Simplifying Germany's Tax System

October is the month of reforms in Germany. First Chancellor Gerhard Schröder’s Social Democratic Party (SPD) unveiled its action plan for overhauling healthcare, social welfare and the country’s Byzantine tax system and then the conservative opposition Christian Democrat Union (CDU) began pulling the proposals apart. Now the CDU has put together its own solution for revolutionizing the way Germans pay taxes.

Although the CDU tax plan will not be officially presented until this coming Monday, key points of the proposal have already found their way into the media and are generating public debate.

One of the main premises of the CDU plan drawn up by the deputy chairman of the party's parliamentary group, Friedrich Merz, is the focus on transparency and a simple structure. Germany’s current tax system is notoriously complex with its incremental tax brackets, deductions, subsidies and a slew of loopholes the average person can only begin to comprehend with the aid of a good tax advisor and self-help books.

Merz’ proposal cuts out the chaff and reduces the system to just three tax categories of 12, 24 and 36 percent of income with the highest tax bracket applying to income over €40,000 a year. In contrast, the SPD tax reform forsees cutting taxes down from the current 19 percent to 15 percent at the lowest level and from 48.5 percent down to 42 percent at the highest income level.

According to Merz' plan, in addition to cutting taxes each person would also have a tax-free deductible of €8,000 a year in earnings. For an average family of four that means €32,000 in earnings would remain tax free.

While reducing taxes, Merz's plan also calls for eliminating all tax exemptions, in particular subsidies for commuters and private home builders. He argues that the removal of all such benefits would replenish state coffers by between €35-€40 billion a year, money that is desperately needed given the current deficit of some €43 billion. Although cutting subsidies would initially leave a hole in many a citizen’s pockets, Merz is convinced that by lowering the tax ceiling across the board people would have more money in the long run, which in turn would have a positive effect on consumer spending.

Praise for simplicity, criticism for cuts

Merz’ initiative met with varied responses from across Germany’s mainstream parties. On Friday morning, CDU General Secretary Laurenz Mayer voiced his support for the simplified structure, saying it makes sense and would simplify the complex system.

"It simplifies the tax system to an extent not seen before in this country," he told reporters. "It makes it more transparent and fair and also clearly states the sacrifices [cutting subsidies] that accompany it, but these are necessary sacrifices geared to closing taxation loopholes," Mayer said.

In an unusual demonstration of support, the Green Party’s finance expert, Christine Scheel, also applauded Merz’ attempt to reform the tax structure by making it "fairer" for the average person. Speaking to the Hanover daily Neue Presse, Scheel praised the proposals for getting rid of loopholes which had previously only benefited the wealthy.

"I’m in favor of each suggestion that simplifies our tax system and makes it more transparent," she said.

But not everyone is so enthralled with the proposals. In addition to the expected criticism from the Social Democrats who attacked the concept for failing to implement a socially-balanced counter-finance for the tax reductions, members from within the CDU have also objected to the complete elimination of subsidies.

Jörg Schönbohm, interior minister for the eastern state of Brandenburg, was especially concerned with cuts in subsidies for commuters. In the Friday edition of the Berliner Zeitung, he criticized the plan for punishing people who have to drive a good distance to reach their place of employment. Brandenburg, which surrounds the city state of Berlin, has a high percentage of residents who commute into the capital on a daily basis. "We require people to be flexible and take jobs wherever they’re offered," Schönbohm said, and yet the new plan takes away all incentive to go the extra mile for work.

The state minister called on Merz and the CDU leadership to reconsider the tax plans and create a special rule which would permit commuter subsidies for regions where unemployment is more than 20 percent.

The SPD has also pinpointed the cuts in commuter subsidies as socially unfair. "The notion that work first begins at the factory door ignores the current reality of many people," the Berliner Zeitung quoted the deputy finance spokesperson for the SPD parliamentary faction, Reinhard Schultz, as saying.

But outside the political parties, Merz’ proposals are generating a good deal of support. One of the chief advocates is the German Association of Taxpayers, which has described the simplified tax structure as a "big step in the right direction" and encouraged the politicians to discuss the plans openly. The advocacy group also warned that such a concept will only work if it’s not watered down and loopholes remain open.