Depreciate new flats more quickly

There is an acute housing shortage in many urban centres. The Act on Tax Incentives for the Construction of New Rental Housing created an incentive back in 2019 to claim increased depreciation on new builds through the special depreciation allowance under Section 7b of the German Income Tax Act. The prerequisite is that new, previously non-existent living space is created. Until now, it was questionable whether the regulation would also apply if the property in question had already been built on with a residential building in the past. The Federal Fiscal Court recently ruled on this (case no. IX R 24/24).

An owner had demolished a rented detached house built in 1962 and immediately replaced it with a new building on the same site. Extensive renovation work would have been necessary on the old residential building. In view of the high renovation costs of over 100,000 euros, the property owner decided to demolish the building and construct a new detached house. He assumed that he would be able to claim the production costs of the new building for tax purposes as part of the special depreciation allowance. These allow the costs for the acquisition or construction of a building to be claimed against tax more quickly than usual.

Specifically, Section 7b of the Income Tax Act allows the acquisition and production costs to be depreciated by up to 5 per cent in each of the first four years. In addition, the statutory straight-line depreciation of 3 per cent of the acquisition and production costs can be claimed. If the declining balance method of depreciation is chosen, an additional 5 per cent of the respective book value (residual value) is possible. This means that almost 40 per cent of the total production costs can be depreciated for tax purposes within the first four years. The tax burden can be significantly reduced during this period.

It should also be noted that further conditions must be met. For example, certain maximum limits must not be exceeded in terms of production costs per square metre of living space, as the scheme is primarily intended to promote social housing in the affordable lower and middle price range. Luxury properties are therefore not favoured.

However, the special depreciation allowance was denied to the property owner by the tax office. The tax office was of the opinion that no new living space had been created, taking into account the old building. The owner initially took legal action against this before the Cologne Fiscal Court. The court dismissed the action.  In its decision, the Federal Fiscal Court has now followed the opinion of the tax office and the Cologne Fiscal Court. In this case, no new living space was created as this already existed in the past. The existing living space on the property had ultimately not increased. The application of paragraph 7b is therefore ruled out for the plaintiff.

Property owners should therefore carefully check whether the requirements for special depreciation are met before embarking on a new construction project. The situation would have been different in this case if the property had previously been used commercially. In the opinion of the tax authorities, newly created living space through conversion fulfils the requirements.