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Taxes in Germany

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The article describes the types of taxes in Germany. The reader will learn what taxes are paid in Germany by individuals, whether there is a progressive tax in Germany, and what percentage of taxes are paid to the treasury by the citizens with high income.

The principles underlying the functioning of the modern tax system in Germany are incorporated in the German constitution.

The basic law stipulates the following provisions that regulate taxes and taxation in Germany:

  • The ability-to-pay principle;
  • Equality in taxation;
  • The lawfulness of taxation;
  • The welfare state principle.

The transparency principle of the tax law also plays an important role: according to this principle, all persons, who have questions about types of taxes in Germany and what the tax burden is made up of, should be able to acquire this information at any given time.

Taxes in Germany must be paid, either by mail or electronically, upon receipt of a written notice of the payment due. The exact amount of a tax in Germany and its calculation method are determined by the Finanzamt, an organization performing the functions of the tax service, on the basis of the previously submitted tax return. 

Germany is a country with a three-tiered budget system which includes the general federal budget, the budgets of the 16 federal states and “free cities” and the budgets of the communities, also known as communes.

The basic rules in respect of taxes and taxation in Germany are governed by the provisions of the German Tax Code (Abgabenordnung). The application and payment of specific types of taxes are described in separate laws where applicable. There are a total of 45 different types of taxes levied in the country. For example, in addition to several types of business taxes, Germany has a church tax (however, a person can refuse to pay the latter – such a possibility is legally provided for).

Before describing in detail how taxes are paid in Germany, let us note that the percentage of taxes in Germany, that is, how much a local taxpayer has to pay and what rates apply in each case, depends on many factors, so there is simply no such thing as “average taxes” in Germany, just as there are no average values.

Types of taxes in Germany

All existing taxes in Germany can be divided into three groups, namely

  • property taxes;
  • transaction and consumption taxes;
  • income taxes.

Property taxes 

The calculation of the property tax (Grundsteuer) depends on three factors determined by municipalities and local tax offices: the value of the real estate unit, the base and the tax rate.

There are two types of property tax in Germany: the A-type tax for agricultural and forestry properties and the B-type tax for all other types of properties.

Real estate valuation

To calculate the B-Type property tax, the tax office first determines the value of the property unit, on the basis of which it calculates the tax itself. The unit value is calculated according to the regulations of the year 1935 (for East Germany) or 1964 (for West Germany). As property prices have changed considerably since then, the unit value is often lower than the market values.

The unit value of undeveloped land is relatively easy to establish. Its area is multiplied by the value corresponding to its value for the years 1935 or 1964. With built-up land, the case is more complicated. To determine their value, the tax service uses the plough back profit method or the cost-plus method of real estate valuation.

The plough back profit method generally applies to valuations of single or two-family homes, condominiums, and mixed-use properties. The calculations are made by multiplying the number of potential rents (net of taxes) for a given property as of 1935 or 1964 by a relevant coefficient. Factors affecting the value, such as square footage and furnishing of the house, are also taken into account.

The cost-plus method of evaluating real estate justifies itself in cases where the amount of annual rent before tax for 1935 or 1964 cannot be established. In particular, this applies to those properties that were previously in the luxury real estate class. This method of calculation always applies to single-family homes located in the former East Berlin as well as to the properties of particularly high quality. The cost-plus method takes into account the value of the land, the building and adjacent outdoor facilities. The value of the building is calculated based on production costs as of 1 January 1935 or 1964, respectively.

There is a special procedure for residential rental properties located in the new German states when their value as of 1935 cannot be determined. In this case, the valuation is made on the basis of a notional tax base which is calculated using the value of the living or usable area of the property unit.

Tax base

The type of property and the value of the property unit determine the second factor: the property tax base. It determines how much of the unit value of the property is taxable.

The following coefficient values are applied in the old German lands: 

  • single-family houses for less than €38,346.89 – 2.6 per mille (per mille is 1⁄10 per cent);
  • single-family houses for more than €38,346.89 – 2.6 per mille for an amount up to €38,346.89, and 3.5 per mille for the remaining part over €38,346.89;
  • two-family houses – 3.1 per mille;
  • other residential real estate – 3.5 per mille;
  • agricultural and forest enterprises – 6.0 per mille.

In the new German states, values range between 5 and 10 per mille depending on a variety of factors, such as the year the property was built and the number of inhabitants in the particular municipality. As a rule, this value is much higher in the east of Germany compared to the west.

Tax rate

The tax rate is the third factor taken into account when calculating the amount of tax. It is set by each municipality individually. The rates vary greatly from one region in Germany to another, especially between urban and rural areas.

The amount of tax may change if the property owner changes its area in any way (including the property unit demolishing). The municipality can also decide independently on the increase of rates.

When selling real estate or land, the amount of taxes in Germany does not change because the tax is tied to the property and not to the owner.

Property tax must always be paid by the person who owned the property as of 1 January of the year for which the tax is levied. 

However, the tax payment procedure can often be agreed upon by the seller and the buyer of the property on a private basis and reflected in the sale-purchase contract subject to the date of the transaction.

The law provides for some cases in which the property tax may be reduced or waived. In particular, owners of buildings of artistic, historical or scientific value are exempt from this tax due to the high maintenance costs.

When renting a residential property, the owner can shift the obligation to pay property tax to the tenant if the latter agrees to such terms under the rental agreement.

Inheritance and gift taxes

The Inheritance and Gift Tax Act (ErbStG) regulates the taxation of all types of inherited or donated property with the exception of works of art and jewellery, which are not subject to inheritance and gift taxes.

Germans apply to these two taxes the same rules for the formation of tax rates and deductions. However, there are some important differences between inheritance and gift procedures.

For example, in the case of a gift, the tax deduction can be used once every ten years, and only once in the case of inheritance due to the death of the testator.

The tax office is often informed by the bank about an inheritance receipt. If this does not happen, the heirs must contact the tax office themselves within three months of receiving the inheritance. The tax office will then ask the heir to file the appropriate tax return. It usually takes a few weeks to process the tax, sometimes longer. If the tax notice does not arrive within four years of filing the return, the request for payment is voided pursuant to the limitation period. For this reason, the waiting period for a response from the tax office never exceeds four years.

The amount of inheritance and gift taxes charged depends on the degree of relationship between the taxpayer and the person who left the inheritance (gift).

There are three tax classes, each providing a particular tax deduction according to their status.

See the table below for more information on inheritance and gift tax deductions:

Tax deductions for heirs:

Taxation class

Category of persons

Deduction amount, €

I

Spouses, registered civil partners

500 000


Children (including adopted children and children of the spouse from another marriage)

400 000


Grandchildren who inherit in place of the testator's children in the event the latter die

400 000


Grandchildren (including the adopted)

200 000


Great-grandchildren and other descendants

100 000


Parents and grandparents in case of inheritance

100 000

II

Parents and grandparents in case of a gift

20 000


Siblings (including half-siblings)

20 000


Nephews

20 000


Step-fathers and step-mothers

20 000


The in-laws

20 000


Divorced spouses, civil partners in a dissolved civil partnership

20 000

III

All other acquirers

20 000

Data from: haus.de

Tax rates are applied to the amount received after the deduction according to the following scale:

Inheritance amount after deduction, €

Rate for tax class I, %

Rate for tax class II, %

Rate for tax class III, %

75 000

7

15

30

300 000

11

20

30

600 000

15

25

30

6 000 000

19

30

30

13 000 000

23

35

50

26 000 000

27

40

50

>26 000 000

30

43

50

Data from: haus.de

In the case of German residents, the spouse or registered partner of the testator may claim a pension deduction of €256,000 in addition to the deductions that are due to him or her by law. At the same time, children of the testator under the age of 27 will receive a pension deduction of between €10,300 and €52,000 depending on their age. If any of these relatives of the deceased receive a pension as an orphan, a dependent, or pension payments not subject to inheritance tax, the deduction will be reduced by the number of benefits received.

Inheritance tax is one of the obligatory taxes in Germany for individuals paying income tax. The few exceptions are those cases where a residential property is inherited by the spouse of the deceased, or by children from a parent provided that the total area of the property, in this case, does not exceed 200 square meters. The heirs will have to use the property for ten years before they can sell it. Another condition for exemption is that the decedent used the house or apartment before his or her death.

Income taxes

Personal income tax (Einkommenssteuer) is paid annually and is mandatory for everyone who is temporarily or permanently resident in Germany. Non-residents pay tax only on income earned in Germany. Employees' tax returns are sent to the tax office by their employer (in this case the tax is calculated on the basis of their monthly salary). Tax bracket, child tax exemption amounts, solidarity surcharge and church tax are also relevant when calculating the amount of tax unless the taxpayer has refused to pay it.

All other taxpayers send their returns to the tax office electronically through a special form.

Owners of their own business and blue-collar workers can calculate the amount of taxable income on the basis of the income statement or with the help of the company’s accountant.

Taxable income includes: 

  • employment income (gross);
  • entrepreneurial income;
  • agricultural and forestry income;
  • self-employment income;
  • income derived from capital assets;
  • rental income.

Taxable income does not include:

  • a portion of retirement income that is not taxable when the taxpayer reaches age 64;
  • amount of deductions, including child tax exemptions; 
  • allowable losses for prior years;
  • special expenses of the taxpayer deductible from taxable income.

In order to avoid double taxation of individual entrepreneurs and partnerships in all municipalities except for large cities, the amount of the trade tax paid is included in the income tax.

Taxpayers raising children are entitled to a special tax deduction. In 2020, this deduction constitutes €7,812 per child. If the child's parents do not live together or are divorced, each is entitled to a deduction of half that amount (€3,906 in 2020). The government also pays child benefit. The calculation of the most advantageous option for the taxpayer is made automatically when filing the tax return.

Extra expenses borne by a taxpayer that are excluded from taxable income include health care and independent retirement benefits, as well as alimony paid to a divorced ex-spouse, private school tuition, donations, membership fees and expenses for vocational training received for the first time. 

According to the Pension Income Act (Alterseinkünftegesetz) of 2005, the part of a pension that exceeds the basic deduction amount of €9,408 per year for single pensioners and €18, 816 per year for retired spouses, respectively, is subject to income tax.

Regular payments received under pension insurance or savings programs are not included in taxable income if their receipt is stipulated over an extended period of time and not in a lump-sum payment. The tax exemption does not apply to so-called “Riester pensions” co-funded by the state.

If taxpayers have no income, they receive income replacement payments such as unemployment benefits, sickness benefits, maternity or parental benefits, partial unemployment benefits, or employer insolvency benefits. All of these payments are not taxable but are taken into account when setting the progressive income tax rate.

Church tax (Kirchensteuer) is paid by practising Catholics and Protestants in Germany in addition to income tax. In Bavaria and Baden-Württemberg it comprises 8% of the income tax and 9% in the rest of the federal states.

Germany uses a progressive income tax scale. The rate of this tax is not uniform for all taxpayers but increases according to the level of income. The income tax rate for residents whose taxable income does not exceed €9,408 per year is 0%, between €9,408 and €57,051 per year – 14%, between €57,051 and €270,500 per year – 42%, over €270,500 per year – 45%. The income of married couples is assessed jointly for tax reasons.

The Solidarity surcharge (Solidaritätszuschlag), which was introduced in order to raise funds for the restoration of the states in the former GDR, applies to all taxes related to the generation of any kind of income and constitutes 5.5%. If the amount of the surcharge in monetary terms does not exceed €952 per year (€81 per month), no surcharge is payable.

One of the taxes paid by legal entities in Germany is the corporation tax.

Corporation tax (corporate income tax) (Körperschaftsteuer) in Germany is levied according to the Corporate Tax Act (KStG) and the Corporate Income Tax Guidelines (KStR).

The corporate income is levied at a tax rate of 15% (and is then subject to a solidarity surcharge of 5.5%). In addition, there is also a trade tax levied by municipalities. The maximum cumulative tax burden can reach 30%.

Corporation and trade tax returns must be filed by July 31 of the year following the year in which these taxes are paid.

Advance payments are made on a quarterly basis.

Corporation tax is imposed on:

  • corporate profits; 
  • investment income;
  • capital gains;

If the company is headquartered in Germany, the income earned abroad is also subject to corporation tax.

The trade tax (Gewerbesteuer) is a tax on income from business activities. It is levied by the authorities of the city or municipality where the company is located. The trade tax is a true tax. The payment of this tax is governed by the Trade Tax Act (GewStG). All companies earning income from commercial activities are obliged to pay the tax. A deduction of €24,500 is provided for individuals, sole individual entrepreneurs and partnerships, and €5,000 for associations. There are no tax deductions for corporations.

The interest rate for determining the basis for calculating the trade tax equals 3.5% and applies throughout Germany. Once the basis for the tax has been determined, the amount is multiplied by the percentage established by each municipality. As a result, the rate may range from 7 to 14%. 

The trade tax is paid in advance on the basis of the projected level of income. The taxpayer may consent to direct debiting from their account or pay the tax by a bank transfer. If by filing a tax return at the end of the fiscal year, the amount of the advance payment exceeds the amount of the tax payable, the taxpayer will be reimbursed.

Transaction and consumption taxes

Value-added tax (Mehrwertsteuer) in Germany applies to all transactions involving the purchase of goods and services. The standard VAT rate is 19%. There is a reduced rate of 7% for mass daily consumer goods, such as staple food.

On 12 June 2020, the German government decided to temporarily reduce the standard VAT rate from 19% to 16% and the preferential rate from 7% to 5% between 1 July and 31 December 2020 in order to stimulate consumer demand in the face of a coronavirus pandemic.

The property acquisition tax (Grunderwerbsteuer) is payable by the purchasers of a property and is a part of expenses. Its application is regulated by the Property acquisition tax act (GrEStG). The rate amount depends on the particular federal state and ranges in 2020 from 3.5% (Bavaria, Saxony) to 6.5% (Brandenburg, North Rhine-Westphalia, Saarland, Thuringia, Schleswig-Holstein).

Tax system in Germany: special features

In response to the need to rebuild Germany's war-torn economy, Ludwig Erhard, the then Minister of Economy of the Federal Republic of Germany, implemented a package of reforms.

As a part of such transformations, he formulated the following provisions, which underpin the operation of the country's taxation system to the present day:

  • taxes must be as minimal as possible;
  • taxation must be economically feasible; 
  • taxes must not hinder competition;
  • taxation must be consistent with the structural policy for the purpose of a more equitable distribution of income;
  • taxation must be based on respect for taxpayer confidentiality and business secrecy;
  • double taxation must be avoided;
  • the amount of taxes must be proportionate to the number of public services received by citizens, including protection of their rights. 

By adhering to these principles, Germany remains one of the most resilient economies in the world.

At the same time, relatively high taxes in Germany enable to maintain a high level of social security for its citizens.

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