Inheritance Tax: A discount for unqualified children

Inheritance tax discounts for business assets are actually intended to protect companies from getting into trouble because of the tax. But not only questions of justice, but also business reasons speak against these privileges, warns the Institute for Macroeconomics and Economic Research (IMK) of the trade union-affiliated Hans Böckler Foundation in a study published on Tuesday.

“From an economic perspective, the protection of business assets under German inheritance and gift tax law is not necessary to secure the existence of companies and their jobs,” writes study author Katja Rietzler. Sparing could even be harmful “if it prevents necessary adjustments and distorts business decisions.”

IMK economist Rietzler was invited as an expert at the Federal Constitutional Court in Karlsruhe last week. Because Germany's highest judges are checking whether the current inheritance tax regulation complies with the Basic Law. In addition to the federal state of Bavaria, which wants to decide on the levy itself, an heir had sued. He had been bequeathed a securities account worth 250,000 euros by his aunt and had to pay around 20 percent in taxes for it, while heirs to large businesses only pay an average of 2.5 percent.

It is not the first time that discounts for company heirs have ended up before the Federal Constitutional Court. The inheritance tax reform in 2016 became necessary because the Karlsruhe judges had criticized the rules at the time.

Business lobbyists such as the German Chamber of Commerce and Industry (DIHK) hope that the discounts will remain. “Without exemption rules, considerable liquidity and financing pressure can arise, which can impair investment and competitiveness and thus also endanger jobs and regional added value,” says DIHK General Manager Helena Melnikov.

Rietzler, on the other hand, says: "As a result, high assets are transferred at lower effective tax rates than lower ones. The inheritance and gift tax therefore has a partly regressive rather than progressive effect." This is particularly problematic given the high level of wealth inequality.

According to the IMK expert, an alternative to the forbearance rules would be deferment options. Then company heirs would have to pay inheritance tax like everyone else. If the tax actually causes them financial difficulties, they could postpone paying the inheritance tax for the time being and pay an interest rate close to the market. Another alternative would be for the state to step in as a silent partner to replace the tax.

Because the tax losses due to corporate discounts are enormous. For this year alone they are estimated at 8.8 billion euros. This corresponds to almost 70 percent of the tax revenue from inheritances and gifts and 2.1 percent of the states' total tax revenue.

In addition, the exemption rules can lead to “the company succession being regulated within the family, even though there would have been a more capable external company management,” as Rietzler writes. That means: Sometimes it would actually make more sense to sell the company instead of passing it on to unqualified children. But they would then not benefit from discounts.

At the same time, Rietzler does not assume that the inheritance tax will have a negative impact on investments and employment. Instead, most business heirs are unlikely to experience financial hardship because of inheritance tax. “In many cases, households with business assets also have other assets from which inheritance or gift tax could be paid if the assets are transferred,” says Rietzler.