German income tax reform could leave workers with less money in 2027

Germany’s CDU/CSU-SPD coalition has passed a draft law which will shake up income tax (Einkommensteuer) rules. We take a closer look at what the changes mean for people working in Germany:

Germany passes income tax reform draft

Without the help of Finance Minister Lars Klingbeil (SPD) - who is stranded in the US following a plane breakdown - the German government has passed a draft of its planned income tax reform.

According to government promises, the reform will bring tax relief to low- and middle-income households to the tune of 10 billion euros annually. Instead, those in very high income brackets are to pick up a bigger chunk of the tax bill. The reform will be implemented in two stages between 2027 and 2028.

Critics have already pointed out that the reform does not provide any compensation for so-called “cold progression” (kalte Progression). This refers to inflation and progressive taxation eroding nominal wage increases.

“This could lead to situations arising in 2027 where citizens – the taxpayers – ultimately have less net income in their pockets than they did in 2026,” Frank Hechter, tax expert at Erlangen-Nuremberg University told ZDF-Morgenmagazin, “simply because the negative effects partially or even entirely offset the positive effects.”

Now that the government has passed the draft law, the reform will be debated in the Bundestag and Bundesrat, which represents the 16 federal states. Certain points of the reform could change during this process. If the law is then passed, the new rules will apply from January 1, 2027.

German income tax reform 2026

So what exactly is changing for people who work and pay income tax in Germany? First, it is worth noting that income tax is not calculated based on gross income (Bruttolohn) but on taxable income after tax-free allowances and deductible expenses are considered. Here is an overview of the main changes:

The basic allowance will increase

In Germany, low-income earners aren’t obliged to pay income tax if they earn below a certain amount, known as the “basic allowance” (Grundfreibetrag). 

According to the reform, the basic allowance will increase from 12.348 euros in 2026 to 12.564 euros in 2027. It will then increase to 12.900 euros in 2028.

The top tax rate will apply later

Germany has a progressive taxation system, meaning that the amount of income tax you pay increases the more you earn. There are four income tax brackets. As mentioned above, currently, those who earn below 12.349 euros per year pay 0 percent income tax.

In the second bracket, those who earn between 12.348 and 69.879 euros annually pay between 14 and 42 percent income tax. In the third bracket, those who earn between 69.879 and 277.826 euros annually pay 42 percent and in the final bracket, those who earn over 277.826 euros annually pay 45 percent.

Now, things are changing for people on the threshold between the second and third bracket. Going forward, the 42 percent rate will apply to those who earn between 70.600 euros and 277.826 euros.

Highest tax bracket will be split in two

The threshold for the highest income tax bracket will also be lowered, and the bracket will also be split in two. Going forward, those who earn 250.000 euros annually (previously 277.826 euros) will be taxed at 42 percent. Then those who earn 280.000 or more annually will be taxed at 47 percent.

Even after this reform, Germany will be taxing high-income earners less than many other European countries. Belgium (53,5 percent), Spain (54 percent), Austria (55 percent), France (55,4 percent) and Denmark (60,5 percent) tax high-income earners the most.

Employee lump sum will increase

Another facet of the German tax system is the “employee lump sum” (Arbeitnehmer-Pauschbetrag). This refers to the tax-free amount that employees can claim on their tax return for purchasing items required for work. The maximum amount will increase from 1.230 euros to 1.430 euros.

Child benefit payments will increase

The German government typically increases child benefit payments (Kindergeld) every year. In 2027, the monthly payment per child will increase from 259 euros to 267 euros. In 2028, it will increase again to 272 euros.

The tax-free allowance for children (Kinderfreibetrag) will also increase. The Kinderfreibetrag is a tax-free allowance given to certain individuals if it is more favourable to them than receiving the child benefit. It essentially makes more of the parents’ income tax-free, reducing their overall tax bill and saving them money. 

The Kinderfreibetrag will increase from 9.756 euros in 2026 to 10.056 euros in 2027 and 10.236 euros in 2028.

Sunday bonus will increase

The maximum basic pay to which tax-free allowances apply for work on Sundays and public holidays will increase from 50 to 75 euros.

What about the wealth tax?

Back in July, SPD General Secretary Tim Klüssendorf said his party would make inheritance and wealth tax reforms a “key issue before the year is out”. With parliament back from summer recess, it is unclear how the SPD plans to move forward. The CDU/CSU has repeatedly opposed introducing a wealth tax.

While an income tax taxes people’s income, a wealth tax taxes any assets they own, such as property, stocks and cash. As we see with the most recent reform, the German government is currently focusing on taxing income, not wealth.

This is how Germany can have more millionaires than ever before (the number of German residents with liquid assets of one million US dollars increased by 11,1 percent between 2024 and 2025 alone), but the government can also be strapped for cash.

Speaking to Neue Osnabrücker Zeitung in July, Klüssendorf said that Germany “absolutely need[s] changes to inheritance and gift taxes, as well as the reactivation of the wealth tax.”