Real estate transfer tax reform in share deals

The German legislature has long been considering a tightening of real estate transfer tax (RETT) law on the transfer of shares in business entities owning real estate (share deals). The Ministry of Finance published a draft bill on May 8, 2019. The main aspects of the planned reform are:

Relevant holding threshold of RETT prerequisites to be lowered to 90%

Up to now, real estate transfer tax has applied to share deals from a holding threshold of 95% upwards. The proposal is to lower this threshold to 90%. So the crucial rate at which the acquisition of shares does not trigger RETT shifts from 94.9% to 89.9%.

Holding periods to be prolonged to 10, in some cases even 15 years

The real estate transfer tax prerequisite in Sec. 1(2a) of the RETT Act and the RETT exemptions laid down in Secs. 5, 6, 7 RETT Act have so far been tied to five-year observation periods. The draft bill will prolong these periods to ten years in each case. In certain cases, a prior holding period of 15 years is also to apply in order to capture prolonged acquisitions for real estate transfer tax purposes. To date, it has been possible – with the use of a partnership – to acquire real estate virtually tax-exempt by giving due regard to a five-year holding period.

But the consequences go far beyond the mere prevention of abuse. The existing RETT exemptions will be severely eroded by the prolongation of these periods, and economically necessary transfers of real estate between an entity and its shareholders may trigger RETT without justification. Real estate transfers and changes in ownership will have to mean paying attention to further developments in the ownership structure of entities in the following ten or 15 years.

New real estate transfer tax prerequisite for changes of shareholder in corporations

The introduction of a new prerequisite for real estate transfer tax upon the change of shareholders in a corporation (Sec. 1(2b) of the draft RETT Bill) represents the most significant proposed tightening of the law. This means real estate belonging to a corporation will attract RETT if 90% of the shares therein are transferred to new shareholders within ten years. No accumulation of shares in the hand of one person and no specific individual holding threshold is required. This means that even free float transactions of the shares in a stock corporation would become subject to the new rule.

As a result, the introduction of this new prerequisite will affect not only abusive structures devised by entities holding real estate; it will also have an impact on all share deals in corporations owning real estate. Every corporation owning real estate will have to (i) document and evaluate the development of its shareholder structure in the long term and (ii) report any change therein that attracts RETT. In light of this – the fact that indirect share deals are also relevant – corporations will hardly be able to comply with the obligations placed on them.

Timing of introduction and transitional arrangements regarding RETT

In principle, new RETT law is to apply for the first time to acquisitions occurring after December 31, 2019. But the wording of the draft bill restricts this partly and is not explicit in some places. It also envisages a complex corridor approach: Existing RETT law (with its 95% thresholds) will continue to apply parallel to new RETT law to prevent taxpayers who currently hold shares of less than 95%, but more than 90%, from stepping up their holdings in a tax-neutral way.

The Sec. 1(2a) RETT Act prerequisite will become even more complex as a result of the reform. It may involve the classification of corporations as new shareholders under the draft bill. This would – in the worst case – make the remaining shareholders unable to perform the smallest transfer during the coming ten years without triggering RETT (lock-in effect).

Conclusion

The measures proposed in the draft bill lower the thresholds across the board for applying real estate transfer tax, thus going far beyond the stated objective of preventing abuse. In particular, extending the taxation of changes of shareholder in corporations owning real estate (Sec. 1(2b) of the draft RETT Bill) means a radical tightening of RETT law which cannot be justified for reasons of abuse and may well cause substantial collateral damage. It will become more important for entities owning real estate to systematically document their direct and indirect ownership structure in order to meet the RETT reporting requirements and to avert RETT risks.

You can read a detailed article on this topic in DStR 2019, pp. 1113 – 1120.