Contractors who have won a contract that requires them to work in Germany for more than just a few weeks should use an umbrella company to remain compliant with the country’s wage tax and social security legislation.
“Limited company contractors and those trading via a UK-only umbrella company won’t have the necessary licence to work legally for a German client,” explains Lee Cullen, operations manager of Liberty Bishop Contractor Services.
“Unless they plan to stay for only a few weeks, or intend on taking the huge risk of large fines or prison by trading illegally, the only option for most contractors is to use an umbrella company that already has the necessary licences to supply contractors to German clients. That ensures all income tax and social security obligations are met in full.”
Cullen notes that Germany is a popular destination for contractors of all disciplines, but most notably engineers, particularly in the automotive and aerospace sectors. “Germany has the largest manufacturing presence in Europe, utilising the services of many UK contractors,” he adds.
Residency rules and the labour leasing licence – the AUG
According to Cullen, technically the 183-day residency rule applies to contractors working in Germany. This means in theory a contractor could work on a three- or six-month contract and still be resident in the UK for tax purposes.
“However, for an employer or agency to ‘lease’ an employee to a third party hirer, the employer must have a labour-leasing license known as an ‘Arbeitnehmerüberlassung’ (AUG). Under German rules, the contractor’s limited company or UK umbrella company qualifies as the employer/agency and the contractor is the employee.
The only option for most contractors is to use an umbrella company that already has the necessary licences to supply contractors to German clients
Lee Cullen, Liberty Bishop
“Therefore the contractor’s limited company or UK umbrella would require an AUG to contract in Germany compliantly. The application process for an organisation to successfully apply for an AUG is an extensive one, involving multiple documentation in both German and English.”
Another crucial factor that elevates the importance of having an AUG is client driven: “End clients in Germany dictate terms to the agencies. Lots of major contractor clients, such as the airlines, automotive firms and manufacturers, are hot on enforcing a fully employed AUG model. Contractors trying to secure work directly with a client but without an AUG just won’t be given a contract.”
It is also compulsory for anyone planning to stay in Germany for more than three months to register with a local Einwohnermeldeamt, or registration office, within seven days of arrival.
Going ‘limited’ in Germany
Another logical option for contractors who think they may be contracting in Germany on a project likely to last several years might be to register one of the two German equivalenst of a limited company, called a Gesellschaft mit beschränkter Haftung (GmbH) and Aktiengesellschaft (AG).
An AG is similar to a UK public limited company (PLC), and until recently was complex and expensive to run, so most small businesses in Germany are structured as a GmbH.
“Although self-employment exists in Germany, the concept of a one-person limited company that tax efficiently remunerates its single director/shareholder just does not work,” says Cullen.
“The compliance costs of incorporating and running a German company outweigh any tax advantages. Also, the contractor would still have to go through the process of applying for an AUG so their German company could lease them to the end-client.”
Wage taxes and social security
Cullen highlights another factor that makes simply trading via a UK limited company extremely risky, and potentially very expensive: “All workers must pay German wage tax, similar to UK income tax. They must also make social security contributions.”
Failure to pay social security contributions doesn’t just raise compliance issues, but could also be life threatening – literally. Cullen explains: “There are four main elements to German social security contributions. One is health insurance, and if a contractor needs medical attention and they don’t pay it, they just won’t get treated. In addition to health insurance, employers must also provide accident insurance (berufsgenossenschaft). This is legally required and provides cover for its employee in their workplace.”
A UK-based umbrella company that has an AUG will automatically pay all of the wage tax and social security liabilities directly from the contractor’s gross fees to ensure that they are not only compliant, but also insured should the worst happen.
Expenses – travel and subsistence
At the beginning of 2014, the German tax office introduced new rules governing travel and subsistence for employees. Cullen points out that the rules significantly restrict contractor and employee expense allowances.
“The only way that a contractor can become eligible to offset expenses against tax and social security payments is to demonstrate dual residence and a commitment to their main property.
“If a UK contractor’s home address was in England, for example, they would have to prove this by providing utility bills demonstrating an ongoing commitment to the property. Then, if they incurred hotel expenses during the contract, the accommodation expenses can be offset.”
Travel mileage and food is different. Unlike in the UK, commuting within Germany from temporary accommodation to the workplace cannot be claimed. Trips home to the UK are OK, though. There is a food allowance, but this is capped to three months, unlike in the UK where the temporary workplace rules allow for an employee to claim travel and subsistence for up to 24 months, providing certain conditions are met.
Cullen gives an insight into the German taxman’s reasoning, which shows that odd tax rules are not restricted to the UK: “When asked why subsistence was capped at three months, the tax authority’s response was that three months should be long enough for a contractor to find all the best value places to eat!”
The double taxation treaty and the contractor’s limited company
There is a double taxation treaty between the UK and Germany, so any tax payments made by the contractor during their German contract are taken into account by HMRC when determining any UK tax liabilities.
“Taxes are higher in Germany so an average contractor with no other income apart from their German contract during the tax period will not be asked to pay any additional tax in the UK,” confirms Cullen.
In practical terms, a contractor winning a six-month contract is most likely to join a UK umbrella company with an AUG for the duration of the contract, leaving the limited company in the UK to become dormant.
The income from the German contract is paid directly to the contractor as employment income, and not to their limited company, so will be accounted for in the contractor’s UK self-assessment personal tax return.
When the contractor returns to the UK, they would pick up their limited company again when they start work on their next UK contract.
German workers can become self-employed, but there are tests of employment/self-employment that are similar to those in the UK. These include questions such as:
- Are you under supervision?
- Are your working hours controlled?
- Are you paid more than those around you (the assumption being that a highly skilled contractor would be paid more)?
- Are you distinguishable from the rest of the workforce? If a contractor is one of 20 engineers doing the same thing and they are all employed, then self-employment status is likely to be challenged.
“Disguised employment is a massive risk to German clients,” explains Cullen. “If a UK contractor goes to Germany and registers as self-employed, and their status is contested by the tax authorities, the bill will land on the client’s desk.
“And it could be quite a substantial bill. This is because of the four main social security contributions, the self-employed pay only two. It will cost the client about €2,000 a month in unpaid social security if a self-employed contractor is subsequently found to be a disguised employee.”
Cullen says: “Contracting in Germany is highly regulated and the penalties for non-compliance are high, including steep fines and even prison. As such,” he concludes, “Both contractors and contractor agencies should take expert advice before accepting a contract and ensure they seek advice from and register with a reputable umbrella company that has all the necessary licences and expertise to operate in Germany.”