Avoidance of Multiple Inheritance Taxation Within Europe

AVOIDANCE OF MULTIPLE INHERITANCE TAXATION WITHIN EUROPE

by

Professor Seppo Penttilä

University of Tampere

Finland

• INHERITANCE AND GIFT TAX IN FINLAND

• Overview

There is only one tax in Finland levied upon death or as a result of a gift. The name of the tax is inheritance and gift tax. The tax is based on the Inheritance and Gift Tax Act (in Finnish Perintö- ja lahjaverolaki). The Act is quite old, for it dates from 1940. It has been amended and revised many times, so that today only few original provisions are left. The last reform of the Act was carried out in 1996, when the provisions concerning the criteria for tax liability were revised.

Inheritance tax is levied individually on each beneficiary in accordance with beneficiaries share of the entire estate regardless of whether the property is received by law or bequest, not on the estate of the deceased as whole. The tax is payable by the recipient of the property. The same also applies also to the gift tax. Consequently inheritance tax in Finland is an acquisitions-based tax.

Inherited property or a gift is not regarded as income for the recipient and capital gain is not realised in the taxation of the donor. The transferee of real property or securities is liable to pay transfer tax but transfers where the basis is an inheritance, bequest or gift are exempted.

The annual yield of inheritance and gift tax is about 1 % of the total tax revenue of the state.

• Criteria for tax liability

Inheritance tax is levied on the following property received as an inheritance or a bequest:

• Any property, if the deceased or the person who receives the property as an inheritance or a bequest was resident in Finland at the time of death;
• Real property situated in Finland and shares or other rights in a corporate body where more than 50 per cent of the total gross assets of that corporate consist of real property situated in Finland.

Thus the unlimited tax liability is very broad. It may be based on the residence of the deceased and also on the residence of recipient. If the deceased or the recipient is resident in Finland, the situs of the property is irrelevant. Limited tax liability is based on the situs of the immovable property in Finland or on shares mentioned above.

There is one narrow exception to these rules. It is applied to recipients who are not citizens of Finland and are present in Finland as a staff member of a foreign embassy or consulate or are employed in Finland by the United Nations or one of its sub-organisations. Such persons or members of his family are subject to Finnish Inheritance tax only on immovable property situated in Finland and on shares in a company whose assets consist principally of Finnish immovable property.

The provisions concerning the gift tax are quite similar. A gift tax is levied on the following property received as a gift:

• Any property, if the donor or the beneficiary was resident in Finland at the time when the gift was made;
• Real property situated in Finland and shares or other rights in a corporate body where more than 50 per cent of the total gross assets of that corporate consist of real property situated in Finland.

For the purpose of the inheritance and gift tax a person is deemed to be resident in Finland if he has his main abode in Finland. No intent to stay permanently is required for residence. One can say that the minimum criteria is that the person has a house or apartment for his habitation in Finland. Additionally, the person factually uses the house or the apartment as his home. If a person also has a house or an apartment in another country for his use, it is necessary to determine which one is his main abode. In that case his centre of vital interests may also be taken into account.

The residence of inheritance and gift taxation differs from that of income taxation. In income taxation an individual may also be deemed to be resident in Finland, if he stays in Finland continuously more than six months. There is no such rule in inheritance and gift taxation. In income taxation the so-called three years rule can be applied to Finnish national. This means that an individual is deemed to be resident in Finland for three years or even more after his removal, if he has substantial ties with Finland. In inheritance and gift taxation unlimited tax liability ceases after migration and there is no such three-year time limit.

• Tax avoidance

The Inheritance and Gift Tax Act comprises several provisions that aim at preventing tax avoidance. One of them is the general clause aimed at preventing avoidance of the inheritance and gift tax. Tax authorities may apply the clause in situations, when artificial arrangements are used and it is evident that avoidance of inheritance or gift tax is the principal purpose of the transaction or the arrangement.

Special provisions in inheritance taxation are applied to gifts that the deceased has given during his lifetime. All gifts given to heirs during a three year period before death are taken into account in inheritance taxation. The value of such gifts at the moment they were given is added to the taxable share of the heir, but the tax paid before is deducted from the inheritance tax. Gifts that according to civil law are treated as advance inheritance are also taken into account in inheritance taxation.

In gift taxation all gifts the donee has received from the donor for three years period are taken into account when the tax is levied. The value of these gifts is aggregated and gift tax is imposed on the aggregate value of the gifts. However, the gift tax that was previously paid with respect to the gifts concerned, is credited.

If an appropriate tax return is not filed within the prescribed time limit, the inheritance or gift tax may be estimated and also increased. In flagrant cases the tax may be increased by 100 %.

• Valuation an exclusions

The inheritance and gift tax is imposed on the value at the time of transfer of the assets less the liabilities transferred. There have been many problems with the valuation of property. The law has been open to various interpretations. One question of interpretation has been the standard of valuation: is the property to be valued at its market value or is it to be assessed at values used for wealth tax purposes. Wealth tax values, although they are in principle market values, have often been substantially lower than market values. This dispute has now been resolved by the decisions of the Supreme Administrative Court. According to the decisions the measure of valuation is market value.

Inheritance and gift tax law actually includes no provisions as to how the valuation should be done. The National Board of Taxes has given some guidelines for the valuation of property. Although the valuation is not bound to wealth tax values, these values can at least in some cases be some kind of weak starting point: if there is no evidence of market value, one can use wealth tax value.

Wealth tax values play an important role in the valuation of business assets. There are two reasons for this. Firstly, it is often very difficult to find any other value for business assets, e.g. it may be impossible to value business machinery at its market value. Secondly, using the wealth tax value (lower than market value) is a way to give tax relief on inheritance and gift tax, when business enterprises are transferred to heirs, who are going to carry on the business activity. In Inheritance and Gift Tax Act there is this kind of relief concerning business enterprises and agricultural property. Additionally, if a business enterprise or a farm is transferred against consideration exceeding 50 % of the market value of the property, no gift tax is imposed. Normally there is a taxable gift, if the consideration is less than 75 % of the market value (the difference between the market value and the consideration is deemed a gift).

Some goods are excluded from inheritance and gift tax, but these exclusions are not very important. Standard movable household items that were in the use of the deceased or his family are exempt from inheritance tax to the extent that the value of such property does not exceed FIM 20.000, that is 3.364 €. Correspondingly, standard movable household items that are intended for the personal use of the donee or his family are exempt from gift tax to the extent the value of such property does not exceed the sum mentioned above. What the spouse receives at the dissolution of the marriage on the basis of marital right is not subject to inheritance or gift tax.

Monies paid on the basis of life insurance contracts are taxed in Finland either in income taxation or in inheritance or gift taxation. Life insurance benefits paid in a lump sum to the spouse or direct ascendant or descendant of the deceased are exempt from income tax. They are also exempt from inheritance tax to the extent the amount received does not exceed FIM 200.000 (33.641 €) per beneficiary. If certain conditions are met, it is also possible to receive a small sum (FIM 50.000, 8.410 €) free of gift tax on the basis of a life insurance policy.

• Rates and tax-free base amounts

The tax rates are as follows:

Taxable inheritance Basic taxRate within

or gift amountbrackets %

FIM€FIM€

20.000 100.000 3.364 – 16.820500 84 10

100.000 – 300.00016.820 – 50.4628.5001.430 13

300.000 50.462 - 34.5005.803 16

The amount of the tax also depends on the relationship between the deceased or donor and the recipient. Recipients are divided into three classes:

Class I:

• spouse, common-law spouse (under certain conditions), child, adopted child, child of the spouse, father, mother, adoptive parents, direct heir of a child or adopted child, and, on certain conditions, fiancé(e)

Class II:

• brother, sister, half-brother, half-sister or a direct heir of any these

Class III

• other relatives and unrelated persons.

The rates mentioned above cover the class I. The tax rate is double in tax class II and triple in tax class III.

• Striking features

Inheritance and gift tax liability in Finland is broad. I suppose it is broader than in many other European countries, for the tax is levied on any property, if the deceased/donor or the person who receives the property is resident in Finland. Due to these provisions the risk of double taxation is quite evident. However, Finland is not the only country which uses the combination of the two possible criteria deceased/donor and recipient as criteria for inheritance and gift tax.

Nationality is not used as a criterion for levying inheritance and gift tax in Finland. Some countries seem to have time limits, during which the national of the country is still treated as resident although he would not be resident according to normal provisions. As mentioned above, there are not such time limits in Finland. Escaping inheritance or gift tax by moving the residence abroad is not a big problem in Finland. Often this is not efficient, because the tax liability is based on the residence of the donor and recipient. Also other kind of international estate planning is not common. Perhaps it is not worth of it, because the highest tax rate in the class I is not higher than 16 % and additionally, the effective tax rate may be lower, because the property may be valued below its market value.

• DOUBLE TAXATION RELIEF

• Unilateral relief

A credit method is used in Finnish inheritance and gift taxation to avoid international double taxation. The tax paid on an inheritance or on a gift by a person resident in Finland to a foreign state is credited against the inheritance tax due in Finland on the same property. The credit may not exceed that part of Finnish inheritance or gift tax which is attributable to the property. Thus, the tax credited is calculated according to the principles of ordinary credit.

The scope of this provision is limited, for it is applied only if the recipient is resident in Finland. Secondly, only the tax that is paid to a foreign state is credited. Thirdly, foreign inheritance or gift tax on Finnish immovable property and on shares in a company whose assets mainly consist of Finnish immovable property, is not creditable.

If the foreign inheritance or gift tax is not creditable under the rules mentioned above, the general relief provisions may be applicable in a case, where the full tax would be unreasonably severe.

• Tax Treaties

Finland has concluded tax treaties with the following countries for the prevention of double estate, inheritance or gift taxation:

COUNTRY

/ DATE OF CONCLUSION / DATE OF COMING INTO FORCE / SCOPE
United States of America / 3 March 1952 / 18 December 1952 / Estate/Inheritance Taxes
Netherlands / 29 March 1954 / 23 December 1955 / Inheritance Tax
Switzerland / 27 December 1956 / 31 May 1957 / Inheritance Tax
France / 25 August 1958 / 2 June 1959 / Inheritance Tax
Nordic Countries (Denmark, Iceland, Norway, Sweden) / 12 September 1989 / 19 August 1992, applicable as of 19 October 1992 / Inheritance Tax and Gift Tax

As one can see from the date of conclusion, only the Nordic Treaty can be OECD Model-conform.

Additionally there is the Finnish – Greece Tax Treaty (1996). This treaty is very curious, for it is applied only to gifts consisting of immovable property and the donee must be the state or other public body using the property for scientific or cultural purposes.

The treaty provisions take precedence over unilateral measures for the avoidance of double taxation, if they are not less advantageous for the taxpayer.

All tax treaties mentioned above are in force and have not been revised after the date of conclusion.

The old treaties (Netherlands, Switzerland, France) are quite uniform, although the expressions used in treaties differ slightly. The treaties apply only to inheritance tax and they require that the deceased person was resident of the contracting state. The basic rule for taxation under the treaties is that inheritance is taxable only in the state where the deceased was resident at death. However, immovable property and business assets of a permanent establishment or fixed base is taxable only in the state in which the property is situated. The treaty with Switzerland has no article of permanent establishment or fixed base. The exempted property is taken into account in calculating the amount of tax on any remaining property.

The U.S. Treaty contains fairly detailed situs rules that also cover many other assets than immovable property and business assets of a permanent establishment e.g. receivables, shares, ships, patents, copyrights. As a jurisdictional base for the application of tax, Finland has adopted in the treaty the residence of the deceased or of the beneficiary. If the situs of property is outside Finland, the property is not taxed in Finland.

The Nordic treaty is based on the OECD Model. The treaty requires that an inheritance and a gift be taxed in the Nordic country where the deceased was resident at death or where the donor was resident at the time of gift. However, immovable property and business assets of a permanent establishment or fixed base are taxable in the Nordic country where they are situated. Double taxation is avoided in Finland by way of the credit method.

Although the Nordic treaty is based on the OECD Model, there are numerous details in which the Treaty differs from the OECD Model. One formal difference is based on the fact that the Treaty is multilateral and the OECD Model is designed for bilateral treaties. But there are also material differences based on the tax laws of the Nordic countries. One can list following differences:

• Fiscal domicile: According to the Nordic Treaty nationality may have more importance than in the OECD Model when the fiscal domicile is determined.
• Shares in a corporate body whose main and factual purpose is to own immovable property are treated like immovable property.

• Subsidiary right to taxation: If the contracting state due to the provisions of the treaty is not allowed to tax and this would lead to the item not taxed in any contracting state, the right to tax may come up in the other state, if certain conditions are met.
• Valuation: There is a special article about valuation in the Nordic treaty. According to it each contracting state may value the property according to its own legislation, when determining the taxable amount.
• In the Nordic treaty there is not such an extensive article concerning the deduction of debts as in the article 8 in the OECD Model.

• EC LAW

There have not been any cases in Finland in which the EC law would have come up with inheritance or gift tax. EC law questions have not been dealt with in the literature either. It thus seems as if EC law questions in this field are not a very topical question.

Finnish inheritance and gift tax is based on the residence principle and not on the nationality principle. Thus, it is difficult to see, how the law could discriminate directly. There are no rules seeking to prevent the possibility of escaping the Finnish inheritance and gift tax by moving the domicile to another country. If a person immigrates, he will be taxed in Finland only, if the deceased or donor was resident in Finland. He will get the same allowances and the tax is imposed by using the same tax scale as used when the recipient is resident in Finland. If the transferee is resident in Finland and the deceased or donor is not, the transferee will be taxed in the same way as he would be taxed if the deceased or donor were resident in Finland. De facto there may be a lot of problems when the tax is imposed on foreign property.