What it means for buying and financing.

What usufruct is in legal terms

Usufruct is governed by the German Civil Code (Sections 1030 et seq. BGB) and grants the beneficiary the right to use someone else's asset and draw all income from it. For property, that means: living in it yourself, or letting it out and keeping the rent.

The right is created through a notarised contract and entered in Section II of the land registry. It is a right in rem that stays attached to the land, even if the owner changes. It cannot be transferred or inherited. On the death of the beneficiary, it lapses automatically.

What the owner can still do

The owner remains the owner and can sell, bequeath or encumber the property. The usufruct, however, remains in place. A sale is therefore legally possible, but economically attractive for a buyer only if the usufruct is expected to end soon or the purchase price is reduced accordingly.

The ongoing burdens of the property are generally borne by the owner: property tax, extraordinary repairs, insurance against major damage. The usufructuary bears the day-to-day running costs: ordinary repairs, utilities, maintenance measures. The contract can provide for a different arrangement.

Effects on financing

Banks value properties with a registered usufruct conservatively. The lending value drops, because a short-term sale in a default scenario is more difficult and because the owner cannot realise the property during the term of the usufruct. The life expectancy of the usufructuary is factored into the calculation. As a result, the loan-to-value ratio comes out significantly lower than for an unencumbered property.

In practice, this means: a higher equity requirement, lower loan-to-value ratios and, in some cases, rejection by conservative lenders. Some banks do not finance such properties at all. Others offer solutions with a significantly reduced loan-to-value ratio. Which bank fits cannot be read off a table; it needs an individual assessment. As part of a property financing we check in advance which lenders in the Rhine-Main region will underwrite such cases at all.

Tax aspects of gifting

The most common real-world scenario: parents transfer a property to their children during their lifetime and reserve the usufruct for themselves. They remain the beneficiaries and recipients of the rent, but give up ownership while still alive.

For tax purposes, the value of the usufruct reduces the value of the transfer for gift tax. The usufruct value is calculated via the capitalised value under Annex 9 to the German Valuation Act (Bewertungsgesetz). With a lifelong usufruct for younger beneficiaries, the deduction is substantial. This allows gift tax allowances to be used more efficiently.

Important: the tax valuation should be agreed with a tax adviser and notary before notarisation. Retrospective corrections are laborious and not possible in every constellation.

Termination and typical risks

The usufruct ends with the death of the beneficiary or at a contractually agreed point in time. Cancellation during the beneficiary's lifetime is possible, often against a compensation payment. Where there are several beneficiaries, the right can be structured so that it only lapses with the last beneficiary (successive usufruct).

Risks in practice: conflicts between owner and usufructuary over maintenance measures, unclear rules on the allocation of costs, disputes over letting and modernisation. Clean contractual arrangements before notarisation prevent most of these conflicts. If an existing financing later needs to be extended or replaced, it is worth taking a look at our guide on follow-up financing.

What we typically see in our advisory work

Four constellations come up regularly in our consultations:

• Buying a property encumbered with a usufruct, for instance from a relative
• A purchase combined with granting a right of residence or usufruct for family members at the same time
• Follow-up financing for a property with an existing usufruct
• Transferring family properties with a reserved usufruct to optimise gift tax

In all four cases, it pays to speak to your adviser and tax adviser before the notary appointment. The structuring decides whether the financing is viable and whether the tax effects actually take hold. Those who set up their equity structure cleanly in parallel save themselves a second round with the bank — more on this in our guide on equity.