Who Is Liable For Income Taxes in Germany
Individuals are subject to tax on their worldwide income if they meet either of the following conditions:
- They have a domicile in Germany for their personal use.
- They have a “customary place of abode” in Germany. This means that they are present in Germany for an uninterrupted period of six months that may fall in two calendar years.
The citizenship of a taxpayer usually is not a consideration in determining residency. However, under the provisions of certain tax treaties entered into by Germany, citizenship may be one of the factors to consider if a taxpayer qualifies as a resident under the domestic laws of both Germany and the other treaty country. Individuals not resident in Germany are generally subject to tax on income derived from German sources only.
Nonresidents may elect to be treated as residents if either their income subject to German taxation amounts to 90% or more of their world wide income or their income not subject to German taxation does not exceed the amount of €8,004 per calendar year. This provision allows nonresidents to file German income tax returns like residents and to claim all deductions and allowances normally granted to residents.
Income subject to tax. German income tax law distinguishes among several categories of income, including income from employment, self-employment, investment, business and real estate. Income from each of the categories is combined, and taxable income is then determined by subtracting special deductions. However, income from investment is generally taxed at source with a flat tax rate.
Employment income. Employed persons are subject to income tax on remuneration received from employment. An individual is treated as an employee if he or she is obliged to follow an employer’s directions and is integrated into the organization as a dependent member.
Employment income includes the following:
- Salaries, wages, bonuses, profit participations, and other remuneration and benefits granted for services rendered in a public office or in private employment
- Pensions and other benefits received by a former employee, his or her surviving spouse, or descendants in consideration of services performed in the past
Under certain conditions, employment income does not include employer-paid actual moving expenses, education expenses for employees or contributions to a pension plan up to certain limits.
Allowances paid to foreign employees working in Germany, including foreign-service allowances, cost-of-living allowances and housing allowances, are considered to be employment income and generally do not receive preferential tax treatment.
Education allowances generally provided by employers to their employees’ children must be considered for income tax and social security purposes. Under specified circumstances, on filing a personal income tax return, 30% of school fees is deductible for tax purposes as special expenses (see Deductions). However, this deduction is limited to €5,000 for each child.
In addition, two-thirds of child-care expenses (for example, kindergarten, babysitter and nanny) are deductible for tax purposes as special expenses or income-connected expenses, up to a maximum deduction of €4,000 per year depending on the age of the child and the performance of an occupation by the parents.
Self-employment and business income. Individuals acting independently in their own name and at their own risk are subject to income tax on income derived from self-employment or business activities.
Business income includes income from activities performed through a commercial entity or partnership, while self-employment income includes primarily income from professional services rendered (for example, as doctors, dentists, attorneys, architects, journalists and tax consultants).
In general, all income attributable to self-employment or business, including gains from the sale of property used in a business or profession, is subject to income tax.
General or limited partnerships are not taxed as entities. The profit share of each partner is subject to tax separately. Furthermore, the compensation a partner receives from a partnership for services rendered, for loans made or for assets loaned to the partnership is included in the partner’s income from self-employment or business activities.
If a nonresident carries on a business through a permanent establishment in Germany, taxable income is computed in the same manner as for a resident individual and is taxed at the same income tax rates. However, the basic tax-free allowance in the amount of €8,004 is not considered.
Directors’ fees. Remuneration received as a supervisory board member of a corporation is treated as income from self-employment. A member of a supervisory board is regarded as an entrepreneur and is generally subject to value-added tax at a rate of 19% on fees received.
Investment income. Investment income, such as dividends and interest, is taxed at a flat tax rate of 25%, which must be withheld at source by the payer. A solidarity surcharge (5.5% of the flat withholding tax) and church tax, if applicable, (8% or 9% of the final withholding tax, depending on the location) is added. The flat withholding tax is the final tax. In general, investment income taxed at source does not have to be declared in the German income tax return. However, if the investment income was not subject to the flat tax withholding at source (in particular, capital investment income from foreign sources), the total annual investment income must be declared in the tax return. Taxpayers with an average personal income tax rate below 25% can apply the lower tax rate to the investment income that is declared in the German income tax return. Negative investment income cannot be deducted from income of other sources. However, a net investment loss can be carried forward to be credited against future positive investment income.
A special loss consideration rule applies to capital gains derived from the sale of shares.
Investment income is tax-free in an amount of €801 per year for a single taxpayer (€1,602 per year for a married couple filing jointly). Actual expenses higher than the lump-sum amount cannot be deducted. If the investor has provided the investment institution with an exemption order or a certificate of non-assessment, the final withholding tax is not deducted up to the amount of tax-free income. Income from rentals and leases of real property located in Germany is taxed by assessment.
Taxation of employer-provided stock options. Tradable and non-tradable stock options must be distinguished.
In general, stock options provided by employers are non-tradable. For employer-provided non-tradable stock options, the acceptable tax-filing position is taxation at the date of exercise. German law does not differentiate between qualified and nonqualified stock option plans.
In general, the taxable event occurs at exercise, and an amount equal to the difference between the fair market value of the stock at the date of exercise and the exercise price must be included in employment income. This amount is generally subject to tax at the ordinary progressive tax rates and may qualify for treaty relief. The taxable benefit may qualify for a reduction granted for compensation received for services performed over a period of several years (see Personal deductions and allowances). The grant of non-tradable options is considered to be an additional incentive for future services. Consequently, such grant is considered to be compensation for services rendered during the period between the grant date and the date of vesting. For expatriates, the spread is allocated by reference to the work performed during the period between the grant date and the vesting date if treaty relief is available.
Tradable options may result in taxation either at time of grant or exercise depending on the details of the stock option plan. In both cases, for expatriates, a certain portion might not be taxable in Germany and may qualify for treaty relief.
For the capital gains treatment of shares acquired due to stock options, see Capital gains. To determine the amount of the capital gain, the acquisition price is deemed to be the fair market value at the date the option is exercised.
Capital gains
Real estate. Gains derived from the disposal of real estate held not more than 10 years are included in taxable income and taxed at the ordinary rates, unless the property was exclusively used by the taxpayer in the year of sale and the two preceding years. The gain from such disposal is tax-free if the total gains in the calendar year amount to less than €600.
Sales of securities. Gains on the sale of shares are not subject to tax if all of the following conditions are satisfied:
- The shares were acquired before 1 January 2009.
- The vendor had a participation of less than 1% in the company.
- The shares were held by the vendor for more than one year. Losses incurred on the sale of shares acquired before 2009 can be deducted from taxable gains from the sale of shares and certain other assets, particularly real estate, until the end of 2013. If losses incurred on the disposal of shares before 2009 are not balanced by 31 December 2013, they cannot be offset against gains from the sale of shares, and they may only be offset against gains from the sale of certain other assets (for example, real estate) as of 2014. Gains derived from the sale of shares acquired after 31 December 2008 are subject to the 25% withholding tax mentioned in Investment income, regardless of the holding period. The gain is fully taxable. Losses incurred on the sale of shares acquired after 31 December 2008 can only be offset against gains derived from the sale of shares. Any remaining losses can be carried forward to the following calendar year.
Gains derived from a disposal of shares of a corporation are considered to be business income rather than investment income if the vendor has held a direct or indirect participation of at least 1% of the corporation in the last five years.
Sales of certain other assets. Gains derived from the disposal of certain other assets (not convenience goods, which are necessities or goods for day-to-day use) are not subject to tax in Germany if the individual holds them for more than one year. If the individual realizes income on these assets in at least 1 calendar year, the holding period is extended to 10 years. If the individual sells the assets before the expiration of the 10-year period, the gain derived from the disposal is subject to tax in Germany. A possible loss from the sale is subject to certain restrictions.
Deductions
Deductible expenses. Expenditure incurred by an employee to create, protect or preserve income from employment generally is deductible. Income-related deductible expenses include the following:
- Cost of travel between home and workplace
- Expenses connected with maintaining two households for business reasons
- Professional books and periodicals
- Membership dues paid to professional organizations, labor unions and similar bodies
- Child-care expenses (subject to certain limitations; see Employment income)
A standard deduction of €920 per year for business-related expenses is granted without any proof. However, an employee can claim a larger deduction if he or she proves that the expenses actually paid exceed this amount.
For retirees, the standard deduction is €102 per year.
Premiums under contracts for life, health, accident or liability insurance, regular payments to German building societies and compulsory payments to various forms of social security are deductible as special expenses within certain limits. Payments to foreign insurance companies are deductible only if the respective company has a registered office or an executive board in the European Union (EU) or a contracting member state of the European Economic Area (EEA) and is authorized to perform its insurance services in Germany. Other foreign insurance companies are required to hold a permit to operate in Germany. The deductions will be increased over the next years following the increasing of taxation of the future benefits.
Seventy-two percent of the employees’ portion of the following payments, limited to an annual total of €20,000 less the tax-free employer’s contribution, is deductible:
- Compulsory state old age insurance
- Certain professional group pension plans
- Qualifying life annuity pensions
Premiums for basic health care services under German social security law are deductible only as special expenses. Fees for additional services relating to private health care plans are not deductible. Contributions under contracts for nursing care insurance entirely qualify as deductible special expenses.
In addition, taxpayers may claim deductions for contributions to health and nursing care insurance paid for spouses subject to unlimited taxation, common-law spouses and children for whom the taxpayer is entitled to receive child-care allowances under German regulations. The deduction is subject to the above-mentioned restrictions.
Other insurance contributions under contracts for unemployment, disability, accident, liability and life insurance are deductible only up to €1,900 for employees (€2,800 for all others), provided that this limit has not already been reached by contributions to health and nursing care insurance.
For an interim period up to 2019, the total deduction for insurance premiums available under the new law is compared to the total deduction under the law before 2010, and the highest possible deduction is granted.
Other items that may be claimed as special deductions include church tax and donations. Instead of itemizing these other items, a standard deduction of €36 (€72 for married couples filing jointly) per year is granted.
Personal deductions and allowances. The following tax benefits are granted to individuals:
• A basic tax-free allowance of €8,004 is available for single individuals (€16,008 for married couples filing a joint return).
• The income tax on compensation received in one year for services performed over a period of several years (for example, a bonus or termination pay) is calculated by reference to a special formula. Under this formula, tax is calculated both for income less the one-time payment and for income less the one-time payment plus one-fifth of the one-time payment. The difference between the two results is multiplied by five. The resulting benefit generally is not of great significance. This tax relief is also granted to individuals who are nonresidents for tax purposes.
• Private use of a company car is generally subject to income tax. However, it benefits from preferential tax treatment.
• Income derived on business days spent in foreign countries may be exempt from tax in Germany under the progression clause generally contained in tax treaties. However, proof of actual foreign tax paid or a waiver of the taxation of such income by the foreign tax authorities is required. Taxpayers with children receive children-related deductions for the following:
- Each child under 18 years of age
- Each child under 21 years of age if the child is jobless
- Each child under 25 years of age if the child is attending school, college or university, or is receiving vocational training The children allowance equals €182 for each child for each month of eligibility. Parents filing a joint return receive an allowance of €364 per child per month. The allowance in the amount of €364 also applies to a single parent if the spouse dies before the beginning of the calendar year or if one parent lives outside Germany during the entire calendar year. A monthly child-care allowance of €110 (€220 under the circumstances mentioned above) is also granted for each eligible child. German tax residents and foreign individuals with certain residence titles are entitled to a monthly child subsidy payment of €184 per child for the first two children, €190 for the third child and €215 for the fourth child. The subsidy described above relates to children who are resident in the EU/EEA and qualify for the deductions mentioned above.
Taxpayers who are entitled to claim child subsidy payments cannot benefit from both the child-related deductions and the child subsidy payments. When the income tax return is filed, the tax authorities determine automatically whether the child-related deductions or the child subsidy payments are more favorable to the taxpayer. The child-related deductions are not considered for wage tax withholding purposes, but they are considered in calculating the solidarity surcharge and church tax (if applicable), which is withheld via the payroll.
Business Deductions. In general, all business expenses are deductible from gross income. Living or personal expenses are not deductible unless they are incurred for business reasons and the amount is considered reasonable.
Rates. Individual tax rates for 2011 gradually increase from an effective rate of 14% to a top marginal rate of 42%. The top rate of 45% applies if taxable income exceeds €250,730 (€501,460 for married taxpayers filing jointly). If taxable income is between €52,882 (€105,764 for married couples filing jointly) and €250,730 (€501,460 for married couples filing jointly), the top rate is 42%.
Relief for losses. Tax losses up to €1 million (€2 million for married taxpayers filing jointly) may be carried forward indefinitely.
For income and trade tax purposes, the loss carryforward exceeding €1 million is restricted to a maximum of 60% of taxable income. For income tax purposes (but not trade tax purposes), losses may be carried back for one year, subject to certain limitations that ensure minimum taxation. The overall maximum loss carryback amount is €511,500 (€1,023,000 for married taxpayers filing jointly) annually. A taxpayer has a limited right to choose whether a loss is carried back or carried forward to the following years.
B. Inheritance and gift taxes
A tax is imposed on transfers of property at death or by gift. Decedents and donors are considered transferors, and beneficiaries and donees are considered transferees.
Transfers of worldwide net property are taxable if either the transferor or the transferee is resident in Germany at the time of the decedent’s death or at the date of the gift. If neither the transferor nor the transferee is resident in Germany, the tax applies only to transfers of property located in Germany. Depending on the family relationship between the transferor and transferee, personal exemptions ranging from €20,000 (no familial relationship) to €500,000 (spouse or common-law spouse of transferor) are granted. The tax rates are graduated, depending on the family relationship and on the value of taxable property transferred. For example, in 2011, the rates include the following:
- Spouse, common-law spouse, children and parents (only in case of acquisition for the reason of death) of the transferor: up to 30%
- Parents (in other cases), siblings and grandchildren: up to 43%
- No family relationship: up to 50%
To prevent double taxation, Germany has entered into estate tax treaties with Denmark, France, Greece, Sweden, Switzerland and the United States. Germany is negotiating treaties with Finland and Italy.
C. Social security
Coverage. Social security taxes comprise the following five elements:
- Old-age pension
- Unemployment insurance
- Health insurance
- Nursing care insurance
- Accident insurance
Old-age insurance, unemployment insurance, health insurance and nursing care insurance contributions are required for all employees, unless they are otherwise exempt under EU regulations or a social security totalization agreement. The same rule applies to accident insurance contributions, which are required to be paid by the employer only.
Contributions. Compulsory old-age pension and unemployment insurance coverage exists for all employees working in Germany, regardless of how much they earn. For 2011, contributions amount to 22.9% (19.9% for old-age pension and 3% for unemployment insurance) of employment income, up to €66,000 (special contribution ceilings apply to the Eastern German federal states) a year. Income exceeding €66,000 (special contribution ceilings apply to the Eastern German federal states) is not subject to these contributions. One-half of the contributions must be paid by the employer. Employees’ portions must be withheld by employers from their monthly compensation.
Health insurance coverage is compulsory if an individual’s annual employment income does not exceed €49,500 for 2011. The rate of the contribution is 14.6%. Health insurance contributions must be paid on employment income up to €44,550 for 2011. One-half of the contribution must be paid by the employer. In addition, the employee must bear a surcharge of 0.9% (maximum per month of €33.41). Individuals who earn more than €4,125 a month and contribute to a private health insurance plan must pay the full premium and may then claim a refund from their employer for half the premium, up to the amount they would receive under the compulsory scheme (maximum of €271.01 per month).
Every employee is asked to contribute to nursing care insurance. If an employee’s income is less than €49,500 in 2011, coverage is compulsory. If an employee has private health insurance coverage, the employee must also contribute to the private nursing care insurance. Nursing care insurance contributions are levied at a rate of 1.95% and are shared equally by employer and employee. Contributions of childless employees are increased at a rate of 0.25%. The increase is borne solely by the employee.
A health insurance reform in Germany entered into force on 1 January 2009. Employees who are assigned to Germany may be affected by this reform and be required to pay additional contributions for private health insurance in Germany.
Totalization Agreements.
To provide relief from double social security taxes and to assure benefit coverage, Germany has entered into totalization agreements that usually apply for a maximum period of two to five years with the following countries.
EU countries
Croatia
Morocco
Australia
India
Switzerland
Brazil
Israel
Tunisia
Canada
Japan
Turkey
Chile
Korea (South)
United States
China
Macedonia
Yugoslavia*
* Germany honors the totalization agreement with Yugoslavia with respect to the successor countries except for Croatia, Macedonia and Slovenia.
Effective from 1 May 2010, new EC Regulation No. 883/2004 entered into force. This regulation determines, among other items, which social security legislation applies to employees posted to other EU member countries. The new regulation applies to the EU member countries. Effective from 1 January 2011, the coverage of the new social security regulation is extended to non-EU nationals (third-country nationals) moving within the EU, with the exception of Denmark and the United Kingdom.
EC Regulation No. 1408/71 on social security also applies, in general, to citizens of European Free Trade Association (EFTA) countries (Iceland, Liechtenstein and Norway). In addition, special rules apply with respect to Switzerland under the Sectorial Treaty. The EU regulations for EFTA countries apply to EU/EFTA citizens only. For non-EU citizens under certain conditions, the former totalization agreements entered into with each of the EU/EFTA countries continue to apply.
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We have been preparing US income tax returns for US Citizens and permanent residents living in Germany for over 15 years. As a US Citizen or permanent resident (green card holder) you are required to file a US return each year regardless of the fact that you file and pay taxes in your residence country. The expatriate earned income exemption ($100,800 for 2015) can only be claimed if you file a timely tax return. It is not automatic if you fail to file.
We have scores of clients located in Germany and know how to integrate your US taxes into the local income taxes you pay. Any income tax you pay there can be claimed as a dollar for dollar credit against the tax on your US return on the same income.
As an expat living abroad you get an automatic extension to file until June 15th following the calendar year end. (You cannot file using the tax fiscal year for US tax purposes). You must pay any tax that may be due by April 15th in order to avoid penalties and interest. You can get an extension to file (if you request it) until October 15th.
There are other forms which must be filed if you have foreign bank or financial accounts; foreign investment company; or own 10% or more of a foreign corporation or foreign partnership. If you do not file these forms or file them late, the IRS can impose penalties of $10,000 or more per form. These penalties are due regardless of whether you owe income taxes or not.
There are certain times you may wish to make elections with respect to your Corporation or Investment Company which will give you US tax benefits. There are other situations where forming a US corporation to receive your business income may be more advantageous than using a corporation in your resident country. We can help you with these decisions.
If you are self-employed, you will have to pay US self-employment taxes (social security). If you are a bona-fide employee you do not have to worry about paying US social security on your wages earned in Germany.
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