Wealthy property owners often face the question of how they can safeguard their real estate over the long term, optimise it for tax and pass it on within the family in an orderly way. One possible answer is to transfer a property into a foundation – in particular into a family foundation. Such a structure transfers ownership of houses or flats into an independent legal person, which brings a number of advantages. Yet this step needs to be well thought through: the legal framework, the tax consequences and the inheritance-law effects must all be examined carefully. In this comprehensive guide you will learn why transferring property into a foundation can be attractive for wealthy private individuals and entrepreneurs, how the family-foundation model works, what advantages and risks it offers, and when foreign foundation models (e.g. in Liechtenstein) come into consideration. Finally, we show how, with professional advice – for example from Dr. Fiala – you can have your individual situation assessed in order to find the optimal solution for protecting and preserving your real estate.
Why transfer a property into a foundation?
Anyone who owns several high-value properties has not only built up considerable wealth but also bears responsibility for preserving it. Establishing a foundation and transferring property into it can make sense for various reasons:
- Asset protection against risks: privately owned property is exposed to the personal risks of its owner. In the event of divorce, liability claims or insolvency, creditors or disputes can threaten the family wealth. A family foundation acts as a shield here: the real estate now belongs to the foundation and is separated from private assets. It cannot so easily be attacked through personal legal disputes or the debts of individual family members.
- Tax optimisation: family foundations offer opportunities to reduce the tax burden. Particularly with income from letting and leasing, or on the sale of property, tax advantages can be achieved within the foundation model (more on this below). Landlords who tax their income individually quickly reach the top tax rate of 42% (plus the solidarity surcharge). Within a foundation, these earnings are taxed on an entrepreneurial basis with corporation tax, which can be considerably lower. There are also special rules for inheritance and gift tax as well as real-estate transfer tax when structuring through foundations that can be exploited.
- Long-term family cohesion and succession planning: bringing a property into a family foundation means preserving the asset for the family over the long term. Instead of individual descendants having to divide up or sell the house in the event of inheritance, it remains intact within the foundation assets. The foundation ensures that several generations can benefit from the rental income or use of the property without ownership being fragmented. In this way, inheritance disputes can be avoided and family peace preserved. Succession can be arranged early and in line with the founder’s wishes, without a later change of ownership (through inheritance) being necessary.
- Continuity and professionalism: foundations are designed for perpetuity. Unlike a human owner, a foundation does not “die”. This means valuable properties are preserved permanently and used in accordance with the defined foundation purposes. A foundation can also be managed more professionally: a foundation board or advisory council takes over the administration of the property portfolio according to objective criteria. Especially with extensive real estate, this can be more efficient than private individuals making decisions without expertise. Strategic administration (e.g. reinvestment, maintenance, additional acquisitions) can be steered centrally within a foundation.
- Flexibility in providing for the family: through the foundation, family members can be financially secured without having to be direct owners of the property. The beneficiaries (Destinatäre) – for example the founder himself, his spouse, children and grandchildren – can receive regular distributions from the income, e.g. to cover living costs. The properties, however, remain in the ownership of the foundation and thus out of the reach of outsiders. This creates an orderly system of wealth distribution that the founder defines in the statutes during his lifetime.
Not least, such an arrangement also has a slightly alarming aspect: those who bring their wealth into secure structures early can face looming risks (such as tax-law tightening or unexpected life events) more calmly. The message is: “Act proactively, before it is too late.” Overall, transferring a property into a foundation offers considerable advantages, but it must be planned carefully so as not to risk any disadvantages. In what follows, we go step by step through the most important aspects.
What is a family foundation? – Basics and objectives
Before going into the details of transferring property, it is worth looking at the basics: what exactly is a family foundation and how does it work?
A family foundation is a foundation under private law whose purpose is to preserve and administer assets – in this case real estate – for the benefit of the founder’s family. Legally, it is an independent dedicated fund: the founder transfers his property to the foundation by means of a foundation transaction, and instead of belonging to a person, these assets henceforth belong to themselves. There are therefore no longer any owners or shareholders, only the foundation as a legal person.
Key features of a family foundation:
- A family foundation is not a charitable body. Unlike a charitable foundation, which serves a benevolent purpose and receives tax privileges in return, a family foundation pursues private purposes – namely supporting the family defined by the founder (spouse, children, grandchildren and, where applicable, other relatives). The foundation may make profits and need not use them for charitable purposes; instead, it can distribute them to the family. As a result, however, it is treated for tax purposes like an ordinary asset-managing entity (no tax exemption as for charitable foundations).
- Establishment and legal capacity: to establish a foundation, a foundation transaction is required (usually in the form of a notarial contract or a testamentary disposition) as well as foundation statutes setting out the purpose and organisation of the foundation. In the statutes the founder defines who the beneficiaries are (e.g. which family members, whether future generations are also included), how the assets may be used (e.g. only paying out income, not selling the substance except in emergencies) and who administers the foundation (composition of the board or governing council). Recognition by the foundation authority of the relevant federal state (Bundesland) is required for the foundation to acquire legal capacity. The authorities check whether the lasting and sustainable fulfilment of the foundation purpose is secured – in practice a minimum endowment is often required for this (frequently around EUR 100,000 or more, depending on the federal state) so that the foundation can operate economically at all.
- No shareholders: as mentioned, the foundation has no shareholders. Neither the founder nor the beneficiaries “own” the foundation. The founder gives up his assets irrevocably. This sounds frightening at first, but it is deliberately designed this way in order to withdraw the assets from the access of individuals and bind them to the foundation purpose. The beneficiaries (Destinatäre) are merely entitled to grants in accordance with the statutory provisions, but they cannot dispose of the foundation assets as if they were their personal property. This makes it possible to prevent, for example, imprudent heirs from selling properties and squandering the money – the foundation, as it were, disciplines asset management.
- Foundation bodies and control: a family foundation requires bodies, usually a foundation board that conducts day-to-day business. It is often provided that the founder himself sits on the board during his lifetime or at least has significant influence over it (e.g. as chairman or honorary chairman). Close confidants or family members can also be appointed to the board or to a supervisory body (advisory council/governing council). This ensures that the foundation acts in the spirit of the founder. Foundation supervision: private family foundations – unlike charitable foundations – are subject in many federal states to only very limited official supervision. The authority usually only checks that the foundation does not dissipate its assets and complies with the statutes, but scarcely interferes in the internal administration. This dispels the concern about excessive bureaucracy: a properly set-up family foundation can act largely freely.
Objectives and use of a family foundation in the property sphere:
The primary purpose is to preserve and protect the real estate across generations. In concrete terms this means:
- The properties should not be fragmented or consumed by inheritance disputes, but should remain in family ownership (indirectly via the foundation).
- Asset protection against creditors: since the properties no longer belong to individual persons, personal creditors of family members (for instance from entrepreneurial liability or private over-indebtedness) cannot access them.
- Exploiting tax advantages: the family foundation can be structured so that ongoing income and certain transactions are treated more favourably for tax purposes than within private assets.
- Providing for the family: the foundation should benefit family members financially, for example through regular distributions (for living costs, the children’s education, special needs) or through the right to use foundation properties (e.g. rent-free living for family members, where the statutes permit such a thing).
- Succession planning: the founder can determine how the foundation is to be continued after he steps down (death or withdrawal) – e.g. who moves up onto the board, which later-born family members are to be beneficiaries, and how decision-making conflicts are resolved. This channels the transfer of assets into orderly paths, without being exposed to the imponderables of a normal succession.
In summary, the family foundation is a powerful instrument for property owners to preserve their life’s work. However, a clear legal framework is required for this instrument to function correctly. In the next section, we look concretely at how a property is brought into a foundation and which legal points must be observed.
Legal aspects of transferring a property into the foundation
1. Establishing the foundation
At the outset stands the decision to establish a foundation. This can be done during one’s lifetime through a notarial foundation contract (establishing a foundation upon death by will is also possible, but here we first consider the lifetime approach). Together with experienced lawyers, foundation statutes are drafted that should be tailor-made: after all, the statutes are intended to remain valid for decades and to regulate all eventualities. Typical contents are the foundation purpose (e.g. “supporting the founder’s descendants and preserving property X as family assets”), the beneficiaries (defined by name or as a group, e.g. “the founder’s descendants and their spouses”), the manner of asset management (may the underlying assets be sold? or only income distributed?), and the body structure. Particularly with property foundations, conditions are often included such as the preservation of certain houses or special arrangements for cases of financial difficulty.
Once the documents are in place, the application is submitted to the competent foundation authority. This checks in particular whether the core endowment (foundation assets at establishment) is sufficiently high and available and whether the foundation purpose appears lawful and capable of being fulfilled permanently. As mentioned, in most cases a certain minimum capital is required – this may be liquid assets or indeed real estate that is to be transferred. A property valuation of the market value of the property to be brought in is often required, because the authority wants to see what value the foundation assets have.
2. Transfer of the property (foundation transaction)
The actual transfer of the property to the foundation takes place within the framework of the foundation transaction. In practice this works similarly to a gift or transfer to another person: a notarial transfer contract and registration of the new owner (the foundation) in the land register are required. Frequently the foundation is first established before recognition as a so-called pre-foundation and becomes legally capable after recognition; the transfer of ownership in the land register is then completed. Important: when transferring, the property must be handed over free of encumbrances or with defined encumbrances. If the founder wishes, for example, to retain a usufruct or right of residence (more on this shortly), this is likewise agreed notarially and registered as an encumbrance in the land register.
Through the notarial transfer, the founder definitively loses ownership of the property – it passes into the assets of the foundation. This is a decisive step: one should be absolutely certain that one wishes to give up this property. In the foundation statutes the founder can retain a certain say (for example as a board member for life), but he can no longer freely dispose of the property as if it were his own. Irreversibility is a central feature: a property once transferred to the foundation only “belongs” to the family indirectly. A transfer back would only be conceivable through dissolution of the foundation or amendments to the statutes within narrow limits – both are complicated and subject to strict conditions.
3. Usufruct and right of residence
Many potential founders wonder whether, after the transfer, they can continue to live in their property or draw income from it. The good news: yes, it is customary and possible for the founder to reserve a lifelong right of residence or usufruct upon transfer. A usufruct means the right to draw the uses from the property without being its owner. In practice, the founder can therefore continue to live in the transferred house as before or – if he had let the property – continue to receive the rental payments for as long as he lives (or for a defined period). This right is registered in the land register so that it is also secured vis-à-vis the foundation. For many older founders this is an important safeguard: one formally gives one’s house to the foundation but remains economically secured and may continue to use it, living free of worry and earning income.
From a legal point of view, a usufruct naturally reduces the value of the gift to the foundation (since the foundation initially receives only “bare ownership”, while the founder still draws benefits). We will return to this in the tax section – the important point here is: the right of residence or usufruct protects the founder from losing his home. This significantly lowers the hurdle of giving one’s house to the foundation.
4. Variants of the transfer
Besides the lifetime gift, there is also the option of transferring the property to the foundation only upon death. For this, one can appoint the foundation as heir in the will or formulate a condition in the will to transfer the property to a foundation (which may already have been established during one’s lifetime but is capitalised only upon death). The advantage of this variant: the founder retains full control over his property until death and uses the foundation structure only for succession. However, this also has disadvantages: inheritance tax then becomes due and the foundation may appear unexpectedly for the heirs, which can trigger conflicts. Most of the advantages – such as tax structuring and protection against lifetime risks – tend to unfold more fully if one takes the step during one’s lifetime. Nevertheless, the testamentary foundation solution can make sense in individual cases, e.g. if the founder does not wish to part with the asset definitively during his lifetime, or if the foundation solution is intended as a “fallback” in succession planning.
5. Legal binding effect
Once the foundation has been validly established and the assets transferred, the real estate is firmly bound to the foundation purpose. Changes to this are difficult to make. Although a certain flexibility can be built into the statutes (e.g. the right, in an emergency, to sell a property after all in order to keep the foundation solvent, or the option to admit additional beneficiaries), an arbitrary withdrawal of assets for private purposes is excluded. Likewise, a foundation is subject to stricter rules regarding the use of funds – even if it is privately beneficial, it must preserve its assets and may only act within the scope of the statutory purpose. This means the property used may not, for example, be given away or squandered; usually the substance may only be disposed of in order to acquire another property or where it is economically unavoidable. This strictness ensures that the founder’s original idea cannot be undermined by descendants.
6. Costs and effort
Establishing a foundation is more involved than a simple gift within the family. In addition to notary costs (for the statutes, the transfer contract), there may be advisory costs for lawyers/tax advisors, as well as an establishment contribution (depending on the federal state, a fee for recognition). The ongoing administration of the foundation also creates some effort: bookkeeping, annual financial statements (family foundations are subject to corporation tax and must keep books accordingly), and where applicable reporting to the foundation supervisory authority. This requires a certain professionalism but can be handled routinely with external help (tax advisor, trustee). For large estates, this administrative effort is usually no obstacle – it is comparable to running a property GmbH or a family office. The important thing is to be aware of these obligations and not to run the foundation “on the side”, but to designate responsible persons.
In summary, the legal foundations are indeed complex, but with expert help a foundation can be established in a tailor-made way. The result is a robust legal structure in which the property will henceforth be held. Having illuminated the formal aspects, we now turn to the tax effects, since these are often a main motive for the arrangement – but also a pitfall if they are not observed.
Tax aspects of transferring property into a family foundation
Tax planning is a central element when bringing real estate into a foundation. There are one-off tax consequences upon transfer (in particular gift tax) and ongoing tax consequences from managing the properties within the foundation, as well as upon later payments to the family. In addition, there is a special foundation tax (substitute inheritance tax) after a certain period. We consider these points individually:
a) Gift tax on the contribution to the foundation
The transfer of a property into the family foundation is treated for tax purposes as a gift (a gratuitous grant) from the founder to the foundation. Although the foundation is not a natural person, it is treated as recipient as if the assets would ultimately benefit the human beneficiaries. Therefore gift tax arises – unless the transfer is made upon death, in which case it would be inheritance tax. The mechanisms are similar, however, since inheritance and gift tax in Germany function largely the same way.
Allowances and tax classes: the amount of gift tax depends on two factors: the value of the gifted property and the family relationship between the founder and the beneficiaries (Destinatäre) of the foundation. The legislature grants high allowances for gifts within the family (e.g. EUR 400,000 between parents and children every 10 years). With a foundation the matter is more specific: if there are only close relatives as clearly defined beneficiaries (e.g. the founder’s children), one can use the allowances of this tax class I – in practice an amount of EUR 400,000 per child is then exempted, much as if one had gifted directly to the child. Often, however, properties are endowed for a larger, also future, family circle, for example also for grandchildren and great-grandchildren, some of them not yet born. In such cases, inheritance tax law provides flat-rate allowances: frequently the allowance is EUR 100,000 (or EUR 200,000 if spouses endow jointly) for the initial endowment of the foundation, and the favourable tax rates of tax class I apply. If the value of the property exceeds these allowances, the remainder is taxed according to the usual table (in class I between 7% and 30% depending on value).
A brief example: a property value of EUR 800,000 is brought into a family foundation, with the founder’s two children as beneficiaries. Thanks to two allowances of EUR 400,000 each, this transaction would be tax-free, since the sum is exactly covered. If, on the other hand, the property value were EUR 1.2 million, EUR 400,000 would have to be taxed. At a 10% tax rate, for instance, EUR 40,000 of gift tax would then be due. – Another example: if more distant relatives or as-yet-unborn descendants are also designated as beneficiaries, the applicable allowance is often reduced to EUR 100,000. If the property value exceeds that, tax becomes due. Careful planning is required here: one can consider, for example, which group of persons is defined as beneficiary in order to use the highest possible allowances without restricting the purpose too much.
Value of the property: for gift tax purposes, the market value of the property at the time of transfer counts. This is determined in accordance with the provisions of the German Valuation Act (Bewertungsgesetz). Ideally, a qualified valuation should be obtained to document the fair market value – high-value properties in particular should be valued correctly to avoid later disputes with the tax office. There are also tax reliefs: in the case of let residential property, its value is reduced by a flat 10% for inheritance/gift tax purposes. That is, only 90% of the market value is applied, which represents a small tax concession. Encumbrances such as debts secured against the property likewise reduce the value relevant for tax. This is an interesting structuring aspect: if the property is still encumbered with a loan, this liability reduces the basis of assessment for gift tax. Equally, a reserved usufruct considerably reduces the value of the gift – depending on how old the usufructuary is and how high the annual use value (rent) is, a capitalised value for the usufruct is calculated and deducted from the property value. With such measures (transferring encumbered properties, reserving a usufruct), the immediately due tax can often be reduced considerably.
Caution – timing window: unlike gifts to actual persons, one cannot use allowances afresh every 10 years to transfer assets tax-free in slices. With foundations the rule is: the allowances mentioned above apply only once at establishment. Later additional endowments (further transfers of the founder’s assets to the foundation) have a heavily reduced allowance of only EUR 20,000 and are usually taxed under tax class III (with considerably higher rates between 30% and 50%). This means one cannot keep adding further properties every few years without a higher tax burden, but should ideally bring in the desired assets all at once at the start, in order to make optimal use of the one-off allowances. This too is why planning is so important: think carefully about which properties and values you give to the foundation at the start, because topping up later is expensive for tax.
b) Real-estate transfer tax and the “mixed gift”
Normally every transfer of ownership of a property triggers real-estate transfer tax (GrESt) – even gifts between strangers could be subject to it. Fortunately, transfers to foundations in the course of a gift are exempt from real-estate transfer tax. The German Real Estate Transfer Tax Act provides exceptions where the transfer of ownership occurs on the basis of an inheritance or gift event. Bringing a property into a family foundation within the framework of the foundation transaction counts as such a tax-free event. This is an important advantage over some other structures (e.g. with a transfer to a GmbH, real-estate transfer tax would have to be paid unless certain group privileges apply). Example: in a federal state with 5% real-estate transfer tax, a EUR 1 million property would otherwise cost EUR 50,000 in GrESt – with a transfer to the foundation by way of gift, one saves this amount.
Caution is required, however, with so-called “mixed gifts”: this term means that the transfer is not made purely gratuitously, but a partial consideration flows or is assumed. In the foundation context, this could be that the foundation assumes a debt of the founder secured against the property, or that the founder retains a usufruct. In such cases, the tax office interprets the transaction as part gift, part sale. For the chargeable part (e.g. the assumption of the debt or the value of the reserved usufruct), real-estate transfer tax may then be due after all. However, only proportionately: if, for example, the value of the assumed liabilities amounts to 30% of the property value, then this part is subject to real-estate transfer tax, while the rest remains free. Through skilful structuring, the GrESt can thus be minimised – for instance by keeping the chargeable share as small as possible. Sometimes it is possible to push it below 10%, so that, for example in North Rhine-Westphalia (with a 6.5% rate), effectively only 0.65% of the property value is incurred. These are, however, very technical details that should definitely be structured with a tax expert in order to avoid surprises afterwards.
c) Ongoing taxation of the foundation – income from letting and leasing
Once the foundation has taken over the property, the rental income (or lease income, in the case of commercial properties) flows to the foundation in future. In Germany, the family foundation is subject to corporation tax like a corporation. This means its taxable income is taxed at 15% corporation tax, plus a 5.5% solidarity surcharge on the tax (making an effective 15.825%). Important: family foundations that are exclusively asset-managing (e.g. only letting, no commercial activity) are exempt from trade tax. Unlike, for example, a property GmbH, which despite pure asset management would formally be subject to trade tax (and only escapes via the extended property deduction, which is tied to conditions), a family foundation does not count as a commercial enterprise in the trade-tax sense. This means that even if substantial rental income is earned, no trade tax is incurred. The ongoing tax burden on rents is therefore considerably lower than that of a top earner holding the property privately.
Advantage: the foundation can use the retained profits, for example, to repay loans or build reserves, and do so faster, because it has to hand over less of the profit as tax. For a property investor this means: within the foundation, the assets grow faster out of the income, which creates room for new investments.
A brief comparison: assume EUR 100,000 of annual surplus from letting is at stake. Within the foundation, after corporation tax around EUR 84,200 remains. With private taxation at the top rate (including the solidarity surcharge), only about EUR 55,000–58,000 net would remain of the EUR 100,000. The difference is considerable, as long as the money is retained (thesaurised) in the foundation in order to keep investing.
d) Property sales and speculation periods
For many property owners it is also relevant how capital gains within the foundation are taxed. Here it depends on whether the property has been held in the foundation assets for longer than 10 years. In principle, the well-known speculation period also applies to foundations: sales of property after a holding period of more than ten years are tax-free (it is then a private disposal transaction that is tax-exempt under § 23 EStG (German Income Tax Act)). So if the family foundation sells a plot of land or house that it acquired or took over from the founder long ago, it does not have to pay any income or corporation tax on the gain – much as would be the case for a private individual. By contrast, a property GmbH is still liable for corporation tax on the full gain even after decades (corporations do not have a speculation period). Here an interesting advantage of the foundation becomes apparent: it combines, as it were, the tax advantages of a private individual (using the speculation period) with those of a company (a low tax rate on ongoing income).
Example: the foundation holds an apartment building that was brought in by the founder 15 years ago, and now sells it for a gain of EUR 1 million. This gain is tax-free. If, on the other hand, the same property were sold within a GmbH, around 15% corporation tax would be due on it (if it is left in the GmbH; on withdrawal, even more – see below).
Of course, the reverse also applies: sales within the 10-year period are taxable as for anyone else. The foundation would then have to tax the gain with corporation tax (15% + solidarity surcharge). Nevertheless, the level remains far below the personal tax rate of a top earner. Anyone who wants to stay flexible can therefore occasionally trade a property within the foundation assets within a short time, but then pays the moderate corporation tax rate on the gain.
e) Distributions to beneficiaries
One purpose of the family foundation is to provide financial benefits to family members. When the foundation makes distributions to beneficiaries out of its income (e.g. annual payments to children, support for education, or a regular “family dividend”), this triggers a tax liability for the recipients. Such distributions are treated for tax purposes like investment income – specifically, they are subject to the flat-rate withholding tax (Abgeltungsteuer) of 25% plus the solidarity surcharge (around 26.375% in total). The foundation must withhold this tax and pay it to the tax office, much as a GmbH taxes dividends.
One can therefore picture it as with a corporation: the foundation first pays corporation tax on its profits, and when these profits are distributed, tax is incurred again on the recipients. The overall burden is thus higher than the 15% initially, but still comparable or more favourable than direct income taxation at the top rate. To illustrate: if the foundation earns EUR 100 of profit from letting, it pays around EUR 15.80 in corporation tax + solidarity surcharge, leaving about EUR 84.20. If it distributes this in full to the family, around 26.4% goes to withholding tax, i.e. around EUR 22.20. About EUR 62 remains in the beneficiaries’ private assets. The total tax burden from the foundation’s perspective here is around 38%. By comparison: had the beneficiary received the EUR 100 in rent himself and is a top earner, he would have had to pay around 42% + solidarity surcharge directly, i.e. >EUR 44, keeping about EUR 56. In this simple example, the foundation therefore saves a few percentage points of tax. This advantage can be greater depending on the configuration, especially if not all profits are distributed but are partly accumulated within the foundation for reinvestment. Moreover, the foundation solution often benefits from other tax advantages (no trade tax, speculation periods) that make the overall balance even more favourable in individual cases.
Note: beneficiaries with a low personal tax rate can, where applicable, apply for a favourable-treatment assessment (Günstigerprüfung), but in wealthy families the flat-rate withholding tax is usually fine. It is important to know that not the whole family pays withholding tax, but only those members who actually receive distributions. One can therefore control who receives how much, and thereby indirectly control who bears which tax burden.
f) Substitute inheritance tax – the “generational tax” for foundations
A particular feature of German tax law is the substitute inheritance tax (Erbersatzsteuer) for family foundations. Since a foundation is not a natural heir and can exist indefinitely, the legislature has provided that every 30 years the foundation assets are deemed to be inherited. The background: if the assets passed conventionally over generations, inheritance tax would arise on each inheritance event. The foundation could theoretically circumvent this indefinitely by never “dying”. To erode this advantage, the assets of the family foundation are subject after 30 years (calculated from establishment or from the last such tax event) to a fictitious inheritance taxation.
The modalities: an allowance of EUR 800,000 is granted; above that, the value of the foundation assets is taxed at the rates of tax class I (i.e. as if inherited by close relatives). The class-I rates are admittedly the lowest (7% on the first amount, rising to 30%), but with large estates this can of course add up. In simplified terms, one can say: roughly once every 30 years, inheritance tax is due. With prudent administration, the foundation can pay this tax from its reserves without having to sell substance. Nevertheless, one should keep this point in view. Thirty years may seem long – but for strategic family-wealth planning it is relevant to build a reserve for it or to plan future income accordingly. Some founders establish their foundation with such a cushion from the start, or arrange for distributions to be reduced where necessary in order to save up for the substitute inheritance tax.
An interesting aspect: the substitute inheritance tax is often lower proportionally than the sum of the tax that would have arisen across several inheritance events over 30 years within private assets. Example: without a foundation, inheritance tax might first be due from the parents to the children, then 30 years later again from these to the grandchildren – tax twice. Over the same period, the foundation pays only once. However, private individuals in turn have the option of transferring much wealth tax-free within the family through gifts on a 10-year cycle (using the allowances afresh every 10 years). Here one must calculate carefully which is more favourable. Often one chooses the foundation not so much for tax-saving reasons but because of the other advantages mentioned (protection, control) – and accepts the taxes. If it is purely about tax minimisation, there are also alternatives such as family companies or arrangements where one transfers directly to children every 10 years while alive. The family foundation is therefore truly an instrument that must be viewed holistically: it can offer tax advantages, but one must not be blind to the fact that gift tax arises initially and substitute inheritance tax every 30 years. With individual advice, it can be calculated whether the ongoing income taxes (which are indeed lower in the foundation) and the asset protection offset or outweigh these one-off tax events.
g) Further tax points
Finally, it should be mentioned that when holding property within the foundation, further tax rules apply just as for any landlord: depreciation can be claimed, maintenance expenses deducted, etc., which can further reduce the tax burden at foundation level. The foundation can also acquire new properties – here real-estate transfer tax is again incurred as usual, since normal purchases enjoy no exception. With very large foundations that become operationally active (e.g. developing property projects), it must be examined whether they do not after all become commercial. This should be avoided so that the trade-tax advantage is not lost. A strict separation helps here: ideally the family foundation acts only as an asset manager. If larger construction activities are pending, one could, for example, establish a subsidiary GmbH to keep the commercial character out of the foundation.
In summary: taxes are not an obstacle, but they set the rules of the game. Anyone who takes the step into a foundation should have a coherent tax concept in order to use all the concessions and keep the pitfalls (e.g. the EUR 20,000 limit on top-ups, or the 30-year period) in view.
Inheritance-law aspects and compulsory-share questions
Besides legal and tax considerations, inheritance law plays a major role when it comes to transferring property into foundations. After all, by using a foundation structure one actively intervenes in the normal succession. The aim is precisely to avoid succession conflicts – but one must go about it correctly so that this succeeds and no new problems arise.
Avoiding inheritance disputes: by bringing his assets (or a large part of them) into the foundation, the founder withdraws them from the classic estate. The property, for example, then no longer forms part of the estate upon the founder’s death, since it was already “gifted” beforehand. The heirs (children, spouse, etc.) therefore do not inherit the property itself, but are only provided for indirectly via the foundation. The advantage: disputes about the property itself – whether to sell, keep, who moves in, compensation payments – are eliminated. The foundation owns the house, full stop. At most, family members can discuss who may draw which benefit from it, but even that is laid down by the statutes (e.g. who may live in the house or how rental income is distributed). Thus a well-constructed family foundation can be a genuine peacemaker within the later community of heirs. No patchwork inheritance can break up the assets, because decision-making power rests with the foundation body and not with the individual heirs.
Compulsory-share claims, more distant: however, one must not forget that close relatives (children, spouse) can assert compulsory-share claims in the inheritance event if, through the foundation structure, they receive less than they would be legally entitled to. The compulsory share (Pflichtteil) amounts to half of the statutory share of the estate, payable in money. Suppose a father has two children who would each statutorily inherit 50%. If the entire estate has already flowed into a foundation during his lifetime and the children thus formally inherit nothing upon his death, they could demand their compulsory share from the estate (which then contains hardly anything). Problem: the property is no longer in the estate, so the children look into the void – were it not for the rules on supplementary compulsory-share claims. Under § 2325 BGB (German Civil Code), gifts that the testator made within the last 10 years before his death are notionally added back to the estate in order to calculate compulsory-share claims (with the attribution decreasing by 1/10 for each year that has passed). This means: if the founder transferred his property to the foundation shortly before his death, disinherited relatives can act as if this gift were still part of the estate – and demand their share accordingly in money.
Consequence: timing is everything! Anyone who wishes to use the foundation as an instrument to potentially curtail those entitled to a compulsory share (for instance because one wishes to disinherit a child or avoid the state’s access via the compulsory share) should have carried out the transfer at least 10 years before death. Only then does the value of the gift fall entirely out of the compulsory-share calculation. At the same time, the founder must not have retained all the benefits until the end of his life, otherwise the 10-year period does not begin to run at all. Important: a reserved usufruct can mean that the 10-year period does not run, because it is argued in law that the testator retained enjoyment of the assets and therefore it was not a fully effective gift within the meaning of compulsory-share law. This means that anyone who gives the property to the foundation but retains a lifelong usufruct and then dies 12 years later risks that the disinherited heirs can nevertheless demand supplementary compulsory shares – because the ten-year period may never have begun to run (this is a complex area of law and depends on the extent of the usage rights). Inheritance-law advice should definitely be obtained here. Where necessary, a compromise must be found: either waiving the usufruct (if avoiding the compulsory share is the top priority) or consciously accepting that compulsory shares do arise and making provision for them.
Family foundation as compulsory-share protection: despite these subtleties, it can be said overall that a family foundation can help to reduce the compulsory-share claim of unloved or external heirs. For example, in second marriages or unmarried partnerships, it can be attractive to bring assets into a foundation and, say, appoint the life partner as beneficiary, rather than leaving everything to statutory inheritance law (where perhaps distant relatives could otherwise demand compulsory shares). One must simply do it in good time. An experienced advisor – such as Dr. Fiala – can show which configuration is advantageous here.
The disinherited and the foundation: for the extreme case where someone deliberately wishes to disinherit his children and instead put the assets into a foundation (e.g. for charitable purposes or to secure only certain relatives), what was said above applies in particular measure. Often the attempt is made, through early establishment of the foundation and a sufficient interval before the inheritance event, to deprive the children of the compulsory share. This is legally delicate but feasible to a certain degree. However, the alarm mode should kick in here: such manoeuvres can lead to bitter legal disputes if the disinherited feel unfairly treated. We therefore always recommend finding solutions, where possible, that leave no complete losers. A family foundation can, for example, also serve as a compromise: the children do not receive the property directly, but they are included as beneficiaries and profit from it. Thus they are not heirs in the classic sense, but neither do they come away empty-handed. Such structures must be communicated clearly in order to avoid later discord.
Heirs as foundation board members: a further inheritance-law aspect is the question of how the future administration of the foundation looks after the founder’s death. The statutes often provide that close relatives (children, spouse) are to sit on the board or at least on the foundation council. In this way the heirs indirectly retain control over the family assets, even though these do not belong to them directly. This can be comforting and avoids the feeling of being “disempowered”. It can be determined, for example, that the eldest son takes the chair of the foundation board, the daughter likewise becomes a board member, and so on, or one appoints an external trustee plus family members. This is relevant for inheritance law because it regulates the transition: the heirs formally inherit nothing of the property, but they take over positions within the foundation. A kind of dynastic continuation thereby still takes place, only at an institutional level.
Flexibility for the unforeseen: amid all the planning, the foundation statutes should also cover scenarios such as: what if all beneficiaries die? Or if a family line dies out? Or if a later generation wishes to withdraw entirely from the foundation? One can provide clauses that, for example, allow the foundation to be dissolved after many decades (with the authority’s approval) and the assets then distributed to the living family members. However, such clauses must be formulated with care, as they could weaken the asset protection. The more “dissolvable” the foundation, the less securely the assets are bound. Nevertheless, in the interest of descendants whom one does not wish to bind forever, one can at least make provisions for emergencies.
In sum, the family foundation offers considerable inheritance-law advantages: continuity, dispute avoidance, protection against fragmentation. At the same time, one must take the compulsory-share issue well into account and act so as not to disenfranchise anyone unintentionally – or, where that is the intention, dispose consciously and in good time.
Foreign foundation solutions (e.g. Liechtenstein) – options for global wealth
Besides the classic German family foundation, it is worth looking beyond the border: there exist foreign foundation concepts that come into consideration for wealth planning. Particularly well known in this context is the Liechtenstein foundation. Wealthy Germans have in the past frequently used Liechtenstein foundations or so-called trusts in other countries to structure their assets. What advantages and risks do such models offer compared with the German family foundation?
Advantages of a Liechtenstein foundation
- Flexibility and structuring: foundation law in Liechtenstein is very flexible. Founders can lay down in detail in the foundation transaction and in so-called by-laws (internal regulations) how the foundation is run. As founder one can secure far-reaching rights of influence, such as the right to remove members of the foundation council (comparable to the board) at any time or to stand above the foundation oneself as protector. Also, the founder can – unlike in Germany – under certain conditions be a beneficiary himself and have benefits paid out without endangering the recognition of the foundation. This flexibility goes beyond what German foundations allow, since there the authority watches strictly to ensure that the assets are genuinely made independent and that the founder does not remain the secret master of the house.
- Confidentiality: Liechtenstein offers a high degree of discretion. There is indeed a foundation register there, but family foundations can, if desired, remain not publicly registered (only a deposit notification with the office, without publication of the details). The list of beneficiaries usually remains confidential. For persons who value privacy and do not want their wealth structure to be publicly viewable, this can be an argument. In Germany, by contrast, foundations – including family foundations – are often registered publicly with certain details, and at least the statutes are known to the authority.
- Tax aspects abroad: Liechtenstein itself levies only a minimal annual flat-rate tax on foundations (~CHF 1,000, depending on capital). There is no gift or inheritance tax in Liechtenstein. This means that, from Liechtenstein’s perspective, holding a foundation is very tax-favourable. If the foundation earns income, it is subject there only to a moderate income tax (and if the foundation merely manages assets and does not run an active trading company, there are models where even that is largely tax-neutral). However, one must clearly distinguish here: as soon as the founder or the beneficiaries are subject to tax in Germany, German tax rules nonetheless apply (more on this shortly).
- No substitute-inheritance-tax mechanism: unlike Germany, Liechtenstein knows no 30-year compulsory taxation. A Liechtenstein foundation could therefore theoretically grow over generations without ever having to tax an “inheritance event”. This makes it attractive for genuinely long-term wealth accumulation.
- International wealth and relocation of residence: for persons planning to move away from Germany or already living abroad, a Liechtenstein foundation can be a neutral holding structure. If someone moves, say, to a country where family foundations are not recognised or where a trust works better, the Liechtenstein solution can be very adaptable. In this way, foreign property, company holdings and other assets can be bundled into such a foundation.
Risks and differences
- German taxation despite a foreign foundation: anyone who, as a German, establishes a foundation in Liechtenstein and remains tax-resident in Germany will find that the German tax office treats this foundation for tax purposes much like a German one. The transfer of assets (e.g. a property in Germany) to the Liechtenstein foundation triggers German gift tax – including the same allowance problem. Often a foreign family foundation is even treated like a relative of tax class III when it comes to tax classes, because there is no specific provision. This means, in some circumstances, only a EUR 20,000 allowance and high tax rates. However, structuring advice can be applied here, for instance by contractually fixing the beneficiaries in order to achieve more favourable terms after all. But one must not believe that the foreign foundation per se brings a tax saving – the German rules apply, depending on the configuration, much as with a domestic foundation.
- CFC rules (additional taxation): in the Foreign Tax Act (Außensteuergesetz), Germany has provisions intended to prevent assets “parked” abroad from remaining untaxed (keyword additional taxation, Hinzurechnungsbesteuerung). However, these typically apply where a domestic taxpayer holds an interest in a foreign corporation. With a foundation there are formally no shares. Nevertheless, the tax office could attempt, in certain cases, to attribute the income of the foreign foundation to the founder or the beneficiaries, especially where this income is taxed at a low rate abroad. It is a complex field, since foundations are special structures – but one should be aware that from a German perspective a foreign family foundation is not automatically seen as a wholly independent tax subject. In particular, distributions to German beneficiaries are taxed like investment income (withholding tax). Even if the foundation makes no distribution, certain configurations can lead to taxation where the founder has decisive influence and lives in Germany.
- Legal control and contestability: a further difference: in Liechtenstein there is no state foundation supervision as in Germany. Control rests with the foundation council and, where applicable, a supervisory body that one sets up voluntarily. This means there is somewhat more personal responsibility. Disputes are, in case of doubt, settled before Liechtenstein courts. For a German family this is unfamiliar terrain. One must have trust in the appointed persons and the foreign legal system. Should there be a dispute among beneficiaries or mismanagement by the foundation council, it is more difficult for German parties to enforce their rights than would be the case with a German foundation (where the authority at least provides a certain framework and one can, if necessary, sue in Germany).
- Costs and administration: establishing a foundation in Liechtenstein involves costs (advisory fees, registration fees) and requires a local foundation council (at least one member must be resident in Liechtenstein or a person licensed there). Trustees are often appointed as foundation council members, which means annual fees. Overall, maintaining a Liechtenstein foundation for ordinary estates is more expensive than a German foundation, which one might perhaps administer within the family circle. Such models therefore usually only pay off above a larger volume, or where specific reasons exist.
Typical use scenarios: when do the wealthy reach for a foreign foundation? A few examples:
- International families: where the family is spread globally (e.g. the property owner lives partly in Germany, partly abroad, children abroad), a neutral foundation in Liechtenstein or a similar jurisdiction can centralise asset management. This avoids German law alone determining everything and can, where applicable, exploit the advantages of different countries.
- Asset protection across borders: Liechtenstein foundations have historically also been used to protect assets from the access of the German state or third parties, particularly at a time when banking secrecy there was strong. Even today they offer a certain protection, although transparency has increased greatly (keyword: automatic exchange of information). They are no longer a free pass for tax evasion – that is strongly to be discouraged. Legal asset protection can, however, lie for example in moving assets abroad early, before an entrepreneurial risk is taken in Germany. If correctly declared and taxed, that is not illegal.
- Trust alternative: Germany has no trust law of its own (as is customary in Anglo-American countries). Some would like to set up a trust to hold assets fiduciarily for the family. Since trusts do not function with legal certainty here, one falls back on the foundation in Liechtenstein, which fulfils, so to speak, the same purpose as a trust. Liechtenstein actually also permits Anglo-American trusts, but the Liechtenstein foundation is more popular because it is a legal institution recognised in continental Europe. In Austria, for example, an FL foundation is recognised as such, and in Germany in principle also as an independent legal person.
- Special tax structures: in some cases – with highly complex structures – a foreign foundation can be part of a strategy to exploit certain tax advantages (e.g. financing tricks, double-dip models, etc.). However, this goes far beyond what is to be set out here and is nowadays also restricted by many treaties.
Conclusion on foreign foundations: for the average property owner, even at the upper end, the German family foundation is usually the most obvious and safest solution, because it lies within a familiar legal framework and is accepted by the German authorities. Foreign foundations come into play where very specific needs exist (greater flexibility, international aspects, particular asset-protection objectives). But they should never be embarked upon without sound advice, since the sources of error are numerous. For example, we addressed the compulsory-share issue: even a foreign construct does not protect absolutely against compulsory shares, since German law may under certain circumstances still trigger claims against the founder or his legal successors where German compulsory-share law is infringed. Likewise, a foreign vehicle can, if handled incorrectly, be regarded by the tax office as an abuse of structuring options (Gestaltungsmissbrauch).
A tip: if you are considering such options, it makes sense to consult an expert who knows both German law and Liechtenstein (or the respective foreign) law well. Dr. Fiala and colleagues, for example, have experience with trust and foundation models abroad and can show whether this brings advantages in the specific case or whether a national solution is better.
Risks, pitfalls and what to watch out for
With all the advantages of transferring property into a foundation, there are of course also risks and pitfalls. Here we summarise the most important points to bear in mind:
- Finality of the transfer: once you have decided on the foundation and transferred the property, there is no going back. The loss of direct ownership can weigh heavily emotionally. You must be clear with yourself: am I prepared to part with “my house” and to see it in future as a “family-foundation house”? Only those who have made this decision internally should proceed. Otherwise there is a risk of later regret and perhaps attempts to circumvent the foundation – which can lead to internal conflicts.
- Complexity and costs: structuring via a foundation is considerably more complex than, say, drawing up a simple will or gifting to the children. This means higher initial costs (notary, lawyer, advice) and ongoing expenses (administration, bookkeeping, tax returns). For smaller property estates the cost-benefit ratio could be unfavourable. This instrument is therefore aimed above all at genuinely wealthy private individuals who wish to manage one or more properties of substantial value over the long term. A single terraced house worth EUR 300,000 would rather not be placed into a foundation – the costs would be relatively high compared with the benefit. From a property value of a few million euros, however, the calculation looks much better.
- Tax misjudgement: a common mistake is to misjudge the tax situation. For example, the assumption “in the foundation I save inheritance tax entirely” – which is not so, because of gift tax at the start and substitute inheritance tax in the long run. Or the belief that one can top up assets at will without tax (as shown, this is only very limited). Equally, the disappointment can be great when one discovers that distributions are after all subject to withholding tax – some think everything is tax-free in the foundation, which is a mistake. Conversely, there are cases where people have unnecessary fear of the tax and therefore hesitate, even though the burden would be manageable on balance. Solution: definitely consult a tax advisor beforehand who draws up a detailed calculation model: what does the establishment cost (gift tax)? How does the ongoing tax burden develop versus the private model? When does substitute inheritance tax arise and in what magnitude? With these figures, a well-founded decision can be made.
- Faulty statutes and governance problems: the foundation statutes are the heart of the matter. Unclear wording or overly narrow/overly generous provisions can cause difficulties later. Example: if the statutes do not clearly determine the beneficiaries, there can be legal uncertainty as to who is entitled. Or if the distribution key for payouts is unclear, family disputes could arise – precisely what one wanted to avoid. The composition of the board also needs careful thought: placing, say, all three children on the board with equal rights can work – or lead to deadlock if they disagree. It may be better to appoint an external professional as a neutral board member to moderate disputes. Tip: work through the statutes with experienced foundation experts. And plan mechanisms for conflict cases: such as majority decisions, veto rights, mediation clauses.
- Handling properties within the foundation: an operational risk: the properties in the foundation assets must continue to be managed – tenancy agreements, maintenance, possible sales or acquisitions. If the founder previously did everything himself, he must now either remain actively involved as part of the foundation body or delegate tasks. Poor management can endanger the value of the assets even within the foundation. Theoretically, even creditors of the foundation (if it takes on debt, for example) could go after the assets, even though personal creditors of the family have no access. The foundation should therefore manage soundly, so as not to get into such situations in the first place.
- Acceptance within the family: all affected family members should be brought on board as early as possible. Establishing a foundation “over their heads” can lead to incomprehension. It is advisable to inform the closest circle openly about the plans and to explain the advantages. If children feel that something is being taken away from them (the inheritance), this can be emotionally burdensome. It helps here to make clear: “You lose nothing – on the contrary, we are securing it for you. You receive your benefit, only not all at once and not to squander.” Often, after a certain period of getting used to it, everyone agrees, especially when they see that it is professionally managed and offers more advantages than disadvantages in the long term.
- Considering alternative solutions: a family foundation is not the only means for asset protection and succession. There are also family pools (for example establishing a family company into which properties are brought, such as a family KG or GmbH & Co. KG), classic property GmbHs, transfers with a reserved usufruct within the family circle, or even the tried-and-tested strategy of using allowances every 10 years through gifts. Each method has advantages and disadvantages. A pitfall would be to fixate on the foundation even though a simpler means might have sufficed. One should therefore also examine alternatives in the advisory process. Some firms (such as Dr. Fiala’s advisory team) explicitly offer to look at what fits best with an open mind – instead of blindly recommending a foundation. That is exactly what one should make use of, in order to be sure of choosing the optimal solution.
The bottom line is: the family foundation is an excellent tool, but not a panacea for everyone. Where it fits, it can bring enormous advantages. Where it does not, one should rather take other routes. What matters is the tailor-made arrangement and the ongoing support, so that the blessing does not become a curse.
Conclusion: individual advice and next steps – act now
Transferring a property into a foundation – specifically into a German family foundation – is a powerful way to secure real estate legally, optimise it for tax and arrange family succession over the long term. Particularly for wealthy private individuals or entrepreneurs with large property holdings, this model offers the chance to preserve one’s life’s work across generations while also sleeping a little more peacefully: the assets are protected against many imponderables and the financial provision for the family is orderly.
However, we have also seen that this topic is multi-layered. Every case is different. The concrete advantages and possible disadvantages depend on your individual situation: how large is your real estate? How is it distributed (flats, commercial, domestic or foreign)? What is your family constellation (married, children, patchwork family)? Which objectives do you pursue primarily (saving tax, avoiding disputes, acting philanthropically)? And not least: are you prepared to hand over responsibility to a new structure and to bear the associated formalities?
Because there is no blanket answer, the urgent advice is: have your personal situation assessed. Use professional, independent advice to determine whether a family foundation is the right instrument for you, or whether alternatives fit better. Both legal and tax experts should be involved, ideally with experience in foundation law and wealth succession.
Do not hesitate to take the first step. The earlier you begin planning, the more freedom of arrangement you have – and the sooner you benefit from the advantages. Do not wait for a crisis (be it a sudden illness, a looming inheritance dispute or a tightening of tax law), but become proactive. Implementing a foundation in particular can take months; it therefore makes sense to start in good time.
If, after reading this article, you have the feeling that this topic could be relevant to you, we recommend a personal advisory meeting with Dr. Fiala. As an experienced expert in the field of asset protection, foundations and succession planning, Dr. Fiala can show you in detail which options exist in your specific case. Together you will analyse your objectives and can develop a tailor-made solution – be it establishing a family foundation, setting up a usufruct model, a foreign foundation concept or a combination of several strategies.
Contact us today to arrange a no-obligation advisory appointment. Do not put the protection of your real estate on the back burner. With the right arrangement, you can not only protect your assets from unnecessary taxes and risks, but also ensure that your life’s work remains in good hands – for the benefit of your family and entirely in your spirit.
Your wealth deserves the best care. Use the advantages of foundation solutions and let Dr. Fiala and his team accompany you competently and reputably. Now is the ideal time to take action and set the course for a secure future for your real estate. Pick up the phone or write to us – we will take care of the rest.
