when as experience in the past has shown the real estate is held by a Spanish corporation.

Contact

Contact Person Picture

Elke Volland

Partner

+49 911 9193 1246
+49 911 9193 1265

Send inquiry

 How we can help

We use cookies to personalise the website and offer you the greatest added value. They are, among other purposes, used to analyse visitor usage in order to improve the website for you. By using this website, you agree to their use. Further information can be found in our data privacy statement.
Deutschland Weltweit Search Menu