Extinction of condominium: Problems in determining its tax implications

It is very common to find that a property belongs to two or more individuals, either because they are siblings and the property in question has been inherited equally from their parents, or because two individuals have agreed to invest in the purchase of a property, or because it represents the habitual residence of a couple (whether married or common-law partners)...

It is also very common that, at a certain point, these co-owners of a property may want to separate, with one of them keeping the property and paying the others money for it, or even giving them their share when there is a family relationship involved. It is also possible that there is a mortgage on the property and this is assumed by the person acquiring the property, or that individuals are co-owners in undivided shares in various properties and want to allocate these properties among themselves to stop sharing these ownerships... The cases are very diverse, and as we will see below, so are their tax implications. First of all, it is necessary to warn that the tax implications derived from the termination of a joint ownership have always been a very controversial issue, and because of this, it has generated numerous criteria issued by the General Directorate of Taxes, doctrine, and court rulings, including the Supreme Court, which have been contradictory in many cases.

In this article, we will try to summarize which taxes may be involved in a termination of joint ownership, emphasizing in any case that, to determine

its tax implications, it will be necessary to analyze the situation case by case, since a different precedent could lead to different tax implications. As well, this article is prepared taking into consideration the current pronouncements of the General Directorate of Taxes and the Supreme Court, keeping in mind that changes in this matter are constant and criteria may change from today to tomorrow.

Firstly, in order to determine these tax implications, it is important to know the origin of the joint ownership and whether there are different communities of assets. Thus, for example, we could find two siblings who have undivided ownership of two properties, one acquired by donation and another by succession; the termination of joint ownership depending on the tax could have different implications depending on whether they have the same origin.

Once the origin of the communities of assets and their number is determined, we could begin to analyze their tax implications.

Tax on onerous property transfers and documented legal acts:

• Modality of the Tax on Documented Legal Acts:

In the event that the community of assets to be terminated has not carried out business activities, from a tax perspective, its termination will be subject to Documented Legal Acts since it is formalized in a public deed, is susceptible to registration, and involves a valuable item.

The main issue in this tax is determining the taxable base of this tax, whether it will be the total value of the real estate on which the joint ownership is terminated or only the part that the acquirer obtains ex novo.

The Supreme Court has clarified this point, among others, through its judgments of October 9, 2018, and March 26, 2019, concluding that the taxable base will be determined only by the ex novo part acquired, resolving the existing issue. For example, if we have two siblings who are co-owners of 50% of a property worth €100,000 and terminate the joint ownership, with one of the siblings acquiring 100% of the property, the tax base to be paid will be €50,000.

The reasoning behind this conclusion is that the acquirer of the 100% was already the owner of 50%.

• Modality of the Tax on onerous property transfers (hereinafter TPO):

One of the taxes that has generated more controversy is the Tax on Onerous Property Transfers, where the Supreme Court has analyzed a wide range of situations.

For this tax to apply, there must be an excess of allocation. Therefore, the first thing to analyze is whether the termination of joint ownership will lead to a proportional allocation to the share of each of the co-owners. If the allocation is not proportional to their shares, there will be an excess allocation subject to this tax, taxed at the applicable rate.

In the event of the termination of joint ownership of a single real estate, considering it indivisible according to the definition of the Spanish Civil Code, if it is allocated to only one of the co-owners and the other is compensated with money, the tax law excludes this excess allocation from taxation by TPO. If this compensation in money does not occur, the tax may apply.

The second controversial point to analyze is what happens with partial terminations of joint ownership.

The Tax Authority qualifies this operation as an exchange, subjecting the operation to the tax.

Next, various judgments issued by the Supreme Court during the year 2019 are highlighted to clarify controversial cases, determining which modalities of the tax applied, either TPO or Documented Legal Acts:

• Dissolution of a community with excess allocation of a single indivisible property to two spouses married under the separation of property regime, compensating the excess in money. Judgment of the Supreme Court of June 26, 2019:

In this judgment, the factual situation was a marriage married under the separation of property regime and two children who were co-owners of a property in fourth undivided parts. They decide to dissolve the community, allocating the property to the married couple under the separation of property regime, compensating the children by assuming the outstanding balance of the mortgage that encumbers it.

The Supreme Court declares that the tax qualification of a partial dissolution of a community of assets constitutes an excess allocation subject to TPO since it considers that it is not a termination of the community of assets but rather the underlying transaction is the transfer of shares between co-owners.

It is important to note that it would be different if the acquiring couple were married under the gains regime, as it could be considered a single acquirer.

• Dissolution of two communities with the same co-owners, but with different shares in each property, the properties being indivisible. Judgment of the Supreme Court of October 30, 2019:

In this case, we have two individuals who co-own two properties with different participation shares for each property and want to dissolve the community by allocating both properties to one of the co-owners and compensating the other party with the assumption of a mortgage loan and in-kind payment through real estate and movable property of the acquirer.

Regardless of the taxation that corresponds to TPO for the transfer of assets as in-kind payment to the owner of the excess allocation, the allocation of the two indivisible assets to one of the co-owners only triggers Documented Legal Acts.

From this judgment, it can be inferred that compensating the other co-owner, not with money but with the assumption of a mortgage loan or in-kind payment, does not imply being subject to TPO.

• Dissolution of a community with excess allocation of a dwelling and its garage, allocating them to a married couple under the community property regime, compensating the excess in money. Judgment of the Supreme Court of July 9, 2019:

We have a dissolution of a community related to two properties, a dwelling and its parking, where both properties are allocated to a married couple married under the community property regime, alleging indivisibility, compensating the other co-owners in cash.

In this resolution, it is important to note that the married couple married under the community property regime is considered a single acquirer, and in turn, they consider the dwelling and the parking as a single property to be divided, even though they are two separate registered properties.

• Dissolution of a community of various properties without excess allocation, but after the allocation, a new community is formed. Judgment of the Supreme Court of May 30, 2019:

Four co-owners own in fourth undivided parts three properties, dissolving the community by allocating two properties to two of the co-owners in equal undivided halves and the third to the other two in equal undivided halves, with the declared value being proportional to their initial shares. The Court points out that there is no subject to TPO since there is no excess allocation, even though it results in a new community, being only subject to the gradual rate of the Documented Legal Acts.

Income Tax on Individuals (hereinafter IRPF):

In joint ownership terminations, the regulations of the IRPF require, for there to be a taxable capital gain subject to taxation by this tax, an excess allocation.

In a recent Judgment of the Central Economic-Administrative Tribunal, dated June 7, 2018, different situations were described in which an excess allocation was considered to occur.

This judgment establishes that, to consider that a capital gain has occurred, it is necessary to take into account:

a) If the real estate awarded has a higher value on the date of its termination than the value on the date of its constitution.

b) If the allocation is made based on the ownership share, or an excess allocation occurs, resulting in a patrimonial alteration in the co-owner receiving the excess allocation.

In summary, we can find the following cases:

There will be no excess allocation when:

• The property has the same value at its termination as when it was constituted, and the allocation respects the ownership share of each co-owner.
• The property has a higher value at its termination than when it was constituted, but the ownership share of each co-owner is respected.

There will be an excess allocation in other cases.

Tax on the increase in the value of urban land (hereinafter IIVTNU):

The IIVTNU follows the same criteria, as a general rule, as those analyzed in the section on the Tax on Onerous Property Transfers and Documented Legal Acts.

Therefore, if there is no excess allocation, the operation would not be subject to the tax. In the event of an excess allocation, if this arises from an indivisible asset and is compensated with money, this termination would also not be subject to this tax.

As can be seen from the analysis of the involved taxes (TPO, IRPF, IIVTNU) and the diversity of highlighted cases, there are many aspects to consider. Therefore, when faced with the dissolution of a community of assets, it is recommended to seek advice from a professional before making any decision to determine the fiscal implications, i.e., the fiscal cost of the termination of joint ownership.