The distinction between false self-employment (also known as bogus self-employment) and employment subject to social security contributions is a perennial issue in both corporate practice and legal advisory work – not least due to the significant liability risks involved. In practice, it repeatedly becomes apparent that individuals ostensibly engaged as “freelancers” are, in fact, employees. The increasing prevalence of innovative employment models has further heightened the importance of structuring employment relationships in a legally compliant manner. From a corporate perspective, the prevention of false self-employment is a central issue in HR compliance, carrying financial risks as well as personal liability risks for the management.
What is false self-employment?
False self-employment occurs when a contractor is formally engaged as a self-employed individual by a company but, in reality, works under instructions and in a state of personal dependence akin to an employee. The consequence is that the individual is subject to the rights and obligations of an employee, liable for social security contributions.
Distinction between self-employment and dependent employment
In employment law, the distinction between self-employment and dependent employment is based on the concept of an employee under § 611a of the German Civil Code (BGB), whereas in social security law, it is determined by the concept of employment under § 7 of the German Social Code, Book IV (SGB IV). In both employment law and social security law contexts, two key criteria play a central role in making this distinction: integration into the business organization and the degree of instruction-bound work. However, the question of whether an individual has to be classified as self-employed or as an employee cannot be answered by a simple checklist. The distinction involves a complex process based on an overall assessment of various criteria. The following points serve as the basis for this assessment.
Specifications regarding place, time, and duration of work
A self-employed contractor typically determines where, when, and for how long they work. There are no fixed specifications from the client regarding the place of work or working hours. In contrast, an employer sets the place of work and working hours. An employee is bound by a fixed time system and has limited flexibility in planning their working hours.
Specifications regarding the manner of service provision
A self-employed contractor independently decides how to fulfill the tasks assigned to them. In the case of dependent employment, however, the employer typically provides detailed instructions on how the work is to be carried out. The Federal Social Court (BSG, Case No. B 12 R 9/21 R) ruled that a “pool doctor”, although acting with medical autonomy and not subject to instructions, is classified as a dependent employee. In cases involving highly skilled personnel who are not given instructions, the decisive factor is whether they are integrated into the organizational processes and thus into the client’s business organization.
Integration into the work organization
A self-employed contractor is not integrated into the operational processes or hierarchies of the company. They work independently of the client’s business. In contrast, an employee is typically part of the internal organization and subject to the company’s structures.
Comparison with the client’s employees
A contractor is treated differently from permanent employees in terms of working hours, supervision, and instruction-bound work. In its ruling of 18 August 2023 (Case No. L 7 BA 72/23 B ER), the Bavarian State Social Court compared contractors with permanent employees: A fitness trainer working as a course instructor without assuming entrepreneurial risk and integrated into the business organization of a gym is regularly classified as a dependent employee. The gym determines the courses offered and assumes responsibility for customer acquisition. The trainer’s task is to implement the prescribed program without the ability to independently modify or replace the courses offered.
Provision of work equipment
A contractor typically uses their own equipment to provide their services. Exceptions to this rule are only possible within narrow limits, such as for reasons of data security or to protect business and trade secrets. For example, it may be permissible for a self-employed IT expert to be prohibited from using their own hardware and software. In an employment relationship, however, it is standard practice for the employer to provide the employee with the necessary work equipment.
Remuneration structure
A self-employed individual is typically remunerated on the basis of contracts for work or services, often billing for time spent at an agreed hourly rate. Employees, on the other hand, typically receive a fixed salary. In relation to remuneration, the Wiesbaden Social Court (Case No. S 8 R 312/16) ruled that an above-average fee is not a decisive indicator of self-employment.
Non-competition and secondary employment restrictions
Another characteristic of self-employment is that a freelancer may work for multiple clients. However, a client may have a legitimate interest in agreeing to a non-competition clause during the term of the contract. According to case law (Federal Labor Court, Case No. 9 AZR 778/95), such a clause does not automatically preclude self-employment. Employees, by contrast, are subject to a non-competition obligation and may only engage in secondary employment to a limited extent.
Participation in internal meetings
Self-employed contractors only participate in internal meetings on an exceptional basis. Employees, however, are regularly involved in internal meetings.
Personal performance of services
A contractor is not obliged to perform services personally and may engage third parties to fulfill their obligations. An employee, on the other hand, must perform their work personally.
The weighting of the criteria varies depending on the industry and the individual case. However, the decisive factor is the actual practice of the working relationship. Even if a contract describes a self-employed activity, divergent working conditions may establish an employment relationship subject to social security contributions. According to the consistent case law of the Federal Social Court (see, inter alia, Case No. B 12 R 11/18 R), an overall assessment is always required.
Social security contributions in the case of a single-person corporation?
The Federal Social Court (Case No. B 12 BA 1/23 R, B 12 R 15/21 R, B 12 BA 4/22 R) applied the principles for classifying an activity as dependent or self-employed employment to cases where the contractual relationship exists between two legal entities, but the services are performed by a natural person who is also a shareholder and managing director of one of the legal entities. The decisive factor for the distinction is not the contractual structure but the actual nature of the activity.
Legal risks in engaging false self-employed individuals
The risks involved with false self-employment are significant for companies. They include not only financial losses but also criminal consequences that may personally affect the management.
If it is subsequently determined that a supposedly self-employed contractor is in fact classified as an employee, the company will be liable for all outstanding (total) social security contributions. These must typically be paid retroactively for the last four years. In cases of intent, the claims may even extend back up to 30 years. In addition, high late payment penalties are often imposed. The late payment penalty amounts to 1% of the outstanding amount for each month or part thereof that the payment is overdue.
Under § 266a of the German Criminal Code (StGB), those responsible in the company face imprisonment of up to five years if social security contributions are not properly paid. Regulatory sanctions may also result in substantial fines.
If false self-employment is retrospectively established, the individual is entitled to all the rights of an employee. These include protection against dismissal under the German Protection Against Dismissal Act (Kündigungsschutzgesetz), entitlement to paid leave under the German Federal Leave Act (Bundesurlaubsgesetz), continued payment of wages in the event of illness, and compliance with working time regulations under the German Working Time Act (Arbeitszeitgesetz).
Prevention: How can companies minimize the risk of false self-employment?
Companies can significantly reduce the risk of false self-employment through preventive measures. At the contract drafting stage, it must be ensured that the working relationship genuinely meets the criteria for self-employment. The actual implementation of the working relationship is crucial. The contractor should not be integrated into the business organization like a permanent employee. For legal certainty regarding the classification of the activity, companies may apply to the German Pension Insurance (Deutsche Rentenversicherung) for a status determination procedure.
In summary, awareness and legal advice are essential. The avoidance of false self-employment is a central HR compliance issue. Through early legal advice and regular review, companies can significantly reduce the risk and avoid legal pitfalls. Systematic risk management and sensitizing those responsible are crucial to prevent unpleasant surprises.
