Tax Guide for American Expats in Germany
This brief tax guide aims to supplement and enhance your understanding of the German income tax system by providing current insights and practical information. We covered the most important rules that expats should consider when it comes to residency, income and tax withholding. In addition, we have also stressed the importance of tax planning and treaty provisions available solely to American citizens and residents living in Germany.
The Federal Republic of Germany is a civil law country and a federal parliamentary republic. Germany is one of the founding members of the European Union. The Euro (EUR) was adopted at inception and the IRS average exchange rate to the US dollar is 0.937 for 2016. The Federal Tax Office (BZSt) is the highest federal authority responsible for most international tax matters and oversight of the Local Tax Offices (Finanzamt) that deal with the assessment and collection of direct and indirect taxes.
The German Tax Number
Foreign nationals, including minor children, who are planning to work, study or stay in Germany longer than 90 days are required to formally register with a local citizens' office (Bürgerämt or Bürgerbüro). Once a registration form (Anmeldeformular) is filed, the citizens' office will issue a proof of address that is required to open a bank account, obtain health insurance and deal with taxes.
The citizens' office will also report your registration to the Federal Tax Office. Few weeks after the registration, the Federal Tax Office will mail a German tax identification number (identifikationsnummer), to the address on record. The German tax number is a unique 11-digit number assigned to individual taxpayers. It is valid for life, does not change in an event of marriage, and is used to identify taxpayers within the tax system.
German Tax Year
The tax year in Germany follows the calendar year, spanning from January 1st till December 31st. Consequently, individual income taxes are assessed on a calendar year basis.
German Residency and Tax Liability
Your German tax liability will be limited (beschränkt) if you remain non-resident or unlimited (unbeschränkt) if you become a tax resident. Non-residents with limited tax liability are subject to tax on German-source income. Residents with unlimited liability are taxed on worldwide income, but a foreign tax credit and a tax treaty exemption might be available.
A foreign individual shall be presumed German tax resident if domiciles (Wohnsitz) in Germany. Individuals who domicile elsewhere, but maintain a habitual place of abode (gëwohnlicher Aufenthalt) and are physically present in Germany for an uninterrupted period of 183 days or more in any 12-month period are also presumed residents for tax purposes. Brief interruptions and short absences from Germany are disregarded for the purposes of the 183-day test.
Finally, foreign nationals who do not domicile and have no habitual place of abode in Germany may elect to be treated as residents if at least 90% of their worldwide income is derived from sources in Germany. In all other situations, a foreign national shall be presumed non-resident taxpayer, liable to tax on German source income only.
Taxable Income, Allowances, and Income Tax Rates
The German Income Tax Act (EstG) separates income in seven categories. Income is defined broadly to include proceeds from forestry and agriculture, business, employment, self-employment, rental and leasing, capital, and other sources. Welfare benefits, unemployment compensation, health insurance proceeds, scholarships, and many employment-related benefits are excluded from the definition of income.
Certain allowances and flat-rate deductions (Pauschbetrag) are granted as deductions from gross income. The 2017 basic allowance is set at €8820.00 for single and €17640.00 for married filing joint taxpayers. The basic allowance ensures taxpayers with taxable income below the threshold have no tax liability.
Pursuant to the German Income Tax Act (§32, Nr. 1 EstG), a child subsistence allowance of €2358.00 is granted for each qualifying child. A separate child care/education allowance of €1320.00 is also available. The above allowances increase twofold if a joint assessment has been made.
Certain work-related expenses (Werbungskosten) might be also tax deductible. Employees may deduct expenses such as tools, protective clothing, dues to a professional organization, and even transportation and overnight stay to the extent no reimbursement is received. Up to €6000.00 of educational or vocational training expenses are also deductible. Child care costs, private pension contributions, and long-term care insurance also qualify for a deduction from gross income.
The income tax (Einkommensteuer) is assessed on net taxable income, after allowances, special expenses, and deductions. The income tax rates are progressive and increase with income. The 2017 income tax bands and rates for a single individual are:
|Band||Taxable Income||Tax Rate|
|Basic Allowance||Up to €8820||0%|
|First Band||€8820 - €13769||14-23.97%|
|Second Band||€13770 - €54057||23.97-42%|
|Third Band||€54058 - €256303||42%|
|Fourth Band||Over €256304||45%|
The tax bands and rates are doubled for married taxpayers who file a joint assessment.
Solidarity Surcharge (Solidaritätszuschlag)
The Solidarity Surcharge Act (SolzG) introduced an additional 5.5% tax computed over the net income tax due. This 5.5% tax-on-tax is referred to as a solidarity surcharge. The solidarity surcharge was established as a mean to collect revenue for the economic growth and development of East Germany in the years after the unification. The surcharge is still in place today. In result, if your net tax liability is €1000.00, your final tax liability will increase to €1055.00 because of the 5.5% solidarity surcharge.
German Income Tax on Employees
The income from employment in Germany is taxed at source under the PAYE (Pay-As-You-Earn) system. Income from employment includes wages, salaries, bonuses, perquisites, and various taxable benefits. The tax deducted at source is treated as an advance payment of your prospective tax liability and is remitted to the tax office by the employer.
The amount of tax withholding depends on your tax class, which is determined by reference to gross income and marital status. Single and divorced taxpayers with no children fall in class I, single parents in class II, married taxpayers in classes III, IV, or V depending on various criteria. After year-end or upon termination of employment, whichever comes first, your employer will issue a wage and tax certificate (Lohnsteuerbescheinigung) reflecting dates of employment, income, tax deductions, various contributions and any other adjustments to income. The certificate serves as a proof of tax withholding and is valuable for the preparation of your German and U.S. income tax returns.
Taxation of Freelancers & Self-Employed Individuals in Germany
The German Income Tax Act (§18, Nr. 1 EstG), defines freelancing or self-employment as any provision of scientific, artistic, literary, educational, or similar professional services of an independent character. Most freelancers in Germany are not heavily regulated and no special license or permit is required. Still, a formal registration with the local tax office is a must. Depending on profession and qualifications a registration with the Chamber of Commerce (Gewerbeamt) might be also relevant.
The local tax office will assign a separate tax number (Steuernummer) that is essential for all self-employment tax matters. Freelancers are also required to make quarterly estimated tax payments against the prospective year-round tax liability. If the annual turnover surpasses a statutory threshold, a freelancer must also register for and start collecting value-added taxes from clients.
Tax Assessment, Collection & Refunds
The final liability of a taxpayer is assessed after year end. The tax return is due by May 31st of the year following the tax year. Extension of time to file is also available and is granted automatically if you engage a tax professional to deal with your tax affairs.
Generally, single resident taxpayers are not required to file a tax return if all income comes from employment. The payroll tax is sufficient to cover the tax liability in full. However, a tax return might be a valuable option if you work for part of the year or have allowances and deductions that will result in a tax refund.
Married resident taxpayers are allowed to choose from a single or joint income tax assessment. Married U.S. expats are generally required to file income tax return if both taxpayers have income and a joint assessment is made. The tax return form to file depends on residency and income. On top, various schedules (Anlage) are attached to the return depending on type and source of income. The basic tax return forms are:
- ESt 1A – regular income tax return for resident taxpayers
- ESt 1V – simplified income tax return for employees
- ESt 1C – tax return for non-resident taxpayers
The income tax return can be filed by post, electronically, or in person at the local tax office. Free electronic filing software such as Elster could be used. Once the tax return is processed, the tax office will send you an assessment notice (Bescheid) reflecting your income tax refund or additional balance due.
If you disagree with the assessment you are given a month to submit a formal objection (Einspruch) to the tax inspector. Thereafter, you may appeal to the finance court (Finanzgericht) and finally, a cassation appeal could be filed with the Federal Finance Court (Bundesfinanzhof).
The statute of limitations is 4 years, thus a tax refund for 2016 will be available if a tax return is filed by 2021. A practical complexity for many American expats is the language barrier as all forms and instructions are available only in German. In such an event, a consultation with a local tax professional is an advantage.
German Capital Gains Tax
As of January 1st, 2009, income from capital assets is taxed at a flat 25% rate (Abgeltungssteuer) and the tax is deducted at source. A solidarity surcharge of 5.5% is added, which results in an effective tax rate of 26.375%. Income from capital assets covers dividends, interest, certain investment income and gains from the sale of various securities.
A savings allowance (Sparer-Pauschbetrag) of up to €801.00 for single and €1602.00 for married taxpayers is granted to taxpayers with capital income. Further, no capital gains tax applies to income from the sale of a personal residence. Gain derived from any other real property held for 10 years or more is also tax exempt.
Social Security and Other Contributions
All employees in Germany are subject to a compulsory old-age, health, unemployment and disability insurance. Employers are required to register an employee with a retirement insurance fund from the first day of work. The fund will send you a confirmation notice containing your social security number. Most self-employed individuals are also subject to compulsory insurance, though certain exceptions apply. With minor exceptions, the cost of the compulsory insurance is shared equally between the employer and the employee.
- Value-Added Tax (MwSt) is an indirect tax applied to consumers of goods and services. It is similar to the sales tax in the States, but the rate is much higher. Unlike the U.S., the listed price of goods or services must include the value-added tax.
- Church tax (Kirchensteur) is assessed if you self-identified as Catholic, Protestant, or Jew on the citizens’ office registration form.
- The State TV and Radio license tax (ARD, ZDF und Deutschlandradio) are mandatory even if you do not have a TV or radio at home. A bill will be sent to the address on record with the local citizens’ office.
Social Security Coverage Exemption for American Expats in Germany
Americans with self-employment activities in Germany are generally covered by the local social security system. Simultaneously, U.S. citizen and residents also pay self-employment (SE) taxes in the United States. To eliminate double coverage and ensure equal treatment, the United States has signed a Social Security (Totalization) Agreement with Germany. The Totalization Agreement exempts U.S. citizens and residents from the U.S. self-employment taxes.
Refund of German Social Security Contributions
Good news for American expatriates is the option to obtain a full refund of the pension contributions made. Americans who were employed in Germany for less than 5 years and returned back home may qualify for a refund. If you worked in Germany for 5 years or more you might be entitled to a German pension once you reach the retirement age.
Tax Planning for American Expats in Germany
American citizens and residents living in Germany are still required to file a U.S. income tax return. Because the German tax rates are high and a foreign tax credit is granted on a U.S. tax return, it is unlikely to have any additional tax liability. Some tax treaty provisions may also help you reduce U.S. income taxes due. Nevertheless, the timely tax planning is the key to elimination of a possible double tax exposure. Thus, we urge you to contact us long before tax year end!