Inheritance Tax Relief for Business Assets

Inheritance tax relief for business assets: an overview

Inheritance tax relief for business assets is the most important factor in passing a German family business to the next generation. Under §§ 13a and 13b of the Inheritance and Gift Tax Act (Erbschaftsteuer- und Schenkungsteuergesetz, ErbStG), qualifying business assets can be exempt from inheritance and gift tax by 85% (standard relief) or, on application, by 100% (optional relief), provided the business is continued, the wage sum is maintained and the share of non-operating “administrative assets” stays within limits.

For acquisitions above EUR 26 million, the relief is reduced on a sliding scale, or the heirs can apply for a needs-based waiver. Because the relief can mean the difference between a tax of zero and a tax of up to 30% or more of the value, structuring a business for the relief is a core task of succession planning.

The current rules were introduced in 2016 after the Federal Constitutional Court held the previous regime unconstitutional in its judgment of 17 December 2014 – 1 BvL 21/12, finding that the extensive relief for large businesses without a needs test and certain design features were incompatible with the principle of equality. The constitutionality of the current regime continues to be debated, and reform proposals appear regularly in political discussions. Families should plan on the basis of current law while keeping structures flexible.

Which assets qualify

Assets eligible for relief (begünstigungsfähiges Vermögen) include agricultural and forestry assets, business assets of sole proprietorships and partnerships, and shares in corporations if the deceased or donor held more than 25% directly. Holdings of 25% or less can be added together with those of other shareholders who are bound by a pooling agreement that requires them to dispose of the shares uniformly and exercise voting rights jointly. Assets must be located in Germany, the EU or the EEA.

Not all eligible assets are relieved. Under § 13b(2) ErbStG, only the part of the eligible assets that exceeds the net value of administrative assets (Verwaltungsvermögen), after a permitted allowance, is relieved. If administrative assets amount to at least 90% of the value of the eligible assets, before deducting debts and certain allowances, no relief is available at all.

The administrative asset test

Administrative assets are assets that are not typically used in an operating business and could be held privately. The statute lists them in § 13b(4) ErbStG: real estate let to third parties, with exceptions for group-internal leases and certain housing companies; minority shareholdings of 25% or less in corporations; art, collections, jewellery, vintage cars and yachts unless they are the object of the business; securities and similar receivables; and cash and receivables to the extent that, after deducting debts, they exceed 15% of the value of the business assets. Administrative assets up to 10% of the net value of the remaining assets are treated as harmless and relieved.

The test is applied on a consolidated basis across group companies, and assets acquired within two years before the transfer (“young” administrative assets and young cash) do not benefit from offsetting or the harmless allowance. Families who have accumulated liquidity or property portfolios within operating companies often find that a significant part of the value is not relieved. Restructuring the group well before a transfer, for example by spinning off let real estate or using liquidity for investments or debt repayment, can increase the relieved share, but last-minute restructurings are often ineffective because of the two-year rules.

Keeping inheritance tax relief: wage sum and holding period

The relief is granted at the outset but can be lost retroactively. Under § 13a(3) ErbStG, the sum of annual wage sums over five years after the transfer must reach at least 400% of the initial wage sum, which is the average wage sum of the last five financial years before the transfer. For businesses with more than five but no more than ten employees, the minimum is 250%, and for more than ten but no more than fifteen employees, 300%. Businesses with no more than five employees are exempt from the test.

If the minimum is not reached, the relief is reduced in proportion to the shortfall. Under the optional relief, the period is seven years and the minimum wage sums are 700%, 500% and 565% respectively.

The heir must also hold the business for five years, or seven under the optional relief. Selling the business or a partial business, giving up the business, selling essential operating assets, or making excessive withdrawals during this period leads to a retroactive loss of relief, generally pro rata for the remaining period. Reinvesting sale proceeds in qualifying assets within six months can avoid the consequences in some cases.

Large acquisitions: § 13c and § 28a ErbStG

Where relieved assets acquired from the same person within ten years exceed EUR 26 million, the standard or optional relief is reduced by one percentage point for each full EUR 750,000 above that threshold, on application (§ 13c ErbStG). Above about EUR 90 million, the sliding relief falls to zero.

Alternatively, the heir can apply for a needs-based waiver (Verschonungsbedarfsprüfung) under § 28a ErbStG: the tax attributable to the relieved assets is waived to the extent the heir proves that he or she cannot pay it from half of his or her available assets, including assets acquired in the same transfer that are not relieved and privately held assets. The waiver is conditional on compliance with wage sum and holding requirements and can be revoked if the heir later acquires further assets.

The needs test makes the heir's private wealth relevant, which influences how families allocate private and business assets among heirs and over time. Lifetime transfers in several steps, each below the threshold, are restricted by the ten-year aggregation, but planning over longer periods remains possible.

Family company discount and valuation

For shares in family companies whose articles of association contain significant restrictions on withdrawals, disposals and severance payments, an additional deduction of up to 30% applies before the relief, provided the restrictions existed for two years before and continue for twenty years after the transfer. Valuation follows the Valuation Act, either on the basis of recent sales, an earnings-based method recognised in the market or the simplified capitalised earnings method with a statutory multiplier, and in any case at least the net asset value. Because the simplified method can lead to high values, an expert valuation is often worthwhile. Gift tax relief works in the same way; see our article on gift tax planning for entrepreneurs.

After the transfer: reporting and loss of inheritance tax relief

Inheritance tax relief comes with reporting duties. The heir or donee must notify the competent inheritance tax office within six months after the end of the wage sum period if the minimum wage sum was not reached, and must report any event that breaches the holding period within one month (§ 13a(7) ErbStG). The tax office then issues an amended assessment with interest where relief is lost. Failing to report can lead to criminal or administrative proceedings, so families should track wage sums and relevant events with their tax advisers year by year.

Group restructurings after the transfer require particular care. Mergers, spin-offs, sales of subsidiaries and changes in legal form can count as harmful disposals under § 13a(6) ErbStG, even if the family remains in control. Some reorganisations are neutral, others are not, and the answer depends on the specific transaction and the structure in which the relief was granted. Before any significant transaction within the holding period, the effect on inheritance tax relief should be checked alongside the income tax and real estate transfer tax consequences.

Where the family company discount under § 13a(9) ErbStG was used, the restrictions in the articles of association must be maintained for twenty years. Amending them, for example to allow a sale to a third party or higher distributions, leads to a retroactive loss of the discount. Shareholder agreements and articles should therefore be drafted with this long horizon in mind.

Planning steps for families

1. Map the group structure, shareholdings and pooling agreements, and identify which assets qualify.
2. Calculate the administrative asset ratio and consider restructuring at least two years before a planned transfer.
3. Choose between standard and optional relief, considering the stricter conditions of the 100% option.
4. Model wage sums and holding periods against the business plan, including planned acquisitions, disposals or restructurings.
5. For large businesses, evaluate the sliding relief and the needs test, and plan the allocation of private assets accordingly.
6. Coordinate the tax plan with the will, the articles of association and, where relevant, marital agreements; see our articles on wills and inheritance contracts and family foundations.

Illustration: an entrepreneur holds 100% of a manufacturing GmbH worth EUR 20 million, with EUR 4 million of liquidity beyond operating needs and a let office building worth EUR 3 million. The liquidity above the 15% allowance and the let property count as administrative assets, so a significant part of the value is not relieved, and the optional 100% relief may be unavailable. By using liquidity for investments and spinning off the property to a separate company two years before the planned transfer to her daughter, the family can increase the relieved share considerably.

How TRW & Co helps with inheritance tax relief

We advise entrepreneurs and families on inheritance tax relief for business assets: analysing eligibility and administrative assets, restructuring groups and real estate holdings, drafting pooling agreements and family company clauses, choosing between standard and optional relief, and preparing applications under §§ 13c and 28a ErbStG. We coordinate with valuers and tax advisers, monitor wage sum and holding periods after the transfer and represent clients in audits and disputes with the inheritance tax offices. Our succession planning team can be reached via our contact page. This article provides general information and is not tax or legal advice.