Germany: Recent Developments Regarding the Taxation of Payments from a US 401(k) Pension Plan

For employees who have worked in the United States during their career and contributed to a 401(k) pension plan there, the question arises upon their return to Germany as to how payments from this retirement plan are to be treated for tax purposes. In its judgment of 25 June 2025, the Federal Fiscal Court (Bundesfinanzhof, "BFH") (X R 23/22) provided important clarifications regarding the tax treatment of such payments.

In parallel, the legislator implemented a fundamental change to the legal position with effect from 2025 through the Annual Tax Act 2024 (Jahressteuergesetz 2024, "JStG 2024"), which has significant implications for all affected individuals.

1. Procedural History and Facts of the Case

The dispute concerned a taxpayer who had been employed by a US company from 1999 to 2007 and entered into a 401(k) pension plan agreement in 1999. A percentage of his employment income was withheld by his employer and transferred to the retirement plan without these amounts being subject to US taxation. In 2015, following his return to Germany, he received a payment from the retirement plan in the amount of the equivalent of EUR 237,471.

The tax office (Finanzamt) treated the payment as other income and subjected an investment income portion of EUR 97,220 to taxation pursuant to section 22 no. 5 sentence 2 lit. b) of the Income Tax Act (Einkommensteuergesetz, "EStG"). Complete exemption under the dynamic reference provision was excluded because the claimant was unable to produce the contractual documents originally underlying the 401(k) pension plan and therefore could not demonstrate that the requirements of section 10 para. 1 no. 2 lit. b) EStG in the version applicable at the time of conclusion of the contract had been met.

The Fiscal Court of Münster (Finanzgericht Münster) ruled on the claim filed against this decision on 18 October 2022 (11 K 2273/18 E) that the payment from the 401(k) pension plan was only to be subjected to taxation in the amount of EUR 48,610 within the framework of other income pursuant to section 22 no. 5 sentence 2 lit. c) EStG.

The tax office filed an appeal against this decision, which the BFH heard on 25 June 2025 and which led to the reversal of the previous decision and referral back to the Fiscal Court of Münster.

2. Legal Classification by the BFH (X R 23/22)

Payments from a 401(k) pension plan are subject to income tax as other income pursuant to section 22 no. 5 sentence 1, sentence 2 lit. b EStG in conjunction with section 2 para. 1 sentence 1 no. 7 EStG. The BFH established that, from a comparative law perspective, a 401(k) pension plan corresponds to external occupational pension provision in the form of pension funds, pension schemes or direct insurance within the meaning of section 22 no. 5 sentence 1 EStG. This finding is based on the legislator's approval of the Protocol of 1 June 2006 amending the Double Taxation Convention (Doppelbesteuerungsabkommen – "DBA") between Germany and the United States, according to which Germany recognises plans established under Section 401(a) of the Internal Revenue Code (Internal Revenue Code – "IRC") as retirement plans corresponding to those referred to in section 1 of the Occupational Pensions Act (Betriebsrentengesetz). This includes the 401(k) pension plan.

When applying section 22 no. 5 sentence 2 lit. b EStG, section 20 para. 1 no. 6 EStG is to be applied by analogy in the version applicable to the respective contract, whereby the version "applicable to the contract" is the version in force at the time of conclusion of the contract. In the disputed case, section 20 para. 1 no. 6 sentence 2 EStG 2004 was therefore applicable.

The BFH was unable to decide whether the payment from the 401(k) pension plan was tax-exempt or whether the investment income portion was to be taxed according to this provision, and referred the matter back to the fiscal court. The latter must examine whether the

• 401(k) pension plan can be classified from a comparative law perspective as insurance pursuant to section 10 para. 1 no. 2 lit. b sub-lit. cc or dd EStG 2004 and

• the contract for the 401(k) pension plan provides for a term of at least twelve years from the time of conclusion of the contract to the time at which payment first becomes permissible.

3. New Legal Position from 2025 Under the Annual Tax Act 2024 for 401(k) Pension Plans

Through the JStG 2024, the legislator has eliminated the possible preferential treatment of foreign occupational pension arrangements with regard to the consistency of the taxation decision. Through the amendment of section 22 no. 5 sentence 2 EStG within the framework of the JStG 2024, the legislator has changed the tax treatment of payments from foreign retirement plans in order to reverse what the legislator considered to be unfavourable BFH case law.

From 1 January 2025, payments from 401(k) plans where tax relief was granted on contributions abroad are subject to full deferred taxation in Germany. The previous privilege, whereby under certain conditions only half the difference between contributions and payment was taxable, is thereby completely eliminated.

• For 401(k) pension plans already paid out: Payments until 31 December 2024 benefit from the previous legal position. Where the requirements of section 20 para. 1 no. 6 sentence 2 EStG are met, only half the difference is taxed.

• For 401(k) pension plans not yet paid out: Under the new regulation, distributions from retirement plans that enjoyed tax benefits abroad are taxed in full in Germany from 2025. In emigration or immigration scenarios, timing is therefore decisive going forward. Provided personal plans permit, it may be advisable from a tax perspective to control the timing of payment if the taxpayer's residence is going to change.