German Tax Knowledge · § 1 EStG
Unlimited Income Tax Liability in Germany
Individuals with a residence or habitual abode in Germany are generally subject to unlimited German income tax liability under § 1(1) EStG. German law also provides special rules and, importantly, an election: individuals without a German residence or habitual abode may apply to be treated as subject to unlimited tax liability under § 1(3) EStG if the statutory income thresholds are met.
§ 1(1) EStG
Residence or Habitual Abode Generally Creates Unlimited Tax Liability
Natural persons with a residence or habitual abode in Germany are subject to unlimited German income tax liability under § 1(1) EStG. Nationality is generally irrelevant for this purpose.
Whether a residence or habitual abode exists is determined under the separate tax definitions in §§ 8 and 9 AO. Only once this personal connecting factor has been established can the scope of German income tax liability be determined.
Unlimited tax liability must therefore be distinguished from treaty residence. A tax treaty may limit Germany’s taxing rights, but it does not automatically eliminate the domestic-law status under § 1(1) EStG.
Three Routes
§ 1 EStG Provides Different Forms of Unlimited Tax Liability
§ 1(1) EStG
The standard case: a residence or habitual abode in Germany. Unlimited tax liability arises by operation of law.
§ 1(2) EStG
A special rule for certain German nationals without a German residence or habitual abode who are employed by a German public-law entity and receive remuneration from a German public fund.
§ 1(3) EStG
On application, individuals without a German residence or habitual abode may be treated as subject to unlimited German income tax liability with respect to their German-source income if the statutory income thresholds are met.
Worldwide Income Principle
§ 1(1) EStG Generally Covers Worldwide Income
Where genuine unlimited tax liability exists under § 1(1) EStG, both German and foreign income are generally included in the German tax base under the worldwide income principle.
This does not mean that foreign income is always fully taxed in Germany. Tax treaties, foreign tax credits, exemptions and specific domestic provisions may restrict Germany’s taxing rights or relieve double taxation.
- include German and foreign income in principle
- classify income under German tax law
- recalculate foreign income under German rules
- then apply treaty taxing rights
- distinguish exemption from foreign tax credit treatment
- consider progression rules separately
Beginning and End
Unlimited Tax Liability Can Begin or End During the Year
Moving to Germany
If a residence or habitual abode is established in Germany during the year, unlimited tax liability generally begins at that point. Income from other periods may still be relevant for the German assessment or tax rate depending on the facts.
Leaving Germany
Once the final German residence and habitual abode are terminated, unlimited tax liability under § 1(1) EStG generally ends. Certain German-source income may remain subject to limited tax liability afterwards.
Election · § 1(3) EStG
Individuals Without a German Residence May Apply for Treatment as Unlimited Taxpayers
§ 1(3) EStG is particularly important for individuals living abroad who derive substantial German-source income. The provision creates an election: a person with neither a residence nor a habitual abode in Germany may, under certain conditions, be treated as subject to unlimited German income tax liability with respect to German-source income.
No Residence in Germany
Because there is no residence or habitual abode in Germany, the individual is initially generally subject to limited tax liability under § 1(4) EStG.
German-Source Income Under § 49 EStG
The election requires German-source income within the meaning of § 49 EStG. § 1(3) EStG does not create German tax liability for arbitrary foreign-source income.
An Application Is Required
The treatment does not arise automatically. The election must be made with the German tax authorities. Whether it is beneficial depends on the taxpayer’s personal circumstances and the tax advantages that become available.
Income Thresholds
90% Test or Absolute Threshold
The election is available only if the taxpayer is sufficiently economically connected to Germany. § 1(3) sentence 2 EStG provides two alternative tests.
At Least 90% Subject to German Tax
At least 90% of the relevant income for the calendar year must be subject to German income tax. The relevant income must be determined under German tax law.
Foreign Income Below the Basic Allowance
Alternatively, the income not subject to German income tax must not exceed the applicable basic tax-free allowance. The amount may be reduced depending on the circumstances in the taxpayer’s country of residence.
Evidence & Calculation
Foreign Income Must Be Determined Under German Tax Rules
German Tax Law
For the income thresholds, income is generally determined under German tax accounting and income-calculation rules. Foreign tax return figures therefore cannot necessarily be used without adjustment.
Foreign Tax Authority Certificate
The amount of income not subject to German income tax generally has to be supported by a certificate from the competent foreign tax authority.
Treaty-Limited Income
German-source income for which Germany’s taxing right is limited by a treaty may, for purposes of § 1(3) EStG, have to be treated as income not subject to German income tax.
Why the Election Matters
The Election Can Open Access to Personal Tax Benefits
Limited tax liability is significantly more restrictive with respect to personal deductions and allowances. Treatment under § 1(3) EStG can therefore be attractive where the overwhelming majority of the taxpayer’s income is taxable in Germany.
In EU/EEA cases, the family-related rules of § 1a EStG may also become relevant. Whether joint assessment is available must be tested separately under those requirements.
- basic allowance and personal deductions may become relevant
- review special expenses and other benefits under the applicable rules
- family-related benefits may depend on § 1a EStG
- joint assessment does not arise automatically from § 1(3)
- the election should be made only if the overall result is favorable
BFH Case Law
Important Decisions on Deemed Unlimited Tax Liability
The BFH case law addresses in particular how the election is exercised and how the income thresholds are calculated.
Income Thresholds Are Determined Under German Law
The BFH confirmed that the income relevant for § 1(3) EStG must be determined under German tax law. Foreign income may therefore have to be reclassified and recalculated for purposes of the 90% and absolute-threshold tests.
Practical significance: A foreign tax return is not automatically the correct basis for determining eligibility under § 1(3) EStG.
BFH decisionSpouses and Joint Assessment
Where § 1(3) and § 1a EStG interact, the relevant income thresholds for spouses must be analyzed under the principles developed by the BFH. The Court rejected part of the earlier administrative approach.
Practical significance: In cross-border spouse cases, eligibility should not be tested in isolation for only one spouse.
BFH decisionThe Election Must Actually Be Made
Treatment under § 1(3) EStG does not arise automatically. BFH case law expressly treats the provision as an application-based election that must be exercised with the German tax authorities.
Practical significance: A tax assessment that happens to produce a similar numerical result does not necessarily replace the formal election.
§ 1a EStG Does Not Create Unlimited Equivalence
The BFH emphasizes that the additional deemed treatment under § 1a EStG does not mean that a spouse living abroad is treated exactly like an actually unlimited taxpayer for every German tax benefit.
Practical significance: §§ 1(3) and 1a EStG provide targeted advantages but do not create complete equality with a spouse actually resident in Germany in all respects.
BFH decisionFurther Reading
Related Topics
Frequently Asked Questions
Unlimited Tax Liability and § 1(3) EStG
When am I subject to unlimited German income tax liability?
Can I be treated as subject to unlimited tax liability without living in Germany?
What does the 90% test mean?
Do I have to calculate foreign income under German tax law?
Is the § 1(3) election always beneficial?
Can I file jointly with my spouse if I use § 1(3) EStG?
German Tax Advice
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