This is how trade tax works in Germany

Section 1 of the Trade Tax Act (GewStG) stipulates that municipalities are entitled to levy a trade income tax as a municipal tax. The object of taxation is any permanent business establishment located within Germany (Section 2, Paragraph 1 GewStG) . This is a profit-based tax that the business pays to the municipality. It belongs to the category of so-called property taxes and, alongside land tax, represents one of the most important sources of revenue for municipalities.

A key concept in business taxation is the local rate (Gewerbesteuerzahl ). This is a factor that increases the taxable amount . Each municipality sets this rate individually, resulting in differences between regions. The law stipulates a lower limit of 200 percent , but there is no upper limit. The local business tax rate typically ranges between 200 and 450 percent, though in exceptional cases it can reach up to 900 percent.

The level of the local business tax rate determines how attractive a municipality is to businesses. Higher rates mean a higher tax burden , which is why municipalities sometimes compete to offer the lowest rates. At the same time, municipalities with higher rates sometimes offer better infrastructure, which they finance through this revenue stream from businesses. If companies wish to take advantage of a lower local business tax rate, they can relocate their headquarters .

The tax assessment rate for trade tax is 3.5 percent (§ 11 para. 2 GewStG). To calculate the tax assessment amount, the tax assessment rate is applied to the business's trade income. The tax burden is then determined by applying the local multiplier to the tax assessment amount. The tax assessment amount is determined by the tax office, and the municipality then applies its local multiplier to it. The local multiplier is set by the municipality at its annual budget meeting.

The German Trade Tax Act (GewStG) provides tax-free allowances for partnerships and associations. This allowance is deducted when calculating the taxable business income before the tax rate is applied. The allowance thus reduces the portion of the business's income that is actually taxed by the municipalities. This also means that small partnerships whose business profits do not exceed the allowance do not have to pay trade tax.

For individuals, sole proprietorships, and partnerships, the allowance is €24,500 (§ 11 para. 1 no. 1 GewStG) . For associations, the allowance is €5,000. No allowance is provided for corporations. Furthermore, forestry and agricultural businesses are exempt from trade tax.

Trade tax is only payable by businesses, not by freelancers. Freelancers are not classified as engaging in commercial activity, therefore trade tax does not apply to them. Businesses, however, have the option of deducting trade tax from their income tax liability. This is intended to ensure that business owners are not disadvantaged compared to freelancers. From the 2020 tax year onwards, the deduction is capped at four times the trade tax assessment amount .


The example illustrates how trade tax is taken into account in income tax calculations:

After

€700 trade tax assessment amount * 4.0 = €2,800 credit against income tax. €3,150 tax - €2,800 credit against income tax = €350 net burden after credit.

In practice, it should be noted that a credit can never result in a refund. The assessed business only benefits if the tax liability is sufficiently high.

As soon as the business income exceeds the tax-free allowance, the business owner must pay the tax. The tax is calculated at the beginning of the fiscal year based on a profit forecast. The actual tax liability is calculated only at the end of the year as part of the mandatory trade tax return.