The credit method (Anrechnungsmethode) is one of the ways to avoid double taxation in Germany.
In the credit method, income is taxed in both the source country and the country of residence. But you can offset the tax paid in the source country against the tax in the residence country.
NOTE: The amount of tax you can offset in Germany is calculated per the German tax laws.
Example:
You work and earn in Switzerland but have a permanent residence in Germany. Both countries have the right to levy tax on your income.
However, if the Double Tax Treaty between Germany and Switzerland holds the credit method, then you pay taxes in both Switzerland and Germany.
Let’s take two scenarios to understand the credit method better.
- You paid more tax in Switzerland than you would have paid in Germany.
- You paid less tax in Switzerland than you would have paid in Germany.
Scenario 1:
Suppose you paid 4000 € in taxes in Switzerland. The tax that you would have paid in Germany is 3500 €.
So, you can offset 3500 € (and not 4000 €) from your income tax return in Germany. In this case, you don’t pay any further taxes on your foreign income in Germany.
Scenario 2:
Suppose you paid 3000 € in taxes in Switzerland. The tax that you would have paid in Germany is 3500 €.
In this case, you can offset 3000 € from your income tax return in Germany. And you pay the rest, i.e., 500 € in taxes on your foreign income in Germany.
This is how you avoid paying full tax twice on the same income.
