3 Min.

Insolvency Allowance: What is it and how is it taxed?

There are so many companies that we know like the back of our hand from seeing commercials, advertisements, etc in our everyday lives; therefore, it can be surprising when you suddenly hear about what you thought was a successful company filing bankruptcy. There are many German residents who are even still affected by Air Berlin’s insolvency.

The most difficult part of bankruptcy falls on the company’s employees that are suddenly without work, hoping that they will be granted with the so-called insolvency allowance until they can find a fresh career. In this article, we will explain what insolvency allowance (Insolvenzgeld) is and how it is taxed.

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What is insolvency allowance?

If a company files for bankruptcy and can no longer pay their employees (or can only make partial payments), the employment agency (Agentur für Arbeit) may step in and grant the employees insolvency allowance as well as cover their statutory health, pension, and long-term care insurances.

Insolvency allowance can be received for up to three months. Keep in mind that not everyone is qualified to receive this allowance; therefore, as soon as you receive information about your employer filing bankruptcy, you should contact the employment agency to find out your next steps.

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Insolvency allowance in your tax return

Insolvency allowance is generally tax-free, but is still affected from the so-called Progressionsvorbehalt. This term explains the process of the allowance amount being added to your total income, which is used to calculate your tax rate (Steuersatz). Once this amount is determined, the tax rate is applied to your taxable income without the benefits, thus deciding the amount of tax you owe.

This can, unfortunately, lead to higher taxes due to the additional income being added to your total income and pushing you into the next higher tax rate (also known as tax bracket).

Are tax returns mandatory after receiving insolvency allowance?

Those who received insolvency allowance for a certain period of time are automatically obliged to file a tax return in the following year.

What else leads to a mandatory tax return?

  • If the tax office entered a wage tax allowance (Lohnsteuerfreibetrag). However, you are not obliged to file if your total income doesn’t exceed 10,800 euros per calendar year and haven’t recorded any additional income.
  • You received income subject to the Progressionsvorbehalt that exceeded 410 euros
  • If separated spouses do not split the education, disability, or suvivor’s allowances 50/50
  • If you received income from several different employers
  • You received severance pay (Abfindung) and took advantage of the One-Fifth Method (Fünftelregelung) for taxation
  • You received capital income subject to final withholding tax (Abgeltungsteuer) but have not yet paid the withholding tax
  • You received vacation pay from the construction industry’s wage compensation fund
  • Married couples in tax classes IV/IV with factorization
  • Your marriage was dissolved by death or divorce during the tax assessment period
  • Your minimum provisional expenses lump sum (Mindestvorsorgepauschale) is higher than your provisional expenses
  • You received additional income exceeding 410 euros

Find out whether you’re required to file – try out wundertax today!