Company taxation

Accounting should not be seen as just a tedious chore. It can be an important controlling instrument for your business. If you have little or no experience in accounting and taxation matters, it is recommendable to obtain professional advice.

Determining profits/ bookkeeping

The profits from industrial or self-employed commercial activity must be taxed. In this way, the state participates in the entrepreneurial activity of every individual. The profits of business partnerships and sole proprietorship businesses are subject to income tax; public companies pay corporation tax. Furthermore, all commercial businesses must abide by the trade tax provisions.
To calculate profits, taxation law stipulates either cash-basis accounting or balancing/double entry bookkeeping. The following entities are obliged to carry out double entry bookkeeping:
According to the German commercial code (Handelsgesetzbuch (HGB)), all businesspeople who are recorded in the trade registry are obliged to perform bookkeeping. This is important from a taxation point of view to the extent that any person who is obliged to keep accounts by any other law is also obliged to keep accounts for taxation purposes. The obligation to keep accounts begins with the first transaction after registration of the business. The accounting obligation for public companies starts with the completion of the contract of association.
Commercial entrepreneurs who are not included in the trade registry are obliged by the taxation legislation to maintain accounts if they meet the following prerequisites: - turnover more than 350,000 euros, or profit more than 30,000 euros.
For those who are not obliged to maintain accounts from the very beginning, the accounting obligation begins with the business year which follows the notification by the local tax office that the limits have been exceeded and that from now on double entry bookkeeping is obligatory.
In the preparation of the accounts, insofar as taxation law makes no other provisions, the principles of sound accounting practice of commercial law are to be observed. This means that a competent third party (for example a tax inspector from the tax office) is in a position, within a reasonable time, to judge the activities and situation of the business using the bookkeeping documents and records. All business events are to be recorded completely, correctly and in an orderly manner so that they are traceable in their generation and execution.
As a basic rule, the profit determination period is the calendar year. Under certain conditions, the business year may deviate from this. The accounts concerning the determination of taxable income must be kept for ten years. Other documents, in so far as they are relevant for taxation purposes, must be kept for six years.

Cash-basis accounting

Taxation law permits persons, who are not obliged to carry out double entry accounting, to use cash-basis accounting to determine the taxable income. No special form is required as long as the business earnings remain below 22,000 euros.
The obligations on the entrepreneur are less demanding in cash-basis accounting than when applying the double entry system. The cash basis accounting method is a simple comparison of business income and expenditure according to the principle
  • business income – business expenditure = profit or loss
As a general rule, the actual time of the income/expense is decisive. The business transactions are recorded in a journal in chronological order on the basis of the booking vouchers. Here, it is sensible to sort the individual items for example according to cost types. Furthermore, the net sum, the value added tax (VAT) and the total sum must be recorded separately. Trading enterprises are obliged to record the incoming and outgoing goods. The latter, however, only when the goods are being delivered to another trader for resale or for consumption.

Balance sheet/double entry accounting

In the determination of profits by a comparison of operational assets, the business assets at the end of one business year are compared with the assets at the end of the previous business year. The surplus amount is the profit subject to tax. Here, for businesses which are obliged to maintain accounts (see one above) or for businesses which do this voluntarily, the figure specified under business assets should always be the sum determined according to german Generally Accepted Accounting Principles (GAAP). Any unofficial calculations should not be considered. Therefore, withdrawals must be added and deposits deducted.
If you are obliged to maintain double entry bookkeeping, you must perform an inventory at the start of your business activity and draw an opening balance sheet. All assets of the business both in physical numbers and value must be listed in the inventory. At the end of the business year, you must again carry out an inventory and draw a closing balance. Also, along with the profit and loss account, purchase and sales journals must be maintained. Furthermore, all cash transactions must be recorded in a cash account book.
In double entry bookkeeping, all business transaction are entered on accounts, once on the debit side and once on the credit side. For this, there are accounts codes which are developed for every business from the various standard forms of accounts of its particular branch of industry. An accounts code is the chart structure of all relevant accounts. It includes only the accounts which are necessary and maintained by the company.
There are standard forms of accounts for every type of business. The three most important are:
  1. Accounts system for retailers
  2. Accounts system for wholesalers and foreign trade
  3. German joint standard accounting system for industry (Gemeinschaftskontenrahmen (GKR) or Industrie Kontorahmen (IKR))
Standard accounting systems are divided into account categories according to the decade system.
Double entry bookkeeping is designed to determine actual profit for a certain period – the matching principle. For this reason, accruals and deferrals must be made and receivables or accounts payable must be booked. In contrast to the cash basis accounting method, it is not just the actual payment flows which are relevant.

Special questions involving profit determination

a) Depreciation

The total purchase or manufacturing costs of mobile assets which can be used for more than one year may not be set off as operating expenditure in the year of the acquisition. The costs must be distributed across the entire period of use, that is in each year of use the share of the ”wear and tear– in that year (depreciation) can be set off as operating expenditure. When assets are acquired during a year, then as a rule, only the share of the depreciation sum for the period until the end of the year can be set off.
Less valuable assets up to a value of 410 euros (without VAT) can be set off as operating expenditure in the year of purchase or manufacture for the full amount. They must be listed in a separate journal however if the full particulars are not evident from the accounts.
Taxation law permit linear and digressive depreciation methods. Using the linear method, the same sums are set off every year. These are calculated as follows:
  • Purchase or manufacturing costs divided by the expected number of years of use.
The expected useful life is to be estimated taking the special conditions of the business into account. The important aid for estimating the expected useful life of commonly used assets are the AfA depreciation tables published by the Federal German Finance Ministry (Absetzung für Abnutzung (AfA) = German abbreviation for generally utilisable assets).
Using the digressive depreciation method, annually declining sums can be written off. This results from the percentage rate of the residual value for each year remaining the same. This percentage rate may be a maximum of double the percentage which would be applicable using the linear method and may not exceed 20 percent.

b) Depreciation of investments-in-kind in a business

When new businesses are established, assets are often invested in the business which had previously been used privately (for example vehicles). If these are limited-life assets, they can also be depreciated. As a basic rule, such assets are only first recorded in the books with their current value or with the continuing acquisition costs. If the asset has previously not been used to earn income, then this current value is depreciated over the remaining useful life. If, however, the asset has already been used to earn income, then the further depreciation is not calculated according to the current value at the time of investment but according to the residual value at the time of investment. This regulation is designed to prohibit the investment making artificial, new AfA volume.

Expenses when founding a business

As a rule, even before business activity has started, expenses are incurred when the business is founded. These costs can be set off as operating expenditure when determining business profits if they have been generated by the business. The only relevant factor here is the business connection, a temporal component is only of secondary importance. The foundation of a GmbH (private limited company) involves special factors.
A Gesellschaft mit beschränkter Haftung (GmbH) is founded in three steps:
  1. Partnership before foundation (Vorgründungsgesellschaft)
    (civil law partnership, only purpose to found a company, exists until the completion of the contract of association)
  2. Pre-registration company (Vorgesellschaft) (after the completion of the contract of association)
  3. GmbH (private limited liability company, from the entry in the trade registry onwards).
The pre-registration company and the later limited company are treated as one taxable unit according to profit tax laws. Therefore, expenditure during the pre-registration company period can be claimed as operating expenditure – but not the earlier expenditure during the period of the partnership before foundation. This latter expenditure could possibly be set off by the partners in their personal income tax returns.
For trade tax purposes, the pre-registration company and the GmbH are also one taxable unit if the pre-registration company has already conducted business before registration. Its operating expenditure is then considered when calculating operating profits. Generally speaking, the limited company as a taxable unit first originates after the trade registry entry.

Which legal form?

The legal form of your company effects its tax burden. Therefore, when founding a company this aspect should be carefully considered. However, it can never be the sole reason for choosing a legal form. Other decisive points are liability, the costs of certain legal forms, disclosure obligations and possibilities of raising capital. The following table An overview of some of the important tax-related aspects of the legal form choice provides the following link: http://www.gtai.de.
The information from your Chambers of Commerce and Industry (CCI) was carefully prepared, however we can give no guarantee for the completeness or accuracy of the contents.