Investing a severance payment tax-efficiently: the fifth rule, the IAB and the energy investment

A severance payment is a special case for tax: it flows in a single year in a lump and lands on top of your other income. That is exactly what makes it expensive, because a large share is taxed at 42 % or 45 %, regardless of how much you earn in normal years. Anyone receiving a five- or six-figure severance should therefore not leave its taxation to chance, but know the legal levers before the money flows. This article ranks them by actual impact and shows how reinvesting into an energy direct investment delivers the largest of these levers.

Is a severance payment tax-free?

No. A severance payment is fully subject to income tax as employment income; there has been no tax allowance for severance payments since 2006. The former allowance under §3 No. 9 EStG was abolished. So when you read 'invest your severance tax-free' online, that does not mean tax exemption, but the legal reduction of the tax burden by two routes: smoothing the progression and lowering your taxable income in the year of the payment.

There is relief elsewhere, though: a genuine severance for the loss of a job is generally free of social-security contributions. The actual burden arises solely from income tax, and there from the progression: because the severance flows in a lump in one year, a large part meets the highest tax rates. This is exactly where the levers below apply.

How do you reduce the tax on a severance payment?

There are two classes of lever. The first smooths the progression without lowering income: that is the fifth rule (Fünftelregelung) of §34 EStG. The second lowers your taxable income in the severance year directly, and thus acts precisely where your marginal rate is highest: this includes the investment deduction (IAB) under §7g EStG, contributions to a basic pension, and controlling the timing of the payout. For high earners the second class is by far the more effective, because the fifth rule barely helps when income is already high.

Why isn't the fifth rule enough for high earners?

The fifth rule works the more weakly, the higher your other income in the year of payout, and evaporates almost entirely once you are already in the top bracket with it. The reason lies in its mechanics: the tax is calculated as if the severance flowed evenly over five years; only one fifth meets the progression, and the additional amount derived from it is multiplied by five. But if your other income is already at 42 % or 45 %, that fifth is fully taxed at the top rate too, and the fivefold multiplication cancels the advantage again. At low other income the rule can save several thousand euros; at high income often only a small remainder is left.

The timing also matters: since 1 January 2025 the fifth rule is no longer applied in the payroll tax deduction (Wachstumschancengesetz). Your employer taxes the severance in full at payout; you only receive the §34 EStG relief with your tax assessment, after you have filed an income tax return. This changes nothing about the rule itself, but it does mean you are out of pocket first.

How does an investment deduction reduce the tax on a severance payment?

An investment deduction lowers your taxable income in the very year of the severance, and thus where your marginal rate is highest. With the IAB you deduct up to 50 % of the cost of a planned business investment, no more than €200,000 per business, from profit before the acquisition. Formed in the severance year it works twice over: it reduces your other income immediately and at the same time improves the starting base for the fifth rule, which then takes effect again. The full mechanics of the IAB, Sonder-AfA and declining-balance depreciation are broken down through a worked example in IAB under §7g EStG: example calculation for battery storage; the requirements of §7g are covered in Investitionsabzugsbetrag: all §7g EStG requirements, and who can use it. If the deduction exceeds the income of the severance year, the loss carry-back reaches into the previous years; the stages and the waiver option are explained in The loss created by an investment deduction (IAB): offsetting it against salary, carrying it back and carrying it forward.

An example for a high other income shows the size of the difference. At high income the fifth rule alone saves only a few thousand euros; combining it with an IAB shifts the result by an order of magnitude:

An IAB of €200,000 presupposes a planned investment of at least €400,000, since the deduction is capped at 50 % of the expected acquisition cost. The order of magnitude is typical, but tied to a hard condition: the IAB arises only through a serious, documented intention to invest and must lead to an actual investment within three years. If it does not, the IAB is reversed retroactively and interest is charged; the consequences and deadlines are described in Reversing the IAB: what happens if you don't invest, deadlines, interest, ways out. You can play through your own figures with the severance calculator, which sets the fifth rule and the IAB side by side.

Can employees use the IAB too?

Yes, as soon as there is a business with profit income, which employees can create structurally too. Two routes are open for this: either an own business that acquires and operates, say, a photovoltaic plant or a battery storage system, or a stake in a commercially active partnership, typically as a limited partner in a GmbH & Co. KG that holds a specific energy project. In both cases business income arises against which the IAB and Sonder-AfA take effect. Which structure is the right one in the individual case, and how the resulting loss offsets against your other income, is for your tax advisor to clarify up front. The route for employees beyond the severance year, from the business of your own to offsetting against salary, is described in Saving tax as a high-earning employee: the §7g lever alongside your salary.

The reason the lever is so strong for employees with a severance: it acts directly against your personal top tax rate in the severance year. And because a substantial part of the investment is carried by bank financing and the pulled-forward tax refund, the effective equity outlay often sits well below the nominal volume. How much the tax refund reduces the equity actually tied up is set out in How much equity is actually required?.

How do you reinvest a severance into an energy project?

The route is via an entrepreneurial direct investment in a depreciable asset, such as a large battery storage system, a photovoltaic or agri-PV plant. As a limited partner in a project-holding GmbH & Co. KG you earn business income against which the IAB acts in the severance year and the Sonder-AfA and declining-balance depreciation act in the acquisition year. The different ways in are set out in Investing in battery storage: the options at a glance; how an investment proceeds from the first enquiry to closing is shown in From first enquiry to closing: how a direct investment works step by step.

What other levers are there for a severance payment?

• Control the timing of the payout: if the severance only flows in January of the following year, when no ongoing salary is added, it meets a lower other income and the fifth rule works much more strongly.
• Secure the lump-sum treatment: the fifth rule generally requires the severance to flow in a single calendar year. Instalments spread over several years can cost the relief entirely.
• Use provision expenses: contributions to a basic pension (Rürup) are deductible as special expenses and lower your other income in the severance year.
• Plan for the progression proviso: unemployment benefit in the same year raises the tax rate on your other income and reduces the effect of the fifth rule; that belongs in any serious planning.

A broader overview of legal planning options, their size and their limits is given in Legally reducing your tax: the most effective strategies. A related life event with the same mechanics, incidentally, is the sale of a practice, firm or business; how the allowance, the reduced rate and the IAB interact there is shown in Selling a practice or business: optimising the tax and reinvesting the proceeds sensibly. Whether and how these levers combine in your situation, and which energy investment fits, belongs in a conversation with robust figures. That is exactly what we do in a non-binding first call: tax effect, effective equity outlay and project risk, worked through on your situation. We make no return guarantees.