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Brexit risk for owners of English companies operating in Germany

  • United Kingdom
  • Germany
  • Brexit
  • Corporate

26-04-2017

1. The situation

Britain is leaving the EU but British companies are not leaving Europe and, in some cases, this could expose their shareholders to unexpected liabilities.

This applies to Germany in particular where local company law includes a concept known as the “real seat theory” and English private limited companies used to be particularly popular on account of their low prescribed minimum share capital of only £1. By comparison, €25,000 in capital are required to start a Gesellschaft mit beschränkter Haftung (“GmbH”), a German limited liability company.

While the number of English limited companies in Germany has been decreasing since the arrival of the German “Unternehmergesellschaft” (“UG”), which can be incorporated with a minimum capital of only €1, the German law professor Udo Kornblum recently identified just under 9,000 English limited companies which are still registered in Germany.

Some of these companies are owned by German tradespeople and other sole traders while others form part of large corporate groups such as the airline Air Berlin, the car manufacturer Rolls-Royce and the drug-store chain Drogerie Müller.

Taking into account English limited liability partnerships and registered branches of English companies as well, the total number of English entities registered in Germany exceeds 11,000.

2. How did we get there?

Non-German companies having their registered office in Germany is a relatively new phenomenon introduced by European law. This is because the “real seat theory” of German law prescribes that a company’s centre of activities determines the national law applicable to the company. As a consequence, German law applies to companies with their centres of activities in Germany which is why an English limited company would have to meet German company law requirements to be recognised as a limited liability company in Germany. Ultimately, this meant that in Germany a company had to be incorporated as a GmbH or an Aktiengesellschaft, a German public limited company, if its members intended to limit their exposure to the liabilities of such company.

This position, together with similar restrictive company law practices in various other EU member states, was subject to a number of challenges in front of the Court of Justice of the European Union (“CJEU”). In each case, the claimants had incorporated a company in another EU member state and argued that restrictions of this nature were contrary to the freedom of establishment granted under article 49 of the Treaty on the Functioning of the European Union.

The CJEU supported this view and decisions such as Überseering, Centros and Inspire Art created the basis on which it became possible for the English limited company to become a viable alternative to the GmbH in Germany.

3. Why is this an issue now?

On 29 March 2017, the UK government gave notice of its intention to leave the European Union pursuant to article 50 of the Lisbon Treaty. This started a process under which the UK and the EU have two years to negotiate an “exit treaty” which will govern their relationship once the UK has left the European Union.

This two year period can only be extended with the unanimous consent of the remaining 27 EU member states and the UK. The UK will leave the EU at the end of this period, regardless of whether an exit deal has been agreed or not.

Unless such an exit deal or any temporary arrangement which follows the end of this negotiation period extends the freedom of establishment to companies incorporated in the UK, and there is no certainty that they will, given recent comments from the EU27 about the indivisibility of the “four freedoms”, English companies in Germany will no longer be able to rely on the CJEU case law referred to above.

The outcome of such a development has been explored by the German courts in what is known as the Trabrennbahn case which related to a Swiss incorporated limited company which conducted business in Germany. The German Federal Supreme Court found that the Swiss company’s centre of commercial activity (or its “real seat” as German law would describe it) was located in Germany and that it therefore, unlike a company incorporated in an EU member state which would have had the benefit of the freedom of establishment, needed to comply with German company law.

As Swiss company law did not reflect the required minimum share capital and the capital maintenance rules imposed by German company law, the German court held that the Swiss entity could not be treated in the same way as a German GmbH. Instead it treated the company as a simple partnership, the one type of entity for which it fulfilled all minimum requirements imposed by German law.

The consequences for the shareholders can be dramatic: As in England, a German partnership does not have limited liability and its creditors were therefore able to look through the Swiss company and to bring claims regarding the company’s liabilities directly against its shareholders who are thus liable with their personal assets.

This analysis is unlikely to be affected by the emergence of the UG with its prescribed minimum share capital of €1 as an English limited company would still be subject to different share capital maintenance rules compared to an UG. A German court would therefore not treat an English limited company as an UG.

4. How will it affect you?

Once the UK exits the EU, entrepreneurs and corporate groups who make use of English limited companies to conduct business in Germany may therefore find themselves facing enforceable claims against themselves for liabilities incurred by their companies or subsidiaries which will put their personal assets at risk and/or defeat any ring fencing off risks which they had intended to achieve through their corporate structure.

The risk will be most pronounced for English companies which solely conduct their business in Germany, but entities which operate in both the UK (and/or other countries) and Germany could also be at risk if a German court finds that the centre of activities and thus “real seat” of the company is located in Germany.

On a related note, English companies which operate in Germany via a registered branch office will need to confirm that this remains a viable option once details of the arrangements between the UK and the EU following the UK’s exit from the EU have become available.

5. What to do now?

If you are in a position where you could be put at risk by the changes outlined above, you should monitor the exit negotiations closely and seek legal advice at an early stage so that an appropriate plan of action for an alternative structure is in place, if needed.

For more information contact

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