Tightening of real estate transfer tax regulations for share deals

Guest article by Marco Müth, Partner, FS Real Estate, KPMG AG Wirtschaftsprüfungsgesellschaft

A reform of the real estate transfer tax in the area of so-called “share deals” has already been under political discussion for more than two years. The need for reform is essentially justified by the fact that large investors in real estate transactions could avoid real estate transfer tax by means of a share deal, whereas a private individual would regularly not have this option in the context of an “asset deal”. Now, on the basis of the final report of a working group of the Conference of Finance Ministers set up specifically for this purpose, the state finance ministers have agreed on key points for the reform of “share deals” (see press release of the Hessian Ministry of Finance dated June 21, 2018).

According to the press release, the majority of state finance ministers agreed on the following measures in particular:

• Reduction of the relevant participation limit from 95% to 90%.
• Extension of the special provision for changes of partners in real estate-owning partnerships (Immo-PersG) to real estate-owning corporations (Immo-KapG)
• Extension of the previous holding periods from five to ten or fifteen years.

The key points of the final report presented below are based on the above-mentioned press release. The final report itself has not yet been published.

1. key points of the final report of the working group

Reduction of the participation limit from 95% to 90%.

The Real Estate Transfer Tax Act (Grunderwerbsteuergesetz, GrEStG) contains several special provisions for share deals involving real estate (so-called fictitious acts). These treat the direct or indirect transfer of shares in a real estate company as equivalent to the transfer of real estate (Sec. 1 (2a), Sec. 1 (3), Sec. 1 (3a) GrEStG). A key feature of these fictitious acts is the shareholding limit of at least 95%. For Immo-KapG, a transaction subject to real estate transfer tax is always deemed to have taken place if at least 95% of the shares are combined in one hand or if the shares already combined, i.e. 95% or more of the shares, are transferred to a purchaser in one go (Sec. 1 (3), Sec. 1 (3a) GrEStG). Currently, in the case of a share deal, real estate transfer tax can therefore be avoided on the transfer of shares in an Immo-KapG if the main investor directly holds less than 95% of the shares in the real estate company and the other shares are taken over by a co-investor.

According to the proposal of the working group, the participation limit of 95% should be reduced to 90% for all fictitious cases. Thus, in the future, a principal investor would have to limit its direct shareholding in one of the Immo-KapGs to less than 90% in order for the acquisition not to be subject to real estate transfer tax.

Extension of the special provision for Immo-PersG to Immo-KapG

According to the current legal situation, only Immo-PersG is subject to the special fiction of Sec. 1 (1). 2a GrEStG applies. According to this provision, it is sufficient, in short, for 95% of the shares in an Immo-PersG to be transferred directly or indirectly to new shareholders within five years (period-related facts).

Example: A is the sole shareholder of an Immo-PersG. In 01, X acquires 94.9% of A. In 03, A sells its remaining 5.1% interest to Y.

Variation: As in the initial case, but Y acquires the remaining 5.1% share only after five years have elapsed.

In the initial case, the acquisition of Y in 03 exceeds the participation limit of 95% within five years and consequently triggers a transaction subject to real estate transfer tax. In the variation, the transaction is not subject to real estate transfer tax. In addition, an exemption of 94.9% of the real estate transfer tax has been possible up to now after the expiry of five years (Sec. 6 (2), (4) GrEStG) if X also acquires the remaining 5.1% after the expiry of five years.

The time-period-based view of the provision already forces companies to take cost-intensive and elaborate control measures in the case of investments in Immo-PersG in order to avoid unintentionally triggering a harmful transfer of shares totaling 95% or more within five years. In the case of listed companies that hold 95% or more of Immo-PersG, this is only possible by means of so-called “anchor shareholders”, i.e. long-term investors who hold more than 5% of the shares.

According to the working group’s proposal, in addition to the general reduction of the participation limit to 90%, a corresponding (period-related) special provision should also be introduced for Immo-KapG. In this respect, a transaction subject to real estate transfer tax would already exist in the case of an Immo-KapG if, for example, three new shareholders simultaneously acquire 30% each in an Immo-KapG. In other words, in the event of a complete acquisition by an acquisition structure with two new investors (currently: 94.9% / 5.1%), the incurrence of real estate transfer tax could no longer be ruled out in the future.

The application of exemption provisions (§§ 3 – 7 GrEStG) could, according to reports, be excluded for the planned special provision for Immo-KapG.

Accordingly, comparable control measures would also have to be taken for Immo-KapGs in compliance with the new 90% shareholding limit. Considering the fact that the facts of fiction can also be triggered in the case of indirect changes in shareholders, this can represent a considerable burden and challenge for companies. This applies in particular to listed stock corporations that own real estate themselves or hold 90% or more of the shares in companies that own real estate (Immo-PersG or Immo KapG).

The tax debtor should be the Immo-KapG, applying the current legal situation for Immo-PersG accordingly. Finally, it is to be assumed that the real estate transfer tax – as in the case of Sec. 1 para. 2a GrEStG – arises with the “closing” (assignment/transfer of the company shares). This represents a very significant change, as up to now, pending share deals in connection with Immo-KapG were based on the “signing” (conclusion of the share purchase agreement).

Extension of the time limits from five to ten years

The special provision for Immo-PersG already in force contains a time limit of five years. In addition, there are special exemption provisions for Immo-PersG (§§ 5, 6 GrEStG). Under certain conditions, these allow, among other things, the exemption of transfers of real estate between an Immo-PersG and its shareholder. These exemption provisions also require pre- and post-retention periods of five years. The main idea behind this five-year time limit is to counteract tax-saving arrangements.

According to the working group’s proposal, all time limits in the Real Estate Transfer Tax Act are to be extended to at least ten years (according to reports, possibly to fifteen years for the exemption provisions for Immo-PersG). The proposed new special provision for Immo-KapG is also to contain a time limit of ten years. The extension of the time limit to ten years will make it more difficult to use possible structuring options to reduce or avoid real estate transfer tax in the case of share deals. The extension of the deadlines to ten or fifteen years leads to a further restriction of the company’s ability to act, as the companies are bound by the dispositions made within the deadline.

2. further measures

According to reports, the working group’s proposals also contain further measures, the implementation of which is to be examined in greater detail:

• According to the current legal situation, the assessment basis for a transfer of real estate is not the market value, but regularly the agreed purchase price. This can be significantly below the market value (exception: “symbolic purchase price”). This could be used to minimize real estate transfer tax in the context of restructuring in the past. Such arrangements are to be made more difficult in the future, if necessary.
• To date, the German Fiscal Code does not provide for a standard interest rate for the real estate transfer tax owed (cf. Section 233a of the German Fiscal Code). According to the working group’s proposal, a standard interest rate is to be introduced. Interest shall start to accrue three months after the end of the notification period, which is two weeks or, in the case of tax debtors abroad, one month (Section 19 (3) GrEStG). Since in practice the processing time for the assessment of the real estate transfer tax by the tax authorities is often very long, this contains a not inconsiderable interest risk for the taxpayer.
• The cap on the late payment surcharge of EUR 25,000 (cf. Section 152 (2) of the German Tax Code) is to be raised or completely abolished.
• Finally, possible arrangements involving foundations or voting agreements are to be restricted by introducing standard examples.

3. outlook

The measures adopted by a majority of the Conference of Finance Ministers initially represent only proposals for possible legislative amendments. The state finance ministers have asked the heads of the tax departments of the federal and state finance ministries to formulate legislative texts for the adopted proposals in the short term. The Federal Ministry of Finance should then introduce these in a legislative process.

On the basis of the measures adopted, it can be assumed that these will lead to significant additional burdens for share deals. While the reduction of the participation limit to 90% and thus the requirement of a “stronger” co-investor of e.g. 10.1% may still be acceptable for investors, the extension of the special provisions for Immo-PersG to Immo-KapG combined with the extension of the periods from five to ten years, on the other hand, represents a considerable restriction for new investors and at the same time a considerable burden for existing real estate portfolios. It cannot be ruled out that there could be a further tightening for share deals in the future. For example, a lowering of the relevant shareholding threshold to 75% was discussed in advance.

It is currently completely unclear how the timeframe for application of the planned amendments will be structured and how the protection of legitimate expectations will be taken into account. At least for existing structures or acquisition structures that are effectively concluded prior to the submission of a corresponding bill by the Federal Government to the Bundestag or Bundesrat (“signing and closing”), protection of confidence should be granted. However, it is questionable whether reliance protection is also granted for structures with put/call options aimed at the sale or acquisition of the co-investor’s share.

In general, it cannot be ruled out that the planned amendments will have retroactive tax effects on transactions in the past. There are considerable constitutional objections to such a retroactive effect, which should be resolved in the legislative process in the interests of the taxpayer.