Mortgage interest vs principal on a German rental — tax deductions

1. The basic rule for deducting mortgage costs

You deduct mortgage interest from your German rental income. You cannot deduct the principal repayment. German tax law treats these two components of your monthly bank payment entirely differently. Interest is the fee you pay the bank for using their money. The Finanzamt classifies this as Werbungskosten (deductible expenses) under § 9 Abs. 1 Nr. 1 EStG. Because the loan enables you to generate Mieteinnahmen (rental income) under § 21 EStG, the cost of that loan reduces your taxable profit. Principal repayment is a transfer of wealth. When you pay down the principal, you move money from your bank account into the equity of your property. Your net worth remains identical. The Finanzamt does not subsidize wealth accumulation. You only get tax relief on the actual expense of the debt. Many non-resident owners look at their monthly bank debit and assume the entire amount lowers their tax bill. This is mathematically incorrect and triggers immediate corrections from the tax office. You must isolate the interest portion of your payments before filing your Einkommensteuererklärung (income tax return).

2. Reading your annual Zinsbescheinigung

German banks issue a Zinsbescheinigung (annual interest certificate) at the start of every year. You typically receive this document in late January or early February. It provides the exact figures the Finanzamt requires. Most German property loans are structured as an Annuitätendarlehen (annuity loan). You pay a fixed monthly amount, known as the Annuität. In the early years of the loan, the majority of this monthly payment goes toward interest. As the balance decreases, the interest portion shrinks, and the principal portion grows. The Zinsbescheinigung does the math for you. It splits your total annual payments into Schuldzinsen (loan interest) and Tilgung (principal). You ignore the Tilgung figure completely. You take the Schuldzinsen figure and report it on your tax return. The bank also lists the remaining loan balance at the end of the year. The Finanzamt sometimes requests this document as proof of your deductions. You must keep the Zinsbescheinigung in your records, especially if your loan is new or you recently refinanced.

3. Deducting Disagio and loan procurement costs

You deduct Geldbeschaffungskosten (loan procurement costs) in the year you pay them. These are the secondary costs of securing a mortgage. The most common is the notary fee for registering the Grundschuld (land charge) in the land registry. Do not confuse this with the notary fee for the property purchase contract. The purchase contract notary fee adds to your acquisition cost and depreciates slowly over 50 years. The Grundschuld notary fee is a financing cost and deducts immediately. You also deduct Schätzkosten (bank appraisal fees) and Bereitstellungszinsen (commitment fees for delayed loan payouts). Another major deduction is a Disagio (discount). Some banks offer a lower nominal interest rate if you accept a smaller initial payout. You borrow 100 000 €, but the bank only pays out 95 000 €. The 5 000 € difference is the Disagio. Under German tax rules, a standard Disagio of up to 5 % is fully deductible as Werbungskosten in the year the bank withholds it. This provides a massive upfront tax deduction in your first year of ownership. You enter these specific procurement costs separately from your regular mortgage interest on the tax form.

4. Handling the Vorfälligkeitsentschädigung penalty

Banks charge a Vorfälligkeitsentschädigung (early repayment penalty) if you break a fixed-interest contract before it expires. The deductibility of this penalty depends entirely on your reason for breaking the contract. Scenario one: you refinance the property to secure a lower interest rate and continue renting it out. The penalty is fully deductible as Werbungskosten. It remains linked to your ongoing rental income under § 21 EStG. Scenario two: you sell the property and clear the debt. The penalty is not deductible against your rental income. The Finanzamt argues the penalty relates to the sale, not the rental operation. If you sell the property within the 10-year holding period, the sale triggers Spekulationssteuer (capital gains tax) under § 23 EStG. In this specific case, the penalty lowers your taxable capital gain. If you sell after 10 years, the sale is tax-free. You cannot deduct the penalty anywhere. The cost simply reduces your net profit from the sale.

5. Mixed-use loans and floor space allocation

You must split the interest if you use a single loan to finance a mixed-use property. A common scenario is buying a two-family house, living in one unit, and renting out the other. German tax law strictly separates personal living expenses from income-generating expenses. You cannot deduct the interest associated with your private residence. You allocate the interest based on Wohnfläche (floor space). If the entire building is 200 square meters, and the rented unit is 80 square meters, you assign 40 % of the loan to the rental. You deduct exactly 40 % of the annual Schuldzinsen. German tax courts recommend a more precise method: splitting the financing into two distinct loan accounts. You take one loan for the personal unit and one for the rental unit. You direct all your equity into the personal loan to minimize non-deductible interest. You keep the rental loan balance high to maximize deductible interest. The Finanzamt accepts this structure only if the purchase contract clearly separates the purchase price between the two units and the loans are strictly segregated from day one.

6. The impact on your tax bill: numerical examples

Your tax savings depend on your personal tax bracket. Non-residents face limited tax liability (beschränkte Steuerpflicht) under § 49 Abs. 1 Nr. 6 EStG. The Grundfreibetrag (basic tax-free allowance) of 11 784 € for 2025 does not apply to non-residents. You pay tax from the first euro of profit. The entry rate is 14 %, climbing progressively to 42 %. Example A: You buy a property. Your Mieteinnahmen are 12 000 €. Your AfA (depreciation) is 4 000 €. Your loan interest is 7 000 €. Your taxable profit is 1 000 €. At a 14 % entry rate, your income tax is 140 €. You also pay the Solidaritätszuschlag (5.5 % of the tax), adding 7 €. Total tax: 147 €. Example B: You have a high-yielding property and other German income pushing you into the 42 % bracket. Your Mieteinnahmen are 20 000 €. AfA is 5 000 €. Your loan interest is 10 000 €. Your taxable profit is 5 000 €. At 42 %, your tax is 2 100 €. The interest deduction saves you 4 200 € in tax compared to having no loan. The exact value of your Schuldzinsen deduction scales directly with your marginal tax rate.

7. The amortization tax trap over time

An annuity loan creates a hidden tax trap. Your monthly cash payment to the bank stays flat for 10 or 15 years. Your tax deduction shrinks every single month. As you pay down the principal, the interest portion of your Annuität drops. This means your deductible Werbungskosten decrease, causing your taxable profit to rise. You owe the Finanzamt more money each year, even though your bank account sees the exact same monthly debit. Property owners often face a cash-flow squeeze in year 10 or 15. The rental income covers the bank payment, but the tax bill spikes because the interest deduction is largely gone. You must plan for this increasing tax burden. The table below illustrates a 300 000 € loan at 4 % interest and 2 % initial principal repayment.

• Year 1 | 11 880 € Interest | 6 120 € Principal | 11 880 € Tax Deduction
• Year 10 | 8 400 € Interest | 9 600 € Principal | 8 400 € Tax Deduction
• Year 20 | 2 300 € Interest | 15 700 € Principal | 2 300 € Tax Deduction

8. Financing costs and the 15 percent rule

The Finanzamt heavily restricts deductions for renovations in the first three years of ownership. This is the 15 % test under § 6 Abs. 1 Nr. 1a EStG. If your net repair costs exceed 15 % of the building's purchase price (Gebäudeanteil), the costs reclassify as Anschaffungsnaher Herstellungsaufwand. You lose the immediate tax deduction. The costs add to the building value and depreciate at 2.0 % or 3.0 % per year under § 7 Abs. 4 EStG. Loan costs completely bypass this rule. Schuldzinsen and Geldbeschaffungskosten never count toward the 15 % limit. They are strictly financing expenses, not construction expenses. If your building basis is 200 000 €, your 15 % renovation limit is 30 000 €. You can spend 29 000 € on a new roof and deduct it immediately. If you also pay 15 000 € in mortgage interest and a 5 000 € Disagio in the same year, your total deductions are 49 000 €. The Finanzamt will not trigger the 15 % trap. The financing costs remain safe and fully deductible as Werbungskosten.

9. Entering mortgage data in the 2025 Anlage V

You declare your rental income and expenses via ELSTER using the Anlage V form. For the 2025 tax year, you split your financing costs across two specific blocks. You enter your regular, ongoing mortgage interest (Schuldzinsen) in Zeilen 46 to 48. You enter your one-off loan procurement costs (Geldbeschaffungskosten), such as the Grundschuld notary fee or a Disagio, in Zeilen 49 to 51. Mixing these up delays your assessment. The tax office reviews one-off costs closely to ensure you are not improperly deducting purchase contract notary fees. Anlage V Easy maps these figures to the correct ELSTER lines automatically. Prepare your German rental tax report from abroad in 10 minutes for 79 €. You simply input the interest total from your Zinsbescheinigung and the software handles the specific field placements. You submit the form before the standard filing deadline, which is 31 July of the following year.

10. Documenting your loan for Finanzamt Neubrandenburg

Non-resident property owners typically fall under the jurisdiction of Finanzamt Neubrandenburg. This specific tax office handles thousands of foreign landlords and enforces strict documentation standards. They will ask for proof of your financing costs during your first tax assessment. You must submit a copy of your Darlehensvertrag (loan contract). The contract proves the loan is directly tied to the German property. You also submit the Grundschuldbestellungsurkunde (land charge deed) if you claim notary fees as procurement costs. Every subsequent year, you hold the Zinsbescheinigung ready. Neubrandenburg rarely asks for the annual certificate once the loan is established, but they reserve the right to audit your figures. If you refinance or take a secondary loan for renovations, you must proactively submit the new Darlehensvertrag with that year's tax return. Keep your Kontoauszüge (bank statements) showing the actual monthly debits. The Finanzamt wants to see that the money actively left your account, fulfilling the Abflussprinzip (outflow principle) for tax deductions.