Donation in the Case of Low-Interest Loans

The conclusion of loan agreements with a particularly low interest rate can lead to a taxable donation, as the ruling of the German Federal Fiscal Court dated July 31, 2024, case no. II R 20/22 (lower court Fiscal Court of Mecklenburg-Vorpommern dated April 27, 2022, case no. 3 K 273/20) shows.

In the case in dispute, sister and brother concluded a loan agreement in the amount of approximately EUR 1.8 million with the granting of a land charge. She granted the bullet loan for an indefinite period with a fixed interest rate of 1 % p.a. A gift tax return was not submitted. Nevertheless, the tax office assumed a taxable acquisition at the time the loan amount was disbursed in view of the annual value of the benefit of use and assessed gift tax of EUR 229,500 against the borrower. The difference between the actually agreed interest rate and the statutory fixed interest rate of 5.5 % p.a. stipulated in section 15 para. 1 of the German Valuation Act was deemed to be a gift and thus amounted to 4.5 %.

Opinion of the Fiscal Court

The free granting of the right to use the capital provided as a loan constitutes a gratuitous transfer that is to be valued in accordance with the rules of the German Valuation Act. If the loan is not granted interest-free but - as in this case - at a low interest rate, this also constitutes a gratuitous (partial) transfer. In this case, the annual value of the benefit of use is to be calculated at 5.5 % interest less the agreed interest rate in accordance with the previous rulings of the German Federal Fiscal Court, if no other value has been determined.

A different annual value of the benefit of use is not already established if the lender or the borrower could only have achieved a lower return than 5.5% per annum if the loan amount had been invested at interest at a credit institution under normal market conditions. Rather, the standard of comparison is the market interest rate that would have been payable if a loan had been granted or taken out under comparable conditions - apart from the absence of interest. Thus, taking into account the relevant circumstances in the case in dispute, the interest on the loan amounted to an annual average of approximately 3 %. In comparison, the borrower only had to pay one third of the interest to his sister that he would have had to pay on the free market. It can therefore be assumed that the transfer in the amount of the enrichment in the case in dispute was free of charge and that the contracting parties were also aware of the difference in value. The fiscal court did not attach any significance to the loan offers from other banks submitted by the borrower due to a lack of comparability.

Furthermore, the fiscal court did not recognize any constitutional concerns with regard to the application of the interest rate of 5.5 %.

Opinion of the German Federal Fiscal Court

The fiscal court was correct in considering the granting of a low-interest loan between brother and sister as a donation subject to gift tax. However, the amount of the tax base is not determined by the difference between the agreed interest rate of 1 % and the statutory interest rate of 5.5 % according to section 15 para. 1 of the German Valuation Act. This is because, contrary to the opinion of the fiscal court, a lower market value was established on the basis of the general annual credit interest rates through the German Central Bank.

The fiscal court has already determined that the loan interest for a case such as the one in dispute (commercially independent person; fixed interest rate of one to five years) was 2.81 % on average in the year in question. Accordingly, the difference between the agreed interest rate of 1 % and the interest rate of 2.81 % to be paid according to the German Central Bank was nominally 1.81 %; this interest rate is also to be regarded as an “other value” within the meaning of section 15 para. 1 of the German Valuation Act. Thus, this established value and not the statutory interest rate standardized in section 15 para. 1 of the German Valuation Act is to be used to determine the value of the enrichment. The wording of section 15 para. 1 of the German Valuation Act also does not imply that a different value must be proven; it is sufficient to establish a different value. Based on this, the German Federal Fiscal Court recalculated the gift tax and set it at EUR 59,140.