FG Münster: Deed of Variation not recognized in Germany for Inheritance and Gift Tax Purposes

The Tax Court of North Rhine-Westphalia (Finanzgericht Münster) has held on 12 April 2018 , that German inheritance tax (Erbschaftsteuer) cannot be avoided or reduced by a deed of variation (under British law) as the German inheritance tax is triggered by the death (and not the distribution) and only a renunciation of the inheritance (Erbausschlagung) has - from a German perspective - retroactive effect. Instead, a deed of variation may be considered a gratious transfer from the original beneficiary of the Will to the beneficiary under the deed of variation. Consequently, the deed of variation may trigger German gift tax (Schenkungsteuer)

Excerpt from the reasons for the decision:

"Pursuant to Section 7 (1) No. 1 of the German Inheritance Tax Act (ErbStG), any free gift is deemed to be a gift inter vivos if the recipient is enriched by it at the expense of the donor. In the case in dispute, the plaintiff received a gratuitous gift from his father. Contrary to the plaintiff's view, the plaintiff did not acquire anything from his grandmother, the testatrix, on account of his death pursuant to § 3.1 No. 1 of the German Inheritance Tax Act (ErbStG).

Under English law, the heirs can amend the will after the death of the testator under certain circumstances by means of a so-called deed of variation. One of the prerequisites is that all those adversely affected by the amendment agree and that the provision is made within two years of the death. The main purpose of such an arrangement is to save inheritance tax. The special feature of the Deed of Variation is that it has retroactive effect. Under English inheritance tax law, the will of the decedent is replaced by the provision made by the Deed of Variation, i.e. the provision made by the Deed of Variation is related back to the date of death.

Under the German Inheritance Tax Act, however, the key date principle applies, so that the retroactive effect to the date of death applicable to English law is generally not possible.

Since there is no provision comparable to the Deed of Variation in German inheritance tax law, it must be examined whether this legal institution has similarities with a legal institution under German law.

According to the case law of the Federal Fiscal Court (Bundesfinanzhof, BFH), in order to answer the question of whether an acquisition justifying attribution for tax purposes exists on the basis of a legal institution under foreign law, the legal status under foreign law must be adapted to the structures of German law. In doing so, a comparative consideration between foreign and German civil law is not ruled out per se and the foreign legal institution must be legally classified in the domestic legal system. Insofar as German tax law, as in §§ 4 ff. BewG, is linked to concepts of domestic civil law, the classification according to the so-called lex fori requires an examination as to whether the prerequisites are fulfilled in the foreign facts as prescribed by the German Civil Code (BGB). The classification according to these principles leads to the fact that the attribution of assets acquired abroad is treated in the same way as the corresponding acquisition in Germany. In the case of the acquisition of assets on the basis of foreign law, it is still not its formal structure that is decisive, but rather the economic significance of the foreign legal institution (cf. BFH ruling of 08.06. 1988 II R 243/82, BStBl II 1988, 808 with reference to BFH rulings of 07.05.1986 II R 137/79, BStBl II 1986, 615; of 20.07.1960 II 262/57 U, BStBl III 1960, 385 and of 26.05.1972 III R 61/71, BStBl II 1972, 693; cf. also BFH ruling of 04.07.2012 II R 38/10, BStBl II 2012, 782).

The provision contained in the Deed of Variation is a similar legal institution to the assignment. Pursuant to Sec. 2033 (1) Sentence 1 BGB, each co-heir may dispose of his share of the estate, but not of his share of the individual estate items (Sec. 2033 (2) BGB). The assignment, like the provision in the Deed of Variation, is made by contract. The assignment may also dispose of a part of the inheritance. The part of the inheritance can be assigned to a specific person by assignment. Also in the literature the Deed of Variation is qualified as a contract of assignment according to § 2033 BGB (...).

This result also corresponds to the opinion of the BFH that the acquisition of equity ownership by the beneficiary of the inheritance already constitutes the taxable acquisition on account of death and that it is therefore not a question of the distribution of the estate by the personal representative (cf. BFH judgment of 06.08.1988 II R 243/82, BStBl II 1988, 808).

It must also be taken into account in this examination that the deed of variation is not a civil law legal institution under English law, but that a certain arrangement (assignment) under English law is treated for tax purposes as an acquisition from the testator. German tax law does not provide for such a regulation.

Since the deed of variation is comparable to the assignment under § 2033 of the Civil Code, there are two acquisitions to be treated separately, on the one hand the acquisition by reason of death (testator to heir, i.e. the plaintiff's father) and the free gift to the plaintiff from the donor, his father. 2.

2 Contrary to the plaintiff's view, the deed of variation cannot be qualified as a disclaimer in return for compensation. The inheritance can only be disclaimed as a whole, because the disclaimer cannot be limited to part of the inheritance (§ 1950 sentence 1 BGB), so that the acceptance or disclaimer of part of the inheritance is invalid (1950 sentence 2 BGB). Furthermore, the disclaimer cannot be used to determine that another person is to receive the inheritance, i.e. no regulations beyond the disclaimer are possible. This is because a disclaimer in favor of a third party is inadmissible under section 1947 of the Civil Code. Irrespective of this, it should be pointed out in this context that English law also recognizes a disclaimer or renounviation, so that the Deed of Variation regulates something other than a disclaimer.

The Deed of Variation also does not correspond to an inheritance contract or an inheritance settlement. This is because in a contract of inheritance or a settlement of an inheritance, arrangements are made between the heirs; insofar as third parties are involved therein and are considered, this can only be done by a gratuitous donation by the heir or heirs, but the third parties do not thereby become heirs. 3.

(3) A credit of the foreign inheritance tax pursuant to Sec. 21 of the German Inheritance Tax Act (ErbStG) cannot be considered in the case in dispute. Under German tax law, the plaintiff is a donee, whereas under English tax law he is treated as an heir. According to the systematics of German inheritance tax and gift tax law, the English estate tax alone can be credited in the case of inheritance taxation pursuant to Sec. 3 (1) No. 1 ErbStG."


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