A family foundation is an institution where assets (e.g. capital, real estate, business) are provided to specific beneficiaries for the purpose of creating a source of income. The owner of the property decides in advance who should belong to the circle of beneficiaries. In a family foundation, these are usually the family members of the founder. Children or grandchildren in particular benefit as beneficiaries of a family foundation, but often the foundation is oriented in such a way that it takes into account all descendants equally. In addition, the family foundation is an attractive alternative to a GmbH from a tax point of view. In contrast to a real estate GmbH, a property in the family foundation can be sold tax-free after a ten-year speculative period. At the same time, it benefits from the tax advantages enjoyed by a corporation over a private individual.

1.1. Definition of Foundation

A foundation is an institution which pursues a specific legal objective by means of assets transferred to it. This goal is determined by the founder of the property. It shall also determine whether the objective shall be pursued directly by the Foundation or indirectly by supporting external bodies. A charitable (for example in the field of science or culture), charitable or ecclesiastical purpose is just as permissible as a purely private concern of the founder. As a beneficiary, also called Destinatäre, can count a certain group of people – including the founder himself – or other institutions. That is why, among other things, a distinction is made between charitable foundations and family foundations.

The main difference between a foundation and a society or association is that a foundation does not know any participation or membership. Thus, no legal claim on the assets of the foundation can be filed by third parties.

1.2. How to Build a Foundation

1.2.1. The foundation business as a declaration of intent of the founder

The founder initiates the establishment of a foundation through a so-called foundation business. This is a unilaterally binding legal transaction. Only if real estate is provided as foundation assets, a notary must be entrusted with the certification of the document. Otherwise, the simple written form is sufficient for the establishment.

1.2.2. The Statutes of the Foundation

Purpose and organization of a foundation by suitable bodies are defined in the statutes as well as other provisions which the founder considers appropriate. However, a foundation is actually only founded by state recognition. This grants the foundation authority of the federal state in which the foundation is to have its seat. So the approval must be applied for beforehand, taking into account various formal criteria.

1.2.3. Duration of the Foundation

As a rule, you set up a foundation without a time limit. Therefore, the provisions and arrangements laid down in the Statutes are irrevocable. Even the founder is unable to modify or even revoke them at a later date. It is therefore of great importance that the will of the founder is both carefully thought through and very precisely recorded with the appropriate legal care.

However, there are also foundations where the assets provided are used up over the time allocated. In their frequency, however, they represent a negligible marginal phenomenon.

1.2.4. The founder determines the time of construction

1.2.4.1. Foundation among the living

The so-called Foundation among the living is a legal transaction that the founder implements during his lifetime. As soon as all formalities are completed when a foundation is established, the foundation is entitled to the assets promised by the founder. At the same time, the Foundation also begins to fulfill its assigned purpose.

1.2.4.2 Foundation due to death

On the other hand, in the case of a foundation due to death, an establishment by will or inheritance contract occurs only after the death of the founder. Consequently, the assets transferred to establish the foundation in this case are part of the inheritance.

1.3. Tax treatment of foundations

From a tax point of view, a foundation constitutes a corporation. It is therefore also liable to corporate tax. If it also operates commercially, it also pays business tax.

2. The nature of the family foundation with real estate assets

Since our article focuses on the special form of family foundation with real estate assets, we will first explain their special features.

2.1. The establishment of a family foundation with real estate assets

As a rule, such a foundation is established by transferring assets in the form of real estate to the foundation. Alternatively, capital can also be transferred as assets to set up a family foundation, which is then used to acquire real estate. In any case, the income from which the beneficiaries are supposed to benefit is usually the income from renting and leasing the real estate. Proceeds from the sale of real estate are also possible as income, but must not have the effect of reducing the original assets because this would be contrary to the Articles of Association.

2.2. The transfer of assets to a family foundation is partially taxable

In fact, the transfer of assets is relevant when establishing a family foundation under the gift tax. However, an allowance is provided here (§ 15 para 2 ErbStG). The amount of this allowance is exactly as high as the allowance that the beneficiaries of the foundation could claim for themselves if they received the property as a direct gift. If, for example, a child of the founder is to be used as a beneficiary, then the allowance amounts to EUR 400,000, which also corresponds to the allowance for a direct donation. So there is no difference in gift tax or inheritance tax compared to the transfer of assets to a foundation. However, this only applies when establishing the foundation. Subsequent transfers of assets also incur gift tax, but then the allowance is only EUR 20,000.

On the other hand, the transfer of real estate within the framework of the establishment of a foundation is exempt from real estate transfer tax. After all, within the meaning of the Inheritance Tax and Gift Tax Act, this is also a gift or inheritance (§ 7 para 1 no. 8 ErbStG). And these are exempted from taxation in the Real Estate Transfer Tax Act (§ 3 No. 2 GrEStG).

Now we look at the advantages of a family foundation with real estate assets. In doing so, we refer to both tax advantages and those that lie in the nature of the foundation itself. To this end, we draw comparisons with other alternatives in order to highlight the combination of the advantages possible in the family foundation as a unique selling point.

Advantage 1: Avoidance of business tax on rentals and leases

Since the family foundation is to be treated as a corporation from a tax point of view, it can apply for an extended reduction in business tax. As a result, all rental income in the context of the assessment for business tax is practically tax-free. Thus, the family foundation has to expect only the corporation tax, which is only 15 %. In other words, the Family Foundation retains 85% of the rental income for your purposes.

Although the exemption from trade tax is a great advantage for the family foundation, it can also be achieved with a pure real estate GmbH. Therefore, this advantage in itself does not constitute a privilege of the family foundation with real estate assets. Even the rental and lease by a private person remains unaffected by the trade tax. However, it should be noted that the rental income of a private person is subject to the individual tax rate, which is usually above the 15 % of the corporate tax.

Advantage 2: Beneficiaries pay a lump-sum capital gains tax of 25% on income from the Family Foundation

Now the purpose of a family foundation is that the assets tied in it develop income that should benefit the beneficiaries. But this is of course taxable on the part of the beneficiaries. Since the family foundation usually benefits its own family members, they have to pay income tax for these distributions. Strictly speaking, this is capital gains, so that capital gains tax is incurred. After deduction of an allowance of EUR 801,00 per person, a flat-rate capital gains tax of 25 % is therefore to be expected. And this is usually significantly lower than the individual tax rate of the beneficiary otherwise applicable. However, even if the individual tax rate should be less than 25 %, an application for a favourable examination according to § 32d Abs. 6 EStG the lower tax rate can be used in the taxation of capital income.

But even this is not a unique selling point of the family foundation with real estate assets. Because even a shareholder of a real estate GmbH taxes the profit distributions he receives in the same way.

Advantage 3: Tax-free sale of real estate after a speculative period of 10 years

A family foundation with real estate assets can, after a speculative period of 10 years, sell real estate tax-free. This puts her on an equal footing with a private individual in this regard. On the other hand, this advantage is excluded for a Immobilien-GmbH. It is obliged to tax the capital gain in full.

Advantage 4: The assets of the family foundation are inviolable

One of the central wishes of a founder in the establishment of a family foundation is to secure the property he has donated for the intended purpose for the distant future. Other organisations or institutions, such as partnerships, corporations or associations, may be dissolved by their shareholders or members, the assets then being divided among the participants. In addition, the purpose envisaged by the founder, to which the property is linked, can also be changed in companies or associations. So anyone who wants to completely exclude at least one of these two potential changes is only well advised with the establishment of a foundation.

Final Considerations on the Benefits of the Family Foundation

So far we have only pointed out individual advantages available to a family foundation with real estate assets. It has become clear that these advantages can also be achieved in another way. Therefore, the question arises, of course, why the family foundation is to be preferred. In short, it is due to its property to combine the various advantages in a way that is only possible with a family foundation.

4.1. Lower tax burden accelerates reinvestment

The lower tax burden that a family foundation has to bear with real estate assets leads to an accelerated repayment of loans. Thus, the interest expense that the family foundation has to bear in such a case is lower. The faster reinvestment in new real estate is possible, so that the assets can grow significantly faster over time. Consequently, the amounts to be paid to the beneficiaries are also increasing.

4.2. Association of advantages of private individuals and real estate GmbH

It is possible for a family foundation with real estate assets to combine the advantages that a Immobilien-GmbH and a privately letting natural person can claim. What is special about this, however, is that this is possible without her having to accept her respective disadvantages. In fact, this is the biggest tax advantage that a family foundation with real estate assets can boast.