Renting to family below market rent: when can expense deductions be restricted?

If you let an apartment to a relative for less than the market rent, German tax law looks at one ratio: the rent your relative actually pays, including operating costs, as a share of the local market rent including the same costs. At 66 per cent or more, the letting counts as fully paid and your expenses stay deductible in full. Below 50 per cent, only the paid share of your expenses is deductible. In between, a 30-year forecast of total surplus (Totalüberschussprognose) decides. None of this helps unless the lease itself would stand up between strangers.

These percentages are a tax benchmark. They do not tell you what rent you may lawfully charge, which our rent guide covers, and they do not oblige you to charge 66 per cent. They decide only how much of your costs the tax office accepts. For the wider picture, see rental property tax benefits in Germany.

The Income Tax Act has two sentences on discounted residential letting (§ 21(2) EStG):

• If the rent for a dwelling let for residential use is less than 50 per cent of the local market rent (ortsübliche Marktmiete), the letting is split into a paid and an unpaid part.
• If the rent under a long-term residential letting is at least 66 per cent of the local rent, the letting counts as fully paid.

The statute is silent on the band in between. There, from 50 to under 66 per cent, the tax office tests whether you expect a surplus over the life of the letting (Bavarian State Tax Office leaflet, July 2025). The same leaflet confirms that the test uses the rent agreed and actually paid, and that at 66 per cent or more an intention to make a profit is presumed. The three bands apply from 2021 (2022 edition of the leaflet).

The comparison is warm against warm. The local market rent is the usual cold rent for comparable flats plus the operating costs that may be passed to a tenant under the Operating Costs Ordinance (Betriebskostenverordnung) (R 21.3 EStR). On the other side sits what your relative pays: cold rent plus operating-cost payments (BMF letter of 8 October 2004, para. 11), the Federal Finance Ministry's guidance on profit intention in letting.

The Federal Fiscal Court (Bundesfinanzhof, BFH) has held that the market rent is normally taken from the local rent index (Mietspiegel), and that every value within the index's range counts as customary, not only the middle value. Where no usable index exists, an expert's report, a rent database or three comparable flats can be used (BFH IX R 7/20, 22 February 2021). Leipzig's current index runs until 30 June 2027, with a new edition planned from 1 July 2027 (City of Leipzig).

Keep this apart from the legal rent limit. The rent index's cold-rent figure, with the rent brake and increase caps, limits what you may charge; tenancy law has no general exception for relatives. The tax test only asks how far below the market you have gone.

1. Does your relative live there in their own household? A lease with a partner for a home you share, or with children who still form one household with you, is not recognised for tax (H 21.4 EStH). If you plan to live there yourself, see moving into your investment property. Yes: go to 2.
2. Would the lease stand up between strangers? See the next section. No: the tax office disregards the lease, and with it the rent and your expenses. Yes: go to 3.
3. What is the local market rent? Cold rent from the rent index (any value within the range) plus recoverable operating costs.
4. What share does your relative pay? Divide the warm rent actually paid by the warm market rent.
5. 66 per cent or more: fully paid; expenses deductible in full, no forecast. This covers long-term lettings. For homes of more than 250 m², the BFH has held that a forecast can still be required (BFH IX R 17/21, 20 June 2023).
6. 50 to under 66 per cent: prepare a 30-year surplus forecast. Positive: full deduction. Negative: expenses split by the paid share.
7. Below 50 per cent: expenses split by the paid share; no forecast.
8. Every year: recheck the ratio whenever the rent, the costs or the rent index change; the ministry's worked example tests each year separately (BMF letter, para. 34). If a split below 50 per cent applies to a flat claiming special depreciation under § 7b, that depreciation is split in the same ratio (BMF letter of 21 May 2025, para. 32).

The method comes from the BMF letter, which is still on the ministry's list of applicable letters (item 935, March 2025) and is cited for this test by the Bavarian leaflet. Its thresholds (56 and 75 per cent) are out of date; its forecast rules are not:

• Period: 30 years, normally from purchase; where a discounted letting follows a full-rent letting, from the change (paras. 28 and 34).
• Figures: the income and expenses you can expect under tax rules, with future changes counted only if objectively foreseeable. Gains on a later sale are excluded (paras. 33 and 34).
• Depreciation: ordinary straight-line AfA under § 7(4) EStG, not special or declining-balance depreciation (para. 34).
• Safety margins: 10 per cent is added to total estimated income and 10 per cent deducted from total estimated expenses (para. 34).

The burden of proof is yours (para. 9). With a large loan, interest and depreciation make a positive forecast at 60 per cent hard to reach.

Illustrative example. Fictional figures, not tax advice. Apartment A from our cash-flow guide: Leipzig, 65 m², building completed 1996, bought for €240,000 with benefits and burdens from 1 April 2026; loan €216,000 at an assumed 3.7 per cent nominal, 2 per cent initial repayment, €1,026 a month. Assume the existing tenant leaves at the end of 2026 and, from 1 January 2027, the owner lets the flat to an adult brother under a written, open-ended lease. Local market rent taken as €900 cold plus €210 recoverable operating costs: €1,110 a month warm, €13,320 a year. The brother pays the €210 advance in full and a reduced cold rent. Expenses for 2027 as in our moving-in guide: interest €7,794.53; WEG administration, other non-recoverable service charge and unit management €1,020; building depreciation (AfA) €3,980.52 (AfA schedule); recoverable operating costs €2,520, paid through the service charge and covered by the advances. Total €15,315.05. Maintenance-reserve contributions are not deducted when paid; no repairs assumed. Tax: assumed 42 per cent marginal rate, income tax only; relief arrives with the 2027 assessment, so in 2028 at the earliest.

After-tax cost = rent given up less the change in tax relief compared with the market tenant. Had the 60 per cent forecast been positive, the result would be −€7,323.05, relief €3,075.68 and the after-tax cost €3,090.24.

The forecast for the 60 per cent case

Assumes the rent stays at €666 (no increase agreed), costs stay flat and the 3.7 per cent rate continues after the fixed period ends in 2036. Leaving out repairs flatters the result.

Three points stand out:

• At 70 per cent, the deduction survives, but the discount still costs money. The brother saves €3,996 a year; tax relief returns €1,678 of it, so the owner gives up about €2,318 after tax. A deduction is not a refund.
• At 60 per cent, the forecast fails despite safety margins in the taxpayer's favour. The split shrinks the loss from €7,323 to €1,197. At full market rent the same forecast would be positive (+€122,129): the discount, not the flat, tips it.
• At 45 per cent, the split is automatic.

Leave a margin above 66 per cent. The lease fixes your relative's rent; the market rent moves with each rent index. Here, a rise of just over 6 per cent in the warm market rent would pull a 70 per cent rent below the line. Raising a relative's rent follows the same tenancy rules as any other increase (our rent guide).

The BFH recognises a lease between relatives only if it is valid under civil law and both its terms and its performance match what strangers would agree. At least the main obligations, handing over the flat and paying the agreed rent, must be clearly agreed and carried out. Not every deviation is fatal; the overall picture counts (BFH IX R 18/11, 1 August 2012). In practice:

• A written lease naming the flat, the cold rent and the operating-cost advance. Avoid terms a stranger would refuse: in that case, a rent "subject to recognition by the tax office" sank the lease, and a later amendment could not reach back.
• Rent paid monthly, by transfer, as agreed. Rent is due at the start of each period (§ 556b(1) BGB). Annual payment in arrears was among the unusual features that defeated a family lease (BFH IX R 8/16, 4 October 2016). Rent paid in one sum in a later year, or money that never finally leaves the tenant's assets, rules recognition out (H 21.4 EStH).
• Operating costs settled. Agree advances and send an annual statement within 12 months of the period's end (§ 556(3) BGB).
• Records each year: the lease and any amendments, bank statements, the rent-index printout with inputs and date, operating-cost statements, the ratio calculation and, between 50 and 66 per cent, the forecast. The letting is declared on Anlage V; see our Anlage V guide.

If the apartment is in Berlin, Dresden or Leipzig, Alpha Minoris's Vermieter-Autopilot can take on this contract administration within a written mandate: preparing the lease, keeping rent-collection records and producing the annual operating-cost statement. You need not live in the city. You remain the landlord and decide the rent; the tax assessment stays with your tax adviser (Steuerberater).

If you are buying a flat with a family tenancy in mind, test the rent, the financing and the tax position together before you commit. Discuss your first rental property with Alpha Minoris.