Limited Corporation: the GmbH

What are the legal foundations of the GmbH?

The regulation of the German GmbH and the UG (haftungsbeschränkt) is regulated in the Limited Liability Companies Act (Gesetz betreffend die Gesellschaften mit beschränkter Haftung, GmbHG).

The GmbH is a trading company with a corporate organisation and its own “legal personality”. In contrast to a partnerships, the focus of this latter is not on the association of persons but on the contribution of capital. This contribution can be established for any permissible purpose: It has a share capital determined by the articles of association, which corresponds to the sum of the capital contributions to be made by the partners. Only the company is liable to creditors for company debts.

The GmbH is the simplest form of a corporation. A great advantage of this legal form is its flexibility. There is extensive freedom of movement in the drafting of the articles of association. The GmbH is an independent legal entity. It is organized as a corporation, independent of the number of members and has an organization with at least two independent organs, the managing director(s) and the shareholders’ meeting. The appointment of a supervisory board is permissible, but not always necessary.

The GmbH is equally suitable for small businesses, medium-sized family businesses or even large companies.

What distinguishes the GmbH from an AG?

In comparison to a stock corporation, the GmbH is subject to less strict regulations in some cases. The formation is less formalised and therefore simpler and cheaper. A one-person formation is also permissible. A supervisory board is usually not required for a GmbH.

On the other hand, the GmbH is not a public company. The unlimited sale and transfer of the shares must be notarised. The transferability of shares can, however, be made dependent on further conditions, e.g. the consent of the co-shareholders, by the articles of association.

What is the position of the partners and what about their liability?

The partners themselves are not businessmen. The partners’ liability to creditors is limited to the company’s share capital. This explains the addition “with limited liability” or limited liability. The partners are not personally liable to creditors if the capital contribution is fully paid up. If the capital contribution is not yet furnished, the partners cling up to the height of the capital contribution.

What should be generally observed when founding a GmbH?

No minimum or maximum number of shareholders is prescribed. The formation of a one-man GmbH is also possible. Founders of a GmbH can be both domestic and foreign natural and legal persons, as well as commercial partnerships (oHG, KG and EEIG) and civil law companies (GbR).

Notarial certification is required for the GmbH contract and the protocol on the establishment of the company. The articles of association must contain at least the following information: Name and registered office of the company, object of the company, amount of the share capital, amount of the contributions to be made by each partner (capital contribution).

Although there is essentially freedom of design with regard to the other content, it is advisable to include provisions on the following topics in the articles of association:

  • financial year,
  • Duration of the company and termination,
  • Appointment of the managing directors,
  • Scope of the power of representation of the managing directors,
  • Resolution of the shareholders,
  • Convening of the general meeting,
  • Distribution of votes,
  • Disposals of shares,
  • Inheritance of shares,
  • Preparation of the annual accounts,
  • Distribution of profits,
  • Redemption of shares,
  • Retirement and dispute,
  • Formation costs,
  • Exemption from the ban on self-contracting for the managing director,
  • Arbitration clause,
  • Competition clause.

In the case of uncomplicated standard formations of both the classic GmbH and the UG (limited liability), the use of a prescribed model protocol (which also includes the articles of association, see Annex 1 to the Act) is possible. This simplifies the formation process and saves costs. This protocol must be notarised. The entry in the commercial register is then applied for with a notarised signature of the management. The electronic forwarding of the application with the sample protocol to the local court (commercial register) will then be carried out via the notary. On the one hand, the legislator provides a “model protocol for the formation of a single-member company” and on the other hand a “model protocol for the formation of a multi-member company with up to three partners”.

It is only possible to establish the company with the less expensive sample protocol:

  • if the company is founded by a maximum of 3 partners. If there are four or more shareholders, the company can only be founded by means of an individual, notarised memorandum of association.
  • if the partners can agree on a maximum of one managing director. This managing director is then entitled to represent the company alone.
  • if the managing director is exempted from the prohibition of self-dealing (i.e. the managing director may conclude transactions of the UG (limited liability) or the GmbH with himself as a private person or as a representative for another person)
    The share capital of the GmbH is at least 25,000 euros.

The share capital of the UG (limited liability) is at least 1 Euro.

Since this is to gradually save up the minimum capital of the normal GmbH, it may not distribute profits in full, but must allocate a quarter of the annual net profit to a legal reserve until the legal minimum capital of 25,000 euros is reached, § 5a GmbHG.

The capital stock can be provided by the partners by means of capital contributions in different amounts. However, a capital stock contribution must amount to at least 1 Euro. The capital contributions of the partners can be of different amounts.

The capital contributions can be made in cash (cash formation) but also in the form of contributions in kind (non-cash formation). At least one quarter must be paid in for each capital contribution to be made in cash. Registration in the commercial register can only take place when the contributions have together reached at least half of the minimum share capital, i.e. 12,500 euros.

In the case of the Unternehmergesellschaft (limited liability company), the entire share capital must be paid up in cash prior to registration in the Commercial Register; contributions in kind are not possible.

In practice, the cash formation is carried out in the form of opening an account at a bank for the GmbH, which is at the free disposal of the company. In order to be entered in the commercial register, the managing director must assure that the contribution is at his disposal. If there are considerable doubts as to the correctness of the insurance, the local court may demand proof, e.g. by means of a deposit slip or a bank statement of the GmbH.

The GmbH only comes into existence with the application and entry in the commercial register. (commercial register entry). The entry in the commercial register shall be notified in writing by the managing directors to the locally competent local court. The signature and the signature of the company must be certified by a notary public. Upon registration in the Commercial Register, the company name, the registered office of the company, the object of the company, the amount of the share capital, the date of conclusion of the partnership agreement, the person of the managing directors and their power of representation must be specified. Entries in the commercial register are made by publication in the electronic Federal Gazette and announced.

What is the name of the GmbH (company)?
The company is the name of the GmbH, under which it is registered in the commercial register and appears in business transactions. The company name of the GmbH can either be borrowed from the activity of the enterprise (factual company), contain the name of one or more partners (name company) or consist only of an imaginary designation. Combinations of these elements are also possible; in any case, the factual company name must contain an individualising addition. The addition “Gesellschaft mit beschränkter Haftung” or the abbreviation “GmbH” or “Unternehmergesellschaft (haftungsbeschränkt)” or the abbreviation “UG (haftungsbeschränkt)” is a mandatory part of the company name. The addition “haftungsbeschränkt” may not be abbreviated.

In any case, a comprehensive company name and trademark search for similar signs must be conducted.

Where shall the GmbH be located?

In principle, the company’s registered office is freely selectable. However, the company’s registered office, as stated in the articles of association, must be located in Germany. Irrespective of this, the GmbH can also have its administrative headquarters (the place where the main administrative activity is carried out) outside Germany. A seat misalignment of the German GmbH and/or UG (haftungsbeschränkt) abroad under evasion of the liquidation is however not possible also after the new right.

Which activities can be performed in a GmbH?

By law, the GmbH is always regarded as a commercial company regardless of the actual purpose pursued (form trader). It can pursue almost all purposes, which are legally permissible (trade requiring a permit). The object must be clearly designated in the statutes. A wording such as “trade in goods of all kinds” is considered too general by the courts. According to the relevant professional code of conduct, various liberal professions may not be operated in the form of a GmbH/UG (limited liability), such as pharmacies and notary’s offices.

What are the rights and duties of the managing director?
The managing director must be a natural person. A domestic or foreigner permanently living abroad can also become a managing director. A shareholder can also be appointed as managing director (shareholder managing director).

The managing director does not need to have any special qualifications. However, if a permit is required for the activity of the GmbH, which requires a special personal qualification (e.g. in the case of handicrafts: master craftsman’s diploma), only a managing director who possesses this qualification can be appointed. Only a natural person with unlimited legal capacity, who is not subject to a prohibition of occupation or trade affecting the business purpose of the GmbH, may be appointed as managing director.

Further reasons for the exclusion of managing directors are a legally valid conviction for delaying insolvency, for making false statements according to § 82 GmbHG or § 399 AktG, for incorrect presentation according to § 400 AktG, § 331 HGB, § 313 UmwG, § 17 PubG as well as a legally valid conviction on the basis of general criminal offences with corporate reference (§§ 263 to 264a and §§ 265b to 266a StGB).

The managing director may be dismissed at any time and without notice by the body specified in the articles of association. The dismissal must be entered in the commercial register.

The employment contract of the managing director with the GmbH is usually an employment contract of a self-employed person (no employment contract). This is the case for a managing partner if he/she exercises the economic power of the company decisively (especially if he/she has a majority shareholding). However, managing partners with a share of less than 50% of the share capital are also to be considered as self-employed persons if they are not bound by instructions. Self-employed persons in Germany are normally not subject to social insurance (pension insurance, health insurance and unemployment insurance). Voluntary continued insurance under the statutory health insurance scheme is possible for former employees. It is also possible to apply for compulsory or voluntary insurance in the statutory pension insurance. In some sectors, an entrepreneur is also obliged to take out insurance in the statutory accident insurance (Berufsgenossenschaften) if he does not employ any employees. Voluntary insurance is, however, possible for those not subject to compulsory insurance. However, the shareholder-managing director is an employee in the sense of the wage tax law (even in the case of a so-called one-man limited liability company), if this results from the overall picture of the contractual relationships and their actual implementation. In this case, the remuneration received by him is salary, as far as it is appropriate in terms of the amount, i.e. as far as it would also be paid for the same service to an external managing director who is not a shareholder (arm’s length principle). This salary is subject to wage tax. In return, it can be deducted by the company as a business expense (details or tax consequences of the fact that the remuneration is not considered as a salary but, for example, as a hidden profit distribution should be discussed with the tax advisor).

An employment contract can be concluded with a managing director who is not simultaneously a shareholder (external managing director), i.e. who exercises economic power over the company in accordance with instructions. In this case, he is liable to social security contributions for pension, health and unemployment insurance. The third-party manager is liable to pay income tax.

The managing directors are obliged to carry out the instructions of the shareholders. They manage the business of the GmbH internally and represent it externally. In principle, overall management applies, unless the articles of association stipulate otherwise (this is often the case, however).

The managing directors represent the company externally. The power of representation towards third parties cannot be restricted.

When is the GmbH managing director liable?
The managing director is responsible for managing the company. To this end, he must act in a fiduciary capacity in respect of external financial interests and ensure that business operations run smoothly, efficiently and profitably. The managing director is subject to various liability risks. To name just a few of the most important:

The special position of trust of the managing director can lead to liability towards the company, e.g. in speculative transactions.

One of the most important tasks of the managing director is the proper bookkeeping and accounting. In the event of a breach of duty in this area, the managing director must be personally liable to the company and creditors and may even be liable to prosecution.

If the GmbH hires employees, the managing director assumes the duties of an employer and must submit monthly wage tax and turnover tax advance returns, as well as withhold wage tax on behalf of the employee and pay it over to the tax office. The same applies to value added tax. If these duties are violated, the managing director is threatened with both a pecuniary liability according to §§ 69 ff. AO as well as criminal consequences according to § 370I or § 378 I AO.

The managing director is also subject to obligations under social law. The employees employed by the GmbH are to be registered with the health insurance carrier and the retained contributions to health, pension and unemployment insurance are to be paid into the respective health insurance fund. The managing director is personally liable for withheld and unpaid employee shares of the social security contributions and is also liable to prosecution.

In the event of imminent insolvency – i.e. if the company is over-indebted or unable to pay – the managing director is obliged to file an application for the opening of insolvency proceedings within three weeks. If he fails to do this in time, criminal consequences according to § 84 I No. 2 GmbHG are imminent.

If the managing director continues to make payments after the company has become insolvent, he is personally liable to the company for these payments.

Furthermore, a violation of the fraud and insolvency offences is possible.

The liability of the managing director is shifted forward in the case of payments to the shareholders, insofar as these had to lead to the insolvency of the company, unless this was not recognisable from the point of view of a diligent managing director.

What are the rules of the general meeting?

In addition to the competence in the articles of association and other basic competences, the shareholders have numerous other powers. These also extend to the area of day-to-day management and establish a far-reaching obligation of the managing directors to follow instructions.

Resolutions of the partners are usually passed in a partners’ meeting. In the case of the one-man GmbH, the body consists of the sole shareholder. However, the formal regulations governing the partners’ meeting are much simpler than those of a public limited company. Unless the articles of association stipulate otherwise, voting is based on shares in the company. Each 1 Euro results in one vote. In addition to the day-to-day management of the company, the partners’ responsibilities also extend to the adoption of the annual financial statements and the appropriation of profits, the appointment and dismissal of managing directors, measures for auditing and monitoring the management, the appointment of authorised signatories and general agents, legal relations between the company and the partners, etc.

Upon request, the managing directors must immediately provide each shareholder with information on company matters and grant access to the books and records of the company.

Can a GmbH have a supervisory board?

The introduction of a supervisory board is permitted by law, but not always mandatory. A supervisory board can be appointed, but is not required (optional supervisory board). Only if the GmbH is subject to co-determination by the employees, i.e. has more than 500 employees, is a supervisory board mandatory (necessary supervisory board). The same applies to investment companies operated in the form of a GmbH or non-profit housing construction companies.

The task of the supervisory board is to monitor the management. It is also responsible for auditing the annual financial statements prepared by the managing directors as well as the management report and the proposal on the appropriation of the balance sheet profit. Management measures cannot be transferred to the Supervisory Board. However, the Articles of Association may make the performance of certain types of transactions subject to the approval of the Supervisory Board.

In the case of a GmbH with a necessary supervisory board, for example, the appointment and dismissal of the managing directors is assigned to the supervisory board in accordance with the Co-Determination Act and the Mining Act.

When does the Co-Determination Act apply to the GmbH?

The Co-Determination Act of 04.05.1976 applies to all limited liability companies which generally employ more than 2,000 employees and to which no co-determination of coal and steel companies applies. The Co-Determination Act stipulates equal representation on the supervisory board. In this case, half of it consists of shareholder and half of employee representatives. The Co-Determination Act for the Coal, Iron and Steel Industry of May 21, 1951, which applies to mining and iron and steel producing companies, also prescribes equal representation on the supervisory board. If the special requirements of these laws are not met, co-determination is subject to the Works Constitution Act 1952, according to which one third of the supervisory board must be made up of employee representatives if more than 500 employees are employed. If there are fewer employees, a supervisory board is not prescribed.

How is a GmbH dissolved?

The dissolution of a GmbH is usually carried out by resolution of its shareholders. Further reasons for dissolution are listed in § 60 GmbHG. The resolution to dissolve a GmbH initiates the liquidation procedure, which ends with its termination and deletion from the commercial register.