Many countries have laws on the books that spell out the difference between an employee and a self-employed person, and Germany is no exception. The government has strict labor laws in place to protect workers, including ensuring they are correctly classified.
Since self-employed people (also known as independent contractors or freelancers) don't have the same legal protections as employees, German authorities don't want employers skirting labor laws by misclassifying an employee as a freelancer in an attempt to save money.
Doing so is known as false self-employment (Scheinselbstständigkeit), bogus self-employment, or pseudo self-employment.
Even if the misclassification is unintentional, it can result in serious legal and financial consequences.
Key takeaways:
- Misclassifying a worker as a freelancer instead of an employee can happen unintentionally, but the legal and financial consequences are still serious.
- German authorities use a range of factors to determine worker classification beyond what's written in an employment contract.
- The German Pension Insurance Association, labor court, and social insurance companies can instigate an investigation into false self-employment.
What Is False Self-Employment?
In Germany, if a company expects a freelancer to perform the same work as a full-time employee but does not offer benefits or make the required Social Security and tax payments, it is considered false self-employment.
According to German labor law, a genuinely self-employed individual controls when and how work is performed. They might receive project specifications from a client but set their own hours and rates and typically work with multiple clients.
In many instances, the misclassification is unintentional. A company might hire a contractor for a specific project but integrate the person more deeply with the company over time to the point where the individual might now be considered an employee under German law.
In other cases, companies might classify a worker as a freelancer to avoid the costs associated with hiring a full-time employee, such as benefits, Social Security contributions, etc.
Whether deliberate or accidental, misclassification can result in harsh fines and penalties for employers.
Key Factors That Determine Self-Employment Status
Even if a company and a freelancer have an agreement in place stating that the individual is self-employed, authorities will focus on how the work is carried out, not simply on what's stated in the contract.
There's no single determining element that separates false self-employment from genuine self-employment. Instead, German investigators look at a totality of circumstances to determine if a worker has been misclassified.
Dependency on a Single Client
If most of the freelancer's income is derived from one client, the freelancer might be considered an employee.
However, a single client doesn't necessarily mean the freelancer is an employee. A company might temporarily hire a freelancer to work on a large project full-time, but the contractor has had other clients in the past (and will move on to other clients once the project is over).
Freelancers might also work for a single client when they're new to freelancing and still building up a client roster.
Lack of Autonomy
Self-employed individuals typically set their work schedules and can accept or decline projects. They make decisions about how work is performed and can negotiate the scope of a project.
If a worker has to follow strict instructions or company processes, they might be deemed an employee.
Work Requirements
Freelancers shouldn't be required to follow a set schedule or work at a designated location (like the company's office) since individuals required to work specific hours at a specific place may be considered employees.
In addition, freelancers shouldn't be required to attend company meetings or request approval for time off.
Use of Company Resources
Providing contractors with company equipment (such as a laptop) and a company email address might suggest an employment relationship.
No Distinction Between Freelancer and Employee Expectations
Self-employed people should not perform the same job functions as employees. They shouldn't be integrated within teams or expected to participate in performance reviews.
Inability to Hire Subcontractors
Freelancers are allowed to delegate tasks or hire subcontractors. If the individual is prohibited from hiring subcontractors, it might indicate an employment relationship.
Lack of Self-promotion or Marketing
The freelancer should be able to demonstrate that they are marketing themselves as an independent contractor by maintaining a professional website or otherwise advertising their services.
If the freelancer has only one client, they should actively seek other clients. Working for several clients shows independence. Relying heavily on one client (especially if they provide the majority of their income) raises red flags.
Who Determines Bogus Self-employment?
Several government entities in Germany investigate potential instances of false or bogus self-employment. The German Pension Insurance Association (Deutsche Rentenversicherung, or DRV) is one, along with the labor court, social or health insurance companies, and the tax office (Finanzamt).
Part of the German customs office (Finanzkontrolle Schwarzarbeit) also investigates "black labor," which refers to undeclared or illegal work.
What could prompt a bogus self-employment investigation? It might be opened during a routine audit or if a freelancer requests an inquiry into false self-employment.
At that point, which entity carries out the process depends on the underlying reason for the investigation.
The DRV reviews employment every four years as part of a Social Security audit but cannot perform comprehensive checks due to staff limitations.
The agency is currently exploring utilizing AI to search companies’ accounting systems for bogus self-employed individuals. When implemented, AI looks for patterns and anomalies before the DRV begins its manual audit.
Legal and Financial Risks of Misclassification
Ignorance is not bliss when it comes to German labor laws. If the authorities determine that a worker has been misclassified, companies face serious consequences — even if the misclassification is unintentional.
Legal Consequences
If a freelancer is determined to be an employee, they are entitled to employee rights, such as paid leave, notice periods, and protections against dismissal. Companies risk legal action if they do not comply.
Additionally, the company might be found in violation of the Minimum Wage Act (Mindestlohngesetz), working time regulations, and tax laws — some of which are retroactive to the point at which the individual became an employee.
The company is also liable for Social Security contributions, including contributions to pension, health insurance, unemployment, and long-term care insurance. Liability is retroactive for up to five years (or 30 years in cases of deliberate misclassification).
Financial Penalties
Companies liable for false self-employment will have to pay the employer and employee portions of Social Security back payments unless they can prove that the contractor already paid. The employer will also be on the hook for late payment penalties and interest on overdue social contributions.
The company may also face payroll tax liabilities or other tax penalties from the tax authorities for misclassification. If the misclassification is deemed intentional, additional fines may be imposed.
Criminal Charges
In severe or intentional misclassification cases, both the employer and the employee can face fines or prosecution for violating social insurance laws. The penalties for withholding Social Security contributions include fines or five years imprisonment (in serious cases).
In 2024, it was reported that investigations of false self-employment had increased, with audits leading to more than 100,000 criminal proceedings. Clearly, Germany takes false self-employment very seriously.
How Companies Can Avoid False Self-employment
Since German authorities will look at the whole picture when determining false self-employment, there are steps you can proactively take to minimize the risk of employee misclassification.
Clearly Define the Work Arrangement
While stating in a contract that a worker is a contractor and not an employee doesn't guarantee the German government will agree, it's a good place to start.
Emphasize the freelancer's independence in the contract, such as the freedom to set their hours. The contract should also clearly define the scope of work, which should be distinct from any tasks your employees perform.
Allow Contractors to Work with Multiple Clients
Don't require freelancers to work exclusively with your company, and include this information in the contract.
Avoid Excessive Control
Freelancers should maintain control over any deliverables and work autonomously. Minimize oversight and don't micromanage the work. Don't require the freelancer to call in sick or coordinate vacation time with the team.
Companies should also allow freelancers to use their own equipment and work wherever they choose. If you need a freelancer to perform work from the company office, keep it to a minimum. Don't give the freelancer a company email address.
Conduct Regular Compliance Reviews
Since a worker's role may change over time, periodically review any freelancer relationships to ensure they continue to comply with German labor laws. Consider converting the freelancer to an employee if necessary.
Avoid Bogus Self-employment With an EOR
If you want to hire independent contractors in Germany without risking misclassification, consider working with an Employer of Record (EOR) like RemoFirst.
When you partner with us to manage contractors, we create compliant contracts that align with local labor laws. You can also pay contractors via our platform for only $25 per person per month.
Schedule a demo today to learn more about how RemoFirst can ensure proper classification and payment for your German contractors — as well as contractors in 150+ other countries — and hire, manage, and pay employees in 185+ countries.
.png)
.png)
