End of the Inheritance Tax in the Balearic Islands?

26 July 2023 - Irene Sbert Muñíz

Within the first 100 days of her term in office, the new president of the Balearic Islands, Marga Prohens, wanted to abolish the inheritance tax payable on inheritances and inheritance contracts between close relatives. On 18 July 2023, not even two weeks after taking office, Decree Law 4/2023 was published in the Official Gazette of the Balearic Islands, entering into force on the same day. This Decree made the aforementioned changes and thus amended Legislative Decree 1/2014 of 6 June.

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Firstly, however, we must make a terminological differentiation: inheritance tax as such has not been abolished – doing so would be beyond the powers of the Autonomic Communities. Rather, said Decree-Law introduces new reliefs on the inheritance tax payable on transfers on account of death without consideration (inheritances and legacies).

By virtue of the legislative change, in the case of inheritance, close relatives, i.e. children and adopted children, spouses and parents (including adoptive parents) are entitled to apply a 100% relief, effectively eliminating the inheritance tax to be paid by these taxpayers.

Siblings, aunts and uncles, nieces and nephews, as well as relatives by marriage in ascending or descending line are also entitled to a 50% relief of the inheritance tax payable if the deceased has no direct descendants, and 25% if they do.

In order to benefit from these tax reliefs, the value of the inherited property declared in the inheritance deed must be equal the real value of the property and must not exceed it. The said Decree-Law establishes as real value of the property the cadastral reference value of the property, or, if the property has not been assigned a cadastral reference value, its market value.

This is where the new regulation might harbour some problems: for the application of the tax relief, the cadastral reference value, i.e. a capped value, of the property must be stated on the tax declaration. However, in some cases, the cadastral reference value is not in line with the market value, i.e. the most likely price for which a property could be sold, free of encumbrances, between independent parties. Thus, if there is a substantial difference between the cadastral reference value of a property and its market value, a much lower acquisition value would be declared.

This lower acquisition value has considerable relevance, if the property is later sold at market value. It would lead to a higher capital gain, which, simply put, is calculated as difference between the sales value and the acquisition vale, thus increasing the income tax payable.

Moreover, in Spain, the income tax rate is generally much higher than the applicable inheritance tax rate. In the case of a relevant difference, it might become necessary to assess whether the application of said tax relief is advisable in the specific case or whether it is better to waive it.

This tax modification is also applicable to non-resident taxpayers. By virtue of the second Additional Provision of the State Law 29/1987 of 18 December on the Inheritance and Gift Tax, they may apply the regulations of the Autonomous Community of the Balearic Islands, instead of the state regulations, if the greatest portion, in terms of value, of the assets and rights of the estate located in Spain is located in the Balearic Islands or if that is where the deceased had his last tax residence.

Finally, one last aspect should be noted: the inheritance and gift tax in its modality of transfers without compensation among living persons (gifts) has not been changed.

Hence, for estate planning purposes, all possible options should be carefully evaluated in each case, taking into account all relevant taxes.