Real Estate Tax Reform

1. INITIAL SITUATION

Real estate tax (RET) is levied annually on property, i.e. on land and buildings. The tax is paid by the owners, although tenants often pay it as a hidden charge as part of the operating costs. As such, the vast majority of people are directly or indirectly affected by the tax reform. In addition to residential properties, commercial properties and, if the government’s plans are realised, soon undeveloped land plots ready for construction will also be taxable under the new Real Estate Tax Act.

The revenues from RET flow exclusively to the budgets of towns and municipalities and constitute their most important source of income.

In its judgement of 10 April 2018, the German Federal Constitutional Court clearly rejected using property values from the distant past (1935 and 1964) as a basis for assessment for RET. Adherence to the valuation of 1964 and 1935 can no longer be constitutionally justified. If a new regulation is not implemented by the end of 2019, the tax may no longer be levied from 1 January 2020 according to the specifications of the Federal Constitutional Court.

2. LEGISLATIVE PACKAGE ON THE NEW REGULATION

Agreement on RET reform

The Federal Government initiated the legislative procedure for the revised RET on 21 June 2019 by means of a circular resolution. The legislative package to be passed by the Federal Parliament (Bundestag) now consists of three laws: firstly, the draft on the reform of the RET and valuation law; secondly, the draft on the introduction of an additional real estate tax C (RET C), with which sanctions are to be imposed on speculative transactions on rising property prices for building land; and thirdly, the bill to amend the Basic Law (Grundgesetz), in particular the measure to give federal states the right to adopt divergent regulations.

The constitutional amendment requires a two-thirds majority in both houses of parliament, the Bundestag and the Bundesrat, which is a legislative body representing the sixteen federal states. Even if no party is likely to have a serious interest in the RET no longer being levied from 2020, it can be assumed that compromises will have to be made to amend the constitution. Which means that changes to the draft during the legislative process are quite likely.

Key points of the new RET: Bavaria enforces an opening clause

The RET will still be calculated in three steps: value x tax factor (0.26 % - 1.00 % depending on the type of property and the size of the municipality) x leverage factor (which is stipulated by each individual municipality independently). As was already known in advance, the real estate value will not be measured solely based on the size of the land in the future. The determination of RET for residential properties is based on five specific parameters: land area, standard land value (a value derived from average selling prices), type of property, the age of the building and level of rent. According to the current assessment, around 20 factors must be considered. For commercial properties, the relevant factors are to be reduced from over 30 to a maximum of 8.

The higher property values resulting from the reform of property valuation are to be balanced out by a reduction of the tax factor to one tenth of the previous factor. In addition, social housing properties, municipal and non-profit housing associations and housing cooperatives are to benefit from a deduction of the tax factor under certain conditions. This discount is to amount to 25 % and, according to the Federal Ministry of Finance, is to apply "to companies that make affordable housing possible".

The third modification applies to the tax multiplier.

The Federal Ministry of Finance wants municipalities to steer the revenue from RET, which is set to be changed by the new regulation, back to a level comparable to that prior to the reform by redefining the leverage factor. In practice, this means that if RET revenues increase, which is to be expected due to the higher new real estate values, the municipalities should reduce their leverage factor. Should the revenue from RET fall again, the municipalities can raise the leverage factor accordingly.

Whether the taxpayers will end up being more heavily burdened is therefore no longer in the hands of the Federal Government. Ultimately, it will be up to local government to decide whether individual citizens' RET burden increases. There is certainly a considerable temptation for municipalities to leave the leverage factor as before to generate higher tax revenues.

"The good news for taxpayers is that they won't be subjected to a higher burden overall.”
(Finance Minister Olaf Scholz on the RET reform)

Previous considerations of levying a surcharge for cities have not found their way into the drafts, which is probably due to the tight housing situation. Another change compared to the original drafts is that, in the case of commercial properties, only the capital value method (a method to assign the rebuilding price) is to be applied. It therefore appears to be a compromise that, in the form of RET C, an "incentive" is to be created to build residential houses on undeveloped properties. RET C is to be implemented in the "Gesetz zur Änderung des Grundsteuergesetzes zur Mobilisierung von baureifen Grundstücken für die Bebauung" (Act for Amending the Real Estate Tax Act for Mobilising Ready- for-Development Land Plots for Building). According to the explanatory memorandum to the draft, RET C is intended to prevent land plots from being purchased in order to await an increase in value and then resell the land plots at a profit. The law enables the municipalities to introduce a higher, uniform leverage factor on plots ready for construction and is thus intended to create an incentive to make such plots suitable for appropriate and sensible use through building development.

The real estate tax as a patchwork: Who will introduce competing legislation?

At the insistence of the Bavarian Christian Social Union party, the federal states should be able to make their own regulations on RET on the basis of a constitutional amendment. In practice, this means that the new law will initially apply to all German federal states uniformly. However, each state will then be able to adopt deviating regulations.

Despite this possibility, for the time being at least there is no reason to fear that each state will pass its own regulation. So far, only Bavaria has announced that it intends to exercise the deviating regulatory option. There, it is planned to assess RET only on the basis of the value of the land and building area. Other federal states want to wait and see what the new federal law will look like in the end. According to unconfirmed statements, the Senate Administration in Berlin does not plan to make use of any opening clause.

The first reading of the bill in the Bundestag took place on 27 June 2019. The drafts were referred to the responsible committees after the debate in the plenum. The legislative procedure has thus been set in motion. The realisation of the two-thirds majority in the Bundestag for the constitutional amendment is currently still uncertain. It is to be expected that the required votes of Bündnis90/Die Grünen (the German Green Party) and the FDP (the German Free Democratic Party) can only be obtained through compromises. It is therefore likely that the bill will ultimately be put to the vote in an amended version.

Please do not hesitate to contact us if you have any questions about the planned amendment.