Remuneration in Shares: The Prohibition of Payment in Kind under § 107(2) GewO Sets Limits for Start-ups (Higher Labour Court of Düsseldorf)

In its judgment of 30 October 2008 (case no. 5 Sa 977/08), the Higher Labour Court (Landesarbeitsgericht, LAG) of Düsseldorf ruled that remunerating employees primarily through non-voting preference shares is impermissible. In the case at hand, an IT start-up agreed a salary payment that was to be made almost entirely in shares instead of cash. After the end of the employment relationship, the developer successfully claimed back payment of the market-standard gross salary.

The court assessed the share arrangement as a breach of the statutory prohibition of payment in kind (Truckverbot) under § 107(2) of the German Trade Regulation Act (Gewerbeordnung, GewO). The Truckverbot legally obliges employers to pay remuneration in money as a matter of principle and prohibits replacing wages primarily with benefits in kind or goods, in order to protect the employee from economic exploitation and from bearing the entrepreneurial risk.

Because of this breach, the agreement is to be regarded as absolutely void under § 134 of the German Civil Code (BGB). The provision of IT services has no functional connection with the securities issued. The agreement therefore did not correspond to the nature of the employment relationship. In addition, non-voting preference shares are subject to considerable entrepreneurial price risk. This contradicts the employee's objective interest in a secure livelihood. Owing to the invalidity, the statutory claim to payment of remuneration in cash revived.

Breaches of these principles entail considerable financial liability risks through retroactive remuneration claims. In addition, the incorrect payment of contributions creates the risk of criminal prosecution for withholding remuneration under § 266a of the German Criminal Code (StGB).

Equity models (such as ESOP or VSOP) must mandatorily be structured as an additional gratuity on top of a cash salary that secures the employee's livelihood, and may under no circumstances substitute for it. As long as the contractual cash salary is in itself customary and sufficient to secure a livelihood, the court sets no upper limit on the additional grant of shares.