In a GmbH, Managing Director play a central role. They manage, represent and represent the company and make a significant contribution to the company's success or failure. The managing director's contract sets out the specific rights, requirements and objectives for the managing director.
In this article, managing directors, shareholders and supervisory bodies learn what important information they should know about the content of a managing director's contract.
1. Checklist: Typical areas of regulation of a managing director's contract
The contracts of managing directors in GmbHs contain a large number of provisions regarding the rights and obligations of the managing director and the company. Each managing director contract is individually designed and can vary depending on the industry, company size, business area and shareholder structure. Nevertheless, some basic regulatory areas can be identified that should be taken into account along with other aspects.
Checklist for the managing director contract:
- Relationship between managing director contract, partnership agreement, rules of procedure and shareholder resolutions as well as the possibilities for subsequent amendment
- regulations on existing employment relationships
- Scope of the power of representation and management authority (including departmental responsibilities) and the possibility of changing them
- Transactions requiring approval and their subsequent adjustments
- Remuneration (fixed and variable) and other benefits (e.g. health insurance, retirement provision, company cars, company cell phones, laptops, 1st or 2nd class travel expenses)
- Limitations of liability: limitation to intent and gross negligence, limitation of liability in terms of the amount, regular right to relief, D&O insurance
- Contract duration, termination options, notice periods and severance payments of the managing director
- (Post-contractual) non-competition clauses, including competition and customer protection clauses, non-solicitation clauses and confidentiality agreements
- Possible special regulations for shareholder-managers
- Invalidity of managing director contracts and responsibilities within the company
- General Terms and Conditions Control of Managing Director Contracts: Consumer Protection for Managing Directors
- Tax-optimized design of managing director contracts
Even this short but incomplete checklist illustrates the complexity of managing director contracts. The provisions not only affect the relationship between the managing director and the GmbH, but also have far-reaching effects beyond that.
A well-structured contract can, for example, avoid frequently occurring uncertainties in the event of later personal claims by the GmbH or third parties, as well as uncertainties in the enforcement of salary claims and restrictions in the event of a professional reorientation.A notice: In addition, numerous special features apply to shareholder-managers (e.g. hidden profit distributions, tax aspects and the (non-)exemption from social security contributions), which are explained in more detail at the end of this article.
2. Regulations on existing employment relationships
It is common for people to be appointed as managing directors who were previously employed by the company. The managing director's contract should therefore clearly state how these previous employment contracts are to be dealt with:
- Should the previous employment contract come into force again in the event of termination of the managing director?
- Do the previous contracts (in addition to the new managing director contract) still exist?
- Will the previous employment relationship be terminated or should it be transferred to the new relationship?
3. Scope of representation and management authority
It may be useful for the managing director to set out a regulation in the managing director's contract regarding the scope of his authority to represent the company. Important aspects include:
- Individual or collective representation: Does the managing director have the right to act alone, or must he coordinate with the other managing directors and sign contracts together?
- Exemption from the prohibition of self-contracting (§ 181 BGB): Is the managing director permitted to conclude contracts with himself?
From the perspective of the GmbH, however, it is advisable to make the power of representation and management in the contract as flexible as possible in order to allow for later adjustments.
It is crucial that the provisions in the managing director's contract are consistent with the company's articles of association and any rules of procedure. In practice, there are often contradictions between the various provisions, as different templates are often used.
4. Transactions requiring approval
As a rule, the managing director's contract also contains provisions on transactions requiring approval that serve to control the managing director.
The shareholders often reserve the right to co-decision on important matters, such as:
- real estate purchase contracts
- license agreements
- loan agreements
- contracts whose value exceeds a certain amount
In cases where the consent of the shareholders is required, the managing director is obliged to obtain this approval. There are often established catalogues of transactions that require approval. These consent requirements are regulated not only in the managing director's contract, but also in the articles of association or the rules of procedure.
If the managing director violates the consent requirement, he risks extraordinary termination and may even be liable to pay damages to the GmbH.
5. Remuneration of the Managing Director and other benefits
In modern managing director contracts, remuneration often consists of a fixed salary and variable remuneration components (such as bonuses or royalties).
Fixed salary
First, the gross salary is determined either on a monthly or annual basis. In addition, lump-sum bonus payments or special payments, such as Christmas or holiday bonuses, can be agreed as part of the fixed salary.
Variable compensation
In the case of variable remuneration, a profit-related bonus is often agreed in order to create incentives for successful company management. In practice, remuneration arrangements based on sales and events (milestones) also occur. From the company's perspective, discretionary bonus arrangements that are at the company's discretion offer the greatest flexibility. However, these arrangements may not be very attractive for the managing director.
Other services: pension and insurance
The main additional benefits for the managing director include:
- subsidies for health and nursing care insurance
- subsidies for retirement provision
- taking out life insurance
- provision of D&O insurance
- company car, laptop, travel expenses, etc.
In addition, it is advisable to clearly define any additional services. These include, for example:
- Type of company car and its private use
- Private use of IT devices (laptop, mobile phone, tablet, etc.)
- Amount of reimbursement of travel expenses (1st/2nd class by train and plane)
What is the total compensation?
The amount of the individual remuneration components depends not only on the type and extent of the managing director's activities, but also on the size of the company and the earnings prospects, especially in the case of shareholder-managing directors. In addition, the amount of the managing director's remuneration has a direct impact on corporate and trade tax. The remuneration is considered a business expense for tax purposes and thus reduces the tax assessment basis.
The higher the total remuneration, the lower the corporate taxes. Pension systems that enable effective tax reduction therefore make sense for GmbH managing directors.
Attention to the shareholder-managing director
However, in the case of a managing director who is also a shareholder, care must be taken to ensure that both the fixed and variable remuneration as well as additional remuneration components are appropriate.
Inappropriate remuneration that does not stand up to arm's length comparison can lead to tax problems (such as hidden profit distribution). Particular attention should therefore be paid to tax optimization in the managing partner's employment contract.
In addition, the tax authorities have defined further conditions under which the remuneration of a shareholder-managing director is recognized as a business expense (e.g. ratio of fixed and variable remuneration, permissible reference values for royalties). The details of the remuneration arrangement in the employment contract should therefore be carefully designed.
Can the managing director also work for free?
It is not absolutely necessary to pay the managing director a salary. This is particularly often the case for shareholder-managing directors of startups. As long as the company is in the start-up phase and there are no financial resources yet, it can make sense not to burden the company unnecessarily.
Alternatively, a salary can be agreed and set in conjunction with a subordinated salary or a subordinated deferral, which will be paid later when the company's financial situation allows it.
6. Managing Director Liability, Liability Avoidance and Responsibilities
Managing directors are exposed to various liability risks that may arise from the company, the shareholders, the tax authorities, the social insurance providers, insolvency administrators and other third parties.
Background: Liability risks for managing directors
The areas in which liability risks can arise are very diverse. These include, among others:
- Business mistakes
- product responsibility
- taxes and social security contributions
- M&A transactions
- grants and subsidies
- environmental, competition and antitrust aspects
- Data protection and obligations to file for insolvency
In recent years, such liability cases have been pursued more and more consistently, often in court. This trend is due to a change in awareness among companies and the emergence of manager liability insurance.
Liability reduction in the managing director's contract
In order to reduce the risks of liability and claims – sometimes even to prevent them completely – the managing director can take preventive and strategic measures.
The classic measures for reducing and limiting liability include the contractual design of the managing director's contract, shareholder resolutions, the managing director's regulation and/or compliance systems.
In the managing director's employment contract, for example, the managing director's liability towards the company for negligent breaches of duty can be excluded, as long as the primary concern is not creditor protection.
Allocation of responsibilities in the managing director's contract
The clear definition of areas of responsibility is particularly important in a management team with several members in order to minimize liability risks.
It is sensible to clearly define the responsibilities of the managing director in the managing director's contract. Dividing the management into different areas enables a clear allocation of duties.
A list of particularly important transactions, which require the approval of at least two managing directors or the shareholders' meeting, limits the scope of action of an individual managing director. These are some of the instruments that enable the shareholders to control the managing director.
right to regular relief
The shareholders give their consent to the actions of the managing director in a specific financial year through the so-called discharge. This declaration of consent takes the form of a shareholders' resolution. However, the managing director has no legal right to such a resolution.
It is therefore common practice to agree in the managing director's contract that the managing director is entitled to regular discharge. This reduces his liability risk, as the shareholders should have recognized any breaches of duty.
taking out D&O insurance
The D&O insurance that is taken out for managers often covers the managing director's costs in the event of liability. If the company is willing to take out such insurance for the benefit of the managing director, this is usually recorded in the managing director's contract.
A (maximum) liability sum is often also specified, for which the insurance should be taken out. D&O insurance ensures that the managing director is not held liable with his private assets in the event of liability. D&O insurance is therefore one of the basic instruments for limiting liability for managing directors.
7. Fixed-term contract, notice period, extraordinary termination without notice & dismissal as well as severance pay
Another important point in the managing director's contract is the contract term. All parties involved should be aware that the contract term and the notice periods are generally freely negotiable.
Managing director employment contracts can be either fixed-term or permanent. In particular, contracts for external managing directors are often limited to two to five years.
It should be noted that even in fixed-term contracts, (ordinary) grounds for termination for early termination of the managing director's contract can be specified.
Ordinary termination
For permanent contracts, it is advisable to explicitly regulate the notice period. The point in time at which termination is possible (e.g. end of the month or end of a quarter) and the notice period to be observed (e.g. four weeks to the end of a month or six weeks to the end of a quarter) should be clearly defined.
If the notice period is not expressly regulated in the contract, a statutory notice period of four weeks initially applies to external managing directors. The question of whether and how this period will be increased has been unclear since a ruling by the Federal Labor Court in 2020. Since then, there has been disagreement in some parts of the case law. Therefore, a contractual regulation of the notice period in the managing director's contract is now essential in order to create legal certainty for all parties involved. A longer notice period offers more planning security, but makes it more difficult to terminate the contract early.
Extraordinary termination
Extraordinary termination for good cause cannot be excluded by the contracting parties; it is mandatory statutory law. Nevertheless, important reasons can be mutually agreed upon in the managing director's contract that entitle one of the parties to extraordinary termination.
Typical examples of such agreed extraordinary grounds for termination are change-of-control cases (i.e. significant changes in the shareholder structure) and violations of contractual non-competition clauses.
coupling clauses
In addition, many managing director employment contracts contain so-called linking clauses, which stipulate the automatic expiration of the contract if the managing director is removed from office or his office ends in another way.
Whether such clauses are effective must be assessed on a case-by-case basis. Case law has developed important guidelines for practice in this area.
Special attention should also be paid to regulations that stipulate that a shareholder-manager automatically loses his shareholder status when he leaves the management. Such agreements are not so easy to enforce legally, as case law has set strict limits.
For further information on the removal and termination of managing directors, see here: Removal, termination and resignation of the managing director of a GmbH.severance pay
When a managing director's contract is terminated, the managing director is not legally entitled to severance pay. If severance pay is to be paid, this must be expressly regulated in the managing director's contract.
8. Non-competition clause for managing directors
The members of the management of a GmbH have a special duty of loyalty to the company. This duty includes that they may not compete with the company. For the management of AGs, OHGs, KGs or KGaAs, this ban on competition arises directly from the law.
In addition, a managing director is generally prohibited from exploiting the company's business opportunities ("corporate opportunities") for his own benefit. Although this commitment to business opportunities is not explicitly stated in the law, it arises directly from the duty of loyalty under corporate law.
The specific scope of the non-competition clause and the business opportunity restriction is often difficult to determine in practice. This is particularly true for the post-contractual non-competition clause, which is also not enshrined in law. If a company intends to bind its managing director with a post-contractual non-competition or customer protection clause, it must meet certain legal requirements. Otherwise, there is a risk that the post-contractual protection will become ineffective and thus no longer effective.
9. Special features: Shareholder-Managing Director
It is particularly important for shareholder-managers to make the regulations regarding the performance and remuneration of the manager clear and unambiguous:
- An objectively “high” remuneration can justify the accusation of hidden profit distribution (vGA).
- This also applies to payments that are not expressly specified in the managing director's contract, such as reimbursement of travel expenses or the private use of a company car.
- Both the fixed and variable remuneration of the managing director must be clearly defined in advance. It is not permissible, for example, to quickly set a Christmas bonus shortly before the end of the year.
In addition, there are special tax considerations for shareholder-managers. It is often necessary to assess on a case-by-case basis whether a shareholder-manager is subject to social insurance contributions or not. Careful preparation and wording of the manager contract can help to save or minimize taxes.
10. Invalid managing director contracts and jurisdiction
The conclusion of a managing director's contract is generally the responsibility of the general meeting of shareholders, unless the articles of association of the GmbH provide for different provisions.
If the contract is not signed by the responsible body, it may be invalid. The Federal Court of Justice (BGH) has ruled that an invalid employment contract concluded by a GmbH managing director must be treated in accordance with the principles of faulty employment relationships. This means that the contract is considered valid for the duration of the managing director's activity, but can in principle be terminated at any time in the future and without any important reason.
However, the judges made it clear that an invalidly concluded employment contract can, in exceptional cases, be considered valid for the future if both parties have recognised this contract as the basis of their legal relationship for years and the company has strengthened the managing director's trust in the legal validity of the contract through further actions.
11. General Terms and Conditions Control: Consumer Protection for the Managing Director
According to the case law of the Federal Labor Court (BAG) and the prevailing opinion in the literature, the managing director of a GmbH can be considered a consumer within the meaning of Section 13 of the German Civil Code (BGB) when concluding his employment contract. This means that the managing director's employment contract is subject to general terms and conditions control.
The law on general terms and conditions includes a catalogue of requirements that must be observed for reasons of consumer protection. This includes the prohibition of unreasonable discrimination and the rule that ambiguous clauses, if they are effective at all, must be interpreted in the most favourable way for the consumer.
12. Legal expertise in the area of managing director contracts
Our highly qualified and specialized team of lawyers specializing in corporate law, labor law and tax law is available to answer all questions about the managing director's contract. We work closely with our tax advisors. The range of advice provided by our specialists includes in particular:
- Drafting and adapting managing director contracts
- Review and optimization of managing director contracts under corporate, tax, social security and labor law aspects
- Accompaniment, advice and support in contract negotiations on new and amended managing director contracts
- Termination of existing managing director contracts, in particular by termination
- Drafting and adapting rules of procedure for the management and coordinating these with managing director contracts and shareholders' agreements
- Dispute settlement, mediation or judicial enforcement of claims in connection with managing director employment contracts, including effective interim legal protection measures (e.g. interim injunctions)
For a non-binding inquiry, you can contact one of our contact persons directly by phone or email or use our contact form.
Our recommendations
The regulatory aspects presented in this document refer to general aspects of the managing director's contract that are relevant for almost every managing director. In addition, there are various regulatory mechanisms that vary depending on the industry, company size, business area and shareholder structure and must be adapted individually.
Managing directors, whether they are external directors or shareholder-directors, as well as shareholders and companies, should be aware that managing director contracts can be designed in a wide range of ways. At the same time, it is important to note that such contracts are often complex legal documents, the handling and application of which should be carefully considered.
This applies not only to the situation in which a new managing director contract is concluded, but also when appointing another managing director, adjusting an existing contract due to changed circumstances, changes in departmental responsibilities, restructuring or conversions, and terminating a managing director contract.
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