The New Civil Code (Act No. 89/2012 Coll., hereinafter “NCC”) entered into force on 1 January 2014. The NCC introduces several new institutes to the Czech legal environment, and one of these is a so-called family business. The regulations for family businesses are located in provisions § 700 – 707 of the NCC. This article discusses important facts related to this new legal institution and why you should be aware of it.
1. Creation of a family business
One significant reason to pay attention to family businesses is that the creation of a family business is automatic once its legal conditions are met. Its creation is thus not conditioned by any specific action, such as a foundation charter etc. Thus, the foundation of a family business may not even be perceived by some, and it may come as an unwelcome surprise in some cases.
2. Definition of a family business
In compliance with § 700 of the NCC, a family business is any business where a married couple works together, or where at least the husband or wife in a married couple works with their relatives up to tertiary relatives or with up to secondary in-law relatives, as long as the business is owned by one of the spouses.
In compliance with § 502 of the NCC, a business then means an organized set of property created by an entrepreneur and which he/she willingly uses to operate their activities. It is considered that the business includes everything which is usually used for its operation.
There are also opinions that the term participants may even include persons who permanently work for the family (see e.g. the articles available at: http://www.epravo.cz/top/clanky/blize-k-rodinnemu-zavodu-dle-noveho-obcanskeho-zakoniku-93248.html or http://www.epravo.cz/top/clanky/rodinny-zavod-dalsi-z-novinek-v-novem-obcanskem-zakoniku-88352.html).
However, in our opinion this is an erroneous interpretation of provision § 700, second sentence. This provision does not extend the participants of a family business to include other persons than family members; instead, it defines a family member who participates in the operation of a family business.
Participation in a family business may thus only apply to family members who permanently work for (i) the family or (ii) the family business.
Here one needs to pay attention to the fact that work for the family is not defined in the NCC, and hence it is a question whether e.g. a wife who regularly does the laundry and cooks for the family is considered a participant in a family business. This question will probably be answered soon via court practice.
However, the provisions pertaining to family businesses will not apply if the rights and obligations of family members are adjusted in a contract (see § 700 par. 2).
3. Claims following from participation in a family business
As described above, participation in a family business is created by permanent work for a family or family business. The performance of at least one of these activities will provide the family member the right to (i) participation in fundamental decisions within the operation of the family business, (ii) claim a share of the earnings and (iii) pre-emptive rights for the family business.
A family member may renounce these rights, however only in the form of an affirmation in the form of a notarial record.
4. Decision-making
If the owner of a business finds out that as of 1 January 2014 they are operating a family business, he suddenly gets into a situation where he cannot make decisions about the business on his/her own, but must also take into account specifically the opinions of family members who participate in the operation of a family business.
He/she will thus need the consent of the majority of family members participating in the operation of a family business for decisions on how to use earnings or other decisions which exceed the scope of usual operation.
5. Shares of earnings
The provisions which specify how earnings are to be shared among participating family members is the stumbling block here, since in compliance with § 701 individual members are entitled to a share of the earnings and property obtained via these earnings in a rate corresponding to the amount and type of their work.
Here it is clear that the decision-making process pertaining to the above may be very complicated if some family members have a completely different idea on their remuneration than the rest of the family.
6. Pre-emptive rights
Another significant right of a family member participating in the operation of the family business is the pre-emptive right to purchase the business. This right is significant especially for third parties, since the pre-emptive right of each family member also applies to individual items whose character and designation were used within/for the operation of the family business (see § 704 par. 2 of the NCC).
Potential buyers may thus expect hard times ahead, since they should make sure that a purchased item is not used within/for the operation of a family business, whereas the existence of such businesses is only a factual matter and cannot be checked in any public records. The buyer thus has no means of learning about the existence of such a family business.
7. Family business vs. illegal work
Family members have helped each other since time immemorial, and this is considered to be generally acknowledged practice. If a family member has a business, it’s not surprising that family members may help him in the business. However, work inspections often have a different opinion, and there have been many cases where small businesses were fined due to e.g. a nephew standing in for a shop owner.
Family members with the exception of spouses and children of the inspected person who have been caught in this way and who could not present a contract for work could previously be fined up to 10,000 Czech Crowns and, if caught repeatedly, up to 100,000 Czech Crowns. Additionally, the person who enabled such illegal work could be fined up to 10,000,000 Czech Crowns.
Today, such help even by a distant relative should no longer be considered illegal work, but a completely legal form of help within a family business.
8. Conclusion
Family businesses are thus an important new term in the Czech legal environment, one that should be known to every business owner, and especially so if his/her family members participate in the operation of the business. Due to the automatic creation of a family business once the conditions are fulfilled, it is important to keep in mind the rights of family members who participate in the operation of the business, specifically the right to (i) participation in fundamental decisions within the operation of the family business, (ii) claim a share of the earnings and (iii) pre-emptive rights for the family business.
Any undesirable consequences of these rights may only be removed by a written affirmation in the form of a notarial record.
Another important aspect is the effect of the pre-emptive rights of family members not only for the whole business, but also for individual items located/used in the business, on third parties. These are then placed in a difficult situation if they intend to buy an item from an owner of such a business.
The existence of a family business should also completely remove the risk of fines by work inspection authorities, which up to now considered the help of distant relatives as illegal work and fined accordingly.
This article cannot cover the whole scope of this extensive area, and it is thus generally a good idea to contact a qualified law firm if you find out that you are operating a family business. The impacts of the existence of a family business onto the area of taxes are another matter which requires special attention.
For more information, please contact K&A partner, Mgr. Jiří Kučera, e-mail: jkucera@kuceralegal.cz; tel.: +420604242241.