Are you a successful sole proprietor and are now ready to take the next step in your entrepreneurial career?
Are you thinking about changing the legal form of your company and would like to improve your image or limit your liability?
Then you are probably faced with the following decision: Should you convert your sole proprietorship into a GmbH or a UG?
Which legal form is better? What exactly is the difference?
But don’t worry: Many (young) entrepreneurs ask themselves exactly the same question.
In this article, I will present the six main differences between these two legal forms and also give a very clear recommendation at the end. The content of this article at a glance:
- What is a GmbH?
- What is a UG?
- What are the differences between a GmbH and a UG?
- My conclusion: Which of the two legal forms should you choose?
This post was updated on 2 August 2021.
A GmbH (Gesellschaft mit beschränkter Haftung) is a limited liability company. Legally it is classified as a corporation.
Unlike, for example, a sole proprietorship or a partnership (KG, GbR or oHG), the focus is not on the people but on the capital share.
In other words: Whereas in partnerships the partners themselves are usually involved in the company and have unlimited liability (except for limited partners in the case of a KG), a GmbH is legally completely separated from the partners.
The partners are only liable with their capital contribution and do not necessarily have to work in the company. The management can even be taken over by someone who is not a partner.
The GmbH is therefore a distinct legal entity and is also taxed as such. In the case of partnerships, on the other hand, the partners are always taxed directly.
Like the GmbH, the UG (Unternehmergesellschaft) or entrepreneurial company is also a limited liability company.
It is therefore subject to the same laws as a GmbH and offers you similar advantages (limitation of liability, access to company pension schemes, etc.).
One of the main differences between the UG and the GmbH, which I would like to point out at the outset, relates to the minimum capital needed: You can set up a UG with as little as €1, whereas a GmbH requires at least €25,000 in share capital.
This is why the UG is often called a “mini GmbH”.
The introduction of the UG was a direct response to the increasing popularity of the British Limited in Germany. This British legal form offers similar advantages to the UG, but has not been an alternative for German companies since Brexit.
Although in legal terms the UG is only a “small” version of the GmbH, in practice there are significant differences. I would like to explain the six most important to you there:
Difference 1: The minimum capital is lower with the UG
As I mentioned above, the biggest difference between the GmbH and the UG is the amount of capital needed to set up the company:
- You have to pay in at least €25,000 in share capitalto form a GmbH.
- Whereas theoretically you can form a UGwith as little as €1 share capital.
If you cannot (yet) raise the €25,000 share capital necessary for a GmbH, then this would make the UG a clear front runner for you.
Difference 2: A UG has a lower credit rating and a poorer image
The low share capital of the UG can affect your company’s credit rating. This is because, the lower your equity capital, the riskier a loan is from the bank‘s point of view.
This also comes into play when dealing with suppliers and other business partners: As a GmbH owner you are more respected and can usually negotiate better payment terms, thanks to the €25,000 in share capital behind you.
Therefore, compared to a GmbH, with a UG you are always at a disadvantage in this respect.
Difference 3: With a UG you are liable more quickly with your private assets
Although the liability of both the GmbH and the UG is usually limited to the capital contribution, you can still be liable with your private assets.
As managing director, you are still subject to the so-called piercing through the corporate veil (Durchgriffshaftung) liability risk. This means that you are personally liable as an individual for any damage incurred, even though your GmbH or UG has a limitation of liability.
This is the case in the event of:
- Failure to file for insolvency in good time
- Tax evasion
- Understatement of tax
- Personal guarantees to banks
- Non-equitable use or distribution of liquid assets in the event of a crisis (Section 69 German Fiscal Code)
Difference 4: The formation costs for a UG are lower
In addition to the contract and notary costs, in the case of a conversion there are also consultancy costs (lawyer and tax consultant) to consider. The following costs are realistic here:
- Formation costs for a UG: €400
- Formation costs for a GmbH:more than €3,000
The reason for the difference is that the formation procedure for the UG is much simpler and often standard articles of association are used.
With the GmbH there are more procedural formalities and many points (inheritance, relationship between shareholders, etc.) are often individually enshrined in the articles of association.
Difference 5: A non-cash incorporation is not possible with a UG
When founding a GmbH, the entire share capital of €25,000 does not have to be paid in in cash. So called non-cash incorporation is possible.
A part of the (or, if desired, the entire) share capital can be replaced by property assets (real estate, cars, company shares, etc.).
This is not possible with a UG. The share capital can only be paid in in cash (see Section 5a German Limited Liability Companies Act (GmbHG)).
Difference 6: In the case of a UG, 25% of the profits must always be retained
As a UG owner you are obliged to leave at least 25% of your annual profits in the company in order to be able to save up an additional capital reserve more quickly.
This obligation does not exist with a GmbH and you could, in theory, pay yourself all the profits.
On a positive note: As soon as you have saved up €25,000 in your UG, you can convert it into a GmbH for a few hundred euros. Then the 25% savings obligation no longer applies.
The bottom line is that a GmbH usually offers you more advantages than a UG:
- You can form the company using assets
- You enjoy a higher credit rating and a better image
- You do not have to retain profits
Nevertheless, it is difficult for many founders to raise the required share capital (€25,000) on their own.
My experience has therefore shown: A UG is a good compromise and interim solution.
If you cannot raise enough share capital for a GmbH, then set up a UG first.
As soon as you have accumulated sufficient capital reserves, convert the UG into a GmbH at a reasonable price.
In this way you gradually acquire all the advantages: With the UG, you already benefit from access to the company pension scheme, better regulations for company succession and the limitation of liability.
After the conversion to a GmbH, there are additional advantages such as a higher credit rating or a better image.
If you have further questions about your corporate transformation, I will be happy to advise you.
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