Under Spanish tax law, a seller of real estate in Spain is liable for two taxes: capital gains tax and municipal capital gains tax (in Spanish: plusvalía municipal). While at first glance, these taxes might appear similar, closer inspection reveals several differences. This article outlines these differences, and goes on to discuss recent changes in municipal capital gains tax.
Capital gains tax
Capital gains tax is calculated based on the difference between the acquisition and the sale price of the property and it is paid to the Spanish State Treasury. If the sale results in a loss, no capital gains tax is triggered (and, in certain circumstances, such loss may be offset against taxable income).
Municipal capital gains tax
Municipal capital gains tax is calculated on the hypothetical increase in value of the land on which the property stands - from the acquisition to the sale date - and it is paid to the local town hall. The tax does not take into account whether there has been a real increase in value of the properties transferred, but is calculated instead mathematically, by multiplying the cadastral value of the land (see below) (i) by a percentage that increases depending of the number of the years the property has been owned, up to a maximum of 20 years, and (ii) by the applicable tax rate. The tax is based on the assumption that the value of properties increases over time (which of course is not always the case), and structured so that the longer the ownership period, the more tax is payable.
The cadastral value (valor catastral) is an official value determined by the tax authorities and it is used as a base figure for a number of property taxes. This has been traditionally much lower than the market value but that changed during the recent financial crisis because, while the properties experimented a cumulative decrease in value, the cadastral value was not updated to reflect the economic reality of the Spanish real estate market. This resulted, in many cases, in the municipal capital gains tax being higher than it should have been, in relation to the value of the transaction. However, because of the economic importance of this tax for the town halls, the cadastral values were not revised downwards during the economic downturn.
The Spanish Constitutional Court intervenes
During the crisis, the municipal capital gains tax began to be challenged by vendors mainly in situations where transfers were made at a loss, and in cases where the tax payable was much higher than the gain obtained.
Although it seems obvious that no tax should not be payable where a sale of property is made at a loss, the methodology established by the tax regulations for calculating the tax allowed the town halls to impose the tax where properties were transferred with no increase in value and even where there was a depreciation in the value of the property. In applying that methodology, the town halls routinely charged the municipal capital gains tax on all sales of real estate, regardless of whether the sale resulted in a gain or a loss.
Following a lengthy legal process, the Spanish Constitutional Court has recently declared null and void the provisions of the tax regulations governing the municipal capital gains tax for those transfers where there is no appreciation in value of the land transferred, first with the rules governing the municipal capital gains tax in the Basque Country (judgments of 17 February 2017 and 1 May 2017) and later, with the rules governing the tax in the rest of the Spanish territory (judgment of 11 May 2017). Appropriate amendments to the Spanish tax regulations will now be made in order to prevent tax liability arising in such transfers.
Moreover, vendors who have paid municipal capital gains tax in transfers where there has been no increase in the value of the land transferred, may be entitled to claim a refund of the tax paid (plus interest).
In transfers where the municipal capital gains tax paid was much higher than the gain obtained, these cases have not been yet resolved by the Spanish Constitutional Court. Nonetheless, the multiple references in the Constitutional Court’s judgment of 11 May 2017 to the principle of “economic capacity” as a requirement for charging municipal capital gains tax means that it cannot be ruled out that it may be possible to recover the municipal capital gains tax paid in transactions where the payable tax was higher than the gain obtained, based on the grounds that charging the tax in such cases runs counter to the principle of economic capacity.