The Credit Under Sec. 35 EStG: Why You Often Pay Less Than Expected
Many sole traders take fright at their first trade tax assessment — and overlook that a large part of that amount comes back through the income tax return. Sec. 35 EStG is perhaps the most underrated provision for the self-employed: it keeps trade tax arithmetically neutral up to a multiplier of 400 per cent. This article explains how the credit works, where its limits are and when money is lost for good.
The basic idea — and a worked example
Until 2007 trade tax was deductible as a business expense. The 2008 business tax reform abolished that deduction (sec. 4 para. 5b EStG) and raised the credit against income tax in return. Today the rule is: income tax is reduced by four times the assessed trade tax base amount. Because the trade tax itself is the product of base amount and multiplier, the two cancel out exactly at a multiplier of 400 per cent.
A sole trader earns €80,000 of profit. After the €24,500 allowance, €55,500 of base remains and the base amount is €1,942.50. At a multiplier of 400 per cent she pays €7,770 of trade tax. The credit is 4 × 1,942.50 = €7,770 — her income tax falls by exactly the same amount. On balance the trade tax has cost her nothing; the money has simply gone to the municipality instead of the tax office. That effect is what the Trade Tax Calculator makes visible as the effective burden.
The three caps
The credit is not unlimited. Three ceilings apply at once and the lowest determines the outcome. First the statutory factor: never more than four times the base amount. Second the trade tax actually payable — if the multiplier is below 400 per cent, only what was really paid is credited. Third the maximum relief amount: at most the income tax attributable to the business income is credited. Anyone whose main income besides the business is employment income cannot offset trade tax against wage tax.
When the multiplier exceeds 400 per cent
This is the most common case in practice, since the average across the larger municipalities is 438 per cent. Our example trader pays €9,518.25 of trade tax at a multiplier of 490 per cent, but still only €7,770 is credited. That leaves €1,748.25 of genuine extra burden — roughly 2.2 per cent of her profit. At a multiplier of 537 per cent it would be €2,661.23. These amounts are the price of the location, and they cannot be recovered.
When your income tax is too low
The second typical loss case is the maximum relief amount. It bites when your income tax is smaller than the possible credit — after a loss carry-forward, with high special expenses, on joint assessment with a partner who has no income of their own, or in a year with extraordinary expenses. The excess portion then simply lapses. An excess credit can be carried neither back to the previous year nor forward to later years; the Federal Fiscal Court has confirmed this in settled case law.
What applies to partnerships
For a partnership the base amount is first assessed for the partnership and then allocated to the partners — in principle according to the general profit-sharing ratio, disregarding preferential profit shares. Each partner credits their share against their own income tax, each with their own maximum relief amount. The result is that a partner with substantial other income can use their share in full while part of it lapses for another. The trade tax actually paid is likewise assessed separately and uniformly.
No effect for corporations
There is no credit for a GmbH, UG or AG. Sec. 35 EStG concerns income tax only, and corporations pay corporation tax. For them trade tax is a definitive burden in full which, together with 15 per cent corporation tax and the solidarity surcharge, produces an overall burden of around 30 per cent of profit at a multiplier of 400 per cent. If you want to compare both legal forms, the Trade Tax Calculator puts them side by side with a single click on the legal form.
Conclusion
The credit under sec. 35 EStG makes trade tax largely neutral for sole traders and partnerships up to a multiplier of 400 per cent. Above that, and where income tax is too low, an excess arises that is lost for good. Anyone choosing a location or thinking about legal form should know this threshold. Everything set out here is non-binding orientation and does not replace tax advice in your individual case.