Which legal form is most suitable for a startup depends on many factors. Founders should think carefully about where they want to go right from the start, as a change is possible but involves a lot of effort. In this article, you will learn about the advantages and disadvantages of each legal form.
How many people are involved in the startup? Is my startup more profit-orientated or non-profit? Do I need outside capital, or do I want to remain self-financed? Do I plan to go public or sell the company in the long term? These are some of the questions that founders should ask themselves and that have a major influence on the choice of legal form. A basic distinction is made between two categories: partnerships and corporations.
Partnerships are characterised by comprehensive liability
Partnerships consist of at least two natural or legal persons who join to pursue a common purpose. The simplest form is the partnership under civil law (GbR). The formation of a GbR is uncomplicated; neither an entry in the commercial register nor share capital is required. However, in the event of an emergency, the partners are liable with all of their assets, including private assets, which would also apply to investors. A GbR is therefore not recommended for ambitious startups. This applies even more to the partnership company (PartG), which is intended for freelancers such as doctors or lawyers.
The full liability of all shareholders also makes the general partnership (OHG) a rather unattractive legal form for startup founders, who usually have little capital and take a high risk. The advantages of a general partnership are a large legal scope and high creditworthiness. A limited partnership (KG) is comparable to an OHG, but with one key difference. Of the at least two partners, at least one must be a general partner and one a limited partner. Only general partners are liable with their entire assets, whereas limited partners are only liable up to an amount entered in the commercial register. This also makes the KG attractive for investors as limited partners. One variant of the KG is the GmbH & Co KG, in which a GmbH assumes the role of general partner. This eliminates the risk of liability with personal assets. Nevertheless, both legal forms are almost never found in startups.
The GmbH is the most popular legal form
The GmbH is the most common form of corporation, a legal form that is generally characterised by two criteria: unlike a partnership, share capital is required and there is only a limited liability obligation. In the case of the Gesellschaft mit beschränkter Haftung (limited liability company), this is already in the name. Liability is limited to the company's assets or share capital, which must be at least 25,000 euros. A GmbH can also be founded by a single person; there are no restrictions on the number of shareholders. In Germany, the GmbH is the most common legal form for companies and is popular with startups and investors alike.
The little sister of the GmbH, so to speak, is the Unternehmergesellschaft or UG (haftungsbeschränkt). Here, just 1 euro is sufficient as share capital. However, at least 25% of any annual net profit must be set aside as a reserve. This regulation is less attractive for investors due to the resulting limited profit distribution. By increasing the share capital to at least 25,000 euros, the conversion of the UG (haftungsbeschränkt) into a GmbH is relatively straightforward. This legal form is therefore recommended for startups that have virtually no equity capital at the very beginning and are not initially reliant on external financing.
Another special form of GmbH is the gGmbH, where the "g" stands for "gemeinnützig”, which means “non-profit". In contrast to a non-profit association, a gGmbH operates as a commercial enterprise, whereby the profits flow exclusively to a contractually defined charitable purpose. In return, a gGmbH enjoys a number of tax advantages, including exemption from corporation and trade tax. Recently, there has been a lot of talk about steward-ownership. This term refers to the principle that all profits are used entirely for company purposes and are not distributed to shareholders. There is not yet a separate legal form for so-called purpose companies pursuing this goal, nor does the gGmbH cover this.
Only suitable in exceptional cases: the AG
At first glance, a public limited company (AG) appears to be an unsuitable legal form for startups, as an AG is associated with a stock market listing. In fact, this is not necessary, only the capital stock of 50,000 euros must be in the form of shares. An AG has three bodies: a management board consisting of at least one person, a supervisory board (at least three members) and the general meeting of all shareholders. The costs and administrative effort involved in running an AG are relatively high, but issuing shares theoretically makes it easier to raise capital. However, venture capital firms tend to be put off by the limited say they have as shareholders. Founders who value independence should also refrain from using an AG. If there is a prospect of rapid scaling and an IPO is the goal, this legal form may make sense in exceptional cases.
It might also be worth considering the formation of a European Company, internationally known as a Societas Europaea (SE). This form of a public limited company makes it easier to operate in the European Economic Area, as it is based on legal grounds that apply in numerous European countries. The minimum capital requirement is 120,000 euros and the regulations are comparatively complicated, meaning that an SE is very rarely an option for startups.
There are several other variants of the legal forms mentioned, but none of them play a significant role for startups. Even if the range seems large, the GmbH is the first choice for most founders because it offers the greatest flexibility and corporations are generally less risky than partnerships for both entrepreneurs and investors.
