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2. Introduction to German Tax System and Income Tax Topics : System of Income Tax (EStG) and Tax Liability Scope of Business Income Non-business activities.

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Presentation on theme: "2. Introduction to German Tax System and Income Tax Topics : System of Income Tax (EStG) and Tax Liability Scope of Business Income Non-business activities."— Presentation transcript:

1 2. Introduction to German Tax System and Income Tax Topics : System of Income Tax (EStG) and Tax Liability Scope of Business Income Non-business activities Determination of Income Compensation of losses

2 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Tax Law is a part of public financial law and linked to civil law (tax provisions refer to terms and definitions determined in civil law, esp. company law).

3 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Allocation of Tax Revenue – Art. 106 GG Federation - e.g. customs duties, solidarity charge German States- e.g. inheritance and gift tax, real estate transfer tax, property tax - tax equalisation among states Joint Taxes- allocated to the Federation and the States (e.g. share in EStG / KStG / USt) Municipalities - share in trade tax (GewSt) and real estate tax

4 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Direct Taxes = tax payer and tax debtor is identical Income Tax Corporation Tax Trade Tax Einkommensteuer (ESt) Körperschaftsteuer (KSt) Gewerbesteuer (GewSt)

5 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Indirect Taxes = Tax Payer and Tax debtor are not identical Value Added Tax Umsatzsteuer (USt)

6 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Tax Revenue 2006 in Germany (bn ) Joint Taxes: 329.3 Federal Taxes: 88.1 States Taxes: 21.7 Community Taxes: 49.3

7 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Tax Revenue 2007 billion Value Added Tax169.6 Income Tax on income from employment131.8 Income Tax on other income Withholding Tax 25.0 13.8 Trade Tax40.1 Corporation Tax22.9 Total Tax Revenue538.2

8 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer National tax ratio in Germany = tax revenue/GNP Yearnational tax ratio 200023 % 200121.6 % 200221.0 % 200320.9 % 200420.0 % 200520.1 % 200621.2 %

9 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Sources of German Tax Law = Binding norms (come into existence by legeislative power or by decree) = Issued by the Minister of Finance, binding only the members of the Internal Reveneue Service Tax Acts (Steuergesetze) Ordinances (Durchführungsverordnungen) Administrative Guidelines (Einkommensteuerrichtlinien)

10 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Principle of Residence - § 1 EStG Unlimited Tax Liability § 1 para. 1 EStG » Principle of residence (flat/dwelling or presence for more than 6 months in Germany) » Worldwide income is taxable Limited Tax Liability § 1 para. 4 EStG » Principle of residence (no residence in Germany) » Only domestic income is taxable

11 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Determination of Taxable Income according to § 2 EStG (1) Income from agriculture and forest economy (2) Income from trade and business (3) Income from independent personal services (4) Income from employment (5) Income from capital investments (6) Income from rent and leasing (7) Other income within the definition of § 22 EStG Sum of income (of an individual) - Special reliefs (i.g. for elder people) Total amount of income (= Gesamtbetrag der Einkünfte)

12 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Determination of Taxable Income (Continuation) - Compensation of losses according to § 10d EStG - Personal deductions (Sonderausgaben and außergewöhnliche Belastungen) = Income - Tax allowances (= preferential treatments) = TAXABLE INCOME Apply Income Tax Rate according to § 32a EStG You can use the Income Tax Table (basic and splitting-table)

13 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income = Net Income = Einkünfte Gross Income from sources (1) to (7) Revenues from sources (1) to (3) (= Gewinneinkünfte Revenues from sources (4) to (7) (Überschusseinkünfte) less: source related expenses less: Business Expenses less: Income related Expenses (= Werbungskosten) = Net Income (= Einkünfte) ProfitSurplus of income above income related expenses

14 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Activities must be determined to achieve income (= Einkünfteerzielungsabsicht) Financial benefits and expenses covered by the 7 categories of income are only subject to income tax as long as there is a fair chance to produce a surplus. Total income must exceed total expenses during the period of the total project. Permanent losses or hobby-projects will not be excepted for tax purposes!

15 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income from sources (1) to (3) Profit oriented sources = Gewinneinkünfte Income from agriculture/forest economy - § 13 Income from trade and business - § 15 Income from independent personal services - § 18

16 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income from source (2) - § 18 EStG Independent service income includes: Income from professional services (i.g. scientific, artictic, musical, educational or literary activities exercised in an independent capacity) Listed professions: i.g. notaries, attorneys, dentists, tax advisors,... Similar professions Independent service income is not subject to trade tax !

17 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income from source (3) - § 15 EStG Scope of income from business and trade - § 15 (2): Any independent activity, undertaken to make a profit, requiring business relationships to third parties, which is not an independent personal service related to sources (1) and (2).

18 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income from source (3) § 15 EStG All business and trade income is subject to trade tax !

19 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Profit determination methods A. Comparison of business property (= Betriebsvermögensvergleich) § 4 (1 EStG B. Comparison of business property (= Betriebsvermögensvergleich) § 5 (1) EStG C. Cash based accounting (= Überschuss der Einnahmen über die Ausgaben) § 4 (3) EStG

20 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Determination of profit from business and trade - § 5 (1) EStG Relevant for taxpayers who have to (or voluntarily) keep books and records and to prepare financial statements for tax purposes according to §§ 140 or 141 AO (= profit more than 50.000 per year) Financial statements have to be prepared in accordance with the Generally Accepted German or International Accounting Principles » Correlation Principle (see: § 5 (1) EStG)

21 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Other profit determination methods - § 4 (1) EStG Relevant for farmers and persons operating independent services who voluntarily keep books and records. No correlation with Generally Accepted German Accounting Principles

22 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Profit determination - §§ 4 (1) and 5 (1) EStG Comparison of business property = Profit + Withdrawals from business (Entnahmen) - Value of contributions (Einlagen) = taxable Profit

23 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Other profit determination methods - § 4 (3) EStG Relevant for taxpayers who do not have to keep books and records and who do not voluntarily keep books and records (= profit till 50.000 per year) No correlation with Generally Accepted German Accounting Principles » Cash based accounting ! (see: § 8 EStG) Relevant for persons operating an independent service or a small business.

24 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Business expenses Basic provision: § 4 (4) EStG According to § 4 (5) EStG some expenses are not deductible or limited for the purpose of tax accounting. Give examples !

25 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income from sources (4) to (7) Non-profit sources = Überschusseinkünfte Determine surplus of income above income-related expenses (= Income less Werbungskosten) Surplus is determined on a cash basis only ! (see: § 8 EStG)

26 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Income from sources (4) to (7) Non-profit sources = Überschusseinkünfte Definition of income-related expenses = Werbungskosten (see: § 9 EStG) Cash-flow principle (see: § 11 EStG) Expenses are deductible in the year being paid

27 Compensation of Losses Topics: (a) Off-set losses within each or other sources of income (§ 2 para. 3 ESG) (b) Carrying losses back and/or forward (§ 10d EStG)

28 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Determination of Income - § 2 EStG 7 Sources of Income (= Summe der Einkünfte) Sum of Income - special Reliefs Total amount of Income (= Gesamtbetrag der Einkünfte) - Losses carried back or forward (§ 10d EStG) - other deductible expenses or reliefs = Taxable Income (= zu versteuerndes Einkommen)

29 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Off-setting losses (Verlustausgleich) see: § 2 (3) EStG horizontal: within one source of income vertical: among different sources of income Carrying losses to other periods (Verlustabzug) see: § 10d EStG carry back Verlustrücktrag carry forward Verlustvortrag

30 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Compensation of Losses Off-setting losses is prohibited in special cases (i.g. § 15b EStG): Check: Is the investment project designed as a model for the main purpose of saving taxes ? Does the tax benefit exceed the original investment ?

31 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Carrying losses back – § 10d Abs. 1 EStG Losses exceeding the total amount of income (= Gesamtbetrag der Einkünfte) in one period shall be carried back to last year. The tax payer can opt for the carry forward method instead. The limit for carrying losses back amounts to 511.500 (1,023,000 for married persons).

32 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Carrying losses forward – § 10d Abs. 2 EStG Remaining losses shall be carried forward in 2 steps: (1) unlimited deduction up to 1 mill. ( 2 mill. for married persons), and in case of remaining losses: (2) limited deduction up to 60 % of the remaining total amount of income

33 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Ways of levying income tax Assessment: Each tax payer is assessed according to the amount of his/her taxable income (after handing in a tax return) Certain other income is taxed by means of Withholding at Source. Individuals only receiving income from employment can hand in a tax return (option). In the case Withholding Tax exceeds the amount of standard income tax according to the tariff rate, the difference shall be refunded to the tax payer. Withholding Tax on income from employment (Lohnsteuer) Withholding Tax on income from capital investments (Kapitalertragsteuer)

34 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer Individual and Joint Assessment Although, each tax payer is assessed according to his/her taxable income, there is an exception for married couples. If husband and wife are both German reseidents they may elect the joint assessment (Zusammenveranlagung). In this case the income splitting system applies according to §§ 26 and 32a para. 5 EStG (= tax on ½ joint income * 2). Assessment (a) in accdordance to individual income (Einzelveranlagung) (b) in accordance to joint income of married couples (Ehegattenveranlagung)

35 Assessment per person and per married couple Alternative IAlternative IITax per person (A) Tax per couple (B) Mr. Merkel047,000 Mrs. Merkel94,00047,000 Joint income94,000 Sum of taxes per person ? Joint taxes for couple ? Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer

36 Assessment per person and per married couple Mr. MerkelMrs. MerkelTax per person (A) (sum) Tax per couple (B) (splitting) Income A47,000 Tax per person (basic) 11,644 24.7 % 11,644 24.7 % 23,288 Income B094,000 Tax sum (basic table) 031,296 33.3 % 31,296 Joint Tax (splitting table) 23,288 24.7 % 23,288 Advantage8,008 Prof.Dr. von Wuntsch - Spezielle Probleme der Einkommensteuer


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