profits from futures contracts | EUR 120,000

Losses on forward contracts | EUR 120,000

2022 to be taxed (EUR 120,000 – EUR 20,000) | EUR 100,000

Calculation of income tax: EUR 100,000 x 25% | EUR 25,000 ESt

Germany follows a multitude of rule of law principles in its tax collection, which are based on our constitution and are further developed by constant jurisprudence. On the one hand, the objective and on the other hand, the subjective net principle applies to taxation. The equal treatment requirement of the Basic Law is also an important basis for taxation in Germany. Therefore, it seems absurd that an income tax assessment could lead to an existential crisis. Germany is generally known as a high-tax country. But with a top tax rate of 42% and a maximum wealth tax rate of 45%, once the income has been assessed, there should still be enough financial room for manoeuvre to secure a living. After all, the subsistence minimum is also secured by the basic allowance under the Basic Law. Therefore, the claim that a private insolvency is possible through taxes in Germany sounds absurd at first glance. We show that this danger is nevertheless quite real.

1st Private Insolvency through Taxes – Initiation

In order to attune them to the topic presented here, we would like you to recall a common caricature. A caricature that clichédly reflects the crushing mentality of the tax offices. Namely, a man who kicks out of the tax office without clothes and only with a barrel open above and below around his naked body and in the process, excessively scares other taxpayers who want to go there.

Admittedly, the days when such cartoons were common have been a while ago. Nevertheless, the topic remains topical. But the fact that an income tax assessment can be so blatant that more taxes are incurred than net profit is a really shocking idea. Such conditions may be expected from socialist societies. But here in our country, where there is currently a party in government that considers service providers to be its voter clients, such an enormous taxation seems more than absurd. Even if such a taxation were possible, there would have to be legal possibilities so that no private insolvency threatens by taxes. Because such a situation can not be approved by the legislator, right?

And yet, German tax law can be quite inexorable under certain circumstances. We intend to illustrate this impressively in this post and promise you a scary thought.

Private bankruptcy through taxes – offsetting profits and losses

What this article is about is offsetting profits and losses in income tax law. This is referred to as horizontal loss offsetting when profits and losses incurred in different types of income are offset against each other and the total amount of income is determined in this way. However, this is a bit more complex than one might generally assume. Because the legislator has determined that certain losses are to be considered in isolation. These are capital asset losses. For example, one cannot offset losses in speculation with shares with profits from other types of income. Only within the income from capital assets can such losses be offset with profits. But exactly this set-off ban can lead in extreme cases to a private insolvency through taxes.

Private bankruptcy through taxes: no crediting of losses

That the different treatment of losses for taxpayers can be problematic, we want to set an example for you.

Ms. Ottilie Ohnsorg is an entrepreneur. With modest success she sells edible flowers for gastronomy. In 2021, she unexpectedly received an inheritance of EUR 100,000. Since she had heard that you should invest in your own retirement hedge, she has now turned to stock trading. But, oh frightened, she lost 50,000 euros in 2022. Fortunately, in the same investment period, she made a profit of EUR 50,000 with her business. And she's doing it now.

She hoped that the loss from her equity investment would result in her not having to pay taxes in 2022. However, due to the offsetting ban, she cannot offset the EUR 50,000 loss with her business profit. Therefore, she is horrified when she reads in her income tax notice the claim for more than EUR 11,000 in income tax.

Private bankruptcy through taxes: from theory to the real world

Do you remember the caricature drawn at the beginning, which corresponds to the image of many German citizens of German tax offices? Then guess how the tax office reacted to this judgment. Correct, with a revision at the Bundesfinanzhof (file mark: IX 18/23). However, we expect that the judges at the BFH will also recognize that there is over-taxation here and therefore the partial decree must be granted.

Other Ways Taxes Can Lead to Private Bankruptcy

5.1 Limitation of loss offsetting on forward contracts

As you can see, the previously described case of how taxes can occur despite high losses has long been known. However, instead of the legislator repealing these regulations, but at least mitigating them, he has even tightened them in recent times. With regard to the tax treatment of futures losses, the legislature devised a measure that should protect investors from the risks of such transactions. In addition, he reduced their attractiveness in a way that one can say that he could have banned them completely.

For example, in 2021 he introduced a change in § 20 paragraph 6 EStG. Accordingly, a loss offsetting for losses from futures contracts above EUR 10,000 was originally excluded (currently the limit is EUR 20,000). Both with other types of income and with those from other forms of capital income, with the exception of standstill premiums. For example, this rule prohibits allowing dividends from stock transactions to be offset against losses from futures transactions.

What this means in practice is known, for example, by traders of contracts for difference, so-called CFDs (abbreviation for contract for difference). For example, the FAZ reported a few months ago that the CFD Association estimates that about 25,000 CFD investors in Germany had made losses from their CFD transactions in 2022. If one assumes from the statistics of the CFD association that on average each of them has concluded a contract worth EUR 40,000 every day, one can guess how serious the impact of a loss limitation to EUR 20,000 is. If it is surprising that CFD trading has collapsed by a third in the same period.

5.2 Tax Effects of Limiting the Loss of Futures

A calculation example:

If one were to offset losses with profits from other types of income, for example losses from business operations with income from renting and leasing, no tax would have been incurred. Strictly speaking, however, neither a profit nor a loss is incurred in these pure futures contracts. Nevertheless, you have to pay EUR 25,000 in capital gains tax. The fact that a loss carry-forward of EUR 100,000 remains, which can be melted down annually with a maximum of EUR 20,000 in the future, is certainly no real consolation. On the contrary, many sufferers are more likely to perceive this as a mockery.

5.3. Crypto futures are also affected by loss restriction

The same or similar looks for other types of futures contracts. In addition, futures on cryptocurrencies also fall under this. Anyone who considers that the bankruptcy of the crypto trading exchange FTX last year caused further hardship among investors understands that the limitation of losses in futures can assume existential threats. In any case, the loss restriction according to § 20 (6) sentence 5 EStG is no protection for investors, however great the risk of loss in futures trading may be. However, it is certainly an opportunity, like the Treasury, despite losses tax revenue, even if the taxes plunge the taxpayers into private bankruptcy.

6th Private insolvency through taxes – Conclusion

The tightening of the loss restriction, which was decided in 2019 in the grand coalition under the auspices of the then Federal Ministry of Finance (at that time Olaf Scholz was Federal Finance Minister), is another newly created risk why one can slip into private insolvency due to excessive taxes. In our opinion, this is a violation of both the subjective and the objective net principle, but the current Federal Finance Minister does not seem to have a problem, at least not an urgent one. After all, the Treasury benefits greatly and unabashedly from this regulation.