Court rules on retroactive extension of holding period for tax-exempt sale of real property

Capital gains derived by individual taxpayers from the sale of real property, other than a self-occupied personal residence, are taxable if the property was held for less than 10 years. Such gains are exempt if the property was held for more than 10 years. Until the end of 1998, the holding period to qualify for the exemption was two years; this law change also affected the sale of real property as from 1999 where the property had been held for less than 10 years, but the property was acquired before the change in the tax law. In the case, the taxpayer purchased property in 1990 and 1991 and sold it in 1999. According to the rules applicable until 1998, the two-year period for taxable gains expired in 1992 and 1993, respectively. However, under the new rules, the entire gain would be taxable, not just the portion of hidden reserves generated following the change in the law. The Federal Tax Court referred the case to the Federal Constitutional Court.

The Federal Constitutional Court concluded that extending the holding period to 10 years is in line with the constitution, but the taxation of built-in gains from the period preceding the law change (effective as from 1999) violates the constitutional ban on retroactivity (i.e. constitutional principles of trust in the applicable law). The legislator was only allowed to tax hidden reserves created after the law came into effect.

The decision is relevant to individuals holding German property directly or via a transparent fund (partnership) and where hidden reserves generated before the tax law change were subject to tax.

Contact

Dr. Bettina Lieber | Düsseldorf