Self employed people from all over the world are drawn to the strong, booming German economy - that also comes with great privileges for working within the European Union. Once you get in, get started and start diving in - the landscape begins to differ, most especially from the United States, the United Kingdom and Australia. In this article we are going to explore exactly some of these differences. While it can be one thing to understand, somehow, the system here it can often be a lot easier to see how it differs to what you are used to. A lot of self-employed people and freelancers from abroad can find themselves in the middle of an interesting discussion at times because many struggle to adapt to the financial system here. What can feel like a valid complaint for an expat, can be quite offensive to a German who has grown up with this system. As confusing as it may be to outsiders, there is always a logical reasoning behind the processes and the paperwork (yes, somehow!) and it is a case of accepting this and making sure it is done. Yes, even the Germans do not hide their frustration with the system, but at the end of the day the rules are the rules - so let’s look at how it may differ as to where you are from!
VAT - OK in U.K, new from the USA and Australia
Every country mentioned here today has a different approach to sales tax. In the U.S, many states apply a sales tax at the point of sale and these rates will depend entirely on the States and counties. In two steps: Excise and regulatory taxes apply to a range of products. Retail sales tax is levied by states and municipal bodies and vary considerably. Australia is similar, however, they apply sales tax in the form of the Goods and Services Tax or “The GST”. This rate is a blanket 10% across the nation with some goods being exempt. Now, UK expatriates have a distinct upper hand here - they are already used to this concept in the form of VAT and also, the accounting practices with it. While the premise of VAT is very much a sales tax not unlike let’s say, the GST - the additional taxation reporting sure is! The system of VAT works by companies and individuals essentially moving the tax around until it eventually reaches the government and us processed on a much more frequent basis. Tax exchanges in the U.S and Australia tend to be more direct with lighter reporting. The VAT system is intricate, complex and paperwork heavy at times. However, for most freelancers, it can become an easy-to-manage part of business and administration life. It all depends how the laws applying to you, and what obligations they create. Having a solid understanding of the system can cut out unnecessary steps or filings on your part, or, perhaps even bring them to your knowledge as something you actually should be doing. This is a rather broad and obtuse overview of the system as it applies to freelancers, and as with all such matters, should you be in doubt it is recommended to discuss it with a tax agent or professional. Overall, VAT in Germany is a fair system - no one expects you to pay what you shouldn’t have to, but you are expected to pay what you owe.
Numbers Game - what rates do you pay in Germany?
For everyone considered German residents for tax purposes, all income worldwide is considered to be taxable. There are tax treaties between Germany and many other countries which stipulate where the taxes must be paid. Anyone earning income from outside Germany will want to review any treaties between that country and Germany, and most likely will want to speak with an expert. But back to the topic here - yes, Germany has the second biggest tax burden in the world… but here we see it in action, because it also has the strongest economy in Europe and can provide education for free, maternity/paternity care and many other health services and benefits countries with lower tax rates cannot…
So, what rates will you pay as a self-employed person:
Income Tax: After adding income from other sources and deducting all of your expenses, extraordinary expenses and applicable allowances, the result is your taxable income, on which your income tax is assessed. There is an annual tax-free exemption of EUR 8,004. Above this amount, the tax 2012 rates start at 14 percent, rising to 45 percent. On the assessed income tax, a solidarity surcharge of 5.5 percent is also based. This is to help to fund the rebuilding of eastern Germany. Married couples can lodge a joint return, which in most cases will reduce the overall income tax burden.
VAT: Freelancers who establish a business in Germany need to file monthly ‘MwSt’ declarations (Umsatzsteuervoranmeldung) for the first 2 years after opening their business. After this two years period, the period of filing ‘MwSt’ declarations is determined by the ‘MwSt’ of the prior year:
- If the ‘MwSt’ for the prior year was less than EUR 1,000, you don’t need to prepare ‘MwSt’ declarations in the future but you need to declare all revenue and ‘MwSt’ in your annual ‘MwSt’ return (Umsatzsteuererklärung).
- If the ‘MwSt’ for the prior year was less than EUR 7,500, you need to prepare quarterly ‘MwSt’ declarations.
- If the ‘MwSt’ for the prior year exceeded EUR 7,500, you need to go on preparing monthly VAT declarations.
- Freelancers who receive revenues that are taxable are obliged to file an annual ‘MwSt’ return. In this tax return, the annual revenues and annual VAT need to be declared. After deduction of the VAT invoiced to the freelancer and the periodical instalment payments due to VAT declarations, this will result in a final VAT payment or refund.
- If you operate a small business with annual revenue below EUR 17,500 you can opt if the revenue will be subject to ‘MwSt’ or not.
Trade Tax or Business Tax: this will depend on your income and legal working status, but you may have to pay tax if you are self employed instead of freelancer. As of 1 January 2008, Germany’s corporation tax rate is 15%. Counting both the solidarity surcharge (5.5% of corporation tax) and trade tax (averaging 14% as of 2008),** tax** on corporations in Germany is just below 30%
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Social Security and Social Pensions between U.S and Germany
In most modern countries we are all making contributions to some form of social welfare and the U.S, UK, Australia and Germany all have this in common. However, there are some differentiations. This is covered a little more in depth explicitly from the Freelancer perspective on the Kontist blog however it seems relevant to include some information relating to the U.S and Germany and this is quite important.
There is an agreement between the U.S and Germany which actually improves the Social Security circumstances for people who work or have previously worked in both countries. This agreement allows people who (without the protection of the agreement) may not be eligible for crucial retirement, disability or survivors benefits - now that’s important! Because, do you want to pay double tax? No, did not think so! This agreement means you do not have to pay double contributions. Essentially, this means no matter which country you end up needing assistance from the system from, they consider that you have paid (as long as you have) into their system.
This is applicable in the circumstance of self-employed or freelance income. If you are making contributions to the German public retirement system you are exempt from making those contributions in the U.S. Now, there can be quite a full on process involved but in either country it is possible to have the “credits” you have earned to date recognised. This is pretty important considering the major differences in systems. One area where this is not so applicable or there are great differences is when it comes to Medicare or Medicaid - but that is a different article!
Which is important across the board because…
Every country has a different approach to how it “pays back” your lifetime of meaningful tax contributions. For example U.S, UK, Australia all have variations or forms of “superannuation” - though the U.S does not have compulsory systems. Despite the way it is paid out, all countries mentioned above have a welfare system that taxpayers are entitled to. However, this age keeps extending out with many countries ensuring it will be age 67 before you are entitled to full benefits. This age looks set to be in effect in most countries by 2023.
Which is ALSO important across the board because…
Where we pay our taxes and how we pay our taxes can crucially impact our future. It is somehow no spoken about so often how the differences in our systems can result in mistakes when it comes to our incomes or taxes / but what that will affect, well, we won’t know until we are 67. The tax system we immigrate to is just as important as the country we immigrate to.
While of course the general theme that tax is due wherever one earns income (except Qatar!) we should also bear in mind that taxes are a form of contribution we can expect to have returned to us later in life. More and more we can see how this impacts people and implodes generationally when not handled correctly by the governments.
At the end of the day - yes, you pay taxes and yes it is different - but we are also entitled to something for this system. Understanding how things are in Germany compared to back home, is a great first step!