Doing Business in Germany
By: BARBARA MÜLLER
September 2009
Numerous considerations in starting a business in Germany are at least similar to considerations involved in starting a business in the United States. However, some differences between the legal systems in the two countries may prove to be pitfalls that may be avoided if the necessary precautions are taken. This article discusses some areas that can create problems for unwary businesspersons.
Agency
To minimize financial exposure connected with starting a business in Germany, a U.S. business may choose to explore the new sales territory with the help of an independent contractor located in Germany who acts as a sales representative/agent, i.e., an agent limited to marketing products and soliciting sales. The agent receives a commission that is usually based on the value of purchased goods.
A U.S. business with a form agreement for its sales representatives that has successfully weathered challenges in the United States should revise that form agreement to take certain specifics of German law into account:
- Termination of Contract: If the contract is effective for an indefinite period of time, one-month written notice of termination is the minimum notice period to terminate the contract during the first contract year. This notice period is extended to two months during the second contract year and three months in years three to five. After five years, the notice period for the termination of a contract with a sales representative is six months. Termination is always effective only as of the end of a month; for example, a written notice given on February 1 during the first contract year is effective only as of March 31.
- Post-Termination Noncompete: A post-termination noncompete clause must be in writing. The noncompete obligation may not exceed two years beyond contract termination and must be adequate with regard to products and territory covered. During the noncompete period, the principal must compensate the sales representative adequately. The law does not define what the adequate compensation may be, but courts have traditionally granted 50 to 100 percent of the average annual commission payments the representative earned during the last five contract years.
- Indemnity Payment: After termination of the contract, the sales representative may have a claim for indemnity that may amount to the average annual commission payment the representative received during the last five years. This indemnity payment is based on the consideration that the principal continues to derive financial benefits from client relationships the sales representative established during the contract term.
Distributorship
Whereas German law does not include specific provisions regarding distributorships, some principles of agency law are also applied to distributors, depending upon how close their connection to the principal and integration into the principal’s sales organization was. Moreover, European Union law includes additional mandatory provisions applying to distributorships.
Entity Forms
Any business owner who wants to start a joint venture, enter into strategic partnership, or form a (wholly-owned) subsidiary in Germany can choose among multiple entity forms. Which entity form is finally chosen is subject to a number of considerations, including tax issues.
The most commonly used entity form for small and medium enterprises in Germany is the GmbH (limited liability company). Contrary to LLCs in the United States, the GmbH is always treated like a corporation for tax purposes, i.e., taxes are due on the profits of the GmbH, as well as on any dividend payments to members of the GmbH. The corporate tax rate currently is 15 percent. However, a GmbH must register in the city of its principal place of business, where it will be subject to an additional trade tax at a rate that varies from city to city.
The formation of a GmbH requires the member(s) to enter into a written notarized agreement. German notaries are fully licensed attorneys granted additional state licenses to act as notaries. Certain documents—for example, in connection with the formation of a GmbH—always require the involvement of a German notary. Upon application by the notary, the GmbH is entered into the commercial register that is kept at the court in whose district the principal place of business of the GmbH resides. It takes several weeks before the GmbH has been entered into the register, at which point the GmbH begins existence.
Employment and Labor Law
The differences between German and U.S. employment and labor laws are numerous and substantial. For example:
- Written Agreements: Individual written employment agreements are common practice.
- Termination: During a probationary period that may not exceed six months, the employment agreement may be terminated without cause upon two weeks’ notice. After such probationary period, the employer must provide at least one-month prior written notice to terminate an employment agreement without cause if it was entered into for an indefinite period of time and has been in existence for not more than two years. The notice periods increase to two months (up to five years of employment), three months (up to eight years of employment), and so on up to seven months (employment relationship of twenty years or more). The notice is always given effective as of the end of a calendar month (see earlier example). An employee’s termination is subject to the termination protection act, which is automatically triggered if the German entity has more than ten employees (not counting officers and senior management).
- Post-Contractual Noncompete: Post-contractual noncompete agreements are valid only if the employee receives adequate compensation for the time of the noncompete. The statutory principles for post-contractual noncompetes with agents (see above) are also applied to employees.
- Works Council: If the German entity has more than five employees, the employees may form a works council that must be involved in decisions such as the termination of employees. Members of the works council, and employees involved in the preparation of the elections for the works council, enjoy additional protection against the termination of their employment.
- Unions: Unions are usually organized on an industry level; closed-shop arrangements would be unconstitutional. The unions and employers for a certain industry usually negotiate a bargaining agreement that will be implemented by all employers in that industry in a certain territory, even if they are not a member of the employers’ organization that negotiated the agreement. The federal Secretary of Labor will sometimes declare a bargaining agreement to be binding for a certain industry.
- Change of Control: The acquirer of a business and its operations takes over existing employee obligations, even if the acquisition was structured as an asset purchase.
Litigation
Litigation in Germany differs significantly from its U.S. equivalent:
- Court fees; attorneys’ fees and expenses: More and more attorneys (especially business attorneys) bill their clients at hourly rates; contingency fees are not compatible with German rules of professional responsibility. However, numerous attorneys are still willing to bill only the statutorily prescribed fees and expenses that are based on the value of the matter litigated and the extent of the work performed. Due to the calculable financial risk of litigation, individuals may be more willing to commence litigation and may even have insurance that pays for attorneys’ fees/expenses and court fees. At the end of the litigation, the loser must reimburse the winner court and attorneys’ fees/expenses to the statutorily prescribed extent.
- Specialized Courts: The courts are organized into specialized courts such as civil, criminal, administrative, and employment courts. They proceed according to the principle that “the judge knows the law,” which may result in the court basing its opinion on a legal theory none of the parties advanced. Some courts, such as employment courts, include lay judges that are designated by representatives of the interest groups (e.g., at employment courts one lay judge named by an employer’s organization and one lay judge named by a union).
- No depositions: The parties offer their evidence regarding the facts they consider to be in dispute. It is up to the court to take the evidence, which is usually done during the trial, and to weigh and evaluate its importance.
Takeaway
Even though the differences between the U.S. and the German legal systems may seem daunting, there are numerous examples for U.S. companies with successful business operations in Germany. The common denominator for these success stories: great products, combined with careful (legal) planning!