How is income tax levied

Income Tax: What You Should Know

One way of collecting income tax is wage tax. It is paid for income from non-self-employed work. This is also referred to as withholding tax, as the tax payments are deducted directly from the source of the income. Other forms of collection of income tax include capital gains tax and supervisory board tax or EEV taxes for stock corporations.

In principle, everyone who is domiciled in Germany or who lives in Germany for more than six months is subject to income tax. In this case, one speaks of "unlimited tax liability". Anyone who receives income in Germany but has neither a domicile nor a habitual abode in the FRG is subject to limited income tax.

In order to clearly identify every taxpayer and to simplify administration and to standardize it at European level, every natural person registered in Germany receives a tax identification number (IdNr). The number consists of eleven digits and is valid for a lifetime. The taxpayer does not change his ID number even when moving and changing the tax office.

Types of income subject to income tax

The seven types of income subject to income tax are defined in Section 2, Paragraph 1 of the Income Tax Act:

  1. Income from agriculture and forestry: This also includes income from viticulture or hunting.
  2. Income from business operations: This also includes income from the company's financial investments.
  3. Income from self-employed work: Income from work as a supervisory board is also included here.
  4. Income from employment: Old-age pensions or people who receive disability benefits are also taxed here.
  5. Income from capital assets (capital gains tax): dividends, interest or profit shares from companies such as a GmbH are taxed here. The tax rate is flat.
  6. Income from renting and leasing: Rented movable objects such as cars are excluded from taxation.
  7. Other income: Private pension payments or maintenance payments are taxed here.

Employees who earn less than 450 euros per month and who work so-called "mini jobs" are exempt from income tax liability. In addition, income tax does not have to be paid on income that is obtained from working in a public institution or an association and does not exceed EUR 2,400 per year.

In addition, income subject to “progression reservation” is tax-free according to Section 32 b of the Income Tax Act. These include unemployment benefit I, insolvency benefits, sick pay or short-time work benefits. Progression proviso means that the state can add this income to the basic tax-free allowance, which ultimately leads to tax liability.

Tax-reducing expenses

There are basically three types of output that can be used to reduce the tax burden. These are:

  1. Advertising expenses
    This includes all costs that the taxpayer bears in connection with his profession. This could be the cost of the trip to work or specialist literature. The costs for professional training are also included in the advertising costs.
  2. Special editions
    These items include the costs of a tax advisor or insurance.
  3. Exceptional costs
    These are costs that reduce the taxpayer's deductible so much that he can no longer use it for his daily life.

The tax burden can also be reduced through child or care allowances. The tax exemption is deducted from the net income when calculating the tax and is € 7,812 in 2020. You are entitled to a flat-rate care fee of currently 924 euros for caring for relatives.

Income tax amount (2020)

The amount of income tax to be paid depends on the amount of income earned. From an annual income of 9,408 euros, the basic tax rate is 14 percent. The top tax rate has been set at 42 percent for incomes from 57,052 euros. The so-called wealthy tax (tax rate: 45 percent) has been in effect since 2007 for income of EUR 270,501 or more.

Tables can be used to determine the amount of income tax payable. First of all, there are basic tables that assign the respective progressive tax rate and the amount of tax to be paid to the income. The so-called splitting table lists the tax burden if income tax is assessed jointly between spouses.

The advantage of the joint assessment of spouses or partners in a registered partnership is that both incomes are added together, divided by two and taxed. In this way, couples in particular whose income levels differ greatly can benefit.

Example of joint assessment

A spouse earns so much that they would have to pay the top tax rate. In the case of a joint assessment, however, the income is divided between both partners. The tax rate can therefore drop significantly and the couple will have to pay less tax.

Tax allowance 2020

In 2020, the tax-free allowance for singles is 9,408 euros and for married people 18,816 euros.

If income tax is assessed, it is possible, according to § 10 d EStG, to have a loss compensation or loss deduction taken into account. So-called “horizontal loss compensation” can include income of the same type of income. With the "vertical loss compensation", negative income can exist by offsetting it with other types of income, which can, however, be offset.

The income tax due is levied on the taxpayer by the responsible tax office. The self-employed transfer the income tax due to the tax office after receiving the tax assessment or make an advance payment.

In the case of employees, income tax is deducted directly from the wages and paid to the tax office. However, there are also tax-free additional benefits that the employer can leave to the employee, so that more net of the gross remains.

As soon as the tax return has been submitted to the responsible tax office, it will be processed by the officials there. Processing can take several weeks as there is no set deadline. In principle, the tax returns are processed chronologically after receipt.

Taxpayers have one month to appeal against the tax assessment. The period begins on the date on which the tax assessment is drawn up. The notification is deemed to have been delivered if three days have passed after it was sent by the tax office. If the last day of the monthly period falls on a Saturday, the following working day is the last possible day for objection.

Submission of the tax return

Until now, May 31 was the deadline for filing your tax return. But that has changed since 2019. Taxpayers no longer have to submit their tax return by the end of May, but by the end of July (deadline: July 31, 2020).

In the case of wage earners, one speaks of an annual wage tax adjustment. In exceptional cases, an extension of the deadline can be requested from the responsible tax office. Taxpayers who use a tax advisor or the work of an income tax relief association also have an extended deadline.

Unless you are legally obliged to submit a tax return, you do not have to submit a tax return. In this case, tax returns can be submitted voluntarily for up to four years retrospectively.

The legal requirements for filing the tax return include: the following persons are obliged:

  • The income without wage tax deduction is more than 410 euros per month.
  • There is income from several wages (tax class VI)
  • Allowances were used.
  • Unrestricted tax liability in Germany was applied for.
  • There is a loss carryforward.

A complete listing of the tax liability is regulated in §46 EStG. However, as soon as the tax office asks a citizen to submit, he must comply with this request, regardless of the above. Requirements. In addition, people can also be invested voluntarily. This is worth it, among other things. when there are extraordinary burdens or high advertising costs have come together.

When filing their tax return, the self-employed must ensure that additional taxes may be due regardless of income tax, such as trade tax or sales tax. If employees are employed, wage tax and social security contributions are also due.

calculation of the personal income tax

The amount of income tax is calculated based on the annual income of the taxpayer. The result is the so-called "assessment basis". The calculation takes place in several steps.

  1. First of all, all income from the seven types of income defined in the EStG are added together, i.e. among others. Income from self-employed, employed or forestry work.
  2. In order to calculate the total amount of income, all deductible expenses and possible allowances are then deducted from the total amount of income (pension expenses, special expenses or childcare costs). This is how the income results.
  3. Finally, allowances for children or hardship compensation are deducted from this income. The result is the taxable income (zvE).
  4. The income tax is finally determined via the splitting table (in the case of joint assessment) or the basic table.
  5. Finally, advance payments made as well as wage tax or capital gains tax already paid are deducted from the annual tax.

The end result is ultimately in the tax assessment and results in a back tax payment or tax refund.

Regardless of the type of income, the solidarity surcharge is still due. Its amount is 5.5 percent of taxable income. It is levied as soon as the income tax in classes I, II, IV, V and VI exceeds 972 euros per year or more than 162 euros in tax in class III are paid per month. However, this will soon come to an end. Because from August 2021 the solidarity surcharge will no longer apply to 90% of Germans.

Church tax only has to be paid if the taxpayer is a member of the Protestant or Catholic Church. The amount of the tax rate depends on the denomination and the tax-collecting federal state and is between 8 and 9 percent.

Sample calculation for 2020

A married couple who are exempt from church tax use the joint assessment and, in 2019, generate income from wages and rentals of 50,000 euros per year. The exemption of 7,620 euros can be deducted for the common child. In addition, insurance benefits of 4,000 euros are offset as special expenses and 2,000 euros in advertising costs are estimated. The zvE in this case is 36,644 euros. As a result of the joint assessment, the couple has already paid 8,255 euros including the solidarity surcharge on wage tax at a tax rate of 16.51 percent. After submitting the tax assessment with a zvE of 36,644 euros, the couple would have to be reimbursed 3,567 euros in taxes, since according to the new calculation they only had to pay 4,687 euros.

Special case trade tax

Many traders have to pay business tax in addition to income tax. In order to relieve companies or sole proprietorships and to prevent them from ultimately paying more than the usual rate with income and trade tax, trade tax can be taken into account when assessing income tax in accordance with Section 35 of the Income Tax Act. The possible credit is currently 3.8 times the trade tax base. The trade tax paid is not deducted, but the measurement amount.

Only traders who are actually subject to trade tax can benefit from the credit.

Income tax and abroad

In Germany, all persons who have their place of residence or habitual abode here are subject to unlimited taxation. Anyone who is not domiciled in Germany and does not have a habitual abode is subject to limited tax liability and must also pay taxes in other countries. For this reason, so-called “double taxation agreements” were introduced. This is to prevent people who earn income in two or more countries from being taxed twice. According to the double taxation treaty, four principles are applied to tax collection.

  1. World income principle
    The income that the taxable person has earned worldwide is taxed here.
  2. Source country principle
    In this case, the income is taxed in the country in which it was generated.
  3. Country of residence principle
    In this case, the taxpayer has to pay his tax where he is domiciled.
  4. Territorial principle
    In this case, only the income that he earned in each country is taxed.

Germany has double taxation agreements with more than 100 countries around the world. For foreigners living in Germany, either the territorial principle or the source country principle is applied. You therefore have to pay income tax in Germany for the income you earn in Germany. Germans who work abroad but live in Germany are taxed according to the country of residence principle and the world income principle.

Excursus: historical development

Income tax as a joint tax of the federal and state governments was introduced in 1955. Forerunners for this type of tax collection already existed in the Middle Ages with the "tithe". "Income tax" was first mentioned in East Prussia at the beginning of the 19th century.

The progressive tax rate, i.e. the tax rate linked to income, has changed since the introduction of the income tax in 1955. While the top tax rate was 53 percent at the beginning and was even 56 percent from an income of 130,000 D-Marks up to 1989, it is now 45 percent from an income of 260,533 euros. The basic tax rate has fallen from originally 20 to 14 percent today.