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Business interests in inheritance and gift cases Germany–U.S.
If business interests with a Germany–U.S. connection are inherited or gifted, several levels must be reviewed at the same time: German inheritance or gift tax liability, classification of the entity, valuation of the interest, asset allocation under the Germany–U.S. estate-and-gift-tax treaty and potential German business-property relief. U.S. LLCs and partnerships are particularly sensitive because their German classification can differ substantially from their U.S. tax treatment.
Section 2 ErbStG
German residence can bring U.S. business interests into the German tax base
If the decedent, donor or recipient qualifies as a German resident within the meaning of Section 2 ErbStG at the relevant time, unlimited German inheritance or gift tax liability can apply. Germany then generally taxes the entire acquisition, regardless of whether the transferred interest is in a German GmbH, a U.S. corporation, an LLC or a partnership.
If all relevant persons live abroad, the question instead becomes whether the interest qualifies as German-situs property under Section 121 BewG. This can be relevant in particular for interests in German corporations and German business property.
Analysis
Four levels should be reviewed separately
Tax liability
Where do the decedent or donor and the recipient live?
Entity type
Corporation, LLC, partnership, GmbH, AG or German partnership?
Valuation
What is the fair market value of the interest at the relevant transfer date?
Treaty & relief
How is the interest allocated and does German business-property relief apply?
Typical entity types
The legal form determines the next steps in the analysis
GmbH & AG
For interests in German corporations, the main issues include German valuation, limited tax liability for nonresidents and potential relief under Sections 13a and 13b ErbStG.
Corporation
Shares in a U.S. corporation are generally analyzed in Germany as an interest in a foreign corporation. U.S. tax treatment does not determine German inheritance tax treatment.
U.S. LLC
Depending on its legal characteristics, an LLC can correspond more closely to a corporation or a partnership for German tax purposes. A U.S. check-the-box election is not automatically controlling.
U.S. partnership
For a partnership interest, underlying permanent-establishment property or real estate can also become important for treaty allocation.
KG, OHG & GbR
For German partnerships, business property, valuation and possible relief for qualifying business assets are central.
Multi-tier structures
In holding structures, the directly transferred interest and the indirectly held assets must be identified separately. This can matter for both administrative assets and treaty allocation.
German entity classification
Especially for an LLC, Germany must make its own classification
A U.S. LLC can be taxed in the United States as a disregarded entity, partnership or corporation. That U.S. tax election does not automatically determine its German treatment.
Germany analyzes the specific legal characteristics of the entity. Relevant features include management, representation, liability, profit participation, transferability of interests, capital structure and shareholder rights.
Only after this classification can valuation, treaty allocation and potential business-property relief be analyzed reliably.
The transferred asset must be identified first
For a corporation, the transferred asset will typically be a share or equity interest. For a partnership or LLC, the German analysis can focus more heavily on the partnership interest and, indirectly, on the underlying business property.
This distinction becomes particularly important where the entity owns U.S. real estate, permanent-establishment assets or other property for which the treaty contains specific allocation rules.
Valuation
Business interests are valued for German inheritance tax under German law
A value determined for U.S. estate tax, probate or internal corporate purposes is not automatically controlling for German inheritance or gift tax. German valuation rules apply.
Publicly traded shares
For listed shares, the relevant market value is generally determined under German valuation rules.
Privately held interests
Private corporations, GmbHs and many LLCs can require a separate business valuation.
Valuation date
For inheritances, the relevant date is generally the date of death; for gifts, the date on which the gift is completed.
Fair market value
For private companies, enterprise value is often the central issue
If value cannot be derived from recent arm's-length sales, a valuation under German law is required. Depending on the business, earnings prospects, assets, liabilities and accepted valuation methods can become relevant.
Shareholder agreements, transfer restrictions and buy-sell agreements can have economic significance. They do not automatically make a contractually fixed price the German inheritance-tax value.
Estate & Gift Tax Treaty
The treaty distinguishes permanent-establishment property, partnerships and other interests
The Germany–U.S. treaty covering estate, inheritance and gift taxes contains separate rules for different asset categories. Business interests should therefore not be assigned automatically to a single treaty provision.
After treaty residence is determined under Article 4, it must be analyzed whether the transferred property falls under a specific allocation rule or under the residual rule for other property.
- Article 6: permanent-establishment property
- Article 8: certain partnership interests
- Article 9: other property
- Article 11: relief from double taxation
- German entity classification comes first
Treaty allocation
Corporations and partnerships do not necessarily follow the same treaty rule
Corporate shares
Shares in a corporation can generally fall under the residual rule for other property unless a more specific treaty provision applies.
Partnership interest
Article 8 contains a special rule for certain partnership interests. The composition of the partnership's underlying property can therefore be relevant.
Business property
Where property is attributable to a permanent establishment, Article 6 can give the permanent-establishment country a separate taxing right.
German limited tax liability
German company interests can be taxable even where everyone lives abroad
If neither the decedent or donor nor the recipient is subject to unlimited German tax liability, Germany can tax only qualifying German-situs property.
Under Section 121 BewG, shares in a corporation with its registered office or management in Germany can qualify as German-situs property where the shareholder, alone or together with related persons, directly or indirectly holds at least 10 percent of the share capital.
At least 10 percent
The 10-percent threshold under Section 121 BewG is particularly important for limited German tax liability involving shares in German corporations.
Do not confuse it with Section 13b
The 10-percent German-situs threshold is different from the more-than-25-percent ownership requirement that can apply for certain business-property relief under Section 13b ErbStG.
Sections 13a & 13b ErbStG
Business property can qualify for relief — but not every U.S. interest does
German inheritance tax law provides substantial relief for qualifying business property. Under the standard relief regime, 85 percent of qualifying property can generally be exempt if the statutory requirements are satisfied.
Eligibility depends heavily on the legal form, ownership percentage, location of the company or permanent establishment and the composition of the business assets.
More than 25 percent
For shares in corporations, Section 13b generally requires a direct ownership interest of more than 25 percent unless a qualifying pooling arrangement applies.
Germany, EU or EEA
Qualifying corporate shares generally must relate to a company with its registered office or management in Germany, the EU or the EEA.
Direct U.S. shares generally do not qualify
A directly held U.S. corporation with its registered office and management in the United States therefore generally does not qualify for the corporate-share relief under Section 13b(1) No. 3 ErbStG.
The 85-percent relief does not automatically apply to an operating U.S. business
Even if a U.S. company carries on an active operating business, that alone is not sufficient for German inheritance-tax relief. Section 13b generally limits qualifying corporate and business property to Germany and EU/EEA structures.
Direct interests in U.S. corporations or U.S. partnerships therefore require careful analysis to determine whether any qualifying property exists at all. Economic activity by itself does not replace the statutory geographic requirements.
Administrative assets
Even qualifying businesses require an asset-composition test
If an interest is eligible in principle, that does not mean that the entire business value is relieved. Section 13b distinguishes qualifying productive property from administrative assets.
Financial assets
High levels of cash and receivables can partly qualify as administrative assets.
Leased real estate
Real estate made available for use by third parties generally constitutes administrative assets unless a statutory exception applies.
90-percent test
Where administrative assets are particularly high, relief can be excluded entirely.
Holding periods & payroll tests
Relief can be lost after the transfer
Relief under Sections 13a and 13b is subject to additional conditions. These include holding periods and, depending on the number of employees, payroll requirements.
A later sale of the business or significant operating assets within the applicable period can cause the relief to be reduced or lost retroactively.
LLCs & business-property relief
For an LLC, German classification determines the starting point
If a U.S. LLC is classified as a corporation for German purposes, the geographic limitation in Section 13b(1) No. 3 becomes particularly important. If the LLC has its registered office and management exclusively in the United States, directly held interests generally do not qualify under that provision.
If the LLC is classified as a partnership, the analysis shifts to the business property being transferred. Here too, Section 13b generally limits qualifying business property to Germany and EU/EEA permanent establishments.
Foreign-tax credit
U.S. estate or gift tax can arise in addition to German tax
Depending on the U.S. status of the decedent or donor and the type of business property, the United States can also impose estate or gift tax. If both countries tax the same acquisition, Article 11 of the estate-and-gift-tax treaty must be reviewed.
Which tax is creditable and which country grants the credit depends on treaty residence, the type of property and the applicable asset-allocation provision.
Typical cases
Business succession between Germany and the United States
German heir receives a U.S. corporation
Germany can tax the shares because of the heir's German residence. Valuation follows German law. Direct relief under Section 13b(1) No. 3 generally does not apply to a purely U.S. corporation.
U.S. decedent owns a German GmbH
Even where everyone lives abroad, a substantial interest in a German GmbH can qualify as German-situs property. The treaty must also be reviewed.
German entrepreneur gifts a U.S. LLC
The LLC must first be classified from a German perspective. Only then can valuation, treaty treatment and potential relief be determined.
Family owns German GmbH and U.S. subsidiary
A transfer of shares in a German holding company with a U.S. subsidiary can produce a different German relief analysis from a direct transfer of the U.S. company.
Documentation
Documents typically required
Entity Documents
Articles of incorporation, bylaws, operating agreement, partnership agreement or German articles of association.
Ownership Records
Cap table, shareholder list, stock ledger and evidence of the ownership percentage.
Financial Statements
Balance sheet, income statement, tax returns and current management accounts.
Valuations
Existing business valuations, financing rounds or recent sales of comparable interests.
Entity Classification
For LLCs in particular, the operating agreement, U.S. tax classification and information on management, liability and member rights.
Estate & Gift Tax Documents
Form 706, Form 709 or other U.S. documentation where relevant to the case.
Common mistakes
Issues frequently mishandled with business interests
Adopting the U.S. tax classification
The German treatment of an LLC is not automatically determined by its U.S. check-the-box election.
Using a U.S. valuation without review
The German inheritance-tax value is determined under the German Valuation Act.
Putting every interest under Article 9
Partnership and permanent-establishment structures can trigger more specific treaty provisions.
Confusing 10 percent and 25 percent
The 10-percent threshold under Section 121 BewG concerns German-situs property, while the more-than-25-percent threshold under Section 13b concerns potential corporate-share relief.
Treating a U.S. corporation as automatically privileged business property
German business-property relief is geographically limited and does not automatically apply to directly held U.S. corporations.
Ignoring administrative assets
Even where an entity is eligible in principle, the composition of its assets must still be tested.
Further guidance
Related topics
Frequently asked questions
Business interests, inheritance and gifts
Does a German heir have to pay German inheritance tax on shares in a U.S. corporation?
How is a U.S. LLC treated for German inheritance tax purposes?
Can a U.S. corporation qualify for the German 85-percent business-property relief?
What ownership percentage is required under Section 13b ErbStG?
When do shares in a German GmbH qualify as German-situs property?
Does the estate-and-gift-tax treaty apply to business interests?
How are privately held business interests valued?
What applies to a U.S. partnership?
Germany–U.S. tax advice
Are you inheriting or gifting a GmbH, corporation, LLC or partnership interest?
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