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Income tax rate, marginal tax rate, average tax rate, zero zone – Still confused? We’ll explain it to you.
If you earn any money in Germany, you have to pay taxes. Therefore it’s important especially for Expats to understand how finances and the German Tax System works.
Essentially, those who earn very little pay very little income tax while those who earn a lot pay a lot more in taxes: That’s the German tax system in a nutshell.
Although it might sound very simple, it is however a bit complicated especially if you have recently moved to Germany. Below is an introduction of how the German tax system works.
- German Tax System Brackets for 2020
- When do I have to pay German income tax?
- How is income calculated in Germany?
- What is the German income tax rate?
- What does German marginal tax rate mean?
- How is the marginal tax rate calculated in Germany?
- What does the average tax rate in Germany mean?
- Tips on how Expats can use the German Tax System
German Tax System Brackets for 2020
Income tax rates that Expats in Germany fall under in 2020
Below is a table showing the income tax brackets for 2020:
|Individual Income||Germn Income Tax Rate|
|Less than 9.408 euros||0%|
|9.408 – 57.051 euros||14% to 42%|
|57.051 – 270.500 euros||42%|
|More than 270.500 euros||45%|
When do I have to pay German income tax?
You have to pay taxes in Germany if your income tax is above a certain amount.
In 2020 the threshold for paying income tax is 9,408 Euros. If your income is below this value, you do not have to pay any taxes. This is what is referred to as the basic allowance (Grundfreibetrag) in Germany. It is adjusted regularly to reflect the situation in financial situation in Germany. You will start paying income tax IF you have income from the 9,409th Euro.
NOTE: As far as the German tax system is concerned, it is very important to remember that what you earn and what is considered “income” are not identical to your income when making your income declaration. That means: What is written on your income tax certificate, for example, is only an initial value. If you file an income tax return, you can reduce this value. Only what is left in the end is subject to income tax. Therefore, this final value is also called taxable income.
How is income calculated in Germany?
In order to determine your taxable income, i.e. the money on which you ultimately have to pay income tax, the tax office (Finanzamt) goes through the following steps:
- First, it gets an overview of your income and checks what other income you had. That means: Not only your salary as an employee is important but also, for example, your income from capital assets or renting and leasing.
- It then deducts any income-related expenses and allowances from this total to come up with you actual income.
- The tax office then takes a closer look at your income tax return and deducts any special expenses, extraordinary burdens and other items from your income.
- At this point, they have a complete estimation of your final income.
- If you are entitled to a child allowance, they deduct this from the known income as a last step. At the end of this calculation, they will have your final taxable income.
You can find out exactly how this works in our article Income, Income, Income – This is how your income tax is calculated.
What is the German income tax rate?
A lot of Expats in Germany end up repeatedly asking this question: “How much tax do I have to pay on my income now?”
The answer: It depends on how much you earn.
The tax authorities (Finanzamt) formulate this somewhat more formally: It depends on your “performance”.
The rule of thumb for this is: Those who earn more must also give a larger part of their income as tax. They are considered “more efficient”.
How much tax there is on your annual income earned in Germany is calculated using the income tax rate. And this income tax rate is a progressive tax rate. What does a progressive tax rate mean? It means that the personal tax rate increases with increasing taxable income.
The income tax rate begins in the zero zone, the basic tax allowance. Until then, 0 percent income tax is paid. Thereafter, the income tax rate is between 14 percent and 42 percent. This means that if you have very little taxable income, you only have to pay 14 percent tax on it. If you are a top earner, you pay the top tax rate of 42 percent or 45 percent.
What does German marginal tax rate mean?
The marginal tax rate in Germany, also known as the marginal tax, reflects the tax rate at which the next additional euro of the current taxable income is taxed.
That means: below 9,408 euros the marginal tax rate is zero, after which it increases from the initial tax rate to the maximum tax rate.
The marginal tax rate is particularly interesting when you increase your salary, because your share of the income is taxed according to different tariff levels. If your income rises, it is possible that the new income components will be taxed higher than the previous components and the salary increase will fizzle out.
With the marginal tax rate, you can determine which tax rate is at the top of your current taxable income, i.e. what happens if you get one euro more than before.
How is the marginal tax rate calculated in Germany?
Every Expat in Germany should learn how to read the marginal tax rate data correctly and what to do with the results.
The marginal tax rate calculation is at first complicated for Expats in Germany. However, it is easy to understand how it works. Below is an example.
Marginal Tax Rate Calculation Example:
If you are single and have a taxable income of 20,000 Euros in 2020, you will pay 2,346 Euros in income tax. That translates to 11.73% of your taxable income. This tax rate is called the average tax rate.
If you get a raise of 100 Euros per month in the following year i.e. 1,200 euros a year, the average tax rate increases to 12.57% of table income. You will then have to pay 2,665 Euros in income tax – 319 Euros more than before the salary increase.
What does that mean? From the salary raise that you received, you will only get 881 Euros (instead of the full 1,200 Euros). The government will retain 26.5 % as taxes or 329 Euros.
If you find calculating the marginal tax rate a bit complex, it may be helpful to use an income tax table or the German income tax calculator offered by the Federal Ministry of Finance.
What does the average tax rate in Germany mean?
As illustrated in the example above, the average tax rate is the percentage of income tax on total income.
The average tax rate affects the total amount of taxable income unlike the marginal tax rate which only deals with just the individual Euro
Average Tax Rate Example:
If you have an income of exactly 15,000 Euros and are single, you pay 1,085 euros in income tax. That is 7.23% of 15,000 Euros. That 7.23% is your average tax rate.
On the other hand, if your income were only 9,416 euros, the marginal tax rate for single persons would be around 14%, but in fact you only pay 1 euro income tax. Because only the 8 euros above the basic tax allowance (9,408 Euros) are taxed at the tax rate of 14 percent. This corresponds to an average tax rate of just 0.01% on your total income.
Tips on how Expats can use the German Tax System
You can invest a salary increase
- in training
- in other income-related expenses
- in Hiring a cleaner could also be an option
By doing so, you benefit twice, because you can deduct the costs for work and household services from your tax.
Additionally, Germany allows you as an Expat to deduct a variety of expenses from your taxable income. This lowers your tax burden and increases your tax refund at the end of the year.
Income-related expenses include:
- Expenses for moving house for professional reasons, (including relocation to/from or within Germany)
- The costs of applying for jobs, including those applied for from abroad
- Expenses for traveling from your home to your place of work
- Costs of vocational further training, such as work-related books, training courses, language courses etc.
- Expenses for work-related equipment, e.g. laptop, desktop etc.
- The costs of running two households within Germany or in Germany and abroad, e.g. if you have a primary household abroad where your family (wife and children) are living: flight and train tickets, telephone calls, rent paid in Germany
- You can ask your boss to convert 44 Euros of your raise into a voucher for you. This money then remains tax-free. In Germany, Companies can pay their employees up to 44 Euros per month in non-cash benefits or vouchers without paying taxes.
Benefits of using these tips: your taxable income goes down and you get more of your raise instead of paying it to the tax authorities.