Tax benefits for real estate held as business assets

Are properties that are not let on the valuation date and are still under construction to be regarded as non-tax-privileged administrative assets or tax-privileged business assets? The Münster Fiscal Court has now published two identical rulings on this question in case numbers 3 K 906/23 F and 3 K 908/23 F. 

In these rulings, the court found in favor of the taxpayer that these properties are tax-privileged assets.

We explain below what the disputed facts are and what effects the ruling has on the tax valuation of real estate in the event of inheritance or gift.

In contrast to other assets, companies and company shares can benefit from tax exemptions under the Inheritance and Gift Tax Act when they are transferred. Tax relief of 85 to 100 percent is possible. The prerequisite for this tax exemption is that at least 90 percent of the eligible business assets do not consist of harmful administrative assets. These harmful administrative assets include properties that are “transferred to third parties for use”. A transfer can be both short-term and long-term, against payment or free of charge. 

The law mentions six exceptions to the principle that properties transferred to third parties for use constitute administrative assets: 

1. Cases where there is a so-called business split or the testator or donor holds the property as special business assets,
2. in the case of selected privileged leases of entire businesses,
3. in the case of leases within a group of companies,
4. in the case of housing companies,
5. in the case of leases for the sale of own products and 
6. for leases of individual plots of land used for agriculture and forestry.

In the case in question, the Münster Fiscal Court had to clarify the question of whether later intended uses should already be taken into account at the time of the gift or inheritance. This would have the consequence that a property under construction is to be included in the administrative assets even before completion. It should be noted here that inheritance and gift tax takes a cut-off date approach, meaning that the circumstances at the time of the transfer are decisive.

The tax authorities are of the opinion that an economic unit in its own right as a plot of land in the state of development constitutes harmful administrative assets, as there is a future intention to use the property in the context of letting it to third parties. In the opinion of the tax authorities, this creates a parity with properties held as private assets that have not yet been completed.

In addition, transferred real estate companies that include properties under construction are companies that are comparable to a so-called “cash GmbH”, as only money is transferred in the form of land with buildings in a state of development. Inheritance and gift tax benefits are also excluded for such a “cash GmbH”. As a result, the prospective use of the properties must be determined and included on the basis of the articles of association. 

Case law is of the opinion that the tax transfer date must be taken into account when determining whether a property is transferred to third parties for use - the reference date principle applies. Accordingly, the circumstances on the date on which the tax arises are decisive for the classification of whether administrative assets without tax relief or business assets with tax relief exist.

An intended future transfer of use to third parties on the reference date is irrelevant, as according to the wording of the law, the only decisive factor is that there is an actual transfer of use to third parties at the time the tax arises in order to assume the existence of administrative assets. Even a systematic comparison with the tax exemption under Section 13d ErbStG, the scope of which also covers land held as private assets that will be let out for residential purposes in the future, does not change the result of the interpretation of the wording on administrative assets.

The purpose of recording real estate transferred to third parties for use as administrative assets is that the real estate belonging to the business assets is not tax-privileged. Due to the transfer of use to third parties, the real estate is therefore to be regarded as an object of typically risk-free private asset management. However, in the opinion of the tax court, this meaning and purpose is already sufficiently realized by the interpretation made, since in the case of real estate that is unused at the time the tax arises, it is not clear whether it will be used originally for business purposes or transferred to third parties for use in the future. 

Furthermore, in the opinion of the tax court, the choice of the transfer date does not constitute an abuse of structuring, as the taxpayer is entitled to choose the most tax-favorable of several appropriate structuring options. Although the taxpayer's choice of transfer date in this case means that the property does not qualify as administrative assets, it is not an inappropriate legal arrangement.