Tax Reform 2000
Cutting Taxes, Strengthening Growth, Tackling Unemployment
Statement* by Hans Eichel, Federal Minister of Finance, during the presentation of the federal government's plans for the tax reform 2000 at the Bundespressekonferenz on December 21, 1999, in Berlin
Germany is moving ahead. We have decisively managed a fiscal policy turnaround. The paralyzing inaction in the final years of the Kohl government has come to an end. Without this turnaround, future fiscal policy would have been rendered incapacitated in the face of the tremendous challenges of the 21st century.

Our fiscal policy goals are well-defined:

· The key task is fiscal consolidation. We need to regain fiscal policy scope to become fit for the future.

· For us, austerity is not an end in itself. In view of the evolving global economic changes government cannot just sit still or rely solely on market forces.

· We want government to be an active agent in facing up to the challenges of mass unemployment, education and research, sustainable environmental protection and safeguarding a viable welfare state.

We will now implement our objectives step by step through the budgets for 1999 and for 2000, the financial plan for the period up to 2003 and the savings package as part of the future-oriented fiscal policy program whose volume will rise from just under DM 30 billion in 2000 to about DM 50 billion in 2003.

The current German Stability Program already shows up some success as a result of our policies. Deficits are declining in line with our forecasts, we are meeting all medium-term targets set out in the European Stability Pact. At the same time economic recovery is gaining momentum.

According to domestic and foreign independent economic experts this success is attributable to our fiscal policy and confirmed by current trends in key economic and fiscal data.

Austerity on the spending side will enable us to present a balanced budget in 2006 even when taking into account tangible tax cuts. This is a milestone in the fight against public indebtedness. Only then will we have stemmed the downward slide towards a government shackled by debt; only then will it be possible to cut the net debt burden.

But the spending side cannot be seen in isolation. We also want to establish medium-term predictability on the revenue side, i.e. taxes.

The progress already made on fiscal consolidation and the public commitment to continue with the resolute rehabilitation of government finances create additional fiscal policy scope that can be used to ease the tax burden for all taxpayers and to establish a fairer overall tax system.

The fiscal prerequisites for additional tax reform measures have been met. Therefore I should like to present to you today a new and enhanced fiscal policy road map for the coming years.

Tax Reform Package
Some components of the tax reform plans for the term of this parliament, for example in the field of income tax reform, taxation of families and ecological tax reform, have already been decided.

Besides fleshing out these components, I consider it indispensable to provide a reliable medium-term strategy and to set out today the fiscal policy strategy into the next parliamentary term. This will send an important message both to investors and employees for the favorable development of growth and employment in Germany while at the same time enhancing predictability.

I will therefore present today one of the biggest and most far-reaching tax reform packages in the history of the Federal Republic of Germany. We aim to cut taxes by by more than DM 70 billion by the year 2005 compared to 1998, including reform measures already implemented such as the Tax Relief Law 1999/2000/2002, the Law on Family Relief and the 1999 Tax Adjustment Law.

Elements of the Tax Reform Package

· As of 2001 the corporate tax burden for incorporated companies will be cut to 25 %. Comparable conditions will be created for unincorporated companies. This will afford companies a net relief of around DM 8 billion.

The 2002 stage of the Tax Relief Law 1999/2000/2002 will be advanced by one year, i.e. to 2001. The basic rate of tax will thus be cut from 25.9 % in 1998 to 23.9 % in 1999, to 22.9 % in 2000 and 19.9 % in 2001 . Otherwise we would have achieved that level only in 2002. The top tax rate will also gradually fall from 53 % in 1998 to 48.5 % as early as 2001 . The basic personal allowance will be increased from DM 12.300 to DM 14,000 over the same period of time. Tax rates will thus be lowered for the entire range of incomes.

By bringing forward income tax relief, the tax burden on employees and employers as well as enterprises will be cut by over DM 27 billion in 2001.

We can finance this without jeopardizing fiscal consolidation, the medium-term deficit target of the European Stability and Growth Pact and our goal of a balanced budget in 2006.

We decided to bring forward the 2002 stage because additional fiscal policy scope has now emerged in budget planning. We want to return the money to the taxpayer immediately without jeopardizing the deficit target and thus invest in sustainable growth.

Advancing the tax relief will also provide an additional strong impetus to the economy. We will thus strengthen and prolong the favorable conditions for a sustainable recovery. We will follow a path of higher growth creating new jobs. These two factors combined will result in lower spending on wage replacement benefits and create more revenue for federal, Laender and local governments.

Building on these solid foundations we want to pursue with determination this tax cutting strategy while not impairing the efforts to bring down deficits.

· On 1 January 2003 the basic rate of tax is to be lowered to 17 % while the top rate is to be cut to 47 %. The basic personal allowance will be raised to DM 14,500 .

· On 1 January 2005 the entry rate of tax is to be lowered to 15 % while the top rate is to be cut to 45 %. The basic personal allowance will be raised to DM 15,000 . In addition, in 2005 there will be a general lowering of tax rates for the entire range of incomes as in 2001.

The 2003 stage will result in a further net relief of approx. DM 13 billion and the 2005 stage of a further DM 21 billion.

Between 2001 and 2005 the overall relief will amount to DM 42 billion. DM 22 billion will accrue to private households, DM 11 billion to SMEs and the rest to large enterprises which, however, will suffer an additional burden although always only on a temporary basis resulting from the tax measures already in force before 2000.

A single person on average income will pay DM 2,400 less between 1998 and 2005, a family with two children will even pay DM 4,050 less. DM 1,800 and 1,900 respectively are attributable to the tax reform 2000. At the same time, the income for families exempt from wages and income tax is raised from DM 33,600 to DM 40,300.

Lower Basic Rate of Tax
The basic rate of tax will be cut from 26 % to 15 % within a time span of a few years. This will benefit in particular small and medium incomes but also many small unincorporated companies. It will also foster private consumption which, together with investment, is a major element of economic demand.

It should not be ignored, in this context, that we are simultaneously reducing non-wage labor costs. The federal government has stopped the rise in social security contributions. Additional revenue from the ecological tax reform is being used to reduce pension contributions.

All this helps to improve the supply-side framework for investment investing in Germany is thus becoming even more attractive.

Not only does this stimulate growth and create new jobs, but it also has a significant social policy impact: These reforms will put more money into the pockets of low-income earners.

One other aspect: It will become far more attractive for people on social benefits to take up a job. Our policy is not a policy of social exclusion nor is it aimed simply at financing unemployment. It is our policy to encourage people to take their lives into their own hands.

Lowering the Top Tax Rate
We also want to cut the top rate to 45 % by 2005 . This is an appropriate level by international standards. Everybody is to pay less tax high-income earners as well. But in future it will be more difficult for high-income earners to avoid paying taxes by resorting to tax avoidance schemes. Basing the system once again on the ability to pay will result not only in tax relief but also in greater transparency and equity in the tax system.

I should like emphasize this last aspect in particular looking to some of the critics. The best way to achieve a more equitable tax system is a uniform and effective recording of all income without any special regimes. We have already achieved some progress towards this goal. Further steps must and will be taken, especially as regards the taxation of interest income.

Corporate Tax Reform
With the Tax Relief Act and the reform of family benefits where the next step will be implemented in 2002 with due regard to the decision by the Federal Constitutional Court we have achieved tangible improvements for employees and families. The corporate tax reform complements and rounds off this approach.

A tangible reduction of the tax burden on company profits will render German enterprises much better equipped to compete on international markets, promote equity capital formation in the economy, create an attractive environment for domestic and foreign investors and will, above all, have a lasting positive impact on the labor market.

Details of the Corporate Tax Reform

· The complex and evasion-prone full imputation system will be replaced by the far simpler system of taxing half of the distributed profits , a system that is also suited for cross border investment.

· As of 1 January 2001 retained and disbursed corporate profits will be taxed at a standard, definitive rate of 25 %. Retained earnings are thus treated more favorably than disbursed profits. This is intended to create an incentive for investment and job creation within enterprises.

· In future, only half of the dividends will be included in the shareholder's personal income tax base . Corporation tax and the new system of taxing half of dividend income taken together will result in a tax burden which is roughly in line with the shareholder's personal income tax liability on the full amount.

· The lower tax burden on retained earnings and the resulting improvement in the corporate equity base will lead to higher share prices. This will also benefit small shareholders. Moreover, the half-income system will also double the effect of the savers' allowance . As a consequence small shareholders enjoy another specific advantage: If the dividend payout amounts to DM 6,000 the tax is zero. Since only half of the dividend income is taxed it is covered by the savers' allowance of DM 3,000. The allowance is doubled for married shareholders. They may receive dividend income of DM 12,000 without being liable to tax. With a dividend yield of 2 % - a yield not often achieved this corresponds to shareholdings of approximately DM 600,000.

· For unincorporated companies in Germany around 80 % of all companies to benefit from the reform they may opt to be taxed as incorporated companies . They need simply to apply to the local tax office. Professionals and farmers may also opt for this. If they make use of the option, however, they will be fully liable to trade tax.

· When exercising this option, a managing partner's salary may be deducted as operating expenses. In this way the trade tax liability may be reduced or fully avoided. The salary is then subject to the individual tax rate. As with other employees, the standard deduction for employees may be deducted from the tax base. Tax-favored direct insurance schemes or company pension reserves are also deductible.

· Unincorporated companies not exercising this option may continue to deduct trade tax as operating expenses and in future part of the trade tax may in addition be credited in a standardized form against the income tax liability. With an average multiplier in assessing trade tax, the trade tax burden is fully offset at the expense of income tax.

· Income tax is reduced by double the basic trade tax amount. This implies that trade tax at a fictitious multiplier of 200 per cent can be fully deducted from assessed income tax. Since the deduction of operating expenses is continued in full a taxpayer may deduct the trade tax liability in full if the multiplier is 400 per cent and the marginal tax rate 50 per cent. Locations with a low multiplier applied in assessing trade tax i.e. below 400 percent will in future be particularly interesting for companies because trade tax is almost fully refunded. Less developed regions, especially in eastern Germany, with below average multipliers will thus become particularly attractive for setting up business.

· Unincorporated companies with low profits paying no trade tax will benefit in any case from the lower basic rate of tax and the increased basic personal allowance.

In 2001 a married sole proprietor with profits of DM 100,000 will pay DM 2,650 (11 per cent of his current tax liability) or DM 4,400 (18 per cent) less depending on whether he opts for taxation as an incorporated or unincorporated company.

For incorporated companies the corporation tax rate on retained earnings falls from 45 % in 1998 to 25 %. As of 2001 this will result in tax relief of between 5.7 % and 21.7 % depending on the company's disbursement strategy.

Economic Impact
The medium-term fiscal policy strategy presented here, the reduction of tax rates and the corporate tax reform increase employees' purchasing power and companies' investment capacities. This will help to create jobs.

Let me stress once again: It is our goal to improve the supply-side conditions not just for capital but especially for labor.

But our tax policy is not one-sided. It also fosters domestic demand in the economy.

Over the medium-term between 1998 and 2005 we will grant tax relief of more than DM 70 billion to taxpayers. This is the largest tax cut in the history of the Federal Republic of Germany. We therefore expect a particularly strong impact on economic activity because lower-income groups with a comparatively high rate of consumption will benefit most. Private households will receive tax cuts of around DM 54 billion for the overall period from 1998 to 2005. At the same time, tax relief for companies and the favorable tax treatment of retained earnings will lead to more investment, more growth and more jobs.

The early announcement of the tax cuts will permit consumers and investors to adjust to the development in disposable incomes and the tax environment and to shape their economic decision making accordingly.

This will strengthen the credibility and predictability of fiscal policy. It will create a reliable and stable policy framework to guide investors' expectations and domestic and foreign markets. This psychological effect of a reliable fiscal policy will brighten the growth prospects for the German economy and will show its effects already in the short term.

Tax Reform and Fiscal Consolidation Go Hand in Hand
It is the trademark of our government: Tax cuts and sound budgetary management are closely linked. Let me stress again that we stick to our goal of a balanced budget in 2006.

With the mountain of debt inherited from the previous government and, even more, when looking to future generations, the seemingly easy way of financing tax cuts through higher borrowing is in truth a reckless and nonviable course. High deficits would endanger growth since investors would expect higher interest rates and higher taxes in the longer term. The hoped for impact on growth and employment would not materialize. Only the debt would grow.

Germany must not lag behind the general fiscal consolidation efforts and the tax reform strategies in Europe. Experience in other countries clearly shows that good progress towards deficit reduction and well targeted tax reforms are vital prerequisites for sustainable growth and job creation.

Summary:

In the field of tax policy we will do what is necessary and what is soundly calculated nothing more, nothing less.

Our tax policy

· is socially balanced, every taxpayer benefits from the tax relief;
· is soundly financed;

· promotes growth and employment while strengthening domestic demand and supply-side factors; and

· creates a credible and reliable framework with clearly defined stages up to 2005.

The federal government's new tax policy strategy is characterized by three pillars: we are cutting taxes, we are strengthening growth and we are fighting unemployment.

*format altered by the embassy

Advanced Search    Help

Statements & Speeches

Subscribe Here You can also read the current issues here.

Printer-Friendly Page