Taxes in 2020 – How does short-time work compensation affect them?

The year 2020 and the COVID-19 crisis have so far brought about many changes and restrictions. Entrepreneurs and the general economic situation have also been identified as losers of the crisis. As a direct consequence, many employees have also found themselves in financial distress. To mitigate the damage caused by the current crisis as effectively as possible, the government has implemented various measures. For employees who have been unable to work or have worked fewer hours in recent weeks and months, short-time work benefits are arguably the most important form of financial protection. In the context of the COVID-19 crisis, there has been a significant increase in applications for short-time work. However, it is often overlooked that government assistance has tax implications.

What is short-time work compensation?

Short-time work benefits are a benefit provided by unemployment insurance. Essentially, these are payments made by the employment office to an employee who would otherwise have to be laid off due to economic problems at the company. The amount of the benefits paid corresponds to a percentage of the employee’s normal income. For an employee to receive short-time work benefits, an application must be submitted and certain requirements must be met. Since the COVID-19 crisis has led to more people needing support in such situations, the requirements have been temporarily relaxed.

Further information can be found on the website of the Federal Employment Agency.

Initial Situation – Case Study on Short-Time Work Benefits and Tax Implications

First, we would like to introduce the following discussion with a case study. We assume that you are an employee at a company and had to apply for short-time work benefits due to the current crisis. You now receive 60 percent of your previous net salary as short-time work benefits. You are aware that the payments you receive are generally tax-free. After all, otherwise the government would take a portion of the money it paid out. Nevertheless, you are wondering whether there might be tax implications or even the need for repayments once you are able to resume your normal work.

In the following paragraphs, we will address this situation and explain why short-time work benefits are ultimately not truly “tax-free.”

Short-time work benefits – tax-free but with tax implications

As already mentioned, short-time work benefits are paid tax-free. Since this is a social benefit, that makes sense. Nevertheless, most recipients of short-time work benefits will face tax implications. If the benefits paid out over the entire year exceed 410 euros, a tax return must be filed. Very few employees will remain below this threshold.

The reason for this is that short-time work benefits are subject to the so-called “progression clause.” Under the progression clause, tax-free income is included in the calculation of the tax rate. This can result in tax changes or additional tax payments. In Germany, the tax burden is calculated using a progressive tax rate. The percentage (14 to 42%) increases with income. Due to the progression clause, “normal” income and short-time work benefits must now be reported together on the tax return. The tax office adds both amounts together and determines the tax rate based on the total. Ultimately, short-time work benefits therefore result in a higher tax burden.

Objectively speaking—does short-time work compensation actually lead to higher taxes?

The fact that the tax rate is set higher due to short-time work benefits cannot be overlooked. You therefore indirectly pay taxes on the short-time work benefits and, due to the progression clause, must pay more in taxes. The question, however, is whether the tax rate is actually set significantly higher than it would be for your normal income. It is important to consider that you initially expect less income from your employer, so the tax rate is logically lower. If the tax rate then increases from this baseline due to the short-time work allowance paid, the tax burden generally only returns to the “normal” level. However, the fact remains: Ultimately, you are paying taxes on short-time work benefits that are actually tax-free. At the same time, in most cases, your tax rate will not rise above the usual percentage.

Avoiding the tax burden from short-time work benefits

Even with the progression clause, you cannot escape the tax office. Most taxpayers must come to terms with the fact that their tax rate will increase. In some cases, however, tax liabilities can be reduced. Short-time work benefits are calculated based on your current tax bracket. This means that spouses, in particular, can save money by switching to an alternative tax bracket. Whether it is worth making the switch must be determined with a qualified tax advisor.

Questions for a Tax Advisor

When it comes to tax matters, it is always advisable to hire a good tax advisor. As a taxpayer, professional advice will save you time, stress, and, above all, money. Errors in your tax return can quickly become costly. That is why you should rely on the expertise of a professional. With our offices in Düsseldorf and Oberhausen, we are the ideal partner for all tax-related questions and issues. Our team will help you complete your tax return perfectly. Benefit from our experience and contact us to schedule a consultation.