Important things to know if you acquire full ownership of a house after the death of the usufruct

Establishing a usufruct for life on a property involves dividing the property's ownership. From that moment on, there will no longer be one absolute owner with all the rights over the property. Instead, there will be a bare owner, who owns the property, and a usufructuary, who, without being the owner, has the right to use and enjoy the property. This is common in a family context, such as when a parent donates the usufruct of a property to a child, reserving the bare ownership, or when in an inheritance, the widowed spouse acquires the usufruct for life of the property and the children are left with the bare ownership.

Establishing a usufruct generally does not pose any problems with the Spanish tax authorities since when it is created, the specific acquisition or transfer is taxed, valuing the bare ownership or the life usufruct according to the provisions of Article 26 of Spanish Law 29/1987, taking into account the age of the usufructuary.

The problem arises when the bare owner acquires full ownership of the property upon the death of the usufructuary. In these cases, various tax issues may arise with the tax authorities, and depending on the interpretation of the regulations, considerable sums of money may be at stake. José María Salcedo, managing partner of Salcedo Tax Litigation, explains the main issues of acquiring full ownership.

Is ownership consolidation time-barred?

One of the most frequently asked questions is whether ownership consolidation is time-barred if the inheritance or donation it derives from is also time-barred. According to Article 51.2 of Spanish Royal Decree 1629/1991 (Inheritance and Gift Tax Regulations), when the usufruct is dissolved, the bare owner must pay based on the value attributed in its constitution, reduced by the remaining reductions according to Article 42 of said Regulations, if these were not absorbed in the liquidation for the acquisition of the bare property, and applying the same average effective tax rate as mentioned above.

This means that the ownership consolidation is not considered a new acquisition. It is not a question of acquiring the bare ownership first and then the usufruct as two separate acquisitions. It is a single transaction that is taxed at different points in time.

If the inheritance or donation in which the usufruct was constituted lapses, the question arises as to whether tax must be paid on the subsequent ownership consolidation upon the death of the usufructuary several years later. For example, imagine that a father donated the bare ownership of a property to his son in 2010, retaining the usufruct, and the son did not pay the tax for this donation, and the tax office's right to liquidate the tax after four years lapsed. In this case, when the father dies and the son acquires ownership, we question whether he should pay tax for acquiring the usufruct, considering that the donation that gave rise to the usufruct was not settled and is already time-barred.

The Directorate General of Taxes' criterion on this issue is that the statute of limitations on the right to demand taxation for ownership consolidation did not occur. In resolution V0499-22, the Tax Office states that "ownership consolidation would not be time-barred simply because the acquisition of the bare ownership is time-barred unless four years had elapsed since the liquidation given that the dissolution of the usufruct should have been presented. Therefore, the taxpayer must do a 'simulation' of the liquidation that should have been done when acquiring the bare ownership and, from that simulation, determine the average rate, the deductions and other elements to be able to liquidate the ownership consolidation".

However, this issue is not yet fully resolved, and there are different opinions. One example is the view expressed by TEAR of Madrid in the resolutions issued on 30-9-2021 and 6-10-2021, where it is stated that "if the right to liquidate the acquisition of the bare property is time-barred, the right to liquidate the ownership consolidation is also time-barred".

It is important to note that recent Supreme Court rulings (such as those of 7-6-2023 or 29-6-2023) seem to consider taxing the ownership consolidation despite the prescription of the inheritance or donation, focusing on resolving which reductions could be applied in these cases.

Legislation applicable to consolidating the freehold of a property

Salcedo recalls that the regulations to be applied will be those in force at the time the usufruct was constituted, regardless of the time passed and whether the application of such regulations benefits or harms the person who must pay tax for consolidating the ownership after the dissolution of the usufruct. This is emphasised in a ruling of the High Court of Justice of Madrid of 17 October 2019, which states that "there has only been one taxable event, only one liquidation has taken place – with payment deferred in part – and, for all these reasons, only one tax law can be applied, which can only be the one in force at the time of the event".

What happens if tax benefits were not applied when taxing the constitution of the usufruct?

The taxpayer who already paid inheritance tax on the constitution of the usufruct after acquiring the bare ownership could have forgotten to apply the tax benefits available to them in each Autonomous Community. On this point, the Directorate General for Taxation considers that not all the tax reductions can be applied, only those provided for in Article 42 of the Regulation not used up, i.e. when these reductions could not be applied due to insufficient taxable income.

And the Treasury directly points out that it will not be possible to apply the tax benefits that were not included at the time. That is to say, to include them in the self-assessment now when consolidating the ownership when this was not done when self-assessing the constitution of the usufruct and bare ownership was acquired.

However, for the managing partner of Salcedo Tax Litigation, this is a questionable criterion that is now on the table of the Supreme Court, as many taxpayers present the inheritance or donation in which the usufruct is constituted once their obligation to do so has lapsed and this happens because the tax payable is zero so that no tax reduction is included in the self-assessment of the tax. 

Now, the Spanish Supreme Court, in an Order of 29 June 2023, has agreed to "determine whether the reductions for kinship of Inheritance Tax are fully or partially applicable in those cases of ownership consolidation in which the taxpayer having not submitted a self-assessment of the tax for the inheritance that gave rise to the dismemberment of ownership, the right to determine the tax debt of the inheritance has lapsed".

Do I have to pay personal income tax and municipal capital gains tax to acquire full property ownership?

The Directorate General of Taxes, in resolution V1451-22, considers that no municipal capital gains tax is payable after acquiring full ownership of the property. However, Salcedo reminds us that in the case of a future transfer, the starting date of the tax generation period will be the date on which the full ownership of the property was acquired. "In other words, the consolidation of ownership in a hypothetical future transfer will not be taken into account, given that this operation does not determine the tax accrual," adds the expert.

Nor will it be necessary to pay personal income tax in the event of ownership consolidation. This has been declared by the Spanish Directorate General of Taxes in resolution V2191-21, stating that "the dissolution of the usufruct due to the death of the usufructuary does not entail, for Personal Income Tax purposes, a new acquisition by the property holder, but rather it is the legal system itself of this real right to enjoyment which establishes that the death of the usufructuary dissolves it ( Art. 513.1º, Civil Code), with the owner recovering the powers of enjoyment of which he had been deprived on its constitution".

Given the doubts raised by this case, Salcedo explains two ways to confront the tax authorities. The first one is to appeal the tax assessment notification you reeceive, first through administrative and economic-administrative channels, and then through the courts. The second way is to pay tax according to the Tax Office's criteria and then request that the contested self-assessment is rectified and the undue income refunded.