Changes in the works for real estate transfer tax in share deals

At the 21 June 2018 Berlin meeting of finance ministers of Germany's federal states, discussions around applying the real estate transfer tax to share deals entered a new phase. The finance ministers agreed to the following measures:

• Creation of a new tax liability for companies: The current legal position is that any change of partners in a real estate-owning partnership involving 95% or more of the shares within a five-year period triggers a tax liability. An individual partner does not need to exceed a certain shareholding threshold in this context. (A consolidation of shares is not required). Instead, the transfer of 95% or more to "new partners" results in a tax liability. In future, this provision will also apply to a change of shareholders in real estate-owning companies. An existing shareholder must therefore retain a corresponding stake even if a corporation is the holding vehicle.
• Lowering of the shareholding level: In all the additional cases in which tax liability arises, the relevant level of shareholding will be lowered from 95% to 90% or more of the shares. The basis for assessing real estate transfer tax remains the entire value of the property.
• Extension of time periods from five to ten years: The current five-year period laid down in the provisions of the Real Estate Transfer Tax Act (Grunderwerbsteuergesetz) will be extended to ten years. Until now, share deals were structured so that initially 94.9% of the shares in the partnership's assets were transferred to a new partner. After five years had elapsed, the remaining 5.1% were also transferred to the partner. With all five-year periods now being extended to ten years, the remaining 5.1% may only be transferred to the new partner after ten years. During that period, the entity is bound by the arrangements made, and therefore constrained in its freedom of action.

The tax department heads at the federal and state ministries of finance are now tasked with turning these proposals into a draft law that the Ministry of Finance will then introduce into the legislative process.

The proposed changes are mainly relevant to conventional property share deals, but could also affect the real estate transfer tax liability of company transactions, or restructuring under corporate law, if German real estate is indirectly involved.

If these changes to the law are implemented, the impact on future share deals would be: a seller (or another minority shareholder) must retain a stake of more than 10% in the real estate vehicle for a period of at least 10 years.

Due to the extension of tax liability for changes in partners or shareholders, this applies both to companies and partnerships. No changes have been announced regarding the options for structuring this remaining minority stake.

At the same time, preventing an unification of shares remains relevant. Based on these proposals, however, the presence of an "existing shareholder" will now be required, including for companies. This means it will no longer be possible to acquire 100% of the shares immediately via co-investment structures without the real estate transfer tax being incurred.

The proposed extension of taxation to include shareholder changes in companies represents a paradigm shift in real estate transfer tax law. The extension raises the issue: will tax exemptions provided in sections 5 and 6 of the Real Estate Transfer Tax Act (GrEStG) also apply to companies in the future, in order to avoid unequal treatment of partnerships and companies?

Up until now, tax exemptions have required the involvement of partnerships. If the tax exemptions set out in sections 5 and 6 of the GrEStG are not extended, the subsequent acquisition of the 10.1% share after 10 years by an 89.9% company shareholder will always be fully liable to taxation, while an 89.9% tax exemption would generally apply in the case of a partnership.

The details of the amendments will not be known until the draft legislation is presented. It is hoped that lawmakers will not test the limits of constitutional law and will avoid any retroactive measures.

In regard to share deal projects currently under consideration, it highly advisable to pay careful attention to the legislative process, and take into account any and all amendments when structuring a deal.

If you have any questions about proposed changes to real estate transfer tax in share deals and the upcoming legislation in Germany, feel free to contact Tobias Schneider.