EVERYTHING YOU NEED TO KNOW TO ENTER THE GERMAN AND EUROPEAN MARKET
A GmbH or UG - since being a corporation - is a legal entity meaning that the holder of rights and obligations is not the individual shareholder, but the company itself. The corporation itself concludes contracts, holds assets and is liable for taxation. Due to that a distinction must be made between the taxation of the profits or trade earnings of the company and the taxation of the company’s payments to it’s shareholders in the form of profit distributions or remuneration of managing directors which we will explain in this article.
Taxation at the company level
Three types of taxes are decisive for the taxation of earnings at GmbH/UG-level which are corporation tax (Körperschaftssteuer), solidarity surcharge (Solidaritätszuschlag) and trade tax (Gewerbesteuer).
The profits of the company is subject to a uniform corporation tax rate of 15%. It applies irrespective of the appropriation of profits, i.e. irrespective of whether they are retained (accumulated) or distributed to the shareholders. In this respect, the corporation tax corresponds to income tax for natural persons. The profit must be determined by balance sheet comparison (double-entry accounting / balancing).
Furthermore, a GmbH or UG (just like any natural person) is liable for the solidarity surcharge. The rate is currently 5.5% of the corporation tax to be assessed.
Finally, the company is subject to trade tax. The basis of assessment for this tax is the trade earnings which, in simplified terms, depend on the profit, but which are adjusted on the basis of certain additions and reductions. For instance, one fourth of interest and of comparable financing shares which are included in rents, lease payments, leasing, licences and which can be deducted as operating expenses when determining profit, must be calculated back in when determining the tax assessment basis.
The trade tax rate differs from municipality to municipality as a result of the Municipal Right for Rate of Assessment (Kommunales Hebesatzrecht). On average, it amounts to approx. 12% to 13%.
All in all, the tax types mentioned above mean that a GmbH or UG’s income is subject to a total taxation of approximately 30%. Depending on the rate of assessment of the competent municipality, this figure may be slightly higher or slightly lower.
Taxation at a shareholder level
When looking at the taxation on shareholder level it must be distinguished between profits the shareholders receive from profit distributions of the corporation and profits the shareholders receive as managing directors of the company (in case they are).
Profit distribution payments made by a GmbH or UG to it’s shareholders are subject to income tax payable by the shareholders, as the profit distribution represents income from capital. A flat rate withholding tax rate (Abgeltungsteuer) applies under which distributions from shares in the company which are held in a shareholder’s personal assets are subject to a flat tax rate of 25% (those with a lower personal tax rate will have the option of assessment). If shares are held in working capital (for instance in the case of a GmbH & Co.KG), taxation follow the so-called partial income method (Teileinkünfteverfahren). The latter specifies that 60% of the distribution must be included in the tax assessment basis, so that only 40% is exempted from taxation compared to the 50% exempted to date.
If the shareholder is a corporation, for example a GmbH or UG, up to 95% of dividends are exempted from taxation as multiple taxation would otherwise occur. For that reason it is possible to structure a so called „Holding-Modell“ in which the shares in a corporation are held by another corporation to avoid an immediate taxation of profit distributions in the shareholder’s personal assets.
Salaries of managing directors
Salary payments to shareholders who are managing directors of a GmbH or UG are, as a matter of principle, recognized as operating expenses deducted from profit – just like payments made in other contractual relationships such as lease agreements or wages for other employees. Accordingly, the managing directors must pay taxes on such payments as they represent income from employment. They are subject to wage withholding tax.
Warning: As a result of the tax deductibility of salary payments in a GmbH, this type of asset transfer from the GmbH to the shareholder is, contrary to profit distributions, not subject to trade tax. The Financial Authority therefore qualifies some inappropriate salary payments, under certain preconditions, as so-called undisclosed profit distributions which means that they are not recognized as company operating expenses deductible before tax. The result is a correction of the company’s assessed income.
In addition to taxation on earnings of a corporation, VAT (Umsatzsteuer) must also be taken into consideration. Services rendered and goods disposed by a GmbH or UG in the context of it’s business activity are currently subject to a VAT rate of 19%. A reduced tax rate of 7% applies to the rendering of certain services and distribution of certain goods, such as the sale of food or books. Certain services and goods, in particular distributions within the Community and export distributions can be exempted from VAT.