As of July 1, 2024, the government has sent a draft bill for consultation in connection with their business initiative "A stronger business community". The bill contains significant improvements to generational succession options, including reduced estate and gift tax, legal requirements for schematic valuation and expanded access to transferring real estate businesses with succession. At the same time, it is proposed to expand the scope of gift tax so that siblings are not subject to income tax on gifts in the future, but are covered by the gift tax rules.
Read on below for a general overview of the proposed new rules.
Legal claim for schematic valuation
According to the current rules, the value of a company when calculating estate and gift tax must be set at the market value. If there is no objectively ascertainable value, the value must be determined according to an estimate. Some guidelines have been prepared, respectively the goodwill circular and the share circular (TSS circulars 2000-9 and 2000-10) as well as guidelines in the Legal Guide, section C.C.6.4.1.2, which are typically used when calculating the market value in connection with transfers between related parties. If the proposed rules enter into force, the preparatory works state that these circulars will be repealed. Immediately, this leaves a gap in the valuation system for companies that are transferred between close family members, but where, for example, the succession conditions are not met. It is expected that this will be considered when the bill is discussed later.
The current share and goodwill circulars determine the value of the company based on the accounting equity with certain adjustments with the addition of a schematic calculated value of the company's goodwill.
To ensure security and predictability for businesses, it is proposed that family-owned businesses, including both companies and personally run businesses, in the future have a legal requirement to use a schematic valuation method to calculate the value of the business in connection with generational change within the close family circle. In this way, family-owned businesses can be certain of the estate or gift tax that must be paid in the event of a generational change.
The valuation will be based on the guidelines we know today from the share and goodwill circulars, but with specific changes in relation to the goodwill calculation.
In short, the method is based on the company's book equity plus a capitalized value of the company's excess earnings. The excess earnings are calculated on the basis of the accounting profits for the last 5 financial years prior to the transfer with certain adjustments. The lifetime of the excess earnings is determined based on a schedule that is a combination of the growth in the company's turnover in the last 5 financial years and the return on the company's operating assets. It is proposed that the maximum lifetime can be 15 years.
This entails a change compared to the current schematic calculation rules for goodwill, where only the last three financial years are used as a basis, and the current practice, which is based on a goodwill lifetime of 7 years, will be discontinued.
Under the current circulars, deferred tax is set aside on the calculated goodwill. This is not the case in the draft bill and the calculation examples included here. The change, which is not insignificant, is not discussed in detail in the comments. It is expected that it will be clarified during the consideration of the bill whether the change is intentional or due to an error.
With regard to the book equity, it is also proposed that if it does not give a true and fair view, it must be adjusted. This may be the case, for example, if there have been significant divestments or acquisitions of companies or shutdown or start-up of significant activities. In these cases, the results from the previous years will probably not be true and may require adjustment.
Furthermore, it is proposed that equity should be adjusted by, among other things, valuing real estate at market value and deducting the book value of intangible assets and any treasury shares.
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It is also proposed to take into account that not all types of companies may have the same prerequisites for using the schematic method. Therefore, two exceptions should apply, as the following companies are not covered by the legal requirement to use the proposed schematic valuation method:
- Companies whose activity consists primarily of the development and ownership of intangible assets that have not yet generated a return, and
- Startups that have been around for less than three years.
The proposal for the legal requirement of a schematic valuation applies to both companies and personally run businesses that meet the conditions for the reduced estate and gift tax. This valuation method only applies to the calculation of estate and gift tax, and thus does not apply to valuation in other contexts, e.g. in the case of capital gains taxation upon cessation of tax liability or transfer in a principal shareholder relationship.
The legal requirement means that the parties have a choice between choosing a value according to the schematic valuation method or a value calculated at market value. If the parties choose a value calculated according to the schematic model, the tax authorities will check the calculation and adjust it if the value according to the schematic method is not calculated correctly. However, it must be expected that a choice to use the schematic valuation method will facilitate the dialog with the tax authorities and reduce lengthy discussions about the value.
Contact us for a non-binding meeting about the new rules
Estate and gift tax reduced from 15% to 10%
Gifts given to persons within the gift tax group, including children, stepchildren, grandchildren, parents, etc. are tax-free up to a fixed annual amount, currently DKK 74,100 (2024 level).
If the amount exceeds the tax-free threshold, it will be subject to a 15% tax.
However, gifts to grandparents and stepparents are subject to a tax of 36.25%.
Gifts to siblings are subject to income tax under the current rules.
Inheritances to close family members are currently also subject to an estate tax of 15%.
Inheritances to people outside the immediate family are subject to an additional inheritance tax of 25%, resulting in a total tax of 36.25%.
A previous government reduced the estate and gift tax rate for succession, which was to gradually decrease from 15% to 5% over a period from 2016 - 2020.
However, the uniform estate and gift tax of 15% was reintroduced from 2020.
The government has now proposed that the estate and gift tax rate be reduced to 10% for generational transfer of businesses within the close family circle if the following conditions are met:
- The conditions for tax succession must be fulfilled (however, it is not a requirement that there is an actual transfer with tax succession)
- The deceased/donor must have owned the business for at least 1 year prior to the transfer (ownership period requirement)
- The deceased/donor or his/her close relatives must have participated actively in the business for at least 1 year of the ownership period either by participating in the operation of the business to a not insignificant extent (if personally run business) or by participating in management (if run as a company)
- The heir/recipient must maintain ownership of the business for a minimum period of 3 years after the transfer (holding requirement)
These are the same safeguards that applied to the reduced estate and gift tax in the period from 2016-2019.
If the heir or legatee directly or indirectly transfers all or part of the business within 3 years of the transfer, the tax is increased to 15%.
However, the increase is only for the proportional part of the 3-year period that has not already expired.
The increased tax must then be calculated on the basis of the company's trading price, and not on the basis of the schematic valuation mentioned above.
Siblings are included in the gift tax loop
As mentioned above, gifts to siblings are currently generally subject to income tax for the recipient. Thus, siblings are not covered by the gift tax.
The government has now proposed adding siblings to the circle of close family members covered by the gift tax rules instead of the income tax rules.
Siblings will therefore be able to give each other gifts below the tax-free threshold without having to pay gift tax or income tax, and will also have to pay 15% in gift tax on the amount exceeding the threshold.
Thus, there is a large saving in gifts between siblings compared to the current rules.
When transferring businesses between siblings, the proposed reduced estate and gift tax rate of 10% could be applied - provided that the conditions are met.
Similarly, it is proposed that siblings only pay 15% in inheritance tax in the case of inheritance.
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Active rental businesses can now be transferred with tax succession
The so-called "money tank rule" defines which businesses can be transferred with tax succession to close family members and certain employees.
If the transfer is made with tax succession, no capital gains tax is triggered by the transfer. Instead, the transferee takes over the transferor's tax position, including with regard to the acquisition price.
The taxation of any profit is postponed to the later time when the acquirer disposes of the business.
However, the money tank rule means that companies that predominantly consist of passive capital investment cannot be transferred with tax succession.
The law contains detailed mathematical rules for calculating whether this is the case.
Likewise, the legal text directly states that passive capital investment includes "real estate, cash, securities or similar".
Under the current rules, rental activities are considered passive capital investment. Owners of rental companies or real estate companies that predominantly engage in the rental of real estate have not previously had the opportunity to use the favorable succession rules for generational change.
In the proposal, the government has expanded the access to succession so that rental business under certain conditions is no longer considered a passive capital investment. This means that owners of this type of business can also gain access to generational change with tax succession in the future.
This is based on the assumption that it is an active rental business, which requires that a number of conditions are met.
Read our article: Easier access to succession in the rental industry
If rental businesses meet the criteria for being an active rental business, they are equated with other businesses in relation to succession. This gives access to transfer with tax succession, as well as access to the reduced estate and gift tax and the schematic valuation method, provided that the conditions for this are otherwise met.
Entry into force
The proposals to reduce the estate and gift tax on succession and the legal requirement for schematic valuation are proposed to be introduced with effect for gifts made on or after October 1, 2024 and for distributions from estates of persons deceased on or after October 1, 2024.
The proposal that rental companies are to be treated in the same way as other businesses in terms of access to succession options in the event of generational change is proposed to be introduced with effect for transfers as of January 1, 2025.
Finally, it is proposed that the change in the circle of close family to include siblings will apply from January 1, 2027.
CLEMENS notes
The lack of clear guidelines for valuation of businesses at succession and the lack of access to succession with tax succession for rental businesses has made succession of family-owned businesses difficult.
Overall, this is a significant improvement in the framework conditions for generational changes. The fact that there will be a more fixed framework will also make the processes faster and result in more successions being completed without the need for a binding answer beforehand, just as the number of cases regarding valuations is expected to decrease.
We therefore expect that many business owners will take advantage of the new rules, should they be adopted.
The experience from the last time the succession rules were relaxed - and subsequently tightened again - will certainly also act as a motivator to apply the new rules, as it cannot be known whether they may be repealed again at a later date.
Contact us here if you need clarification on the rulesWe keep you updated
As mentioned, the above changes are in the nature of a bill that has just been sent out for consultation, which means that it has not yet been adopted.
At CLEMENS, we keep up to date with developments in the field, so we are constantly updated on current and relevant knowledge for use in our advice.
If you have any questions about the government's consultation draft for a new bill, you are more than welcome to contact us for a non-binding conversation.
