Construction and projects in Germany: overview

A Q&A guide to construction and projects law in Germany.

The Q&A gives a high level overview of the main trends and significant deals; the main parties; procurement arrangements; transaction structures and corporate vehicles; financing projects; security and contractual protections that funders require; standard forms of contracts; risk allocation; excluding liability, including caps and force majeure; contractual provisions covering material delays and variations; appointing and paying contractors; subcontractors; licences and consents; projects insurance; labour laws; health and safety; environmental issues; corrupt business practices and bribery; bankruptcy/insolvency; public private partnerships (PPPs); dispute resolution; tax and mitigating tax liability; the main construction organisations; and proposals for reform.

To compare answers across multiple jurisdictions, visit the construction and projects Country Q&A tool.

This Q&A is part of the multi-jurisdictional guide to construction and projects law. For a full list of jurisdictional Q&As visit www.practicallaw.com/construction-mjg.

Wendelin Acker and Thomas Günther*, Hogan Lovells International LLP
Contents

Overview of the construction and projects sector

1. What are the main trends in the local construction and projects market? What are the most significant deals?

Main trends

There is a slight recovery of the transactional real estate and the lease markets in Germany. It seems that several investors and real estate funds continue to invest in the German commercial real estate and housing markets and are currently acquiring. Even some portfolio transactions have been conducted recently. This development could also stimulate the civil construction industry. However, financing conditions remain difficult for many investors and developers and the rather small number of new development projects during the last two years has led to more competition in the construction industry. Even medium-sized general contractors are competing with traditionally leading firms in complex major projects.

The market for infrastructure and energy projects seems to be stronger, mainly regarding the energy and transportation sectors. The renewable energy sector in particular, is further gaining weight. However, while there are a number of huge off-shore wind energy projects, the tariff cuts regarding solar energy could slow down the sector in the future. Furthermore, the politically motivated exit from the nuclear power technology will create new opportunities causing a further demand for new conventional power plants (for example, gas and coal) and power lines.

Major projects

The best known current major projects are probably the:

  • Extension of the "Rhein-Main Airport" in Frankfurt.

  • New Berlin/ Brandenburg airport.

  • Several off-shore wind park projects in the North Sea.

  • Main train station project in Stuttgart, "Stuttgart 21".

  • Habour project "Jadeweserport".

  • High rise project "European Central Bank" in Frankfurt.

  • Re-development of the "Hafencity" in Hamburg.

 

Procurement arrangements

2. Which are the most common procurement arrangements if the main parties are local? Are these arrangements different if some or all of the main parties are international contractors or consultants?

The main parties involved in a project are the:

  • Principal. For example, project developers or investors.

  • General contractor. The principal can use a general contractor, in most cases under turnkey-ready contracts that is, where the works are constructed and delivered ready to use.

  • Specialist contractors. The principal sometimes divides the scope of the works into subsections or specialist trades (Einzelgewerke), contracting directly with the respective contractors.

  • Planners (architects, engineers and so on). These are contracted by the principal or the general contractor, depending on the project's structure. If the works are executed by more than one contractor, the principal usually provides the design and supervision of the project. A general contractor is usually contracted on the basis of a basic planning (Entwurfsplanung) and a building permit obtained by the principal. In this event, the general contractor executes the detailed planning (Ausführungsplanung) on that basis. However, differing design and build structures with additional responsibilities for the general contractor are also used.

Public procurement

Special statutory procurement arrangements only apply to local contracting public authorities. The Contracting Rules for Award of Public Works Contracts, Part A (Vergabe-und Vertragsordnung für Bauleistungen, Teil A) (VOB/A) and the Act against Restraints on Competition (Gesetz gegen Wettbewerbsbeschränkungen) contain rules on the procurement of contracts in accordance with EU competition law standards. Local and international parties should be treated equally, although few international construction companies have been able to establish themselves in the German market.

Private contracts

Private parties are free to choose their contractual agreements and procurement route. For local construction projects, the parties to a contract usually refer to VOB/B, which contains specific general terms and conditions for the execution of the construction works.

The parties can also agree on alternative procurement models such as construction management contracts or guaranteed maximum price (GMP) contracts.

International contracts

If some or all parties are international, international procurement arrangements like engineering, procurement and construction (EPC), engineering, procurement and construction management (EPCM) and design-and-build contracts are frequently used.

 

Transaction structures

3. What transaction structures and corporate vehicles are most commonly used in both local and international projects?

Local projects

Depending on the size of a transaction and the expertise required, parties often engage in projects using a joint venture structure. This can be formed as a:

  • German limited partnership. This is the most common form. The joint venture company is organised in the form of a German limited partnership with a German limited liability company (Gesellschaft mit beschränkter Haftung) (GmbH) as general partner. This structure is known as GmbH & Co. KG. The GmbH & Co. KG combines the advantages of a corporation regarding shareholder liability (that is, the limited partners who have made capital contributions have no liability) with the tax transparency of a partnership. The GmbH & Co. KG is not subject to income tax itself. Instead, profits and losses are directly allocated to the partners. The GmbH & Co. KG itself is only subject to trade tax, value added tax (VAT), real estate tax and real estate transfer tax (if any).

  • German limited liability company. This is a straightforward form of corporation with flexibility for shareholders to structure the corporate governance.

In a joint venture, the articles of association and partnership agreements are usually accompanied by shareholder agreements providing for the:

  • Financing of the joint venture company.

  • Insolvency of one of the joint venture partners.

  • Handling of deadlock situations and conflicts in general.

  • Restrictions on the transfer of shares.

  • Non-compete rules.

Exit rules (including distribution of proceeds from an exit).

Typical transactional structures usually comprise a set of newly founded GmbHs and GmbH & Co. KGs (or the recently acquired shelf companies). These structures are largely tax driven, particularly to avoid real estate transfer tax where legally possible.

International projects

Contractors or investors from abroad sometimes use corporate vehicles in a German limited partnership structure, but with a foreign entity as general partner. For example, a:

  • Private limited liability corporate entity (société à responsabilité limitée) (SARL) & Co. KG (Luxembourg).

  • Private limited liability company (besloten vennootschap met beperkte aansprakelijkheid) (BV) & Co. KG (The Netherlands).

These structures can be used for corporate tax and trade tax reasons. However, the permissibility of a partnership structure with its administrative seat abroad is doubtful. This is because German corporate law provides in principle that a partnership is not recognised as a partnership (and can be dissolved) if it does not have its seat of administration in Germany. This structure is therefore becoming less popular.

 

Finance

4. How are projects financed? How do arrangements differ for major international projects?

Debt and equity

Construction projects are usually financed partly by equity (often shareholder loans, for tax reasons) and partly by debt. The injection of the equity by the shareholders is often bridge-financed by debt as well. In larger transactions, non- or limited recourse project financing structures are used. Therefore, all assets and all debt necessary to complete the relevant development are vested with a special purpose vehicle (SPV), which has no business other than the development. The debt providers have no or only a specifically limited recourse against the SPV's shareholders (sponsors), unless they have given guarantees for certain obligations of the SPV or one of its sub-contractors, as the case may be. As a result of this structure, the SPV is the borrower of the debt and the shareholders therefore has no or only a limited obligation to make payments to the lenders on the project loan if the revenues generated by the project are insufficient to cover principal and interest due.

The debt portion is usually granted in the form of term loans (bond financings are uncommon). Bank debt may also be granted in senior-junior or senior-mezzanine structures. The structure of the debt financing depends on the project in question, for example, the kind of facility (equity bridge facilities, senior term loan, working capital facilities, debt service reserve facilities), availability of the facilities, conditions precedent for making the loan, purpose of the facilities (for example, construction and operating costs of the project), interest (margin based on risk profile of project and specific facility), repayment structure (for example, bullet, amortisation or balloon).

The general project financing structure is the same in different project sectors (for example, infrastructure or energy projects). However, essential for the structuring of a specific project financing is the specific risk profile of the relevant project in question which depends on the overall structure of the project (for example, assessment of the construction and operating risks, reliability of the income stream and the participant, and so on) and the financing structure will be adjusted accordingly, for example, debt-to-equity ratio, additional guarantees of shareholders.

In larger transactions, the financing banks wish to share the risk with co-financiers, either through a:

  • Club deal, where there is more than one bank funding on the closing date.

  • Syndicated loans, where there is initial funding by one or more banks and subsequent sale of participations.

A bank can also grant sub-participations to co-financiers (that is, retain its position as lender of record and transfer the risk to another entity). This is advisable if the participant is not licensed as a bank.

In international syndicated loans, all of the following apply:

  • One or more banks act as arranger.

  • One bank acts as agent (and is in charge of the loan administration).

  • One bank acts as security agent (and holds and, if necessary, enforces the security package granted for the facilities).

The loan documentation for larger international project financing transactions usually follows the standard developed by the Loan Market Association as adapted in Germany and suitable for the project in question.

Credit agreement and security documents

The common terms agreement/facility agreements and security documents are usually signed before construction works begin. Therefore, the loan documentation must:

  • Refer to a detailed plan for the completion of the development, which must be mirrored in the fee arrangements with the relevant construction company.

  • Provide that drawdowns under the facilities are only allowed on each level of completion if certain steps have been completed.

Apart from that, the loan documentation will set out the basic terms of the loan and will contain general provisions relating to maturity, interest rate and fees. The typical project financing CTA/facility agreement will also contain provisions such as:

  • Disbursement requirements in the form of conditions precedent to each drawdown such as progress reports on the construction progress certifying that the amounts to be drawn are required for the funding of the project.

  • Positive and negative covenants ensuring the proper execution of the project and giving the lenders control rights, for example, financial covenants and project covenants requiring the SPV to maintain certain financial ratios and SPV must not be entitled to amend or waive rights under the agreement without the prior consent of the lender.

  • Representations and warranties, making the SPV guarantee the state of the project and its participants. Certain representations and warranties have to be repeated throughout the term of the loan.

Specific termination rights of the lenders: project completion

Completion of the project usually has an impact on the project financing.

There are different possible structures:

  • In a typical project financing structure where the project financing has been secured prior to the start of construction:

    • the availability of the construction-related facilities ends;

    • equity that has been bridge-financed has to be injected, and the equity bridge facility thereby repaid;

    • the projected cash flows on which the project financing is based are supposed to come in now, therefore starting the repayment period of the senior term loan.

  • If the project is sold to a third party on completion, debt can be repaid from the purchase price.

  • Financing may also cover only the construction phase and therefore capital and interest are due after completion of the project.

The cost for the construction of the project can then be refinanced after the construction phase through long term debt financing, either by the initial lending syndicate or by new lenders, against assignment of the project income stream and the rest of the typical project finance security package. The refinancing after completed construction includes less risk since the project is already completed and the structuring of the financing might therefore be easier (for example, there is no need for overdraft facilities or similar buffers to cater for cost overruns in the construction phase).

PPPs

In PPPs, the public authority usually pays the private developer regular fees only after hand-over of the completed project facility. Part of the fees is used to repay the development costs and another part is intended to cover the ongoing operation and maintenance (O&M) costs. The development costs are pre-financed by a mix of equity and bank debt, usually on a non-recourse project financing basis as described above.

A common structure in PPPs in Germany is the forfeiting of the capital expenditure-related part of the fee to the financing banks by way of a receivable purchase agreement. This is often combined with a waiver of objections (Einredeverzicht) given by the public authority to the financing banks. This structure aims primarily at decreasing the developer's funding costs to the level of costs typical for public debt.

 

Security and contractual protections

5. What forms of security and contractual protections do funders typically require to protect their investments?

Security

Equity providers are usually not granted collateral.

Lenders that provide debt financing always ask for a full security package, which includes charges over the SPV's shares and assets, accounts, assignment of the SPV's receivables by way of security, in particular, the relevant income stream, for example, feed-in tariffs, fees agreed under the PPP project agreement, and so on, insurance proceeds, assignment of all receivables under all project agreement, including any guarantees, performance bonds and so on, relating to the project under which the SPV is the beneficiary. Sponsors grant security over the shares of the SPV and the SPV charges all of its assets for the benefit of the bank(s). The assets charged depend on the individual project structure.

Lenders can also ask for a guarantee of the SPV's obligations by one or more sponsors, dependent on the commercial agreements made.

Lenders usually require other participants in the project, such as the sponsors and the major subcontractors (EPC contractors), to enter into subordination agreements by which payments to and from the SPV will be restricted and made subordinate to the payment of debt service.

Step-in agreements are also common, that is, direct agreements between the financing banks/agent and relevant subcontractors that enable the financing bank/agent, under certain conditions, to assume the contractual positions of the SPV under the relevant subcontracts, thereby avoiding its termination, ensuring the proper execution of the project and preserving the income stream necessary to ensure repayment of the debt.

In real estate developments, the SPV usually owns the relevant real estate and grants a land charge (Grundschuld). Other assets can also be charged. In addition, the security package usually includes:

  • A pledge (Verpfändung) of the SPV's bank accounts.

  • An assignment (Abtretung) of the SPV's claims, among others:

    • against the construction companies involved;

    • against insurances;

    • to payment of future rents;

    • for fees owed by third parties (for example, the instructor in a PPP);

    • to payment of a purchase price when the development is sold.

PPPs

In PPPs, the security package does not differ from a project financing structure in another sector. A special security document is the step-in agreement between the public authority and the lenders, enabling the lenders, under certain conditions, to assume the contractual positions of the SPV under the project agreement, thereby avoiding its termination and preserving the essential income stream necessary to ensure repayment of the debt.

 

Standard forms of contracts

6. What standard forms of contracts are used for both local and international projects? Which organisations publish them?

Local projects

Local parties to construction and infrastructure projects refer to the contractual conditions in the VOB, issued by the Federal Commission for Award and Contracts of Public Building Works (Deutsche Vergabe-und Vertragsausschuss für Bauleistungen) (DVA). The VOB comprises three parts:

  • VOB/A. This only applies to contracting public authorities and relates to the procurement of contracts. It contains mandatory rules for public procurements and tendering processes (see Question 2).

  • VOF. Similar to the VOB/A, this also applies to contracting public authorities and relates to the procurement of planning and engineering contracts.

  • VOB/B. This contains standard terms and conditions for construction contracts, on payments, delay, invoicing, warranties and securities, among other things.

  • VOB/C. This contains the technical requirements for construction works.

VOB/B and VOB/C always form part of construction contracts with public authorities. Private parties need to contractually agree on the application of VOB/B and VOB/C.

International projects

When international parties are involved, the parties can use internationally common standard forms, like those produced by the International Federation of Consulting Engineers (Fédération Internationale Des Ingénieurs-Conseils) (FIDIC). For major projects, individual EPC or design-and-build contracts based on common international standards are often agreed and adjusted to the parties' requirements. If German law applies, these contracts must not contradict the mandatory provisions of German law and international standard forms frequently have to be amended to fit to the German law requirements.

 

Contractual issues

Contractors' risks

7. What risks are typically allocated to the contractor? How are these risks offset or managed?

The allocation of risks is subject to the parties' agreement. However, there are certain legal standards based on statute and case law.

The contractor is generally considered to bear the risk of circumstances foreseen under the contractual documents, such as plans, permits and expert statements. The principal bears the risk of unforeseeable circumstances.

For example, the ground risk is usually agreed on the basis of an expert investigation that the principal provides to the contractor and that forms part of the contract. In relation to this:

  • The contractor bears the risk of circumstances that could be foreseen on the basis of the investigation.

  • The principal bears the risk of unforeseeable circumstances that could entitle the contractor to additional remuneration.

Excluding liability

8. How can liability be excluded or restricted under local law?

Generally, liability can be excluded for negligence and gross negligence, but not for intentional behaviour.

Liability can be limited to direct damages and liability for indirect or consequential losses, and loss of profit, can be excluded. However, German courts are generally very restrictive in relation to these contractual limitations. In addition, statutory restrictions regarding the validity of limitations to liability apply even to commercial contracts, particularly if limitations are stated in standard terms and conditions. The scope of application of these statutory restrictions is very wide. Therefore, any contractual limitation of liability should be carefully considered and should be individually negotiated and expressly agreed for each project.

Caps on liability

9. Do the parties usually agree a cap on liability? If yes, how is this usually fixed? What liabilities, if any, are typically not capped?

Civil construction contracts do not usually contain caps on liability. However, such limitations to liability are more and more requested by building contractors.

In engineering contracts caps are quite common.

Some planners and project managers may negotiate caps on liability, for example on the extent to which indemnity insurance covers damage, but many principals do not accept caps on liability.

Force majeure

10. Are force majeure exclusions available and enforceable?

Neither the principal nor the contractor is liable for damages caused by force majeure. This is due to the principle that parties to a contract are only liable for damage caused by negligence or wilful conduct. However, the construction period can be extended if the works are suspended due to a force majeure event, entitling the contractor to a claim for additional remuneration.

Material delays

11. What contractual provisions are typically negotiated to cover material delays to the project?

Construction contracts usually contain a contractual penalty to ensure compliance with the contractual completion date. This contractual penalty is largely comparable to liquidated damages (as used under FIDIC standard forms). If the contractual penalty is triggered due to negligent delay, the principal does not need to prove that the delay caused damage.

The legal requirements regarding the validity of contractual penalties are strict. For example, the penalty must be subject to exactly defined maximum amounts. However, the principal is entitled to claim for damages that exceed these maximum amounts, if the normal requirements for the substantiation of a damages claim are fulfilled.

Material variations

12. How are material variations to the works usually dealt with in the contract?

The German Civil Code (Bürgerliches Gesetzbuch) does not provide any specific rules regarding material variations. Therefore, the parties usually agree on stipulations regarding additional remuneration for alterations. VOB/B includes specific provisions regarding possible variations to the works. In general, the contractor is entitled to additional remuneration and to an adequate extension of time if the principal orders alterations to the design or additional works which are not included in the original contract. The contractor is often required to notify the principal of his claim before carrying out the work. In addition, the parties must agree on the additional sum due before proceeding with the work. Under the VOB/B, claims based on alterations generally have to be calculated on the basis of the original base calculation (Urkalkulation) of the contract. This means that alterations in prices are not considered for the calculation of the additional remuneration.

Other negotiated provisions

13. What other contractual provisions are usually heavily negotiated by the parties?

The following main contractual provisions are usually heavily negotiated:

  • The scope of the works.

  • Turnkey obligations.

  • Remuneration and payments.

  • Construction periods.

  • Penalties.

  • Security.

However, all contracts must comply with the mandatory legal framework under the Civil Code. Unlike under common law systems, matters regulated by law do not generally need to be provided for in the contract. However, statutory law limits the parties' ability to agree on certain matters, for example in the case of statutory standard terms and conditions.

 

Architects, engineers and construction professionals

14. How are construction professionals usually selected? Following selection, how are they then formally appointed?

For the appointment of architects and engineers, public authorities are bound to the procurement rules under the VOF (see Question 6). These rules apply for all projects with a value above certain thresholds and provide for a formal tender process.

Commercial principals are free to structure the selection of construction professionals according to their individual needs.

In general, there are no specific rules for the appointment of construction professionals. However, appointments should be made in writing under the Ordinance on fees for architects and engineers (Honorarordnung für Architekten und Ingenieure) (HOAI), if applicable.

Statutory law establishes unlimited liability for planning defects and for defects regarding supervision of the building contractors. This can also include liability for delay in the progress of works and may even include excessive construction costs if caused by defective planning. The statutory warranty period is five years.

Architects and engineers are statutorily required to maintain third party liability insurance covering most claims arising from defects, but the amount covered by insurance is often subject to agreement. Architects and engineers are often not in the commercial position to contractually limit their liability.

 
15. What provisions of construction professionals’ appointments are most heavily negotiated? Are liabilities routinely limited or capped in construction professionals’ appointments?

In general, there are no specific rules for the appointment of construction professionals. However, appointments should be made in writing under the Ordinance on fees for architects and engineers (Honorarordnung für Architekten und Ingenieure) (HOAI), if applicable.

Statutory law establishes unlimited liability for planning defects and for defects regarding supervision of the building contractors. This can also include liability for delay in the progress of works and may even include excessive construction costs if caused by defective planning. The statutory warranty period is five years.

Architects and engineers are statutorily required to maintain third party liability insurance covering most claims arising from defects, but the amount covered by insurance is often subject to agreement. Architects and engineers are often not in the commercial position to contractually limit their liability.

 

Payment for construction work

16. What are the usual methods of payment for construction work? Are there ways for the contractor and consultants to secure payment or mitigate risks of non-payment under local law?

Methods of payment

The Ordinance on fees for architects and engineers (Honorarordnung für Architekten und Ingenieure) (HOAI) regulates the remuneration of architects and engineers. The HOAI includes, among other things, mandatory minimum and maximum fees for the engagement of architects and engineers that cannot be waived by the parties. However, due to the freedom of establishment and services granted by the EU, the HOAI only applies to local professionals and not to architects and engineers who have their commercial seat in another member country.

Under the Civil Code, payments are only due after the principal accepts the works. However, the parties usually agree on instalment payments in line with the works' progression. If the contractor's work is defective, the principal is entitled to retentions or to deny instalments.

Securing payment

Advance payments are usually secured by bank guarantees, often on first demand. Payments can also be secured by contractual securities.

The contractor can under statutory law (section 648a, BGB) request a bank guarantee as security covering his full outstanding remuneration claims at any time during the works. If the principal fails to provide this security within a set deadline, the contractor can suspend the works immediately and is even entitled to terminate the contract. Additionally, the contractor can claim for this security in court. This statutory regulation is mandatory and cannot be modified by agreement.

 

Subcontractors

17. How do the parties typically manage their relationships with subcontractors?

The relationship between the general contractor and the subcontractors is largely independent of the principal. However, the relationship between the contractor and a subcontractor is usually managed on a "back-to-back" basis with the main contract.

Statutory law provides some restrictions and regulations to protect subcontractors. Under these protections, the general contractor must generally pay the subcontractor when the general contractor has received remuneration from the principal. In addition, if the remuneration from the principal is designated to pay subcontractors, the general contractor holds this remuneration on trust for the subcontractor.

In contrast, the principal is as a general principal not liable to pay a subcontractor directly.

 

Licensing

18. What licences and other consents must contractors and construction professionals have to carry out local construction work? Are there any specific licensing requirements for international contractors and construction professionals?

Contractors and construction professionals do not require a construction-specific licence to carry out building work (although the project itself usually requires a building permit (see Question 19)). However, in certain cases, contractors may require a licence under the Commercial Code (Gewerbeordnung), which is usually issued by the commercial supervisory authorities (Gewerbeaufsichtsämter). This licence relates to the contractor's reliability, particularly in financial terms. It aims at consumer protection and the avoidance of violations of the law.

Architects must be enrolled in the architects list of the relevant state architect chambers (Architektenkammern). To enrol, architects must have a certain professional education (this is also necessary for engineers). Adequate education in other EU member states may be sufficient. If architects and engineers operate as contractors, they may also need a licence under the Commercial Code.

Architects and engineers that submit application documents for building permits need to maintain sufficient insurance coverage.

 
19. What licences and other consents must a project obtain?

Before

Construction and use of a building usually require a building permit granted by the local building authority. The building permit covers issues such as planning/zoning and safety requirements (for example, fire protection) but also noise protection, parking spaces, and so on. Other permits may be necessary in certain cases (for example, a permit for industrial plants under emission protection law). Certain permits are also required before a building permit can be issued (for example, relating to monument protection).

Certain simple types of building (such as residential buildings in the area of a local zoning plan) are excluded from the permit requirement. In this case, the party developing the project (that is, the principal or general contractor called the project master (Bauherr)) must ensure compliance with all building law requirements. The project master has a formal position of responsibility in relation to the building authority.

During

In certain cases, the building authority conducts site visits to review the building's compliance with the permit (Zwischenabnahme). This usually takes place when the building shell is completed.

On completion

After completion, the relevant authority may carry out another building review (Schlussabnahme). Deficiencies must be fixed within a certain time. The building can only be used when it has been properly completed. For certain buildings (usually such with increased danger levels for example, due to the presence of many customers, and so on) the authority undertake reviews in regular turns, especially concerning fire safety.

 

Projects insurance

20. What types of insurance must be maintained by law? Are other non-compulsory types of insurance maintained under contract?

Parties to a construction contract usually agree on the conclusion of both:

  • Indemnity insurance (Haftpflichtversicherung) covering personal injuries, and financial and property damage (Vermögens- und Sachschäden).

  • Contractor's all risk insurance (Bauleistungsversicherung). This usually also covers the principal's risk.

Additionally, many parties agree on minimum amounts that the insurance policies should cover and the distribution of costs.

Architects and engineers are legally obliged to maintain indemnity insurance. Minimum amounts covered are often agreed by contract.

 

Labour laws

21. Are there any labour law requirements for hiring (local and foreign) workers?

Local workers

Generally, there are no labour law requirements for hiring local employees. However, leasing of employees (Arbeitnehmerüberlassung) is not permitted in construction projects as far as work usually performed by blue-collar workers is concerned (Act on the Leasing of Employees ( Arbeitnehmerüberlassungsgesetz)).

Foreign workers

EU nationals. Nationals of EU member states can be employed without any restrictions (Treaty on the Functioning of the European Union (TFEU)). They do not need a visa or work permit.

MOE nationals. Some restrictions remain with regard to the hiring of nationals of two MOE countries (that is, Central and Eastern European Countries) that recently became EU member states. Currently, Employees from Romania and Bulgaria need a limited EU work permit (Arbeitserlaubnis-EU) to work in Germany. However, they can enter Germany without a visa and do not need a residence permit (Aufenthaltserlaubnis).

Since 1 May 2011, these restrictions have ceased to apply with regard to eight other MOE countries (Poland, Slovakia, Slovenia, Czech Republic, Hungary, Estonia, Latvia and Lithuania). Employees from these MOE countries no longer need a limited EU work permit, but must register their place of residence if they stay in Germany for more than three months.

Non-EU nationals. Non-EU nationals need a residence permit to work in Germany. Generally, they receive a residence permit to work in Germany for a limited period of time. In addition, a visa must usually be obtained before arrival.

Exceptions apply to employees from Switzerland, European Economic Area (EEA) countries and employees from privileged third countries (for example, the US, Australia, Japan and Canada).

 
22. Which labour laws are relevant to projects?

The Act on Employees' Assignment (Arbeitnehmerentsendegesetz) provides for mandatory working conditions for cross-border services. Its aim is to ensure fair competition and employees' rights. It differentiates between mandatory working conditions under legal or administrative provisions, and those based on collective bargaining agreements.

Employers with registered offices abroad must observe mandatory working conditions under certain legal provisions. In particular, employers must comply with:

  • Restrictions provided for by the Act on Working Hours (Arbeitszeitgesetz).

  • Provisions on paid annual holidays under the Federal Vacation Act (Bundesurlaubsgesetz).

  • Standards on health, safety and hygiene at work.

Additionally, if an employer provides construction services, he must guarantee collectively agreed working conditions. The employer must comply with collective bargaining agreements which have been declared generally binding (Allgemeinverbindliche Tarifverträge). These may stipulate, for example, provisions on minimum wages and holiday.

 
23. Must an employer pay statutory redundancy or other payments at the end of a project? Are all employees eligible?

German labour law does not provide for statutory redundancy or severance payments at the end of a project. The employment contract does not end automatically at the end of a project. However, where German labour law applies to the employment relationship, the employer and employee can agree on a fixed-term employment contract ending either:

  • After the expiry of the agreed period.

  • On achieving the purpose of the agreement (for example, the completion of a construction project, provided that there are no other projects on which the employee can work afterwards).

 

Health and safety

24. Which health and safety laws apply to projects?

During the construction phase, the employer must, inter alia, comply with the:

  • Labour Protection Act (Arbeitschutzgesetz).

  • Workplace Ordinance (Arbeitsstättenverordnung).

  • Ordinance on Health and Safety at Construction Sites (Baustellenverordnung).

These stipulate the general principles of safety measures which must be taken.

The contractor must also ensure public safety and appoint a site manager, who is in charge of safety on the construction site and of compliance with public ordinances.

In addition, the Accident Prevention & Insurance Associations (Berufsgenossenschaften) also provide for accident prevention rules (Unfallverhütungsvorschriften) which substantiate the employer's legal duties to maintain safety. Special accident prevention rules have been passed for construction work. A failure to comply with these rules may result in administrative fines and in criminal and civil liability on the part of the employer.

Finally, the Ordinance on Operational Safety (Betriebsicherheitsverordnung) and the Equipment Safety Act (Gerätesicherheitsgesetz) will become relevant with regard to the safety of the equipment which is used in the performance of the work.

 

Environmental issues

25. Which local laws regulate projects' effects on the environment?

Air

Environmental and building permits contain requirements relating to thresholds for gaseous emissions and noise (Federal Emissions Control Act (Bundes-Immissionsschutzgesetz) (BImSchG)). Projects listed in the 4th Federal Emissions Control Ordinance require a permit under the BImSchG that covers these as well as building law requirements.

Water

Projects must comply with the Ordinance on Handling of Water-Endangering Substances (VAwS) of the Federal States. This requires projects to take technical measures to prevent the accidental escape of harmful substances into the groundwater. Following a renewal of the Federal Water Act (Wasserhaushaltsgesetz) in 2010, a new ordinance is currently being drafted at Federal level.

Waste

Facility operators must minimise, recover and/or dispose of waste. Waste resulting from demolition works usually must be separated and disposed of. Excavated contaminated soil may be defined as waste. The Federal Soil Protection Act requires that soil contamination is cleaned up. Various parties are liable to clean up, including the property owner and the person that caused the contamination.

Environmental impact assessments (EIAs)

The Federal EIA Act provides the general rules relating to EIAs. It provides that the EIA is part of the authorities' permit procedure. The need for an EIA must be pre-assessed in certain cases and not all projects are automatically subject to a full EIA. A full EIA is usually only necessary if the project's size or the local circumstances suggest that it may have a substantial impact on the environment.

Sustainable development

The zoning plan and building permit usually cover sustainable development considerations.

 
26. Do new buildings need to meet carbon emissions or climate change targets?

The Buildings Energy Saving Act (Energieeinsparungsgesetz) and the Buildings Energy Saving Ordinance (Energieeinsparverordnung) both:

  • Require a reduction in energy use.

  • Provide technical standards to be complied with (for example, in relation to heat insulation and facility technology).

An energy pass must be obtained if a building is newly developed or substantially amended, or sold.

There are requirements concerning carbon emissions for certain industrial projects (Greenhouse Gas Emissions Trading Act (TEHG)). These projects must provide emission certificates to the competent authority. The owner of the project is responsible for compliance with these requirements.

 

Corrupt practices

27. Are there any rules prohibiting corrupt business practices and bribery (particularly any rules targeting the projects sector)? What are the applicable civil or criminal penalties?

Rules

German law does not provide for criminal liability of companies. However, any or all of the following may apply:

  • Companies can be subject to significant sanctions for corrupt practices (German Regulatory Offences Act (Ordnungswidrigkeitengesetz)).

  • Any profits made from corrupt practices may be subject to profit skimming. The competent authority is the criminal court. It is often not possible to calculate the exact profit the company could gain in connection with its bribery payments. In this case, the profit can be estimated on the basis of the investigated facts.

  • Companies that are deemed responsible for corruption payments may be black listed by the authority. This means that they are debarred from public procurements for a certain period of time, the duration of which is subject to the severity of the offence. Each state co-ordinates its own black listings, so the black listing is only effective in the state imposing this sanction. To prevent black listing, a comprehensive investigation, co-operation with the authority, and compliance measures to avoid future offences are recommended. Furthermore, latest court decisions lead to the assumption that, especially in severe cases, companies are also expected to assist victims to identify a possible damage.

The German Criminal Code (Strafgesetzbuch) contains regulations that protect the national and the international private business market. Bribery payments to officials are particularly heavily sentenced. Additionally, the International Anti-Bribery Code (Internationales Bestechungsgesetz) and European Anti-Bribery Code (Europäisches Bestechungsgesetz) prohibit bribery payments to foreign officials. In this respect, the International Anti-Bribery Code reflects the US Foreign Corrupt Practices Act.

Civil law economic penalties can exceed criminal law penalties. Each individual and company involved in corrupt practices can face serious damages claims. In addition, agreements that have been entered into on the basis of corrupt practices can be deemed void. In this case, the payer of the bribes bares the risk that it may be excluded from making any claim in relation to the void contract.

Penalties

Penalties for companies, according to the Regulatory Offences Act, range up to EUR1 million and vary according to the severity of the crime committed (as at 1 April 2012, US$1 was about EUR0.7). The penalty is imposed additionally to profit skimming, whereas the latter may exceed the "sanction" part of such penalty by far.

 

Bankruptcy/insolvency

28. What rights do the client and funder have on the contractor's bankruptcy or insolvency?

On the date the insolvency proceedings open, the principal loses his entitlement to claim for contractual performance. Only the insolvency administrator can either:

  • Perform the contract by replacing the contractor and claim for remuneration.

  • Refuse further performance.

If the insolvency administrator refuses further performance, the principal can claim for non-performance only as a creditor in the insolvency proceedings. This means the creditor will only receive an equal pro rata share (insolvency quota), which is usually less than 5% of the value of the claim.

As the principal is dependent on the administrator's decision in relation to performance or non-performance, the principal usually needs to be able to terminate the contract. Therefore, a termination right in the event of the contractor's insolvency must be agreed, as statutory law does not provide such a termination right. The VOB/B contains a termination right and entitles the client to terminate the contract if the contractor suspends payments or declares insolvency, or the contractor or a debtor applies for insolvency proceedings to be initiated. In these cases, both:

  • The work already done must be paid for according to the contract prices.

  • The costs which the contractor has already incurred and which are included in the contract prices for the work not yet executed must be reimbursed.

However, as the VOB/B is limited to statutory law standard terms and conditions, parties are advised to conclude an individual agreement on termination rights.

 

PPPs

29. Are public private partnerships (PPPs) common in local construction projects? If so, which sectors commonly use PPPs?

The use of PPPs is increasingly common, particularly in the accommodation and social infrastructure sectors (for example, schools, administrative buildings and open air pools). It is also common in the A-models scheme. This is a roads infrastructure scheme aiming at the widening, refurbishment, operation and maintenance of existing motorways. Healthcare PPPs are not common.

 
30. What local laws apply to PPPs?

There is no specific legislation applying to PPPs. PPP project contracts are based on the general civil law. The only exception to this applies to F-models. The F-models scheme is a toll road scheme for certain trunk roads to be newly built by a concessionaire who is granted the right to levy tolls in consideration for the design, build, finance and operation (DBFO) of the road. The Federal Act on the private financing of the construction of federal trunk roads (Bundesfernstraßenbauprivatfinanzierungsgesetz) applies to F-models.

 
31. What is the typical procurement/tender process in a PPP transaction? Does the government or another body publish standard forms of PPP project agreement and related contracts?

PPPs are usually tendered in a negotiated procedure. Variations of the following procedures are carried out:

  • After pre-qualification, four to six selected bidders submit indicative offers. The authority then:

    • negotiates with two shortlisted bidders;

    • asks for best and final offers (BAFOS);

    • awards the project to the most attractive BAFO.

  • Alternatively, after having evaluated the indicative offers, the authority can ask certain bidders to submit a second, binding offer. The authority then selects one preferred bidder and negotiates with that bidder only.

Full due diligence should usually be carried out and binding support letters submitted in the second or third bid.

 

Dispute resolution

32. Which are the most common formal dispute resolution methods used? Which courts and arbitration organisations deal with construction disputes?

Formal dispute resolution methods

Litigation and arbitration are the most common methods to deal with construction disputes. Many parties prefer arbitration proceedings, particularly because the heavy workload of the courts causes slow litigation.

Domestic arbitration proceedings are governed by, among others:

  • Arbitration Rules of the German Institution for Arbitration (Deutsche Institution für Schiedsgerichtsbarkeit) (DIS).

  • Dispute Resolution Rules for Construction Matters (Streitlösungsordnung für das Bauwesen) (SGOSL Bau).

Ad hoc arbitration is commonly ruled by the general principles of the Code of Civil Procedure (Zivilprozessordnung).

International Chamber of Commerce (ICC) proceedings are often used for bigger projects, especially when international parties participate in the project.

Courts and arbitration organisations

Courts. Construction disputes are dealt with by either the:

  • Ordinary (civil or commercial) chambers of the Regional Courts (Landgerichte).

  • Regional Courts of Appeal (Oberlandesgerichte).

Several courts, particularly regional courts, have specific construction chambers with profound experience in this sector. At the Federal Court of Justice (Bundesgerichtshof) a special Senate (VII) is responsible for construction cases.

Arbitration organisations. The main arbitration organisations dealing with construction arbitration are (see box, Main construction organisations):

  • German Institution of Arbitration (Deutsche Institution für Schiedsgerichtsbarkeit e.V.) (DIS) (www.dis-arb.de).

  • International Chamber of Commerce (ICC Deutschland e.V., Internationale Handelskammer) (www.iccwbo.org).

  • German Association for Construction Law (Deutsche Gesellschaft für Baurecht e.V.) (www.baurecht-ges.de).

  • Working Group for Real Estate and Construction Law (ARGE Baurecht, Arbeitsgemeinschaft für Immobilien- und Baurecht) (www.arge-baurecht.com).

 
33. What are the most commonly used alternative dispute resolution (ADR) methods?

Mediation and conciliation are sometimes used methods of ADR, but are not really common in domestic projects. There are currently discussions relating to whether adjudication could be introduced for large construction projects. Adjudication during ongoing projects (for example, through dispute review boards) is new to the domestic market. Due to a lack of statutory basis and some legal uncertainties, it is questionable whether parties to construction contracts will agree on adjudication proceedings in the near future.

Binding expert determinations are commonly used in construction contracts. Expert determinations are frequently agreed on in relation to single technical matters (for example, defects), either in the contract or in a subsequent agreement. Additionally, the parties can initiate independent evidence proceedings (selbständiges Beweisverfahren) under the German Code of Civil Procedure (Zivilprozessordnung)). In these court proceedings, an expert nominated by the court investigates the matter in dispute before the main proceeding. Evidence proceedings often lead to out of court settlements, if only technical questions are in dispute.

 

Tax

34. What are the main tax issues arising on projects?

Personal and corporate income tax

The contractor's income from construction projects in Germany is subject to German personal or corporate income tax, if the contractor is liable to pay German tax (that is, where its corporate or management seat is in Germany, or it has a permanent establishment in Germany to which the construction is attributed). The current personal income tax rate ranges from 0.0% to 47.475% (including the solidarity surcharge). The corporate tax rate is 15.825% (including the solidarity surcharge).

The principal must generally withhold corporate or personal income tax on behalf of the contractor, unless the contractor presents an exemption certificate (Freistellungsbescheinigung) or the consideration does not exceed certain thresholds. Withholdings may be credited to the contractor.

Trade tax

German trade tax is due on German permanent establishments' profits. The rate ranges from 7% to more than 17%, depending on municipal multipliers. Trade tax is credited (up to certain levels) against income tax, but not against the corporate tax.

Value added tax (VAT)

Construction projects carried out in Germany are subject to German VAT at a current rate of 19%, charged by the contractor or the principal (reverse charge). The principal can deduct input VAT to the extent that he intends to use the developed property for taxable services.

Real estate transfer tax (RETT)

The consideration paid for the construction work may form part of the Real Estate Transfer Tax (RETT) base, leading to higher RETT costs, if the property seller and the contractor act jointly with regards to the principal. For example, this may occur in structured development offerings by the land owner and the contractor, and the RETT base would be raised from the value of the unconstructed land to that of the constructed land in such case. The RETT rate currently ranges from 3.5% to 5%, depending on the federal state in which the property is located.

Operating facilities (Betriebsvorrichtungen) are not taken into account in calculating the construction's value changes for RETT purposes in any case. Operating facilities are installations inherent to an industrial or commercial use of the building, rather than inherent to its housing or temporary accommodation function.

Land tax

The property owner is liable to pay land tax at municipal rates. The land tax rate is adapted according to the construction's value changes. Operating facilities (Betriebsvorrichtungen) are not taken into account in calculating the construction's value changes for land tax purposes (see above, Real estate transfer tax (RETT)).

Foreign contractor, transfer pricing; avoidance of double taxation

A construction project is itself deemed to be a permanent establishment if it exceeds a period of six months. However, many double tax treaties provide that foreign contractors' projects are not subject to German tax if the project does not exceed one year.

A foreign contractor's profit deriving from a German project must be apportioned between the German construction establishment and the contractor's headquarters or other non-German establishments involved alongside transfer pricing rules, based on the so called arm's length principle. The German construction establishment must be apportioned (and the non-resident contractor will be taxed in Germany on) such part of the contractor's profit which it would have earned if it was an independent sub-contractor. German and foreign taxing authorities may each question the apportionment made by the contractor. The foreign contractor may typically invoke (lengthy) intra-authorities negotiations in case of differing views of the national tax authorities if it is resident in a jurisdiction which has concluded a double tax treaty with Germany.

 
35. Are any methods commonly used to mitigate tax liability on projects? Are there any tax incentives to carry out regeneration projects?

The establishment of German or foreign resident special purpose vehicles may mitigate German tax liabilities of the principal resulting from the disposal of developed real property (for example, exit by way of a share deal).

Avoiding a German permanent establishment can reduce German tax in certain scenarios.

Shareholder loans may reduce the German tax basis if compliant with the German interest stripping rules and at arm's length.

Further, tax mitigation structures may be available and must be reviewed on a case-by-case basis.

Increased depreciation rates are applicable in certain cases.

 

Other requirements for international contractors

36. Are there any specific requirements that international contractors or construction professionals must comply with?

Non-EU enterprises often face difficulties arising from German labour law. Construction-related challenges can result from the very detailed public law requirements and regulations. While applicable technical standards are more and more harmonised in Europe (due to the introduction of European norms), German public law contains further legal requirements and procedures that a contractor must comply with, for example, regarding statics inspection by an inspecting structural engineer (Prüfstatiker) or strict fire protection requirements. To avoid additional costs and delay, contractors and principals should be advised by domestic planners and advisors.

 

Reform and trends

37. Are there any proposals to reform construction and projects law? Are there any new legal or regulatory trends affecting projects?

Reform proposals

After the amendments to the ordinance on planners' and engineers' fees (Honorarordnung für Architekten und Ingenieure (HOAI)) and to the VOB/B at the end of 2009, there are no further major legislative proposals to amend the German Civil Code regarding work labour contracts. However, investors, principals and contractors should always consider possible changes in statutory law, especially with regard to labour law, public law or tax regulations.

Trends

However, there are a few permanent issues like the implementation and integration of special statutory law concerning construction contracts in the German Civil Code. The ongoing discussion includes as well the consideration to regulate adjudication proceedings by law. Neither effort has reached the status of legislative proposals.

*The authors would like to thank the following for their contributions to this chapter: Christian Knuetel, Carla Luh (both project finance), Philipp Grzimek (corporate), Kerstin Neighbour (employment law), Lorenz Zabel (public law), Jan Kappel (compliance) and Stefan Schultes-Schnitzlein (tax).

 

Main construction organisations

Association of the German Construction Industry (Hauptverband der deutschen Bauindustrie)

Main activities. The Association of the German Construction Industry is a commercial association that, among other things, represents the interests of the construction industry towards political and governmental institutions.

W www.bauindustrie.de/index.php

Central Association of German Construction Sector (Zentralverband des Deutschen Baugewerbes)

Main activities. The Central Association of German Construction Sector represents its members' interests in relation to the public, as well as towards political and governmental institutions.

W www.zdb.de/index.html

Federal Association for medium-sized (mittelständisch) Construction Enterprises (Bundesvereinigung mittelständischer Bauunternehmungen e.V.)

Main activities. This represents the interests of the medium-sized enterprises in the construction sector.

W www.bvmb.de


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