The property in inheritance dispute

If several people become heirs and want to divide the estate among themselves, a “division of the estate” must take place. This often leads to disputes. Especially if the testator has left a property. This is because real estate usually has a value that is difficult to estimate. The inheritance settlement agreement to be concluded between the heirs must take into account both the legal and tax aspects of the division of the property.

Frequent scenarios in which a property is included in the inheritance settlement are:

• There is no will, so the statutory succession comes into force.
• Several heirs (co-heirs) are named in the will.
• The testator has not made any clear arrangements for the division of the property.

Legal aspects of real estate division

Community of heirs

If several people inherit a property, they form a community of heirs. This community has the common (ultimate) goal of dividing up the inheritance. Until the estate is fully divided, all members of the community of heirs are joint owners of the property.

Decisions on management, repairs, letting or sale must be made jointly by all heirs. Depending on the type of intended measure, different majority ratios are required:

• A single co-heir can take absolutely necessary measures (hazard prevention) to maintain the property alone if necessary.
• A majority of votes (in accordance with the inheritance quotas) is required for measures of proper administration.
• A unanimous vote is required for the sale / mortgaging of the property.
• The costs of the property are generally to be borne by all co-heirs in accordance with the respective inheritance quota.

The longer the community of heirs exists, the more problems arise, as administration and the bearing of costs are very contentious issues. A solution should therefore be found as soon as possible. Otherwise, further inheritance cases may result in the community of heirs no longer being able to act and the property becoming effectively unsaleable.

The division of the property

A property can be divided up in various ways:

• Joint sale of the property
  o The property is sold by the community of heirs with the consent of all heirs.
  o The proceeds are divided among the heirs according to their inheritance shares.
  o This can be a quick and uncomplicated solution, but the market value must be realistically assessed by the parties involved in order to reach agreement on the joint sale.
• Partition auction
  o If the heirs cannot agree on a sale, each heir can apply to the court for a partition auction of the entire property.
  o The property is sold at public auction and the proceeds are divided between the heirs.
  o However, this can lead to lower proceeds, especially as the partition auction procedure is time-consuming and cost-intensive.
• Acquisition by one heir
  o A single heir can take over the property with the consent of all heirs.
  o In most cases, the one heir must then pay out the others.
  o However, this heir often lacks the financial means to do so.
• Division in kind
  o This is only possible if the property is actually divisible, e.g. in the case of an apartment building or land that can be divided into several residential units / plots.
  o In practice, however, most properties cannot be divided so easily into several equal parts.
  o This requires the consent of all heirs.

To begin with, the heirs should talk to each other and decide which option is most suitable. If one of the co-heirs is interested in selling the property but no agreement can be reached, it may make sense to take the first steps towards a partition auction without delay. This increases the pressure on the other co-heirs to cooperate in reaching an agreement in order to avoid a public auction.

Tax aspects of real estate division

Inheritance tax

• If the will does not stipulate a different division of the property between the heirs of the community of heirs, each heir must pay tax on their share of the inheritance and therefore also on the property.
• Whether a later different division of the property also leads to retroactive taxation depends on the agreements made between the co-heirs.
• If the settlement is made too late and the contract is drafted incorrectly, the different division is often not taken into account for inheritance tax purposes.

Gift tax

The background to this non-consideration for inheritance tax purposes is that the inheritance and the division are basically two different transactions for tax purposes. This can even lead to gift tax being incurred in addition to inheritance tax.

• In the first step (inheritance), the tax office assumes that each co-heir has received a share of the estate in accordance with their inheritance quota, which is subject to inheritance tax.
• If, as a result of the division of the property, a co-heir receives more of the estate in terms of value than they are entitled to according to their inheritance share, this is a gift from the other co-heirs to the beneficiary of the division, which can trigger gift tax.
• This can often lead to unexpected surprises, especially between siblings.

Capital gains tax (“speculation tax”)

• Depending on when the testator acquired the property, the heirs may also unknowingly trigger considerable income tax in the course of the inheritance settlement.
• This can happen in particular if equalization payments are made or properties are exchanged during the inheritance settlement.

The background to this is that gains from the sale of real estate (as private assets) are subject to income tax if the property was acquired less than ten years ago.

Example: The testator buys a property in 2016 and this property is sold by the heirs in 2023 as part of the inheritance settlement. The capital gain is then subject to personal income tax in the year of sale.

Please note: This can result in both the capital gain and the regular annual income being subject to the top tax rate of almost 50% in the year of sale. To avoid this, it is essential to check when and how (!) the property came into the deceased’s possession.

Real estate transfer tax

It should also be noted that the division of a property can also trigger real estate transfer tax (especially in the case of exchanges between siblings). Although this is still fairly moderate in Bavaria (3.5%), it should still be avoided if possible.

Valuation of the property

The tax valuation of the property as part of the inheritance settlement is important. Even expert appraisals are not always a suitable basis for an optimal inheritance settlement, as the tax values, for example, may be more favorable. In addition, the tax authorities have increasingly begun to subject appraisals to critical scrutiny and reject them.

The costs of a tax valuation of the property are often incurred anyway, as the tax office usually requests the submission of so-called “Declarations of requirements” (which essentially corresponds to the tax valuation). It is therefore advisable to bring forward this step, which is extremely important for planning the division.

Conclusion

Inheritance disputes involving a property are often prone to disputes and involve high legal and tax risks. In addition, each case must be considered individually, so there is no “standard solution”. The best solution always depends on what the co-heirs are prepared to do. It is often easier to reach a consensus if the specific legal and tax consequences of the various options are explained.

As experience has shown that communication between the co-heirs does not become easier the longer the inheritance dispute lasts, it is worth seeking support at an early stage.

However, the best way is to make tax-optimized and legally secure arrangements for your own estate in good time in the form of a will in order to spare the heirs the hassle of an unprepared or contentious inheritance dispute.