Choice of the legal form

The choice of the right legal form is decisive for the continuity of a business. Growth and increased risks of liability often require a change of the legal form in the course of time. It is therefore recommended to check regularly whether the current legal form is still in line with the development of the business. In case a change is necessary the law regulating the transformation of companies provides suitable instruments. A special focus lies on a change of the legal form while the identity of the entrepreneur is preserved. In every case it is necessary to get advice regarding the formal course of events and possible tax consequences when a corporate transformation is planned. Trade and corporation law dictate the legal forms available. These basic structures however can be changed and adapted according to the individual requirements of the business.

Entry in the commercial register: Advantages and disadvantages

The entry in the commercial register offers advantages and disadvantages to the person setting up in business. With entry in the commercial register the businessperson can grant Prokura (power of attorney) to employees and acquires the right to carry a company-name (without having to appear under his own name). Prerequisite for the admissibility of a company name is that it is characteristic and distinctive and does not contain any misleading titles. A small real estate agent with only local significance cannot be called ”Deutsche Immobilien GmbH”. Furthermore you should check comprehensively whether the desired name already exists in the same or a related branch as this could lead to disputes considering the right of name. If for cost saving reasons this is done without the help of a professional research institute you should at least check the internet (e.g. www.telefonbuch.de or different search machines whether the desired name already exists. Whether the relevant name is trademarked can be checked with the German Patent Office (www.dpma.de). Similar spellings should also be checked as similar names can lead to injunctive relief due to a possible confusion. Businesses entered in the commercial register are obliged to keep double-entry bookkeeping and to prepare a balance sheet according to the German Commercial Code (HGB). The simple cash receipts and disbursement method is no longer sufficient. This usually calls for stricter accounting principles and the help of a tax consultant. The businessperson registered in the commercial register is subject to the stricter legal requirements of the German Commercial Code. They have to examine goods delivered immediately regarding possible faults and have to inform the supplier immediately as they might otherwise lose warranty claims. Caution is also necessary with suretyships as they can be entered into by verbal agreement.

Small trades and commercial enterprises

A distinctive feature of the German corporation law is the differentiation between a small trade and a commercial enterprise. This however, concerns only partnerships but not legal entities. Commercial enterprises have to be registered in the commercial register. For their transactions the regulations of the German Commercial Code (Handelsgesetzbuch - HGB) apply. Non-commercial enterprises (small trades) can be registered voluntarily in the commercial register and thus acquire merchant status according to the German Commercial Code. Otherwise their transactions are subordinated to the German Civil Code (Bürgerliches Gesetzbuch (BGB)) and not the Commercial Code. The question whether a business is qualified as commercial depends on the fact whether the business requires a commercial enterprise in extent and manner (§ 1 HGB). The amount of turnover, the number of employees and the amount of the working capital, the volume of credit and the number of branches/subsidiaries are determining criteria for a business operation to be established as a commercial one. A turnover of more than 400,000 Euros usually means that the business is no longer considered a small trade. A non-commercial business can be operated by an individual (small trader) or a civil-lawpartnership (BGB-Gesellschaft or GbR). Commercial partnerships are sole traders (e.Kfm. = eingetragener Kaufmann resp. e.Kfr. =eingetragene Kauffrau), general commercial partnerships (offene Handelsgesellschaft = oHG), limited commercial partnerships (Kommanditgesellschaft = KG) or limited partnerships, the general partner being a private limited company (beschränkt haftendene Personengesellschaft = GmbH & Co. KG).
The registration in the commercial register involves special formalities. Applications always require notarially certified form.

Civil-law partnership (BGB-Gesellschaft – GbR)

A civil-law partnership consists of at least two partners. The legal basis can be found in the Civil Code (Bürgerliches Gesetzbuch (BGB)). There the following is stated: “In the articles of partnership the partners commit themselves to promote the achievement of a common purpose outlined in the contract. This includes the payment of the contributions agreed upon”. The common purpose can be every allowed activity. A civil-law partnership can also pursue a non-commercial purpose.

To establish the partnership a written contract is not required; a verbal agreement is sufficient. However, it is strongly recommended to put the essential points of the association in writing. This clarifies in case there will be uncertainties or differences of opinion at a later point in time.
For a commercial civil-law partnership the registration of all partners is required.
On business letters the family names of all partners with at least one full first name has to be stated.
Every partner is liable with his business and personal assets. Creditors can assert claims against the association, the partners and both at the same time by court action. According to the latest court decision of the Federal Supreme Court of Justice (BGH) not all partners of a GbR have to be sued any more to enforce into the company assets afterwards. A judgement against the partnership itself is sufficient. However, to enforce into the personal assets of a partner a judgement against the partner is still necessary.
Models of limitation of liability are conceivable but should not be chosen without a sound legal consultation. An unilateral exclusion of liability rendered on standard forms by the partnership by adding e.g. GbRmbH is not possible. An individual agreement of the parties in the context of a contract is required.
According to corporations law there is a distinction between management and representation. Management stands for the internal management i.e. supervision of production, bookkeeping, business letters etc. while representation stands for actingexternally, e.g. entering into obligations.
According to the law for civil-law partnerships all partners are entitled jointly to the management function which allows for a certain control. The representation depends on the power of management. The principle of collective representation by all partners applies. In the partnership agreement a different solution can be agreed upon.
The legal form of the civil-law partnership stands and falls with its partners. The withdrawal of one partner always results in the dissolution of the partnership. This can lead to very dissatisfying results in practice. By contractual provision of resolutions adopted by the partners other regulations can be agreed upon.

General commercial partnership (offene Handelsgesellschaft – oHG)

The legal basis of the general partnership (oHG) is the German Commercial Code. There the following is stated: “A partnership whose purpose is the operation of a commercial enterprise is a general partnership if the liability of all partners towards the creditors of the company is unrestricted”. Further characteristics are the use of a joint company name and the unlimited liability of all partners. Instead of a commercial activity the management of ones own assets is also sufficient.

When a business that has been operated as a civil-law partnership becomes a commercial enterprise it has to be registered in the commercial register in addition to the registration as a business or trade and thus becomes a general partnership. The registration in the commercial register has to be notarized.
The legal relationship of the partners is laid down in the partnership agreement. The legal provisions only apply when not stipulated differently in the partnership agreement. The partnership agreement does not necessarily require written form. However, due to its significance it should be laid down in writing. For setting up the contract it is useful to get advice from a lawyer or notary.
Usually the partners earn their living through their personal activity in the business. Therefore, apart from the profit distribution the permissibility and the prerequisites of regular withdrawals should be regulated.
In a general commercial partnership every partner is entitled to conduct the business. This right cannot be withdrawn easily. This question is so important that in case of an important cause the other partners have to sue for revocation of the power to conduct the business (however, the partnership agreement can state differently). To conclude transactions out of the ordinary a unanimous resolution is required but the partnership agreement can also allow for majority vote.
To the outside the partnership appears as a closed unit and carries an independent company name. The general commercial partnership can inherit rights and enter into obligations, acquire ownership and real rights in land, sue and get sued as a company. The partnership is represented by its partners and according to law every partner has the sole power of representation. However, the partners can adapt the representation rules according to their individual needs. Customary are internal restrictions of the power of representation in such a way that consultations are necessary for important decisions. This condition however has no external effect. An offence can only justify a liability of damages internally.
A creditor can hold the company and its assets as well as the partners with their private assets liable for his entire claim. A possible compensation has to be settled internally.
For partners of a general partnership a non-competition clause is established by law. Without the consent of the other partners a partner can neither conduct businesses in the branch of the partnership nor be involved as personally liable partner in a similar company.
A partner withdrawing from the company is liable for up to five years for obligations existing at the time of his withdrawing from the company. The withdrawal should be settled in the partnership agreement in detail. Withdrawal notices, settlement sum and successor rules should be defined in the partnership agreement.

Limited commercial partnership (Kommanditgesellschaft (KG))

The limited commercial partnership differs from the general commercial partnership primarily by the fact that the liability of one or several partners is limited to an exactly numeralised amount registered in the commercial register. This is called a limited partners holding (Kommanditeinlage). The personally and wholly liable partners are known as general partners (“Komplementäre”), the partners with limited liability as limited partners (“Kommanditisten”). The varied risks of the partners affects the corporate structure. The position of the personally liable partners is considerably stronger than that of the limited partners. The latter are excluded from management/representation and are not subject to a non-competition clause.

Limited partnership, the general partner being a private limited company (GmbH & Co. KG)

This legal form constitutes a special form of the limited partnership. The general partner is here a private limited company which leads indirectly to a restricted liability. This has to be shown in the name, usually by adding “GmbH & Co. KG”. The management consists of the general partners (i.e. the managing directors). This means the decision-making within the GmbH & Co. KG is controlled by the GmbH. The GmbH & Co. KG is often used when a number of limited partners contribute money and nobody wants to take over the position of a personally and wholly liable partner due to the high financial volume.

Private limited company (Gesellschaft mit beschränkter Haftung (GmbH))

The main reason for choosing the legal form of a private limited company results from its description “with limited liability”. It offers the legal possibility to restrict the liability against creditors to the company assets. The foundation of a private limited company is a lot more extensive than the aforementioned legal forms. The foundation requires a notarially certified memorandum of association corresponding to the legal minimum requirements. The private limited company as legal entity and carrier of rights and obligations begins with registration in the commercial register. To be capable of acting, a managing director representing the company has to be appointed at the foundation of the company. The managing director is registered in the commercial register. The private limited company operates a business and therefore carries a company name. It is an independent carrier of rights and obligations. An individual can also found a private limited company. The trade is registered in the name of the respective company. As of November 1, 2008, a change of the GmbH Act came into force that enables a choice between two forms of limited liability corporate entity, the so-called limited liability entrepreneurial company (Unternehmergesellschaft) with flexible share capital or an ordinary limited liability company (GmbH) which requires a minimum share capital of Euro 25,000. With the former, the paid-in capital of individual shareholders can differ, provided nominal shareholdings amount to full Euro units. Instead of the statutory form of articles of association, a more simplified and far less costly set-up procedure applies, a notarized formation protocol, provided there are no more than three founder shareholders.

Joint-stock company (Aktiengesellschaft (AG))

A joint-stock company can be founded by one or several persons. Like the private limited company it is an incorporated enterprise and has a capital stock divided into shares. The foundation process is subject to strict formal requirements. The articles of association require notarisation and cannot be developed free in form and content. The stock corporation law is mandatory to a large degree.

The legal minimum capital of a joint-stock company amounts to 50,000 Euros.
Apart from shares with a nominal amount no-par shares (Stückaktien) are permissible. The share capital has to be divided uniformly between these two forms. In the case of nominal shares they have to amount to at least 1 Euro.
The rights resulting from stockholding can be structured variably. The partners of a jointstock company are called shareholders, the organs of a joint-stock company are the general meeting of shareholders, the management board and the supervisory board comprised of at least three persons.
The general meeting of shareholders is the meeting of the shareholders exercising their participation in the management. The general meeting of shareholders does not have a general sphere of competence and its rights are regulated in detail in the Stock Corporations Act.
The management board is responsible for running the company. It is not committed to the instructions of the supervisory board or the general meeting of shareholders.
The supervisory board has the function to name the members of the board, to advise them and to monitor them. The supervisory board has an unlimited right of information and inspection of all business records.
Under the key word “Kleine AG” (small joint-stock company) several simplifications took effect in 1994. The “Kleine AG” is not a new type of joint-stock company. Instead, companies with a certain size and a manageable circle of partners are offered simplifications comparable to that of a GmbH. Thus, especially small and medium sized businesses now have easier access to a joint-stock company and therefore to a direct equity increase.
The advantages of the “Kleine AG” are for example a simplified general meeting of shareholders, an extended flexibility considering the application of funds especially regarding distribution of dividends as well as the exemption of co-determination for jointstock companies with less than 500 employees.

Co-operative (Genossenschaft)

A co-operative does not have a fixed registered capital. It is characterized by a varying number of members. The purpose of co-operatives is the promotion of the income or the economy of its members or their social or cultural interests. At least three founding members are necessary. The co-operative is represented by the executive board and its activities are subject to surveillance by cooperative auditing associations. For obligations of the cooperative only the assets of the co-operative are liable. Prerequisite of the foundation is a written contract (articles of incorporation). The registration courts have a public register of cooperatives in which these organisations have to be registered.

Partnership (Partnerschaft)

The foundation of a company under the legal form of a “partnership” is possible since the partnership law took effect in 1995. The partnership corresponds approximately to the general commercial partnership but can be chosen only by freelancers like doctors or lawyers. For obligations of the partnership the partners are liable personally as well as with the assets of the partnership. They can however, restrict their liability for damages due to defective exercise of a profession to those within the partnership who are responsible for the professional service in question (this can also be done by using general terms and conditions (AGBs)). The law of partnerships is regulated only marginally. Due to the admission for certain freelance professions to found a GmbH the interest in this legal form has decreased. Partnerships have to be entered into the partnership register at the local court.

European Economic Interest Grouping (EEIG) - (Europäische Wirtschaftliche Interessenvereinigung (EWIV))

The EEIG is a common European legal form. It shall faciliate the trans-national cooperation and promote the domestic market. The EEIG has to have at least two members and at least two of its participants have to have their head office respectively their headquarters in different member states. The EEIG itself is not allowed to pursue economic purposes and to accumulate profits. It is restricted to promoting the commercial purposes of its members which makes this legal form often unattractive. The foundation agreement is valid informally. However, as the contract has to be deposited with the commercial register and as it has to include certain particulars according to the EEIG-regulations de facto written form is required. A further prerequisite of the foundation of an EEIG in Germany is the registration in the commercial register. The members of the EEIG are liable unlimited, jointly and severally for obligations. Contrary to the general commercial partnership the liability of the members is subsidiary. The creditors can not hold the members liable until they have requested payment from the company and this has not been effected within a reasonable period of time.

Source: Industrie- und Handelskammer für München und Oberbayern