Introduction
Many families have accumulated multiple residential properties over their lifetimes. Some of these properties were inherited, while others were purchased as long-term investments, providing both ongoing rental income and capital appreciation. In some cases, properties were acquired as a retirement strategy—assets that generate income to support the owners in their later years.
As parents age, the question arises: How can they minimize tax liabilities when transferring properties to their children?
In Israel, the transfer of properties through inheritance is exempt from taxes. However, this is not the case when children later sell the inherited properties.
What Are the Conditions for Capital Gains Tax Exemption When Selling an Inherited Property?
According to Section 49B(5) of the Israeli Land Taxation Law, an exemption from capital gains tax (CGT) when selling an inherited property is subject to several conditions:
- The deceased (testator) owned only one residential property at the time of their passing.
- Had the deceased sold the property during their lifetime, they would have been eligible for a CGT exemption.
- The heir must be a spouse, descendant, or the spouse of a descendant of the deceased.
Due to these exemption limitations, parents can use strategic tax planning to enable their children to benefit from tax advantages when selling inherited properties in the future.
Elderly parents who have accumulated multiple residential properties can transfer all but one to their children as a gift during their lifetime. The children will inherit the single retained property. Under this scenario, the children will be able to sell the inherited property with a full CGT exemption.
Step 1: Assessing the Expected Capital Gains Tax on Each Property
Before making any decisions, it is crucial to calculate the potential CGT for each residential property in case of a sale. The CGT is determined based on the difference between the purchase and the selling prices, deducting allowable expenses such as purchase costs, renovations, brokerage fees, legal fees, and other relevant expenses. A thorough analysis helps parents identify which property carries the highest tax burden if sold.
Step 2: Transferring Properties to Children as a Gift
Once the CGT calculations for each property have been completed, parents can transfer all properties to their children as a gift—except for the one property with the highest CGT liability upon sale.
At this stage, it is essential to consider the best way to structure the property transfers. Should the children co-own all transferred properties? Or should each child receive full ownership (100%) of specific properties? Each option has its advantages and disadvantages, including future tax implications when the children wish to upgrade their housing (i.e., sell their owned property and purchase another one).
A property transfer as a gift from parents to children is not entirely tax-free and is subject to reduced purchase tax based on the applicable legal provisions for gift transfers. For more details, refer to the topic of The Complete Guide to Gifting Property In Israel.
Step 3: Retaining the Property with the Highest Capital Gains Tax Liability
The property with the highest anticipated CGT liability will remain in the parents’ ownership and will not be transferred to the children as a gift during their lifetime. The rationale behind this strategy is that once the children inherit this property, they will be able to sell it with a full CGT exemption under Section 49B(5) of the Israeli Land Taxation Law.
The Financial Advantage of This Strategy
By implementing this strategy, parents can ensure that their children will be able to sell the most highly appreciated property with a full CGT exemption after the parents’ passing.
If parents do not transfer the remaining properties as a gift during their lifetime but instead leave them to their children via inheritance, and if the children already own residential properties themselves, they cannot sell any of the inherited properties with a CGT exemption.
Conclusion
Proper tax planning when transferring residential properties to children can result in substantial future savings.
Parents can implement a strategic approach to minimizing tax liabilities by carefully evaluating the CGT implications for all properties, gifting all but one property to children, and retaining the property with the highest tax burden for inheritance. However, consulting with a real estate tax expert is crucial to ensure the process is executed correctly and in compliance with the law.
