Ruling of the Federal Fiscal Court dated July 31, 2024 – Ref. II R 20/22
When friends or family members grant each other loans, they often charge only minimal interest or waive it entirely. However, caution is advised. If the interest rate is significantly below the standard market interest rates offered by banks, the tax authorities may consider the interest advantage a gift and impose gift tax. In its ruling dated July 31, 2024, the Federal Fiscal Court (BFH) clarified that granting a loan with below-market interest qualifies as a mixed gift subject to taxation (Ref. II R 20/22).
A gift made during one’s lifetime usually leads to a deliberate enrichment of the recipient. Taking into account applicable tax exemptions, the tax authorities may impose gift tax. A loan with a significantly lower interest rate than the market standard can also trigger gift tax liability, according to the business law firm MTR Legal Rechtsanwälte, which advises, among other things, on tax law matters.
Gift Through a Low-Interest Loan
This was confirmed by the decision of the Federal Fiscal Court. In the underlying case, the claimant had received a loan of approximately €1,875,000 from his sister in connection with taking over his father’s agricultural business. The agreed interest rate was 1 percent.
The tax office deemed the interest concession to be a gratuitous transfer, calculating the benefit as the difference between the 1 percent interest rate and the 5.5 percent rate stipulated by the Valuation Act. Although the actual market interest rate was only 2.81 percent, the tax office applied the higher statutory rate, arguing that the loan agreement deviated from standard loan conditions in terms of duration, repayment, and maturity. As such, no comparable market-based loan rate could be determined.
The claimant’s objection to the tax assessment was rejected. The tax office viewed the favorable loan conditions as a mixed gift. The Fiscal Court also dismissed the lawsuit.
Appeal Partially Successful
The claimant appealed the decision, arguing that there was no gratuitous transfer. Neither party had been aware of the partially non-remunerated nature of the loan. Moreover, he presented loan offers with interest rates lower than the 5.5 percent statutory rate under the Valuation Act.
The appeal was partially successful. The Fiscal Court had correctly assumed a gratuitous transfer due to the low-interest loan, which is subject to gift tax. However, it had applied the wrong basis of assessment, as a lower interest rate than the statutory 5.5 percent could be determined, according to the Federal Fiscal Court (BFH).
The BFH further explained that any gratuitous transfer qualifies as a lifetime gift if it enriches the recipient at the expense of the donor and is made with the donor’s intent. Thus, granting a low-interest loan constitutes a gratuitous transfer. The recipient benefits from an increase in assets that is subject to gift tax. The lender incurs a reduction in assets by foregoing interest income that would have been earned at market rates.
Gift Tax Significantly Reduced
According to the BFH, the conditions for a gratuitous transfer subject to gift tax were fulfilled. For calculating gift tax on a low-interest loan, the interest rate differential between the agreed rate and the market rate is decisive. The 5.5 percent value from § 15 (1) of the Valuation Act should only be applied “if no other rate can be determined,” the BFH clarified.
In the present case, the Fiscal Court had found that, according to data from the German Bundesbank, the effective interest rate for comparable loans was 2.81 percent. This results in a benefit to the claimant of only 1.81 percent. Consequently, the gift tax was reduced by approximately €170,000 to around €59,000.
Even with good intentions, low-interest loans can lead to tax burdens. Therefore, the terms of such loans should be structured to minimize tax liabilities.
MTR Legal Rechtsanwälte advises on gift tax and other tax law matters.
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