Employment law for companies

Employment law for companies / Arbeitsrecht

March 26, 2024

Challenges for young companies

Before and during the start-up process, the main issues are choosing the right legal form for the company and protecting copyrights and the brand. However, start-ups and young companies often lose sight of important legal issues that particularly affect them shortly after their foundation. The focus is then on sharpening the founding idea, further development, financing and growth of the company.

This often happens for reasons of cost and/or time. After all, there are investments in this early phase that have a more direct and traceable impact and are more likely to be amortised. However, losing sight of legal issues, especially labour law issues, can present a young company with very real and economic problems, which is why it is important to think about these from the start and protect yourself by taking expert advice. Building the company on a solid foundation pays off later on and enables steady and healthy growth and therefore also medium and long-term economic success.

Overview employment law

Employment law concerns the rights and obligations of the parties to the employment contract as well as the relationship between employee representatives (such as the works council) and coalitions (such as trade unions) and the Employer*.

Important topics of employment law include

• When is an employee an employee within the meaning of the law and protected by employment law regulations? For example, freelancers are to be distinguished from employees in this sense.

• Under what circumstances can an employment contract be terminated?

• How can knowledge and business secrets of the Employer be prevented from becoming public knowledge or being passed on to competitors?

With regard to the employment contract between Employer and employee, the provisions of the German Civil Code (BGB), in particular the rules on General Terms and Conditions (General Terms and Conditions), must be observed. The special protection of the employee is particularly ensured by other laws, for example on working hours and conditions.

Disputes between the parties to an employment contract are decided by the labour courts.

Are the founders considered employees?

In most cases, the company forms GmbH (Gesellschaft mit beschränkter Haftung) or UG (Unternehmergesellschaft) are chosen when the company is founded. The founders hold the shares in the company and therefore have a stake in it, giving them shareholder status. Typically, the founders are also managing directors of the company, although it is also possible (in addition) to employ a so-called external managing director who is not also a shareholder. However, for reasons of efficiency, it is advisable not to appoint more than two managing directors in a newly founded company.

Managing director activities are subject to service contract law and not employment law. In any case, a managing director employment contract with the most important provisions should be drawn up, even if this tends to be put on the back burner or even forgotten in the start-up and growth phase. This is because the legal position of the founders (and external managing directors) must be sufficiently organised in order to document and enforce their rights and obligations towards the company. As a rule, potential investors will also want to review this contract, which is why it makes a very good, and above all professional, impression to be able to present them with a contract that regulates the relationship between the company and the founders and is adapted to the specific situation.

It should be noted that there are far-reaching differences between a managing director who is also a shareholder and an external managing director and that different contractual provisions are therefore required.

Even if a founder who is a shareholder and managing director of the company is not an employee, they are generally subject to social security contributions. An exception to this applies if they have a significant influence on the company and therefore do not have to follow instructions from the shareholders' meeting, for example because they hold more than half of the shares in the company or a blocking minority applies. It can therefore be helpful to have the status of the founders' social security obligation determined by the German Pension Insurance, for which a special procedure (so-called status determination procedure) is provided, which can be initiated by submitting an application.

It is not uncommon for founders to still be employees of another company when they set up their business. In such a case, it must be examined whether the newly founded company addresses a similar or identical audience, i.e. whether it competes with the founders' previous Employer, because a non-compete clause could then be violated. Even if this is not the case and the founders wish to continue working for their previous employer during a transitional phase in parallel to their activities as partners, for example, authorisation from the Employer may be required for such secondary employment. Problems may also arise if the new company is based on an idea or invention developed by the founder(s) during their working hours as an employee.

Employees and their legal status under labour law

As soon as the founders can no longer do the work involved in their company on their own, the question arises as to how they want to employ staff. This may include hiring employees, freelancers, interns, working students or part-time employees.

Interns

An internship is primarily intended to fulfil a training purpose, i.e. the intern should gain new knowledge, learn or improve skills and gain experience during their temporary employment.

Interns are not employees within the meaning of the law, meaning that the protective provisions and obligations of the employer under employment law do not apply. It is important that the purpose of the training is reflected in the contract with the intern and that this is actually implemented and the intern does not actually work as an employee. Otherwise it is a sham internship and the employment law regulations and remuneration claims will apply.

In principle, interns are entitled to remuneration in the amount of the statutory minimum wage; exceptions apply to compulsory internships (prescribed by the university/training centre) as part of a course of study or training and to orientation internships (before starting a course of study or training) of up to three months.

Working students

In the case of working students, the focus is not on the purpose of the training, but on their work during the semester (up to a maximum of 20 hours per week) and the semester break (then usually up to 40 hours on a bigger scale). Working students are therefore considered employees, which means that they are entitled to employment law entitlements, such as continued payment of remuneration in the event of illness, holiday leave and protection against dismissal. However, if the maximum weekly working hours mentioned are adhered to, working students are generally exempt from social security contributions, with the exception of pension insurance contributions. It is particularly important to note the requirement for exemption that the student must be continuously enrolled. It is therefore advisable to check both compliance with working hours and enrolment (by submitting a certificate).

Freelancers

Freelancers are employees with whom the company has concluded a service contract and who usually charge project-related or hourly-based remuneration.

They are free to manage their own time and are not integrated into the company's work organisation, e.g. they do not have their own workstation/office on the company's premises, use their own computer, do not cover for other employees on holiday or sick leave and have limited access to the company's databases or communication channels). They usually work for other companies, have their own business with their own website and e-mail address, for example. If some of these criteria are not met, they may be accused of bogus self-employment.

Freelancers are not subject to the regulations and protective measures of employment law and do not have to pay social security contributions. It can therefore be advantageous to employ them in the initial phase of a newly founded company. If necessary, employees can also initially work as freelancers and, once they have proven themselves, move on to an employment relationship.

Employees

If the founders want to hire employees, the provisions of employment law apply to them, in particular protective provisions, so that the employees are entitled to holidays, minimum wage, continued payment of remuneration in the event of illness and other requirements for protection against dismissal (i.e. increased requirements for dismissal, among other things). In addition, employees must pay social security contributions, such as pension and unemployment insurance.

It is particularly important to note that employees who are actually deployed in the company as employees, regardless of how they may be designated in their contract (e.g. freelancers), are considered employees and therefore all regulations apply to these relationships. The categorisation therefore depends solely on how the work is actually carried out in practice.

In the case of bogus self-employment, i.e. the incorrect classification of employees actually working as employees as self-employed service providers (freelancers), the company faces high financial risks, in particular the subsequent payment of social security contributions (also with regard to the employee's share and interest) and wage tax as well as the refund of any input tax deduction received from the tax office from the VAT of the employee employed as a freelancer. It should not go unmentioned that the non-payment of social security contributions can also have criminal consequences and may result in a prison sentence of up to five years in accordance with Section 266a of the German Criminal Code (StGB). The same applies to employees who work under a contract between the company and a service company and are actually employed by this service company (concealed Personnel leasing): Social security contributions must be paid in arrears.

The most important distinguishing criteria are

Employees

Minor employment

If employees earn a maximum of EUR 520 (EUR 538 from January 2024) per month or work for the company for a maximum of three calendar months or 70 days per year, they are considered to be marginally employed (also known as mini-jobbers). The earnings limit is a monthly average, i.e. it is €6,240 (€6,456 from January 2024) per calendar year, meaning that more than €529 or €538 may be earned in individual months. The amount of remuneration is generally irrelevant for the time limit, but if the earnings limit is exceeded, it must be checked whether the short-term employment is professional, i.e. whether the employee uses it to finance their livelihood.

Regardless of whether the earnings limit or the time limit applies in the individual case, several marginal jobs are added together so that they may not exceed the respective total.

Marginally employed persons generally have the status of an employee, meaning that the provisions and protective measures of employment law apply to them. This also applies to the minimum wage entitlement, so that the monthly working hours are also limited if there is an earnings limit (approximately 43 hours). Marginal employment is exempt from social security contributions.

Looking for and recruiting employees

Legal requirements must also be observed when searching for and recruiting employees - the requirements of the General Equal Treatment Act (AGG) must be observed when formulating job advertisements and selecting applicants, as well as during job interviews. Rejected applicants may be entitled to compensation due to violations of the AGG. It is advisable to document the application process and the selection of employees in writing in order to be able to prove that the requirements of the AGG have been complied with.

According to the AGG, discrimination based on "racial or ethnic origin, gender, religion or belief, disability, age or sexual identity" is prohibited. Therefore, when publishing job adverts, care should be taken to ensure that a gender-neutral job title is chosen and that nothing in the advert indicates, for example, that a particular age or origin of the applicant is being sought.

In job interviews, asking certain questions that have been categorised as discriminatory by case law can lead to discrimination. Accordingly, questions about age and date of birth, nationality, origin, family planning, disability or religious affiliation are not permitted. Applicants may answer such discriminatory questions untruthfully.

What needs to be considered when drafting the employment contract?

If the founders now want to hire their first employees, a written employment contract should be concluded. In principle, a written contract document is not required by law, but it is strongly recommended for reasons of provability and legal certainty. Of course, freely available sample documents can also be used, but there is always the risk that these do not correspond to the current legal situation (this changes regularly due to changes in legislation or case law in employment law) and do not contain all the provisions that are important in individual cases, as they are not adapted to the needs of the company.

Therefore, the best solution for newly founded companies is probably to draw up a contract template that is tailored to the specifics of the company, takes into account the current legal situation and can be easily adapted for different employees. It goes without saying that the wording and form of address can be tailored to the way your company works together and we can also jointly analyse which scope of contract is most suitable.

Formal requirements and language

In principle, no form is prescribed by law for employment contracts. However, the German Act on Evidence (NachwG) stipulates that the Employer must provide the employee with a signed list of the essential terms of the contract (including the name and address of the Employer and employee, start of the employment relationship, place of work, description of the job, composition and amount of remuneration, working hours, amount of holiday entitlement, probationary period, procedure in the event of termination). This can also be drawn up as an additional document alongside the employment contract. It is easier to adapt the employment contract to the requirements of the NachwG in order to have a comprehensive document signed by both parties.

In principle, digital signature instruments such as DocuSign can also be used to conclude an employment contract. However, there are employment law agreements and declarations that must comply with the statutory written form in order to be effective, i.e. they must be signed by one or both parties to the employment contract in the original (so-called wet ink), e.g. employment contracts if they contain fixed-term contracts [LINK] or post-contractual non-compete clauses, notices of termination, termination agreements, the listing in accordance with the Evidence Act and references. Against this background, it is advisable to introduce the handwritten signature of employment contracts as a rule.

It is possible to choose English as the contract language, but a translation must be provided in the event of any legal dispute concerning the contractual relationship (the court language is German) and, for reasons of legal certainty, it is advisable to draft the contract bilingually if the company language is English or, for example, the employee does not speak German or has a better command of English - this ensures that the German version is legally binding and that German laws can be applied to it more easily and with greater certainty.

Contract contents

In addition to the details of the contracting parties (name and address of employee and Employer), an employment contract should contain at least the title and description of the job, the place of work, the start date and, if applicable, the duration of the probationary period, as well as provisions on working hours, remuneration, overtime, holidays, sick leave, parental leave, confidentiality, termination and release from work. Normally, there are also exclusion periods and final provisions on the applicable law, how to deal with any invalid clauses, etc.

In addition, clauses on inventions and the transfer of copyrights, ancillary activities, travel costs and expenses or a non-compete clause can be included if appropriate in individual cases.

When drafting the contract, particular attention must be paid to the laws protecting employees, including the Working Hours Act (ArbZG) and the Part-Time Fixed-Term Employment Act (TzBfG). A newly established company may need to employ staff for a limited period of time - far-reaching legal restrictions must be observed in the case of fixed-term employment contracts.

Depending on the area and scope of the company's activities, it may be advisable to stipulate a non-compete clause, i.e. an agreement that the employee may not work for competitors competing with the company during the employment relationship or even after it has ended. In principle, a general prohibition applies even without an express agreement in the employment contract due to generally applicable employment law obligations, but it can make sense to regulate the conditions, exact boundaries and consequences of a violation precisely in the contract.

When drawing up employment contracts, the Employer must always observe the general principle of equal treatment, according to which the Employer must apply the same regulations to comparable employees and may not treat them unequally without objective reason.

Freelance contract

If the employee is not to work as an employee (see above for characteristics), but actually as a freelancer, a written contract should also be concluded with the employee, although fewer restrictions apply to this than to the employment contract.

For reasons of legal certainty, the freelancer's activities for the company and their conditions should be recorded in writing, on the one hand to ensure clarity about the mutual obligations in the event of a dispute and, on the other hand, to enable the company to classify the freelancer as an employee or freelancer with the rights and obligations arising from the respective status in the event of a company audit.

When drafting the contract, particular care must be taken to ensure that it does not contain any provisions that suggest an employment relationship, such as the company's right to issue instructions or holiday and continued payment of wages provisions.

* In future, if we only use the generic feminine or the generic masculine for better readability, this expressly includes all genders.