German Taxation of Funds: Abgeltungsteuer, Sparerpauschbetrag, Vorabpauschale and Teilfreistellung

What you will learn

• The flat tax on capital income in Germany and the yearly tax-free allowance.
• How the partial exemption (Teilfreistellung) reduces taxable fund income.
• How the Vorabpauschale is calculated for accumulating and distributing funds.
• How a later sale is taxed without taxing the same income twice.

Explanation

General orientation for private investors tax resident in Germany, not tax advice. Rules change; check the current rules and ask a Steuerberater (tax adviser) about your situation.

Abgeltungsteuer

Capital income such as interest, distributions and sale gains is taxed with the Abgeltungsteuer (flat withholding tax) of 25%. A solidarity surcharge (Solidaritätszuschlag) of 5.5% of that tax is added, so the combined rate is 25% × 1.055 = 26.375%. Church members pay a little more (church tax). A German bank or broker withholds the tax automatically. With a foreign broker, you usually declare the income yourself in the tax return (form "Anlage KAP"). If your personal income tax rate is below 25%, you can request a comparison in your tax return (Günstigerprüfung).

Sparerpauschbetrag

The Sparerpauschbetrag (saver's allowance) makes the first €1,000 of capital income per year tax-free for a single person and €2,000 for a married couple assessed jointly (amounts valid for 2026). To use it at a German bank, you give a Freistellungsauftrag (exemption order). You can split it across several banks up to your limit. Actual costs, such as order fees, are not deductible in addition.

Teilfreistellung

Because funds pay some taxes internally, part of the investor's fund income is tax-free. This Teilfreistellung (partial exemption) applies to distributions, the Vorabpauschale and sale gains (and reduces losses in the same way):

Vorabpauschale

An accumulating fund reinvests its income, so without a special rule nothing would be taxed until you sell. The Vorabpauschale (advance lump sum) taxes a minimum notional income each year. Steps:

1. Basisertrag (base income) = fund value at the start of the year × Basiszins (base interest rate) × 0.7.
2. The result is capped at the actual increase in value during the year (end value − start value + distributions). If the fund fell in value, there is no Vorabpauschale.
3. Distributions paid in the year are subtracted. The rest is the Vorabpauschale.
4. In the year of purchase, the amount is reduced by one twelfth for each full month before the month of purchase.

The Basiszins is derived from long-term German government bond yields and published at the start of each year. For calendar year 2026 it is 3.20%. The Vorabpauschale for 2026 counts as received on the first working day of 2027, when your broker uses your allowance or takes the tax from your cash account.

Sale

When you sell, the gain is sale price minus purchase price, minus all Vorabpauschalen already taxed during the holding period, so they are not taxed twice. The Teilfreistellung is then applied. Within one account, the units bought first are treated as sold first (first in, first out).

Worked example

Hypothetical example: a single investor holds an accumulating equity ETF (30% Teilfreistellung) for the whole of 2026. Value on 1 January 2026: €20,000; value on 31 December 2026: €21,500; no distributions. Basiszins 3.20%. No church tax.

1. Basisertrag: €20,000 × 3.20% × 0.7 = €448.
2. Cap: actual increase €21,500 − €20,000 = €1,500, which is higher than €448, so the cap does not apply. No distributions, so the Vorabpauschale is €448.
3. Teilfreistellung: €448 × 70% = €313.60 taxable.
4. If the allowance is still available, no tax is due; €313.60 of the €1,000 allowance is used. If the allowance is already used: €313.60 × 26.375% = €82.71 tax.

Years later the investor sells the whole position: bought for €15,000, sold for €30,000, with Vorabpauschalen of €1,200 taxed in total over the years.

1. Gain: €30,000 − €15,000 − €1,200 = €13,800.
2. Teilfreistellung: €13,800 × 70% = €9,660 taxable.
3. Tax, assuming the allowance is already used: €9,660 × 26.375% = €2,547.83.

Common mistake

Practice activity

A single investor holds a distributing equity ETF for all of 2026. Value on 1 January: €10,000. Value on 31 December: €10,500. Distributions during the year: €600. Basiszins: 3.20%. €300 of the allowance is left. No church tax.

1. Is there a Vorabpauschale?
2. How much of the distributions is taxable after the Teilfreistellung?
3. How much tax is due?

Key takeaways

• Capital income is taxed at 25% plus solidarity surcharge (26.375%), after the €1,000 / €2,000 allowance.
• Equity funds get a 30% Teilfreistellung, mixed funds 15%; bond and money-market funds usually none.
• The Vorabpauschale = start value × Basiszins × 0.7, capped by the actual increase, minus distributions.
• Vorabpauschalen already taxed are deducted from the sale gain, so the same income is not taxed twice; check with a Steuerberater for your case.

Next step

In the final lesson you will bring everything together in a written long-term investment policy and a plan for keeping it up to date.