Many parents with real estate are wondering how to transfer their real estate to their children in a tax-optimized manner. We present a design model that both avoids the inheritance and gift tax and offers many tax advantages. This includes, among other things, that the children, if they do not yet earn their own income, can use the basic allowance every year. The profits from the rental income of the parental properties flow to them practically tax-free. In addition, parents can also benefit from this arrangement for tax purposes. Thus, they can generate interest income via a loan, which they only have to tax with 25% capital gains tax, whereas previously they had to pay up to 45% on the rental income of their properties.

Transfer real estate tax-optimized to children – Introduction

Assets can come from various sources. Often, however, it grows over generations. The generational change through the inheritance and gift tax in Germany represents a certain obstacle. So it threatens to lose some of the assets that you want to transfer to your own children. Of course, the state sees it differently. Nevertheless, one can understand parents who would rather transfer all the assets to their children than just a part of it. So how do you do that?

There are different options depending on which asset classes parents invest their assets in. However, it is often the case that this also includes properties that the parents rent out. Therefore, today we want to show you how to transfer real estate tax-optimized to children.

Transfer real estate with a family company tax-optimized

The own children should one day receive the real estate assets of the parents, without inheritance or gift tax. To this end, they establish a family society together with their children. In this context, a civil-law company (GbR) is common, but a limited partnership (KG) can also come into consideration.

A family company is to take over the asset management of the parents' properties together with their children. But this also means that parents have to transfer their properties to family society. But first they have to start society together with their children. The easiest way to do this is with a GbR. Because for a GbR you usually do not need a social contract and no notary appointments. Only the common will of all parties to lead such a society is sufficient. Nevertheless, we recommend setting up a written social contract when establishing a family GbR or later. The reasons for this will be discussed later.

It is also important that the participation of parents towards their children is as low as possible. Because if the children receive the highest possible participation in the family society, they are also entitled to an equally large share of the profit. Nevertheless, the parents can both take over the management and continue to participate financially in the rental of the properties.

Real estate transferred tax-optimized to the family company

So after the family company is established, the parents transfer their real estate to the family company. They do it through a sale. This has the advantage that, if they comply with the ten-year speculative period according to § 23 (1) sentence 1 no. 1 EStG, they can effect the sale tax-free. At the same time, this transmission path also makes it possible to write off higher acquisition costs. However, if the parents transferred their properties to their children by inheritance or gift, the children would have to take over the depreciation of the properties from their parents and continue. In the worst case, if their parents already received the real estate by inheritance or gift and the real estate is thus already completely written off, the tax advantage through depreciation would be completely eliminated.

The sale should be made via a seller loan, i.e. via a claim. So first of all no money flows, which is also quite good in view of a family company with a low financial cushion. But the real reason for this design is another.

Transfer real estate tax-optimized to children: 7 advantages

4.1. Benefits 1 and 2

So we have already mentioned two advantages. Avoiding the inheritance or gift tax is certainly the central tax advantage, because it meets the main concern of the parents. But the creation of a new, ideally higher depreciation volume has already been mentioned.

4.2 Advantage 3

The third advantage comes when we consider the distribution of profits of the family society to the children. If the children are still small and have no other income besides the profit share in the family company, the basic allowance for income tax comes to bear. Because then, year after year, the children can earn income from their participation in the family company at the same amount tax-free. With a current and expected steadily increasing basic allowance of more than EUR 10,000, this means a tax advantage of more than EUR 200,000 over a period of 20 years – per child.

4.3 Advantage 4

But even if the children already have their own income and maybe even tax it at the top tax rate, you can generate tax benefits. On the side of parents and children. In this way, the parents of the family company grant a loan for which they receive the highest possible interest rates. The parents’ interest income is subject to capital gains tax at 25 %. The interest costs on the part of the family company, however, reduce the taxable income of the children, which is subject to tax at the top tax rate of 42% (wealthy tax rate even 45%). In the end, parents and children together save about 20% in taxes.

4.4 Advantage 5

Speaking of loans, we can add the next advantage to our long list. Because the family company can now receive further loans from credit institutions in order to expand. The advantage lies in the fact that the parent’s loan is considered a subordinated loan and is therefore regarded as equity from the lender’s point of view. Accordingly favorable conditions can expect the family company in this case.

In this way, the family company now acquires further real estate and thus increases its economic success. In the long term, this will benefit children and children's children in particular.

4.5 Advantage 6

Now parents have tax-optimized, albeit indirectly, transferred their properties to their children. In addition to the seller loan, you have also granted another loan. But financially they have benefited only slightly from this arrangement via interest rates. It is time for us to consider them more favourably.

For this purpose, we now use the purchase price claim declared as a loan from the sale of the properties. Because this must also eradicate the family society. And since repayments do not constitute a taxable event, these payments, which the family company makes out of its rental income, do not incur any taxes for the parents.

It is even smarter, however, if the parents instead of the seller loan a pension obligation in return for the sale of their properties. Because then even in old age the financial supply is secured, even if the repayment of the purchase price loan would have been paid off long ago.

4.6 Advantage 7

The family company in the legal forms presented here can also sell the properties tax-free after the speculative period has expired. Do we need more words?

Further advantages of family society

These are the benefits that are tax-relevant in one way or another when parents transfer real estate to their children tax-optimized. But there are others. For example, the parents can stipulate in the social contract that the children are only allowed to take a small share of the profit from the family society in order to avoid that they waste it from the point of view of the caring parents.

Or you can choose a limited partnership as a legal form for your family company instead of a GbR. This allows them to protect their children from any liability at a private level. Only the parents enter society as complementaries, but their children as limited partners.

In addition, parents can include a clause in the social contract that requires them to draw up a marriage contract with their spouses when they marry the children. If there is still a separation, the child would be spared by the marriage contract at least from a financial burden.

Transfer real estate tax-optimized to children – Conclusion

Our design model, with which we can transfer real estate to children with tax optimization, but also generate many more, especially tax advantages, is therefore promising. Of course, you can adapt one or the other aspect of the respective situation of our clients. Because no design model should be used as a mass commodity. Our design model therefore has enough freedom to align it with individual specifications.