Many wills include an ‘I, the grandfather’ clause (it can, of course, also be an ‘I, the grandmother’ clause). The purpose of this clause is to make use of the tax exemption for grandchildren.
Grandad
The way an ‘I-grandfather’ clause works is best explained using a simple example. Suppose Grandfather dies and leaves behind: 1 child and 2 grandchildren. The value of Grandad’s estate is €500,000. Without an ‘I-Grandad’ clause, the child is the sole beneficiary of this estate. Based on the exemptions and rates for 2016, the inheritance tax due is calculated as follows:
| Child’s inheritance | € 500.000 |
| Re: exemption | € 20.148 |
| Taxable gain | € 479.852 |
| Calculation of inheritance tax: | |
| 10% * € 121.903 = | € 12.190 |
| 20% * € 357.949 = | € 71.590 |
| Total inheritance tax | € 83.780 |
However, if the will imposes an obligation on the child to pay €50,000 to each of his children (the two grandchildren) after his death (an ‘I-am-grandfather’ clause), the calculation works out as follows:
| Child’s inheritance | € 400.000 |
| Re: exemption | € 20.148 |
| Taxable gain | € 379.852 |
| Calculation of inheritance tax: | |
| 10% * € 121.903 = | € 12.190 |
| 20% * € 257.949 = | € 51.590 |
| Total inheritance tax | € 63.780 |
However, the grandchildren are, of course, liable for inheritance tax on their acquisition. When calculating this, for the sake of simplicity in this example, we will disregard any (notional) usufruct held by the parent.
| Acquisition of a grandchild | € 50.000 |
| Re: exemption | € 20.148 |
| Taxable gain | € 29.852 |
| Inheritance tax (18%) | € 5.373 |
In total, the inheritance tax due on Grandad’s estate is:
| By the child | € 63.780 |
| By grandchild 1 | € 5.373 |
| By grandchild 2 | € 5.373 |
| Total | € 74.526 |
That is considerably less than it would be without the ‘I-grandfather’ clause (€83,780). The main reason for this is that the ‘I-grandfather’ clause makes use of the exemption for grandchildren.
‘I-Grandad’ acquisition taxed twice
An ‘I-grandfather’ clause means that, following the grandfather’s death, the grandchild acquires a claim against the child (the grandchild’s parent). This is a conditional claim. Only upon the child’s death will the grandchild receive the amount of the claim.
As the child (the grandchild’s parent) has retained the usufruct of the claim, inheritance tax is payable by the grandchildren upon the child’s death. The law provides for a notional acquisition in this regard.
This levy is perceived as double taxation of the acquisition under the ‘I-grandfather’ clause. Technically, this is not the case, as this usufruct was also taken into account when calculating the inheritance tax upon the grandfather’s death. As indicated, for the sake of simplicity, we have not included this in the calculation example.
Box 3
The contingent liability, or claim, arising from an ‘I-grandfather’ clause must be included in income from savings and investments (Box 3). The child must declare the value of the contingent liability to the grandchild in Box 3.
In the case of a grandchild, the contingent claim forms part of the investment base for Box 3. As long as the grandchild is a minor, the investment base for Box 3 is attributed to the parent.
The effect of this adjustment depends on the child’s and grandchild’s other assets subject to tax under Box 3.
Early repayment
However, a parent is, of course, free to repay the conditional debt to their child or children under an ‘I-grandparent’ clause voluntarily at an earlier date. In this way, even when the gift tax exemptions have been exhausted, the parent can transfer funds to the children without incurring tax. Furthermore, early repayment prevents inheritance tax being levied upon the child’s death (on the notional acquisition of the usufruct).
Please note, however, that you are usually not permitted to repay the full nominal amount of the debt. If you do, the grandchild will receive more than they are legally entitled to. The excess amount will then be subject to gift tax.