The planned income tax reform proposed by the federal government for 2027 is unlikely, according to the Ifo Institute, to provide significant new growth impetus for the economy. Clemens Fuest, President of Ifo, stated last Thursday that the reform is more about achieving balance than sparking new advances. He noted that while it compensates for “cold progression”-hidden tax increases caused by inflation-and raises the top marginal tax rate, it offers no genuine relief that would lead to greater employment or economic growth.
Overall, the planned reform is expected to have only a small effect on employment, as the institute estimates that the labor supply will increase minimally. The measure is projected to cost the state budget 10 billion euros. However, the institute calculated that if the husband-wife splitting arrangement were converted into a real splitting, the solidarity surcharge were eliminated, and reforms were introduced regarding social benefits for additional income, the labor supply could increase by 200,000 to 400,000 full-time positions-and this could be achieved without placing additional strain on the state budget.
Ifo researchers are critical of financing the higher top tax rates (dubbed the “wealth tax”) through this reform. The plan dictates that high earners will pay 45 percent in taxes on taxable income starting at €278,000 (up from the previous €250,000). For income exceeding €280,000, the rate is set to increase to 47 percent. Combined with the solidarity surcharge, this means these earners will effectively pay close to half of any additional income to the government. The institute warns this effectively transforms Germany into a high-tax country for top earners, a change that would particularly affect partnerships, especially medium-sized businesses.
Instead, the Ifo researchers advocate for providing greater income tax relief by funding it through a “moderate increase” in value-added tax (VAT), such as partially reducing the reduced tax rates. Andreas Peichl, Head of the Ifo Centre for Financial Sciences, pointed out that while Germany ranks high internationally for labor taxation, it positions itself in the middle range for the taxation of consumption goods, such as products and services. He concluded that raising VAT would weaken incentives for investment and labor less severely than adding further burdens on high incomes and company profits.
