No tax reduction for capital payments from company pension schemes

In its decision of October 30, 2025 (case no. X R 25/23), the German Federal Fiscal Court (BFH) had to clarify whether one-time capital payments from company pension entitlements are subject to the tax reduction pursuant to Section 34 (1) of the German Income Tax Act (EStG).

In the case in question, an employer took out direct insurance for its employee as part of the company pension scheme. Fourteen years later, in the disputed year of 2019, the employee, who had now retired, exercised her contractual right to choose a capital payment and received approximately EUR 44,500. The tax office treated this amount as taxable pension income (Section 22 No. 5 EStG) and taxed it at the regular tax rate. The pensioner, on the other hand, sought the application of the tax reduction for extraordinary income from remuneration for activities spanning several years (Section 34 (2) No. 4 EStG). Both the Fiscal Court of Munster and the BFH agreed with the tax office’s opinion.

Although the capital payment from the direct insurance fulfilled all the criteria specified in Section 34 (2) No. 4 EStG for the application of the tax reduction, However, according to established supreme court case law, the extraordinary nature of the income, which is only mentioned in general terms in the wording of the law, is also one of the prerequisites for the tax reduction, which was not fulfilled in the present case.

This is because the tax reduction cannot be applied if a pension fund allows a free choice between pension benefits or capital payment in its general insurance conditions, even if certain conditions must be met for the capital payment option, such as cooperation between the employer and the employee and compliance with a deadline. Furthermore, such capital options in the area of company pension schemes that were already agreed at the time of their original commitment are permitted without restriction, which is why they are not atypical and income from such one-off capital payments is not to be regarded as extraordinary within the meaning of Section 34 (1), (2) No. 4 EStG. It should also be noted that such (partial) capitalizations do not only occur in individual cases, but in a large number of pension plans.

The extraordinary nature of the income cannot be based on special legal provisions, systematic considerations, or any funding requirements.

Notice:

The BFH ruled in almost identical terms in its decision, also dated October 30, 2025 (case no. X R 28/23 (NV)).

Unlike in the case of the capitalization of so-called small pensions (Section 22 No. 5 Sentence 13 EStG), reduced taxation of company pension schemes, such as in the present case in the form of direct insurance, is not provided for under Section 34 (2) No. 4 EStG.