Germany: German Inheritance Tax Personal Allowances for Non-Residents Infringes EU Law17.10.2013 - C-181/12

In its judgement of 17 October 2013 the ECJ considers the imbalance between German residents and nonresidents with regard to the allocation of personal allowances contrary to the European fundamental principle of free movement of capital. 

According to German inheritance tax law, personal allowances vary according to the degree of kinship between testator and heir, which leads to considerable differences in the overall tax liability: Allowances for spouses amount to EUR 500 000 whereas allowances for transfers among unrelated persons account to no more than EUR 20 000. 

The consideration of the degree of kinship, though, only applies to transfers in which either testator or heir is a German resident. 

In any other case, when inheritance tax is imposed on German domestic assets held by non-residents, German tax authorities deduct a general allowance of EUR 2000 regardless of the degree of kinship. 

Facing a considerably higher tax liability for being resident of a third state, a Swiss widower raises objection. The widower is the sole heir of his deceased wife who owned a piece of estate land located in Düsseldorf (Germany). His wife had been born in Germany but acquired Swiss nationality and residence. 

The question propounded to the ECJ is whether the German regulation interferes with European law. Is German Inheritance tax law contrary to the European fundamental freedom of movement of capital, which would also affect Non-EU countries like, for instance, China or Singapore? Is the German government able to justify that personal allowances are substantially lower when testator and heir are residents of a third country? 

The ECJ argues that the issue qualifies as movement of capital in the sense of Art. 56 TFEU, which bans “all restrictions on the movement of capital between Member States and between Member States and third countries”. Given the fact that lower allowances lead to an impairment of the value of the estate, the difference in treatment between residents and nonresidents clearly restricts the freedom of movement of capital. 

The German government, however, states that a restriction of the movement of capital is legitimate under the prerequisites of Art. 57 (64) TFEU which claims that certain restrictions against third countries from before 1993 “involving direct investment – including in real estate –establishment, the provision of financial services or the admission of securities to capital markets“ are justifiable. 

The ECJ opposes that inheriting real estate for private use does not fall within the scope of Art. 57 (64) TFEU and therefore is not a tolerable restriction of European fundamental law. 

Secondly, the government refers to Art. 58 (65) TFEU which attributes the right to “apply the relevant provisions of their tax law which distinguish between taxpayers who are not in the same situation with regard to their place of residence or with regard to the place where their capital is invested” to the respective member country. 

The German government attests a non-comparable situation of residents and non-residents: In the case of non-residents only domestic assets are taxable whereas residents’ global assets are taxable under consideration of their overall position. The ECJ does not share this view: Resident and non-resident taxpayers are generally “in the same situation” regarding the amount of inheritance tax payable on a German-based property. The amount depends on the value of the property and on the degree of kinship which both are independent of the involved parties’ residence. The ECJ concludes that there is no basis for unequal treatment of transfers between non-residents and transfers between a resident and a non-resident. 

Thirdly, the government prods to the arising difficulty of validating foreign death certificates, justifying lower personal allowances for non-residents in order to protect general public interest. This argument was rejected with reference to current jurisprudence. 

Considering all of the above points, the ECJ comes to the conclusion that Art. 56 (63) and Art. 58 (65) TFEU preclude legislation of a member state which guarantees higher personal allowances in capital transfers, including heritage, when one of the involved parties is resident of the respective state. Although the reaction of the German government remains to be seen, higher personal allowances are interesting when considering German real estate investments.