German pensions level 1 simply explained
German pensions level 1 offer by far the highest tax benefits of all German pensions. And that's just one of many benefits of pensions level 1. Read more about it here.
Table of contents
German Pensions Level 1 include the following pensions
Pensions in Germany can be a great way to save money for your retirement. Many expats living in Germany ask themselves which pension scheme is the correct one for them and if they should get German pensions level 1. To help you fund your retirement in the best way possible, we will take a look at the advantages and disadvantages of German pensions level 1 as well as typical scenarios of who might want to get a pension level 1 in this article.
Get German Pensions Level 1 with the Public Pension in Germany
Most of you reading this article will be enrolled in the German public pension (“Deutsche Rentenversicherung”) that is in level 1 of the pension system in Germany already. As all employees in Germany have to pay into the German social security system, employees pay 18,6% of their gross salary for the German public pension (split 50/50 with their employer).
The maximum salary the German government is charging for public pension is 87.600€/year in 2023. The gross salary that you earn above the threshold is free of public pension contributions. That is a maximum contribution of 1.357,80€/month. To find out how much monthly pension you will get in retirement for your contribution to the German public pension level 1, feel free to use our public pension calculator.
What are you getting for that enormous amount of money that you are forced to contribute every month to the German public pension as an employee in Germany? 🤔
Nobody really knows and your future pension can only be estimated with the status letter the public pension is sending you every year. You can see the video on the right that is explaining the public pension letter you will get every year if you paid into the German public pension for at least 5 years.
It is important to understand, that the German public pension is a “generational contract” which means you are not contributing to your own retirement savings (also called Ponzi scheme 😉). So you are not saving the maximum of 1.357,80€/month for your own retirement. All contributions of the current workforce are spent immediately on the pensions of the previous generations. And upcoming generations will fund your public pension with their contributions.
Meaning the 18,6% of your gross salary that is deducted from your German payslip every month is neither saved nor is it invested on your behalf. As the money is paid out in pensions immediately, there is no rate of return, no compounding interest, and no capital growth happening. That is the reason why the government had to support the public pension with almost 115 billion € in 2021 – by far the highest expense of the German government.
Get German Pensions Level 1 with the Base Pension in Germany
Aside from the German public pension, there is also the base pension (“Rürup Rente”) in level 1 of the German pension system. The big difference between those 2 pensions is, that the base pension is a private pension contract between you and a German pension company while the public pension is from the German government.
As the German government is (luckily) not involved in base pensions level 1, you can decide freely how much you would like to contribute to your German base pension level 1. Also, everything that you do contribute will be invested for your future pension and your pension only. Your savings are not shared with anyone else like they are in the German public pension.
That ‘small’ difference between the public pension and the base pension allows you to invest your pension contributions in ETFs & mutual funds in the base pension.
Would you like to know how high the German pension level 1 would be in your case? Use our base pension calculator to find how much you can save in taxes while securing your retirement at the same time!
Attention: Not all pension companies and pension schemes allow you to invest your money in ETFs and mutual funds. That’s why it is important to choose a good base pension level 1 in the first place!
Example: If you are 27 years now, you will retire in 40 years at the age of 67 (the regular retirement age in Germany is 67, and the earliest possible retirement age allowed by the German government is 62). In that case, the base pension level 1 would use the full power of compounding interest over 40 years so that your pension contributions can accumulate and grow. 40 years the German public pension is missing out on because it pays out your pension contributions to current retirees without investing it.
Are you looking for a base pension level 1 that allows you to invest your money in ETFs and mutual funds? But you are not sure which pension company & pension scheme is best for you? Let’s find out together.
5 Advantages Of German Pension Level 1
German pensions level 1 offer multiple advantages that other pensions in level 2 or level 3 of the German pension system might not have. The first advantage is that the base pension will allow you to invest your money in ETFs and mutual funds (the public pension will not because of the generational contract).
Depending on the pension company and the exact pension scheme that you are choosing you maybe cannot choose your investments yourself (the pension company will choose for you). With other German pensions level 1, you can also change your investments free of charge and free of capital gains taxes.
That is the real advantage of investing in pensions compared to investing in a regular investment account with a broker. Pensions shield you from paying taxes in Germany until you take money out of the German pension level 1. Even if you change your investments and sell ETFs or mutual funds with a profit, you will not pay any taxes under the umbrella of German pensions level 1.
Another advantage of German pensions level 1 compared to regular investment accounts with brokers is that pensions can never run out of money. No matter how much money you saved in your investment account, you can be in big financial trouble if you live longer than expected and did not save enough.
How do you plan to pay for food, housing, and health insurance in Germany if you run out of money in your investment account? Our savings plan calculator in combination with our withdrawal calculator helps you to determine how many years your investments will last.
German pensions level 1 pay a life-long pension that will pay until the month that you pass away. If you run out of money (in theory) and live longer than expected, it won’t be your problem. It will be the problem of the pension company that pays your German pension level 1 until you pass away.
The life-long pension payments from German pensions level 1 offer another advantage: You do not need to take a lot of care of your financial planning. Before the retirement age of 67, your employer will pay you a monthly salary. After the age of 67 pensions level 1 will pay you a life-long monthly pension. Therefore, if you saved enough in your German pension level 1, your retirement will be just fine.
In case you decide to retire outside of Germany (e.g. in your home country), the base pension level 1 will also pay you a life-long monthly pension no matter where you are in this world. You will also receive the same pension amount that you would be getting if you would retire in Germany.
Only the German public pension handles retirement outside of Germany differently. They might pay you a lower pension when retiring outside of Germany. That will probably happen if you decide to retire in a country with lower living costs than Germany.
With German pensions level 1, it is not just your retirement that is safe. All your pension contributions are also safe from seizure in case someone is suing you and you have to declare bankruptcy. As you are required to pay for all damages that you cause to third parties, bankruptcy can happen faster than expected in case you cause big damage that you cannot pay for.
Private liability insurance in Germany will protect you against third-party claims. That is why this insurance is 1 of the 3 must-have insurances in Germany (others are public or private health insurance in Germany as well as disability income insurance).
The last advantage of German pensions level 1 is a big one: Contributions up to 28.528€ are tax-deductible for singles. Married couples can deduct up to 57.056€ (twice as much) from their taxes when filing their tax declaration.
When investing the maximum of 28.528€ (in 2023, which will rise in the years after) in German pensions level 1 with a marginal income tax rate of 42%, you will get 11.981€ in tax money back from Finanzamt after your taxes are filed. That is an incredible rate of return when you only have to save 16.547€ (28.528€ pension contributions – 11.981€ tax refund) in order to invest 28.528€ for your future.
“Singles can deduct more than 28.000€ and married couples more than 57.000€ from their taxes when investing in German pensions level 1.”
5 Disadvantages of German Pensions Level 1
As there is no perfect pension, German pensions level 1 have to have disadvantages. We determined earlier in the advantages of German pensions level 1 that your contributions are tax-deductible up to 28.528€ in 2023.
If you can save taxes while contributing to your pension level 1, your monthly pension will be taxed of course. Finanzamt will not let you get away with paying zero taxes throughout your entire life.
The idea behind deferred taxation is that your tax rate is probably much higher while you are working than your tax rate in retirement. Example: You can save in contributions e.g. 42% taxes while working and pay e.g. 20% taxes when receiving your pension from level 1.
Unfortunately, the tax benefits mentioned in the advantages of German pensions level 1 do not come for free (tax-deductible contributions & tax-deferred growth of your investments). You kind of have to pay for these benefits with commitment.
There is no possibility to get your money out before retirement age. As the German government is supporting you with tax benefits throughout your whole contribution phase, they want to make sure you use that money to fund your retirement, so you will never be in need of social security.
That is why the only way to receive money from your German pension level 1 is a monthly pension in retirement age until you pass away. Pensions level 1 also don’t offer a lump sum payment in retirement (unlike German pensions level 2 and level 3).
Since nobody can withdraw money from German pension rates level 1 before retirement, you also cannot use your base pension as collateral to purchase real estate in Germany with it.
Banks are looking for lump sum payout options before accepting pensions as collateral. That is why you can utilize German pensions level 2 as collateral for your home (not for investment properties in Germany), and German pensions level 3 for all kinds of properties (either home or rental). German pensions level 1 are designed to be pensions – and pensions only.
Pensions level 1 cannot be terminated unlike all other pensions in Germany (again, because of the high tax benefits you get while contributing to your pension level 1). Of course, you can stop contributing to your base pension level 1 at any time (not possible with the German public pension), but the money you invested will stay in your base pension until retirement (earliest at 62 years of age).
Money invested in German pensions level 1 will stay in the respective pension until you can receive a monthly payout from it. If you stop contributing, your investment will still be invested and continue to grow tax-free until you retire.
The last disadvantage of German pensions level 1 is that there are very bad pension schemes from bad pension companies on the German market. Given that our daily business at PerFinEx is to compare different pension providers and their pension products there is really no other way to put it.
In theory, it is supposed to be possible to change your pension company, but as you can imagine it is not easy. So pay attention to the following before selecting a base pension level 1 for yourself:
- Choose a pension company that offers a lot of different ETFs and mutual funds to choose from (big investment portfolio)
- Select a pension plan that allows you to select your investments yourself (do not let the pension company pick investments for you)
- Choose a low-cost pension provider that charges around 1% in costs (4% in costs will bring you no additional value to you)
- Select a pension provider that is financially stable. You want the German pension level 1 company to live longer than you so they can pay your pension.
If you would like to get some help in choosing the right pension company and plan for your German pension level 1 feel free to secure a free meeting with us or text us on WhatsApp. We will help you find the German pension level 1 that suits your life the best.
You are not sure how to select the right pension company & pension scheme for yourself? Let’s find out together which pension level 1 in Germany is the best for your personal situation.
Conclusion: Who Should Get German Pensions Level 1?
Given the advantages and disadvantages of German pensions level 1 you can see that you can save a lot of taxes with pensions level 1, but they definitely lack in terms of flexibility. So if flexibility is important to you, pensions level 1 is not the right type of financial product for you. To give you some inspiration on which scenarios German pensions level 1 can be great, here are 3 examples of expats living in Germany:
Scenario 1: People with High Income can benefit from German pensions level 1
People in the highest income tax bracket receive the most benefits from tax-deductible contributions of German pensions level 1. Therefore, high earners with +60.000€/year gross salary (or married couples with +120.000€/year) might want to consider pensions level 1. As these people pay a marginal income tax rate of 42%, they will get 42 cents from Finanzamt for every Euro they invest in their pension level 1.
Scenario 2: Protect your ability to work with German pensions level 1
If you would like to protect your ability to work with a disability income insurance, combining this insurance with a base pension level 1 will help you save some money on the insurance premium. As German pensions level 1 are tax-deductible, insurances that you combine with pensions level 1 will also become tax-deductible. So far for the upside. The downside is that the disability pension from your disability income insurance will be taxed in case you are disabled. You can insure a little higher disability pension to offset the taxes you would have to pay.
Scenario 3: Self-employed people & business owners can profit from German pensions level 1
Self-employed people and business owners can choose freely if they want to pay into the German social security system (including the German public pension) or not. Many decide to not pay voluntarily and rather get private alternatives instead as these are more efficient than government solutions. In most cases, a base pension level 1 that allows you to invest your money will be a lot better than paying voluntarily into the German public pension.
These are 3 perfect scenarios for people who might want to consider getting a German pension level 1. In case none of these scenarios fit you, you can still get a (base) pension level 1 of course. Think this decision through, because remember: money invested in German pensions level 1 will stay there until retirement age. If you would like more flexibility, pensions level 2 or pensions level 3 might be better for you.