Tax on severance pay in 2026: how the one-fifth rule works

Michael Pauker · 2026-10-14

You have a termination agreement on the table, or you have been given notice with an offer of severance pay. The figure in the agreement sounds good. Then your payslip arrives, and suddenly more than €36,000 of the €80,000 has gone in tax.

This has been the norm since 2025. Your employer deducts wage tax from the severance payment as if it were ordinary salary. You only get back the tax relief everyone talks about later, through your tax return. How much you receive depends heavily on what else you earn in the same year.

We explain how severance pay is taxed, work through two scenarios using the exact 2026 tax schedule, and then address the question many people ask shortly afterwards: is it worth putting the money into a rental flat as equity?

01How severance pay is taxed

Severance pay for the loss of your job is compensation within the meaning of § 24 Nr. 1 EStG. It counts as employment income and is taxed at your personal tax rate. There has been no tax-free allowance since 2006.

The position is more favourable for social security. Under the case law of the Federal Social Court, severance pay paid for the loss of a job does not count as remuneration from employment. No pension, health, long-term care or unemployment insurance contributions are payable on it. It is a different matter if the “severance pay” actually includes outstanding salary, holiday pay or bonuses. Those elements are subject to contributions as normal.

What changed in 2025

Until the end of 2024, employers were allowed to apply the one-fifth rule when deducting wage tax. The Growth Opportunities Act ended this from 1 January 2025. Employers now tax severance pay as a non-recurring payment, without the relief. The one-fifth rule itself remains in force. The tax office applies it when you submit an income tax return.

This means two things for you. First, less money initially reaches your bank account than you are ultimately entitled to keep. Second, you must submit a tax return yourself, otherwise you miss out on the benefit. If you already file a return every year, this makes little difference. If you have never done so before, make sure you plan to do it for this year.

02How the one-fifth rule is calculated

The one-fifth rule smooths out tax progression. Without it, the severance payment would push up your income in a single year, and the higher tax rate would affect the whole amount.

The tax office therefore calculates the tax in four steps (§ 34 Abs. 1 Satz 2 EStG):

The logic is simple. Your tax rate is calculated as if you had received only one fifth of the severance pay. If you are already in the 42% bracket without it, adding one fifth barely increases the rate. In that case, the rule offers little benefit. If your other income is low, even adding one fifth of the severance pay keeps you in a favourable range. That is when the rule has a significant effect.

03Worked example: when the one-fifth rule saves a lot and when it saves very little

Thomas is 52, single and leaving his employer after 18 years with €80,000 in severance pay. His taxable income in a normal year is €60,000. The name is fictional, and the figures are an illustrative calculation, not a forecast.

We compare two cases. In Scenario A, the severance pay is received in December 2026, and Thomas has earned a salary throughout the year. In Scenario B, it is received in a year in which he has only €30,000 of taxable income, perhaps because his new job does not start until halfway through the year. We calculate both cases using the 2026 tax schedule, without church tax.

In Scenario A, the one-fifth rule saves just €713. At €60,000, Thomas is already in the upper progressive tax band, and one fifth of the severance pay (€16,000) pushes him into the 42% bracket. There is not much tax progression left to smooth out.

Scenario B is different. His other income is half as high, and the additional fifth falls within a significantly lower range. The relief is €6,800. He is left with €9,542 more net than in Scenario A, even though the severance payment is the same.

This raises a practical question for negotiations. If your contract is due to end at the end of the year anyway, it may be worth agreeing to payment in January. Whether this suits your circumstances depends on what you will earn the following year, whether you will receive unemployment benefit and how certain you are that the employer will pay. Discuss this with your tax adviser or employment lawyer before you sign.

04Requirements and common mistakes

The one-fifth rule applies only if the income is received in a “concentrated” form. Tax lawyers mean two things by this. The severance pay must be paid substantially within a single calendar year. And, as a result of the severance payment, you must receive more in that year than you would have earned if your employment had continued normally.

Other ways to reduce the tax burden

Apart from timing, there are few levers available, and all come with conditions. If you are aged 50 or over, you can make a compensatory payment into the statutory pension scheme to offset reductions for taking your pension early (§ 187a SGB VI). The contributions are deductible as retirement provision expenses, up to the applicable maximum, and reduce your other income. Contributions to a basic pension plan have a similar effect. Both tie up the money until retirement. Whether the tax saving is worth it depends on your age and your plans.

05What should I do with the money? Using severance pay as equity

The second question usually follows soon after the severance payment. You have €45,000 or €54,000 in your account, and the bank pays little interest on it. For many people, a rental flat is an obvious investment to consider.

Let us work through the figures for Thomas. He buys a rental flat for €250,000, with purchase costs of around €25,000. In one case he borrows the entire amount; in the other he puts in €30,000 from his severance pay. The interest and repayment rates are assumptions, not an offer from a bank.

Putting in €30,000 of equity saves €1,110 in interest in the first year. Because interest on a rental flat is an income-related expense, the lost tax saving must be deducted from this. That leaves €684, around 2.3% of the money invested. The monthly payment falls by €142.50, making pre-tax cash flow noticeably more manageable.

Whether that is good or bad depends on your alternative. It is often more than an easy-access savings account offers, but not necessarily more than a broadly diversified investment. Equity in a flat is also tied up. You can only access it again by selling or borrowing further against the property.

06Risks and limitations

Financing without a job that is not under notice. Banks check your ongoing income when assessing a mortgage application. If you have been given notice, receive unemployment benefit or are in your probationary period, you will often be unable to obtain a loan, or will only get one on significantly worse terms. Severance pay is no substitute for that income. The sensible time to buy is therefore usually after starting your new job.

Tax deducted upfront. Since 2025, the full wage tax is initially deducted. The refund only arrives with the tax assessment, often in the following year. Do not budget with money that is still held by the tax office.

The costs of a flat. Void periods, maintenance, rising interest rates when refinancing and costs that cannot be passed on to tenants belong in every calculation. A rental flat can also have years in which you need to put in extra money.

The 2027 tax schedule is not yet settled. A government draft for income tax in 2027 is available, but it has not yet been passed. Scenario B therefore uses the 2026 tax schedule. This does not change the overall scale of the results, but the euro amounts may differ.

07Further reading

• Saving tax as an employee
• Saving tax for high earners
• Investment property from age 50
• Buying a property without equity: 110% financing
• Deducting loan interest on rental property
• Calculator: tax savings
• Glossary: wage tax relief

08Sources

All sources accessed on 14 October 2026.

• § 34 EStG (Abs. 1 one-fifth rule, Abs. 2 Nr. 2 compensation), § 24 EStG, § 32a EStG, § 32b EStG, § 11 EStG
• Gleiss Lutz, “Employers will no longer apply the one-fifth rule” (Growth Opportunities Act, wage tax deductions from 2025), gleisslutz.com
• BMF circular of 01.11.2013, IV C 4 - S 2290/13/10002, amended on 04.03.2016 (concentration of income, partial payments)
• BFH, judgment of 13.10.2015, IX R 46/14 (minor partial payment); BFH, judgment of 14.04.2015, IX R 29/14 (instalments)
• § 158 SGB III, § 159 SGB III, § 187a SGB VI
• §§ 3, 4 Solidaritätszuschlaggesetz 1995
• Worked examples: our own calculations using the 2026 tax schedule, as at 14 October 2026

Note: This guide provides general information and is not a substitute for tax or legal advice on your individual circumstances. All figures are illustrative calculations with the assumptions disclosed, as at 14 October 2026.