Letting to relatives: How to apply the 66% threshold correctly

Anyone renting residential property to children, parents or siblings at a reduced rate must take particular care from a tax perspective. Key considerations are a tenancy agreement on arm’s-length terms, its actual implementation, the 66% threshold and a robust comparable market rent. Otherwise, the tax office may reduce deductible income-related expenses or refuse to recognise losses from the letting.

Enter into a written tenancy agreement with family members

The most important rule is: Treat the family member as far as possible in the same way as you would treat an unrelated tenant. A properly drafted tenancy agreement, regular bank transfers and a comprehensible rent level are more important than any subsequent explanation.

Enter into a standard written tenancy agreement. The agreement should clearly specify which property is being let, when the tenancy begins, the amount of the net rent, which service charges are payable, when the rent falls due, whether a deposit is agreed and which notice periods apply – in other words, the usual contractual provisions.

An agreement “as between unrelated parties” does not mean that every minor detail has to be perfect. However, the key points must be agreed clearly and unambiguously and must then be observed in practice. From a tax perspective, agreements that are signed but never seriously implemented in practice are highly problematic.

Observe the 66% threshold for reduced-rent lettings

For residential property, the rent level is crucial. As a rule of thumb, you should set the rent at no less than 66% of the customary local market rent wherever possible. In the case of long-term residential lettings, the letting is then generally deemed to be fully remunerated, and income-related expenses are generally deductible in full.

If the rent is between 50% and 66%, you will need to prepare a forecast calculation. This must demonstrate that you can generate an overall surplus over the years. If the rent is below 50%, the letting is apportioned for tax purposes; part of the costs is then treated as private and is not deductible.

Clear recommendation: comply with the 66% threshold, ideally with a margin of safety.

Correctly determining customary local rent and comparable rent

When letting to family members, the tax treatment depends heavily on how your rent compares with the customary local rent. You should not simply use an average figure from the internet or adopt the rent charged for another flat in the same building.

The first place to look should be the local rent index (Mietspiegel). Where an appropriate rent index exists, it is generally the most important basis. Another flat in the same building that is let to an unrelated party may provide an indication, but it does not automatically replace the rent index. The Federal Fiscal Court (Bundesfinanzhof) has confirmed this priority.

This is particularly welcome news for landlords: the Federal Fiscal Court does not necessarily require the midpoint of the rent-index range to be used. For example, if the rent index specifies a range of EUR 14.00 to EUR 20.00 per square metre for a particular location and standard of fittings, EUR 17.00 is not the only customary local rent. Values within the range may also be customary. This can be decisive for tenancy agreements with family members, because the 66% threshold does not then have to be calculated automatically on the basis of the midpoint.

Nevertheless, the lowest value should not be used arbitrarily. What matters is that the property is correctly classified within the rent index: location, year of construction, size, fittings, modernisation, balcony, garage, energy performance and furnishing may all play a role. The better the classification is documented, the easier it will be to defend the rent level to the tax office.

If no appropriate rent index is published, information from a rent database may initially be considered – although these are rarely available in practice.

If these are not available either, the customary rent must be determined by reference to at least three comparable properties.

If this is also not possible, estate-agent assessments or rental valuation reports, for example, may be helpful when presenting your case to the tax office at a later stage.

Document the tenancy and payments without gaps

Keep the tenancy agreement, bank statements, service charge statements, printouts of the rent index, the calculation of the comparable rent, and correspondence relating to rent increases and payment arrears. Particularly in arrangements with family members, it is important not only what has been agreed, but also that you can prove it later.

If the family member does not pay, you should not simply remain silent for years. At the very least, issue written reminders and document why and how you respond. The Federal Fiscal Court does not require immediate legal action in every situation that is personally difficult. However, the overall picture must demonstrate that you are acting like a genuine landlord.

Proving the intention to generate a surplus from letting

Properties often remain vacant for a range of reasons. If you wish to claim the costs incurred during this period as income-related expenses against rental income, you must be able to demonstrate to the tax office – depending on the duration of the vacancy – that you intend to generate a surplus.

According to the established case law of the Federal Fiscal Court, in the case of long-term residential lettings it is generally assumed, without further examination, that the property owner is acting with the intention of generating a surplus. Landlords therefore do not normally have to provide a 30-year forecast merely because the property generates losses in individual years.

For tenancies with family members, the following is important: letting to a child, parent or sibling alone does not negate the intention to generate a surplus. If the tenancy agreement is on arm’s-length terms, is actually implemented and is intended to be long-term, the letting is generally treated in the same way as a letting to unrelated third parties.

Long-term letting rather than a temporary arrangement

The presumption in favour of the landlord applies only where the letting is intended to be long-term. This is the case where, based on the circumstances apparent at its outset, it is not subject to any time limit. If the agreement already links a time limit to subsequent owner occupation or sale, this indicates that there is no intention to let the property on a long-term basis.

This is particularly relevant in cases involving family members where a flat is let to a child only “temporarily”, until they buy a property, move out or the parents wish to occupy the flat themselves. In such cases, one should not hastily assume that the letting is long-term for tax purposes.

Sale or owner occupation within five years

A strong indication against an intention to let on a permanent basis from the outset may exist where the owner, within a close temporal connection – usually within five years of acquisition or construction – sells the flat again or occupies it themselves, and only generates losses during this period. The landlord may rebut this indication, but must then plausibly explain and prove that the decision to occupy the property themselves or to sell it was made only at a later point.

Example: An owner purchases a flat in 2026, lets it to their daughter on favourable terms for two years and moves in themselves in 2028. The tax office will then ask whether long-term letting was genuinely intended or whether the letting to the family member was merely an interim phase motivated by tax considerations.

Special case: living area exceeding 250 m²

The Federal Fiscal Court ruled that, where a property with a living area exceeding 250 m² is let, an exception to the standardised assumption of an intention to generate income may apply. In that case, a total surplus forecast is required, even if the rent is at least 66% of the customary local rent.

The reason is that, for very large, elaborately designed or luxuriously fitted properties, the market is often so specialised that the general standardisation applied to ordinary residential lettings does not necessarily fit. This does not mean that such lettings are never recognised for tax purposes. However, in case of doubt, the landlord must use a forecast to demonstrate that a total surplus can be achieved over the anticipated period of use.

Securing income-related expenses during prolonged vacancies

Even where there was originally an intention to let the property on a permanent basis, the intention to generate a surplus may subsequently cease to exist. This is particularly relevant in the case of prolonged vacancies. If it is not foreseeable for an extended period when the property can be let again, and the owner does not make serious and sustained efforts to let it, income-related expenses for the period of vacancy may be disallowed for tax purposes. The tax authorities refer to several court decisions in this context and make clear that the property owner must demonstrate the seriousness and consistency of his efforts to let the property. Without written evidence, this will usually lead to a protracted subsequent discussion with the tax office, the outcome of which is entirely uncertain.

Example: A flat remains vacant for five years without the owner demonstrably searching for tenants. The owner then lets it to their sister at a reduced rent. The subsequent letting to a family member may establish a new letting activity, but it does not automatically “remedy” the lack of deductibility of income-related expenses for the preceding vacancy period.

Conclusion: review lettings to family members for tax purposes in advance

When letting to close family members, a properly drafted tenancy agreement and its actual implementation are essential. Beforehand, a demonstrable customary local rental value must be determined in order to set the rent. On this basis, the rent should be agreed and compliance with the 66% threshold should be reviewed on an ongoing basis. During any periods of vacancy, the intention to generate a surplus must be documented particularly carefully, as otherwise there is a risk that income-related expenses will no longer be deductible. As always, it is important to seek advice in advance. Subsequent arguments are regularly associated with disadvantages.

FAQ: Answers to frequently asked questions about letting property to family members

Must a tenancy agreement with family members be concluded in writing?

An oral agreement is not automatically invalid for tax purposes. However, due to the strict evidential requirements for arrangements between family members, a written agreement is strongly recommended. In particular, it should clearly set out the rental property, the rent amount, service charges, due date and termination provisions, and must then be implemented in practice.

What is the minimum rent that must be charged to family members?

For long-term residential lettings, the agreed consideration should be at least 66% of the customary local rent for the letting generally to be regarded as fully remunerated. A margin of safety is advisable because rent indices and operating costs may change subsequently.

What applies where the rent is between 50% and 66%, or below 50%?

Where the rent is at least 50% but less than 66%, a total surplus forecast is required. If it is positive, income-related expenses remain fully deductible; if it is negative, the letting must be apportioned. Where the rent is below 50%, an apportionment into a remunerated and an unremunerated part is mandatory.

How is the customary local market rent determined?

An appropriate local rent index (Mietspiegel) should take priority. Within a stated range, any value may generally constitute the customary local rent, provided that the property is correctly classified. Where no appropriate rent index is available, a substantiated expert valuation, a rent database or at least three comparable properties may be used on an equal basis.

When is a forecast required despite compliance with the 66% threshold?

A total surplus forecast may be required in particular where a property is let only temporarily or where residential properties exceed 250 m². In the case of prolonged vacancies, the focus is additionally on proving serious and sustained efforts to let the property.