Germany with a population of more than 80 million and a nominal GDP of over 2.7 trillion Euros is Europe's largest economy. The inbound real estate market is characterized by decentralization around the "Big Six" cities (Berlin, Cologne, Düsseldorf, Frankfurt, Hamburg, and Munich) and had an investment volume of approximately €37 billion Euros in 2012.

As an investment platform, the German open ended funds industry is of particular importance. German open ended funds have presently more than 120 billion Euros of real estate assets under management – in Germany and all around the world. This article briefly outlines the basic legal landscape for real estate investments in Germany from a foreign perspective as well as some information about open ended funds and recent tax developments. Please feel free to contact our German real estate team if you want more information.

1. Legal Landscape for Real Estate Investments

The most common transaction structure to acquire German real estate is a an asset deal through a vehicle chosen by the investor based on its tax efficiency.

Title and Foreign Ownership

Title is usually confirmed by reviewing land register excerpts. The title system is very reliable and errors are uncommon. Title insurance is generally not used, although there have been a few cases where remote risks relating to the title situation have been insured by specialized insurance providers. The buyer of real estate can trust on the content of the land register if acting in good faith. This means that even in case of title errors, the buyer will usually get full title in an asset deal. Nevertheless, all purchase agreements usually have strong representations and warranties about the title position so the buyer can take recourse by asserting those. There are no general real estate specific restrictions for foreign ownership of real estate.

Unusual Aspects from Foreign Perspective

Outlined below are a couple of aspects relating to German real estate transactions, which are often perceived as being unusual from foreign perspective:

  • The timing of the closing of an asset deal cannot be exactly defined as it depends on registrations in the land register and obtaining waivers from public authorities, e.g. regarding statutory rights of first refusal. The possibility and/or likelihood of rights of first refusal being exercised is very low. 
  • The landlord and tenant law in Germany is very tenant friendly. Deviations made by standard terms are subject to a "fairness test", which can, e.g., make it impossible to agree a triple net lease by way of landlord imposed standard terms. 
  • For residential tenants, the mandatory legal protection is even stronger. It is very difficult to terminate residential leases other than for cause. Rent increases are subject to strict legal limitations and law makers even discuss stricter limitations at the moment. The upside of this is that many - even affluent - Germans do not own their home but rent it, which makes the market for home rentals big and liquid, in particular in the Big Six cities where the market has been booming in recent years. 
  • Commercial lease agreements are subject to peculiar written form requirements, which go way beyond the requirement to be on a signed piece of paper. Non-compliance with the written form does not void the lease but makes the fixed term unenforceable so that the lease can be terminated with the statutory notice period of six months to the end of each calendar quarter. 
  • In case of an acquisition of an asset in insolvency or foreclosure, the buyer has a special termination right with the same short notice period as in case of a written form problem. This presents opportunities to streamline tenant structures or for owner-occupiers buying distressed real estate.

2. German Open Ended Funds

German open-ended funds come in two highly regulated varieties:

  • public funds, which have many individual investors and are the Germany's equivalent to REITs as listed REITS are very unpopular (only four REITS existed at last count) 
  • special funds, which are tailored to institutional investors and are arguably the most favourite investment vehicle for German pension funds or insurance companies to invest in Germany and abroad

In particular special funds have been popular investment vehicles recently and active in the United Kingdom and elsewhere outside of Germany.

The legal framework for open ended funds has been changed as a result of the AIFM directive and now provides one framework for open-ended and closed-ended funds. Even though the corresponding tax rules have not yet been amended to reflect these changes, the draft legislation showed some cumbersome inconsistencies. However, it is not expected that the popularity of German open ended funds will suffer in the short or long term and they will remain the most important German real estate investment platform.

3. Tax Developments

The German real estate transfer tax (in English sometimes referred to as RETT or simply stamp duty) used to be at 3.5% of the purchase price at a federal level for all of Germany. As a result of a reform of the federal system in 2006 the states were given the right to determine the RETT rate. This has resulted in varying tax rates of up to 5.5% in various states and soon 6% in Berlin. Only Bavaria and Saxonia kept the 3.5% rate.

In the past, RETT could be mitigated by share deal acquisition structures called "RETT blockers". This has recently become more difficult due to new tax legislation aimed at abolishing these structures.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.