Much has been said about the final set-off clause in recent years. After the Court of Cassation in 2017 ruled in favour of the tax payer that the claim was deductible in the scope of the payable succession duties, the Flemish regulator decided to come to the aid of the tax authorities by changing the law.
What is a final set-off clause and how does it work?
Many spouses married under the division of property regime have nevertheless provided in their own protection by adding an ‘optional final set-off clause’ to their marital agreement. This clause serves to soften the nasty consequences of a pure division of property somewhat if the marriage should come to an end. Under pure division of property, each spouse remains the owner of his/her own goods and at the end of the marriage, whether caused by divorce or death, the spouses owe each other nothing. Under a community of property regime, however, as a rule of thumb half of the estate will belong to the surviving spouse, thus ensuring that they enjoy some protection. Spouses may also opt for allocating more than half of the estate to the surviving spouse. An optional set-off clause ensures that even under a division of property regime, the surviving spouse is protected thanks to their entitlement to the assets of the partner who dies first. The clause:
- is optional, because the beneficiary spouse will be able to make certain choices;
- is final, because it comes into effect at the end of the marriage (both in the case of death and in the case of divorce, but the protection usually has more weight in the former than in the latter case);
- focuses on set-off, as the spouses agree that at the end of their journey together, they will make a settlement with respect to their separate assets.
Example: take a couple married under the division of property regime, with a final set-off clause in their marital contract and the woman owning 700 in assets and the man 300. These assets result from professional income obtained after the marriage (so-called ‘gains’). After the woman’s death, the spouse may choose to make a claim to his deceased wife’s estate. He may have her entire capital assigned to him (700). But there are other options as well, such as taking half of the total gains (which means that in addition to his own gains of 300, he takes 200 of the gains of his deceased wife), or taking nothing at all. The advantage of this arrangement is that while the spouses keep their separate assets (for instance because one of them is self-employed), it offers excellent protection for the partner in that they will not be left behind without means. Technically speaking, it is impossible for the husband to simply take possession of his wife’s goods. The marital contract gives him a claim to her capital. This means that initially the heirs (e.g. the children) inherit the wife's capital (700), but that the husband can make his claim to the 700 and demand that it be allocated to him.
How does the final set-off work out in terms of taxes?
The arrangement was highly advantageous in terms of succession duties and inheritance tax: since the husband does not ‘inherit’ the amounts from his spouse (after all: they are his by virtue of the marriage contract), they are not subject to inheritance tax. At the same time, the wife's heirs (e.g. the children) did not have to pay anything either, as they inherited their mother’s capital, which consisted of 700 in assets, but also of 700 in liabilities (the husband’s claim), so that in the end there was nothing to be taxed. It will come as no surprise that the tax authorities have been contesting this for years. They claim that the debt of 700 to the husband is not deductible. That would mean that the children would have to pay inheritance tax on the amount of 700. And that’s a big difference. Following endless procedures over the years, in January 2017 the Court of Cassation ruled that the settlement debt (the amount to be paid to the husband) is indeed deductible from the inherited capital. For our example this means that neither the husband, nor the children have to pay inheritance tax, and that the entire capital of the wife of 700 accrues to the husband free of tax.
The Flemish regulator comes to the aid of the tax authorities
Seeing that the Court of Cassation had, in fact, mowed down this part of the inheritance tax system, legislative action seemed the only remaining option to enable the tax authorities to levy taxes on the settlement debt. In Flanders the Flemish Parliament has already given in to the frustrations of the Flemish tax authorities by introducing the Decree of 8 December 2017. Among other things, the Decree provides that the set-off debt is not deductible as a liability in the estate of the first deceased spouse, so that de facto their entire capital is subject to inheritance tax. This means that from a tax point of view, the advantageous effects of the final set-off clause are now lost entirely in Flanders. If the husband now demands 700, the full amount will be taxed.
In legal literature many authors have already questioned the new Decree. According to the new rules, the spouse who under a community of property regime demands the gains of 1,000 (pursuant to the ‘survivor takes all’ clause), will have to pay inheritance tax on the part received on top of their own part. In our example, if our couple had been married under a community of property regime, inheritance tax would be levied on 500. This means that the Decree in fact creates a different tax treatment for spouses who in their marriage contract allocate the gains to the surviving spouse, depending upon whether they married under a community regime or a division regime. The question is now whether this difference will be upheld by the Constitutional Court. Meanwhile, nothing changes in Brussels and Wallonia just now; here, following the ruling of the Court of Cassation the set-off clause remains untaxed for the time being.
Federal legislator promotes the set-off clause – the new matrimonial property law
Precisely because spousal solidarity is not inherent with the division of property regime in its purest form, the draft bill amending the matrimonial property law (in principle as from 1 September 2018) provides a legal framework that should enhance the legal certainty as regards the set-off clauses. For this reason, the federal parliament will take a few measures to increase marital solidarity in the division of property regime. This means that a statutory provision will be prepared that from a civil point of view will provide a strong basis to the set-off clause, making it all the more attractive. At the same time, such clauses are now being treated unfavourably – a situation that requires correcting.
From a civil perspective, the set-off clause remains useful: partners protect each other in an atmosphere of marital solidarity. The fact that this protection now will be subject to inheritance tax is a totally different ball game, particularly since the offset-clauses face heavier taxes than the protection under a community of property regime. Thankfully, there are alternative ways to achieve solidarity (such as gifting, or a tontine clause). In any case, each marital contract should be re-read with great care, while considering the following questions: does this give us sufficient protection? And, what are the tax consequences of such protection?