Exceptional Application of 1/5 Rule for a Person Offering Professional Services

Learn how and if professional services can qualify for a reduced tax rate if they receive back payment for several in a lump sum.



A coach (Dipl. Psychologe) working self-employed was not fully paid by Kassenärztliche Vereinigung (the public corporation i.a. managing payment of physicians and coaches under the statutory health system) as she had applied because Kassenärztliche Vereinigung unilaterally reduced the coach’s remuneration. After negotiating this matter privately, the coach complained in court to collect her fees. After fighting for several years in social court, the coach won her case and was remunerated with DM 228 258 for the years 1993 – 1998 for her coaching.

She filed this income in her tax return as an extra-ordinary income following §34 II no. 4 EStG. This section grants a reduced taxation for a back payment, considered as a period more than three years, with 1/5 of normal taxation after following a complicated computation – “the 1/5 rule”. Her Finanzamt denied this reduced taxation because income from self-employment is normally not applicable under that section and no exceptions were considerable. So fighting her way through in court again, she eventually won her case at Niedersächsisches Finanzgericht (= State Tax Court of Lower Saxony, judgment of August 31, 2005, re 2 K 306/03).

The plaintiff argued that the law allows a reduced taxation on income for a back payment for an activity over several years, which can be delimited from the taxpayer’s usual income. It is to be applied, if the received income has been accumulated, which justifies a privileged taxation. This be here the case because the plaintiff had previously only received profits around DM 140 000 p.a. and only for this back payment did an accumulation happen and if she were to be taxed in full on the extra payment, she would have a tax rate of 50%. Plaintiff could not avoid this accumulation. Since payment from Kassenärztliche Vereinigung was out of her influence sphere. 

In Federal Tax Court’s standing judgment, §34 EStG is usually not applicable for self-employed persons. It is not untypical for a self-employed person to receive his or her payments after completion in a lump sum. §34 EStG aims at reducing the tax burden, which arises from periodical taxation by the effect of progressive taxation. The general idea is that you should have the same average taxation for the average income over an average period. Federal Tax Court has formed two cases, in which self-employed exceptionally can take advantage of the tax reduction in §34 EStG.

  1. when a tax payer worked on an activity for several years and received payment as a lump sum at the end of the activity,
  2. or for a special activity enduring several years, which can be delimited from his or her normal work and is paid in a lump sum after completion and does not represent regular operational income.

The plaintiff’s back payment does not belong to the income for several years typical for a self-employed profession because he has no control whatsoever on receiving payment. The accumulating effect of the plaintiff’s payment is far beyond typical income fluctuations of turnover and profits. She did receive a back payment for a period over several years and an accrual happened in the year in dispute. However, this alone does not make this income extraordinary in terms of §34 EStG. Such special income is the one-time and accumulated result of a period of several years for each source of income. Since she had no influence on payment conditions, Kassenärztliche Vereini­gung, as a public corporation in the end illegally withheld payment for several years, and this income was by amount and in average to her normal everything else but normal, it can be considered as a back payment qualifying for the tax grant following §34EStG.


Published on the old CMS: 2006/12/28
Read on the old CMS till November 2008: 85 reads


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