Real estate and inheritance tax: What you should look out for and what exemptions are possible

Due to the high property prices, even supposedly “normal” houses and condominiums often exceed the tax-free amounts in the event of inheritance or a gift. However, there are specific tax exemptions, especially for owner-occupied residential property, which can bring considerable financial benefits. If you bequeath or give away a property, you should therefore familiarize yourself with the regulations on inheritance and gift tax at an early stage.

Inheritance and gift tax on real estate

In Germany, every gratuitous acquisition, whether by inheritance or gift, is generally subject to inheritance or gift tax. Whether tax is payable and how high it is depends on several factors, in particular the amount of the acquisition and the degree of relationship. Spouses and/or children have higher tax-free allowances and generally lower tax rates than more distant relatives or acquaintances.

Tax classes

There are three tax classes (independent of the income tax classes) for inheritance and gift tax, which depend on the degree of relationship to the donor or testator.

• Tax class I (tax rate between 7% and 30%) applies to close relatives such as spouses, children, grandchildren and – under certain conditions – parents.
• Tax class II (tax rate between 15% and 43%) applies to siblings, nieces, nephews, children-in-law or parents-in-law.
• Tax class III (tax rate between 30% and 50%) applies to all others, including friends, cohabiting partners (without a registered partnership) or distant relatives.

The tax class can only be influenced by a change in the family relationship – for example through adoption or marriage.

Tax allowances

The best-known exemption from inheritance and gift tax is the basic tax-free allowance granted by law.

• The spouse has an allowance of 500,000 euros,
• Children in the amount of 400,000 euros each (vis-à-vis each parent),
• grandchildren in the amount of 200,000 euros each (vis-à-vis each grandparent) and
• siblings and more distant relatives only to the amount of 20,000 euros.

If the value of the inheritance or gift exceeds the respective tax-free amount, the value exceeding the tax-free amount is taxed according to the individual tax bracket.

Please note: The tax allowances in the specific personal relationship are available again every ten years. If there are more than ten years between the gift and death, a child can, for example, claim the tax-free allowance of 400,000 euros for both the gift and the inheritance.

Additional pension allowances

In addition to the regular allowance in the event of death (but not in the case of lifetime gifts), the spouse is entitled to an additional “pension allowance” of up to EUR 256,000. If pension benefits (in particular a widow’s pension) are also transferred to the spouse upon death, their value is extrapolated to the statistical remaining lifetime and reduces the pension allowance. Children under the age of 27 may also be entitled to a (significantly lower) pension allowance.

Tax exemption for the “family home”

The so-called family home exemption is of central importance for the lifetime transfer or inheritance of owner-occupied property. This exemption can result in the property being fully or partially exempt from inheritance/gift tax without affecting the general tax allowances.

Please note: The decisive factor is that all the conditions required for the family home exemption are met at the time of the actual gift or inheritance.

Beneficiaries of the “family home exemption”

• The benefit can only be claimed by spouses and – albeit to a significantly limited extent – by children.
• Grandchildren cannot claim the exemption unless the father or mother (the grandparents’ respective child) has predeceased them.
• In the case of lifetime gifts, the exemption can only be claimed by the donor’s spouse.
• Children are not entitled to the family home exemption in the case of lifetime gifts.

“Family home” as a general requirement

In order to qualify for a family home exemption, the property must be the family home of the testator or donor. The family home is the property that the testator (at the time of death) or the donor (at the time of the gift) lives in for their own residential purposes and in which they have their actual center of life.
A person can therefore only have one family home at any one time. If several apartments are used for personal residential purposes, it must be clarified where the actual center of life is located.
If the testator/donor is prevented from using the property himself/herself for compelling reasons (e.g. moving into a nursing home), he/she may no longer occupy the property.

Lifetime gift of the “family home” to the spouse

If the property is used jointly by the donor and the spouse for their own residential purposes at the time of the gift and represents the center of life for both spouses, the spouse receiving the gift can claim the family home exemption. The spouse receiving the gift must – at least partially – become the owner of the property.
Subsequent continued occupation by the spouse for a certain period of time is not required for the family home exemption in the case of a lifetime gift – unlike in the case of death. This is a major advantage over bequeathing the property to the spouse.

Acquisition of the “family home” by reason of death by the spouse

If the spouse does not receive the property during his/her lifetime but upon death (in the event of inheritance), additional requirements must be met:

• In this case, the spouse must either have already had his or her center of life in the property at the time of the inheritance
• or move there within a maximum of six months.
• The spouse must then keep their main place of residence in the property for ten years and may neither sell nor give away the property.

The spouse can only claim the exemption if he or she becomes the owner. If, for example, the spouse becomes one-half co-heir in the case of intestate succession and the two children (who no longer live in the house) each inherit a quarter, the spouse can only claim the exemption for half. The other half is generally due to the children according to the inheritance quotas, but they cannot claim the exemption if they do not also move in.

Acquisition of the “family home” by reason of death by children

Initially, the same rules apply to one’s own children as to the spouse in the event of acquisition by reason of death:

• Children must move into the family home previously used by the deceased for their own residential purposes within six months of death at the latest
• and then keep their main place of residence there for ten years.
• A sale/gift within ten years is detrimental.

If there are several children, consideration should be given to which child is (most likely) to move into the property as part of the succession planning. The will must be drafted accordingly to enable this child to claim the full exemption.

For example, it would be detrimental if the property were to pass to the two children in equal shares, but only one child were to move in. This is because only this child can then claim the exemption and only for “his/her” half.

Note: Unlike for spouses, the exemption for children is limited to a living space of 200 m². If the living space of the property is larger, only a proportionate exemption is granted. For example, if the living space is 300 m2, only 2/3 of the property is exempt.

Moving out / selling the “family home” within 10 years

If the spouse (in the case of acquisition by reason of death) or the child violates the obligation to live in the property for ten years after the death/move-in and not to sell or transfer it, the tax exemption is retroactively forfeited in full. Inheritance tax is retrospectively assessed as it would have been without the family home exemption. Even if you have lived in the property for a longer period of time, this will not be taken into account.

Something different may apply if you have to move out of the property for compelling reasons (relocation to a nursing home). What is a compelling reason and what is not is a question of the individual case. A move for professional reasons is generally not a compelling reason.

Please note: The tax office must be notified of any breach of the occupancy/retention period so that the tax office can correct the tax. Failure to do so may result in tax evasion.

Tax relief for properties rented out for residential purposes

There may also be at least a partial inheritance/gift tax exemption for real estate that is not owner-occupied. Real estate rented out for residential purposes is 10% tax-exempt.

• As a rule, the rental must take place at the time of death or gift.
• The preferential treatment applies not only to spouses or children, but in principle to everyone. There is no retention period.

However, the exemption cannot be claimed if the property is passed on as part of the division of the estate or if an obligation to pass on the property has been agreed as part of the gift.

Conclusion

Tax law provides for various options under which real estate can be gifted or bequeathed tax-free in whole or in part. It is crucial that all requirements for tax exemption are met at the relevant times.

In practice, the obligation to continue to live in the property and the resulting consequences are often underestimated or overestimated by laypersons in the context of succession planning. If the use of an exemption is being considered, the existence of the requirements and the structure required for the use (will/gift agreement) should be checked/prepared by an experienced advisor.

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