Germany's Tax Structure And System

Germany's Tax Structure and System

German Basic Law

The power to impose taxes is divided between the federal government and the provinces, determined by German basic law (Taxation in Germany, 2000). Germany follows the principle of world wide taxation for individuals and also corporations (Your Tax in Germany, 2005). Non-residents are taxable only on income received from German companies. Germany also has about thirty varieties of non income taxes that are imposed on such things as lotteries, inheritance and motor vehicles (Emerson, 2004). Germany imposes very high tax rates for its residents but they also allow for large deductions compared to the United States. Many think of Germany's tax system as complex but the country has done significant restructuring to simplify its taxes. American and German citizens would consider Germany to be dissimilar from the U.S.; however, both tax systems have many similar aspects.

Residency

Not just anyone can claim residency in Germany. There are strict and detailed qualifications that must be met to be able to file taxes in the country. The taxpayer's life must be centered in Germany. If this does not apply, then a taxpayer can still file taxes if they have lived in Germany six continuous months within a two year period (Your Tax in Germany, 2005). Similarly, the U.S. has qualifications to be required to file a return. Like Germany, America taxes the income of all American citizens and resident aliens regardless of the source of the income. Also, any person receiving income in the United States will be taxed on that income (Taxation in Germany, 2000).

Return Time Frame

Once a person has claimed residency, they have to file a return within a certain amount of time. The calendar year for Germany is from January 1 to December 31, just like the U.S. Individuals must abide by this calendar year. The Individual return is due within five months after the end of the tax year, which is May 31 (U.S. is April 15). A taxpayer can receive an automatic extension (due September 30) if a professional prepared their return. While an individual return must abide by the calendar year, Germany allows a business to adopt a fiscal year, once they have received permission from the tax authorities (Taxation in Germany, 2000).

Filing Status

Taxpayers have the option of choosing their filing status. They can either file jointly (being able to split the tariff) or file separately (Taxation in Germany, 2000). If the taxpayer chooses to file jointly, both the husband and wife must be residents of Germany to be able to split the tariff (Your Tax in Germany, 2005). Very much like the U.S., filing jointly is usually more advantageous. If a couple decides to file separately, they have to return two separate returns and pay a tariff individually. If a couple does not choose any filing status, they are automatically assumed to be filing jointly.

The source of employment income is considered to be where the activity is carried out and not from where the salary is paid (Your Tax in Germany, 2005). Every employee must have documentation on where they are employed and the amount of salary agreed upon. A taxpayer can be a resident in more than one country, but if they meet the qualifications residency they must pay taxes. The U.S also follows this rule.

The employer is legally obliged to withhold taxes from the employee's income (Your Tax in Germany, 2005). The taxpayer pays income taxes throughout the year by having the employer deduct taxes from their paycheck. The employer is obligated to deduct the tax payable, income tax and social security. The withholding is given to the tax office monthly. At the end of the year, the taxpayer will know of any under or overpayments (Emerson, 2004).

If the taxpayer is self-employed, they are subject to 'Mehrwersteuer' (value-added tax). Taxpayers must make quarterly payments and tax declarations stating their income and all deductions claimed (Your Tax in Germany, 2005). Citizens have to make quarterly payments on taxes on the tenth of March, June, September and December (Emerson, 2004). The advanced payment is determined by the basis of the previous year's return. If a taxpayer creates a new business, their advance payment will be calculated on the basis of estimates made by the owner. Advance payments are made every three months (Emerson, 2004).

Deductions

Taxpayers are able to receive a deduction, if they work for a German employer, to claim dependent children who are 18 years old and/or 27 years old if they are receiving a full time education, since they are contributing to the German social security (Emerson, 2004). This deduction is called the Kindergeld (Child Benefits). The United States has something similar to this deduction. The U.S. allows at $3,100 personal exemption and a $7,100 married exemption. The U.S. allows a deduction of $1000 for each dependent child; however, the child must be seventeen and younger and qualify as the dependent (Anderson, 2-18). Germany offers a deduction of DM 3,456 for each dependent child. Germany also gives cash payment of 154 Euro per month, called a Kindergeld, to help assist lower income families. Both countries require that if the married couple has dependent children who receive income, the children are to file their own tax return (Your tax in Germany, 2005).

Only expenses incurred from taxable income are considered deductible. Deductions are made for three social programs: retirement, unemployment and health insurance (Emerson, 2004). Payments for these three programs are split equally between the employer and the employee. The employer's half is not considered taxable income and the employee's half is deductible for a certain amount (Emerson, 2004).

The range of deductions allowed has to be passed by the 'Finanzamt', the local tax authorities. For any deductions that a taxpayer claims, they are going to need to list out all of their deductions. The normal deduction percentage for a dividend is 21.1%. If a German branch pays the dividend to a European Union parent company, when the recipient's holding is greater than 25%, the dividend is exempt from the deduction. While dividends have a 21.1% deduction, has a 0% deduction. Royalties, if the payment is to a non-resident, is 21.1% (Germany Income Taxes and Tax Law, 2005). Deductions are also allowed for certain circumstances such as the Kindergeld, specified insurance premiums, and charitable and political contributions to German entities up to certain limits and unavoidable extraordinary expenses above