For limited taxpayers, the tax is calculated differently than for unlimited taxpayers. The calculation of the tax is regulated in § 50a EStG. Taxation is basically a gross taxation. In addition, these taxpayers are not granted a basic allowance and a uniform tax rate of 15 % applies. This is viewed critically in European law. We will explain why.

1st Scheme for Limited Taxable Persons

1.1. Tax deduction at source for limited taxpayers

§ 50a EStG regulates the taxation of limited taxpayers. Limited taxpayers are persons who have neither their place of residence nor their habitual residence in Germany. They are taxed in Germany only with their domestic income.

The regulation in § 50a paragraph 1, paragraph 5 EStG is intended to ensure taxation for limited taxpayers. Accordingly, debtors of certain remuneration are obliged to deduct taxes on payment and pay them to the tax office. The justification for this tax deduction at the source of the income lies in the fact that the taxpayer does not have permanent emoluments in the country in the cases listed in the law. The standard stands alongside the general standards on tax deduction. The regulations on the wage tax deduction procedure (§§ 38 ff EStG), on the capital gains tax (§§ 43 ff EStG) and on the construction deduction tax (§§ 48 ff EStG) therefore also apply to limited taxpayers.

§ 50a (1) EStG determines the cases in which the tax deduction at source occurs. The actual procedure is regulated in § 50a paragraph 5 EStG. Finally, § 50a paragraph 6 and 7 EStG provide for relief for certain cases. The Federal Central Tax Office (BZSt) is uniformly responsible for the deduction procedure.

Alternative considerations, such as a continuous assessment procedure or a reporting obligation of the remuneration debtor with regard to the remuneration, its reason and its payees were rejected in the legislative procedure on the Annual Tax Act (JStG) 2009. Nevertheless, there were also changes in the tax deduction at source as a result of the JStG 2009. Accordingly, the tax deduction at the source is eliminated in cases where Germany does not have withholding tax law under the Double Taxation Agreement (DTA) anyway and the tax deduction requires a subsequent refund procedure.

1.2. Gross taxation of the limited taxpayers

Originally § 50a EStG provided that all limited taxpayers could not take into account advertising costs and operating expenses for tax purposes. However, this scheme was amended by the JStG 2009. Now, according to § 50a paragraph 2 EStG, it remains in principle the case that the tax deduction refers to the respective gross income including all fees paid without deduction of advertising costs or operating expenses, special expenses and taxes.

However, this is modified in § 50a paragraph 3 EStG for remuneration creditors of the EU/EEA states in the sense of a (partial) net tax. In personal terms, this possibility is limited to nationals of an EU/EEA Member State who are resident or habitually resident in the territory of one of these states, i.e. resident there. Includes corporations, associations of persons or assets within the meaning of § 32 (4) KStG with registered office or management in one of those states.

From a factual point of view, the possibility is limited to revenue in the cases of § 50a (1) no. 1, 2, 4 EStG. However, according to the law, no. 3 is covered. This circumvents the tax administration in the sense of an interpretation compliant with EU law and therefore also includes income within the meaning of § 50a (1) no. 3 EStG. In addition, operating expenses and advertising costs must be directly linked to the revenue concerned. In addition, they must have proven the expenditure to the tax office or the BZSt in a form that can be verified for this.

In return for this advantage, however, the limited taxpayer must accept a higher tax rate, § 50a (3) sentence 4 EStG.

1.3. No basic allowance for limited taxpayers

§ 50a EStG denies limited taxpayers the basic allowance. The background to the basic allowance is thus a social objective. It is intended to guarantee the taxpayer a minimum subsistence level free of any income taxation. In 2024, the basic allowance is EUR 11 604. This basic allowance is regulated in § 32a EStG. Only from the first euro, which exceeds this basic allowance, does taxation intervene. Then the income is subject to a progressive tariff. However, these rules apply only to unlimited taxpayers. Limited taxpayers, on the other hand, are subject to a different tax rate.

2nd ECJ on limited taxable persons

2.1.

It is not surprising that this regulation was already the subject of a judgment of the European Court of Justice. Foreigners who receive income in Germany are treated differently than taxpayers who live in Germany. This is also the case in the original case before the Finanzgericht Berlin. It was about income that the plaintiff earned in Germany as a non-resident. The defendant, the Neukölln-Nord tax office, set the income tax for the plaintiff in accordance with the provisions of § 50a EStG in the 1996 version. Thus, the tax deduction amounted to 25 % of the revenue. The deduction of advertising costs or operating expenses is not permitted, unless the expenses are higher than half of the income. The tax deduction is then a definitive taxation.

However, certain persons could apply for treatment as an unlimited income taxpayer. The legal consequence is that taxation after an income tax return in an assessment procedure is subsequently aligned with that of an unlimited taxpayer. However, the requirement was that the income in the calendar year is subject to at least 90% of the German income tax or that the income not subject to the German income tax in the calendar year is at most DM 12 000.

The plaintiff applied to the defendant for taxation as an unlimited taxpayer. However, the defendant refused the assessment for income tax. The additional income indicated by the plaintiff exceeded the upper limit of DM 12 000. The applicant’s objection was also rejected. The plaintiff then brought an action. It argued that an unrestricted resident in a similar situation would not have to pay tax because of the basic allowance.

2.2 Effects for Limited Taxpayers

As a result of the German regulation, there can be severe disadvantages for foreign taxpayers compared to domestic taxpayers. In 1996, a single taxpayer with a residence abroad and net income equivalent to DM 12,001 and income in Germany of DM 100,000 gross or DM 50,001 net is subject to a definitive tax deduction of DM 25,000 plus the proportional solidarity surcharge. This corresponds – based on his net income in the Federal Republic – to an average tax rate of 49.99 %. This applies only to top earners. If the taxpayer had been resident in Germany and had been resident in Germany and had received the world income of DM 62 002 in Germany, the taxpayer would have had to pay only an income tax of DM 15 123 according to the basic table. Then the average income tax rate would have been only 24.4%. Thus, the income tax is only half.

Conversely, in many cases, there are also tariff advantages. These occur, for example, if the taxpayer has a high domestic income, but has low advertising costs or business expenses.

2.3 Question for a preliminary ruling

The Finanzgericht Berlin has therefore stayed the proceedings and submitted them to the Court for a preliminary ruling. In essence, the question is whether the freedom to provide services is contrary to national legislation such as that at issue in the main proceedings. According to the rule, the gross income of non-residents must be taxed without deduction of operating expenses. For residents, on the other hand, net income, after deduction of operating expenses, is subject to tax. Secondly, the income of non-residents is subject to definitive taxation at a uniform rate of 25 % by deduction. Resident income, on the other hand, is taxed with a basic allowance under a progressive tax rate.

2.4 Justification of the tax deduction itself

The deduction of the tax at source therefore justifies the fact that taxpayers do not have permanent emoluments in Germany in the cases mentioned in the law. Thus, the tax deduction at the source serves to secure the taxation right. It is an appropriate means of ensuring that the tax is collected efficiently. Only the selective selection of the persons liable for deduction within the limited taxpayers may be questionable in terms of equality.

2.5. Deduction of operating expenses of limited taxpayers

2.5.1. Initial scheme

Unlimited taxpayers can deduct from their income operating expenses and advertising costs. Limited taxpayers, on the other hand, cannot claim corresponding expenses. However, in both cases the expenditure in question is directly linked to the activity. Residents and non-residents are therefore in a comparable situation in this respect.

For this reason, there is a risk that national legislation refusing to deduct business expenses for non-residents when it comes to taxation will mainly affect nationals of other Member States. In doing so, they lead to indirect discrimination on grounds of nationality, which is fundamentally contrary to the freedom to provide services.

However, no concrete justification was put forward for this discrimination. The freedom to provide services therefore precludes such a restriction on the deductibility of operating expenses and advertising costs.

2.5.2. Current scheme

The compliance with EU law of the currently applicable regulation is also critical. In this respect, the obligation of proof is problematic. This applies in particular in the light of the fact that the deduction procedure is to be carried out by the remuneration debtor used for this purpose. However, the remuneration debtor should regularly be overwhelmed for various reasons. On the one hand, it must demand proof of the claimed expenses and additionally document them. On the other hand, they must meet the needs of the tax office not recognizable at the time of deduction in the event of a later inspection. Finally, it must also assess whether the declared expenses are those in the sense of a direct economic connection with the revenue. He only escapes this dilemma if he assumes part of the costs according to § 50a (2) sentence 2 EStG. Otherwise, he is at risk of being held liable.

According to the ECJ, it is only possible that the remuneration creditor at the deduction stage presents the notified expenses and their direct economic connection with the revenue in question in a reasonably substantiated manner.

2.6.Valuation of the tax rate for limited taxpayers

2.6.1. Uniform tax rate instead of progressive

Residents are subject to a progressive tax rate, while non-residents are subject to a uniform tax rate of 25% – now 15%. The assessment of the tax rate was criticised for the fact that there is no advantage to be compensated by a tax disadvantage. On the other hand, the application of the normal tax rate for unlimited taxpayers in individual cases can lead to the plaintiff escaping the progression of the German income tax rate, although his entire world income requires a higher income tax rate. The limited taxpayer is then preferred over an unlimited taxpayer. In the case of unlimited taxpayers, the world income should be included in the calculation of the tax rate. The total world income manifests higher economic performance. If the tax rate were to be established under the unlimited tax liability regime, the claimant would be favoured over unlimited taxable residents. For unlimited taxpayers, the tax rate is determined taking into account the world income, while for limited taxpayers it is determined only taking into account domestic income.

2.6.2. progression reservation

Under a double taxation agreement, the state of residence regularly has the right to tax. Accordingly, the taxation law is not in Germany. After the progression reservation, the country of residence includes the foreign income in the tax base for determining the tax rate. However, the state of residence takes into account the tax levied in Germany. To do this, he deducts a fraction of the domestic tax. This fraction corresponds to the ratio between income taxed in Germany and world income.

2.6.3. No higher income tax rate

With regard to the assessment of the tax rate, non-residents and residents are in a comparable situation. It therefore constitutes prohibited indirect discrimination to apply a higher income tax rate to non-residents than that applicable to residents and persons treated as such. It is therefore for the referring court to examine whether, in the present case, the tax rate of 25 %, now 15 %, applied to the applicant’s income is higher than that which would result from the application of the progressive tax rate. In order to compare similar situations, an amount equal to the basic allowance must be added to the net income of the person concerned in Germany. Currently, the entry bridging substitute is 14 %. By contrast, the uniform rate for taxable persons subject to a limited tax is 15 %. Consequently, only rare cases of discrimination are conceivable.

2.7. Exclusion of the basic allowance

The exclusion of the basic allowance when determining the tax burden for limited taxpayers is harmless under European law. In this respect, residents and non-residents are generally not in a comparable situation. The income earned by a non-resident on the territory of a State is usually only a part of his total income. The focus of his total income is regularly at his place of residence. The personal tax strength of the non-resident resulting from taking account of his overall income, his personal situation and marital status can be most easily assessed at the place where the centre of his personal interests and his property interests lies. This place is usually the place of habitual residence of the person concerned. The OECD Model Agreement also refers in principle to residence for the division of tax power in foreign relations.

In view of the objective differences between the situation of the residents and that of the non-residents, a Member State’s refusal to grant certain tax benefits to non-residents is not discriminatory. Such differences exist both in terms of source of income and in terms of personal tax strength, personal situation and marital status.

The purpose of the basic allowance is to protect the subsistence level of low-income taxpayers. It is legitimate to keep the basic allowance only to people who earn their taxable income essentially in the taxing state, i.e. usually nationals. Taking into account the personal circumstances of a taxable person is in principle the responsibility of the country of residence. Thus, the state of the source of income is in principle not responsible for this. Jurisdiction can only be contemplated if the State of residence is unable to comply with the tax liability due to a lack of sufficient income taxable there. In this case, neither of the two countries can otherwise take into account the actual capacity of the taxable person. Thus, in this case, the source state is responsible.