What is an employer of record?
An employer of record is when a company based abroad "assigns" one of its employees to a company in Germany without the employee actually working on site in Germany. The employee remains in their home country, where the company based there handles the entire employment relationship, i.e., the agreed wage payment is made via the employer of record, which also pays any social security contributions and taxes abroad accordingly.
As a rule, there is a three-party relationship. This means that there is the employer of record based abroad, which concludes the employment contract with the employee and "loans" them to the company in Germany, as well as the employee themselves. The employer of record and the company in Germany conclude their own contract on the terms and conditions of this "assignment."
If there is also an intermediary who mediates contact between the company in Germany and the employer of record, there is a four-party constellation, which can be highly risky due to the lack of transparency in the contractual relationships. For example, the company in Germany has no insight into the contracts between the intermediary and the employer of record.
This type of "loaning" of employees is common within Germany. Here, this business model is known as employee leasing and is subject to strict regulations under the Employee Leasing Act and monitoring by the Employment Agency.
But do these regulations also apply in cases where the employee works for a company based in Germany but is neither registered there nor even resides in Germany? And what exactly is the difference between the employer of record and employee leasing, even though the activity is ultimately the same when viewed from the outside?
Differences between employee leasing under German law and the employer of record
In employee leasing, an employee is leased by the lessor to a lessee for a limited period of time to perform work. The lessor remains the legal employer and is responsible for salary payments, social security registration, and the provision of occupational safety measures, while the lessee exercises the right of direction, i.e., determines workplaces, tasks, and working methods. The Employee Leasing Act applies without restriction in this case.
In contrast, the employer of record is a company outside Germany that “loans” an employee to a company in Germany without that employee actually working physically on site in Germany. As a rule, there is a contract between the German company and the employer of record for various specifically designated services or work.
But do the regulations on employee leasing also apply if the employee does not work on site for the company in Germany? For the German Employee Leasing Act to apply, there must be a sufficient “domestic connection.”
Establishing the domestic connection of the work performed
A domestic connection can exist in various ways. Of course, it exists if the employee is physically present in Germany. However, this will rarely be the case. This raises the question of whether a sufficient domestic connection also exists if the employee is not in Germany but the work is performed in Germany.
This is conceivable, for example, in the context of "home office" and "teleworking." In this case, the employee is not physically present on site, but still performs his or her work directly in Germany. This "virtual domestic connection" is equated with "mental presence" and is sufficient for the applicability of the Employee Leasing Act, according to the Employment Agency. Business trips that allow an employee from abroad to work on site in Germany for a short period of time are also sufficient to trigger the application of the Employee Leasing Act.
A different assessment can only result if the work is not performed directly and in full by the employee himself, but merely if the employee's services are utilized. Such utilization occurs if the German company receives an intellectual or physical product that can be separated from the actual work performed and continues to work with this product, i.e., the service provided merely forms a blank for the actual work performed. This is not sufficient to establish the necessary "virtual domestic connection" and justify the applicability of the Employee Leasing Act. The necessity of this assessment is justified by the fact that otherwise there would be unequal treatment of employees working from home in Germany and employees located abroad, even though the work for the German company is completely identical.
The application of the Employee Leasing Act may also be excluded if the employee of the employer of record is employed exclusively abroad and the employee's work requires their direct physical presence abroad.
Consequences of non-compliance with the provisions of the Employee Leasing Act
In order for employee leasing to be possible at all, the lender requires a permit from the Employment Agency. The lender and borrower can then discuss the duration of the lease and possible remuneration modules. However, the obligation to pay remuneration remains with the lender. The lender also continues to pay the temporary worker's social security contributions. The hirer must ensure that the temporary worker's remuneration is equal to that of the hirer's employees.
If, within the framework of the Employer of Record, there is a sufficient domestic connection between the employee's work for the company in Germany and there is no approval for employee leasing by the Employment Agency (and no social security contributions are paid in Germany due to a lack of corresponding registration in Germany), this can have far-reaching consequences. Both for the hirer and for the lender.
This unregistered and unauthorized employee leasing constitutes an administrative offense, which can result in fines of up to €30,000.00 per offense for the temporary employment agency. If a lender deploys several employees in this way at external companies, possibly even in several countries, fines in the six-figure range can quickly be imposed.
In addition, there is the possibility that an employment relationship between the hirer (i.e., the German company) and the employee is fictitious. This is assumed retroactively to the date on which the employee started working for the hirer, with the result that all social security contributions and income taxes are due retroactively and must be paid retrospectively.
In addition, the statutory notice periods come into effect in such a case, meaning that the hirer can no longer terminate the employee's employment by notifying the lender if the assignment is no longer required. Instead, the hirer must comply with the statutory notice periods, which may mean a commitment to the employee lasting several months longer.
As a result, social security contributions that have not been paid properly may also be relevant under criminal law and thus result in prosecution by the law enforcement authorities. In the event of a conviction, the managing director and/or the company may face fines or even imprisonment for up to five years.