Inheritance tax likely to be unconstitutional– need for family businesses to take action

The discussion about the compatibility of the German Inheritance Tax Act with the German Constitution reached a new climax yesterday at a hearing before the German Federal Constitutional Court. The judges made very clear that they consider the current privileges for business assets to go too far. Their judgement is expected to be pronounced in autumn this year. We are not assuming that the Inheritance Tax Act will be declared unconstitutional with retroactive effect and therefore void. Instead, it is likely that the Federal Constitutional Court will declare the Act invalid, but still applicable for a short interim period, and will request lawmakers to adopt a new regulation that is in line with the Constitution within a certain period of time. It is assumed that such new Act will result in a higher tax burden for family businesses.

What does this mean for SME succession planning?

An entrepreneur wishing to benefit from the (highly favorable) grace regulations currently applicable in order to transfer business assets onto the next generation should seriously look into the issue now. Firstly, from a tax perspective, a succession plan cannot be drawn up from one day to the next. Often, the enterprise needs to be restructured to ensure that successors actually receive the benefits under the Inheritance Tax Act. Furthermore, when planning business succession, the entrepreneur’s remaining future estate also requires regulation in order to prevent any unplanned (and avoidable) liquidity drain upon the entrepreneur’s death (e.g. to satisfy claims for a compulsory portion of a testator’s estate or for equalization of a surplus).