(2024) What are the special features of insolvency payments?

For employees of a company whose assets are subject to bankruptcy proceedings, the Federal Employment Agency pays insolvency benefit, formerly known as bankruptcy compensation. This insolvency benefit is tax-free but subject to the progression clause.

If the employee has transferred their wage claim to a third party, such as a bank, before applying for insolvency benefit to pre-finance their wages, the insolvency benefit is paid to the third party. Nevertheless, the insolvency benefit is still attributed to the employee and increases their tax rate. The employee receives a certificate from the employment agency, which can be attached to their tax return.

Special feature:
Expenses economically related to tax-free income are generally not deductible as income-related expenses. However, this is different for commuting between home and workplace during the period for which the insolvency benefit is paid. The journeys are not for the purpose of obtaining the insolvency benefit, so there is no direct economic connection between the travel costs and the insolvency benefit. Instead, the journeys are related to the employment, even during the period for which the insolvency benefit is paid. Therefore, the travel costs are deductible as income-related expenses (BFH ruling of 23.11.2000, BStBl. 2001 II p. 199).