How To: Do Your Taxes

Here, we will give you a brief overview over the most important aspects of the US tax code and the inter-country double taxation agreement between Germany and the US, aimed at avoiding double taxation. Since the inter-country law of both countries is difficult to explain in its entirety, we will focus on some basic facts. However, we recommend to always consult a tax advisor in Germany and/or the US.

The currently valid agreement from 1980 is meant to avoid double taxation for inheritance and gifts, in case the inheritance or gift is subject to taxation in both Germany and the US. It has been modified with the protocol of December 14, 1998.

US tax law The US raises an inheritance tax. This tax only looks at the testator or donor.

In case the testator of donor is a US citizen or has his or her domicile on the US, all possessions worldwide are subject to US taxation. In case he is not living in the US or not a US citizen, only certain possessions inside the US - e.g. real estate, business premises - are subject to taxation in the US. The place of residence of the heirs is of no consequence. The moment the inheritance is transferred to the heirs, the inheritance is exempt from taxation up to a certain amount - $675,000 in 2001. The same applies to gifts up to that year. The tax rate for anything above that is quite high due to the special exemption regulations - 37%.

An inheritance of $3 million and up is taxed with 55% up to 2001. In addition, there may be state taxes or taxes raised by other institutions that are usually fully allowable against the federal tax until 2004. Nothing else applies to death-related taxes in the so-called non-sponge-states. In case states are still raising inheritance taxes, they can only be deducted from the tax code of the federal tax.

If you leave your inheritance to your spouse, there is a marriage allowance that makes the inheritance exempt from taxation. However, this does not apply if the inheritance is left to a spouse who is not a US citizen. The Economic Growth and Tax Reconciliation Relief Act of 2001 the tax exemption limits were raised and the tax rates lowered. The former highest tax rate of 55% will be lowered as follows:

2002: 50 %; 2003: 49 %; 2004: 48 %; 2005: 47 %; 2006: 46 %; from 2007: 45 %.

By 2010, the US will not raise any inheritance anymore. Afterwards, the law valid in 2001 will become effective again, provided there isn't another law with different regulations. The gift tax will remain in 2010 and afterwards.

German tax law Unlike the US, Germany has an inheritance tax and a gift tax. This means that the inheritance, the personal allowances and the tax rates depend on the relations between the testator and the heirs or the donor and the donee. So unlimited tax liability is given if either the testator or the heir is living in Germany. The same applies to gifts. It should also be mentioned here that even if you move away from Germany you will still be treated as someone who has his place of residence in Germany for five more years, even if you really have your place of residence abroad. The tax debtor is always the heir or donee.

Agreement regulations The main purpose of the agreement is to avoid double taxation, however, the current agreement goes one step further out of necessity. It tries to align the different tax regulations of the treaty countries. The agreement above all applies to testators or donors who are living either in the US or in Germany. In case a person living in one of the treaty countries has capital in the other treaty country, this may only be taxed in the other country according to articles 5 through 8 of the double taxation agreement. A resulting double taxation will be removed both in Germany and the US as the respective country of residence by deducting the other country's tax from the taxes of the country of residence (article 11 of the double taxation agreement).

In deviation from this basic regulation the US reserve the right to tax their citizens even if they are residing in Germany. The same applies to people with dual citizenship, provided they are also US citizens. In a similar way, German taxation of the heir or donee that depends on his or her place of residence is being maintained (Article 4, paragraph 1 and 3; Article 11, paragraph 1 of the double taxation agreement). A resulting double taxation is being removed by deducting the taxes from those of the other treaty country (Article 11, paragraph 2 b, (US taxation), and Article 11, paragraph 3 b (German taxation) of the double taxation agreement).

We refer to Article 10 of the double taxation agreement for the concessions made for limited and unlimited tax liability - e.g. the regulation for spouses if the inheritance goes to a surviving spouse who is not a US citizen, introduced by the protocol.

Find more interesting information on US tax law on http://www.zschieschank.de or on the homepage of the US internal revenue service www.irs.gov.

There are two important documents of the IRS homepage, both for foreigners in the US and for Americans in Germany. They are:

"Tax Guide for US Citizens and Resident Aliens Abroad" http://www.irs.gov/pub/irs-pdf/p54.pdf

"US Tax Guide for Aliens" http://www.irs.gov/pub/irs-pdf/p519.pdf