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Silent partnership is not a legal form in the corporate law sense, but rather an internal partnership. It does not manifest externally. It is used to infuse additional equity into businesses and describes the rights and obligations of partners who wish to participate in an existing business through silent partnership.
Typically, a capital provider participates in an existing business by contributing capital, which is reflected in the company's balance sheet as equity. In return, the capital provider either receives a pure profit share (typical silent participation) or both a loss share and interest on the invested capital (atypical silent participation).
In a silent partnership, the capital provider does not appear externally. The formalities for participating in a partnership are less stringent than those for a corporation. The capital provider does not share in the losses with their contributions; they are proportionally involved in the profits. (In the case of a fixed interest rate, it would be considered a loan!) Important for income tax: Earnings from silent participations are considered income from capital assets. The capital provider is not involved in the company's value appreciation.
This represents the simplest form of participation for "friends and family" but can also serve as a type of employee participation. Silent participation can occur in companies of any legal form, with no prescribed formalities. One contributes capital to the business but does not actively engage in its operations. There is no influence on management decisions, meaning no control over whether the contribution made is utilized profitably or not. The amount of the contribution, the duration, and the terms in case of profit or loss are regulated in the partnership agreement.
Atypical Silent Participation
The silent partner makes a cash contribution and is proportionally involved in the declared balance sheet profit and loss, but only up to the amount of their contribution in case of loss. Additionally, they participate in hidden reserves and business value. In the internal relationship, they are treated as if they were involved in the company's assets like a general partner in a general partnership. Shareholder accounts are established, as is customary in commercial partnerships.
The silent partner may have a say in management within defined limits and has control and information rights beyond the legal standard. Various options are available in case of death.
After the end of the partnership, the silent partner receives a settlement credit, indistinguishable from that of a general partner in a general partnership. Depending on whether loss participation is excluded by the silent partner, the silent participation, after the donors submit a subordination declaration, is interpreted as equity (with loss participation) or debt (without loss participation). Subordination declaration means that the donor ranks behind all other creditors, meaning all others are paid first (e.g., in the case of insolvency).
The silent partnership is simple and flexible, with no formal requirements. In the case of a public limited company (AG), approval must be obtained from the general meeting, and the silent partnership must be registered in the commercial register.
In the partnership agreement, the silent partner will negotiate control rights, such as access to the books. The extent of control or influence depends on individual contractual arrangements.
The pitfall for inexperienced founders: The capital provider is directly involved in the profit and value appreciation of the company. In a poor business situation or liquidation, the residual value of the company, including patents, prototypes, customer lists, etc., may completely transfer to the capital provider due to silent participations, i.e., company debts, if the liquid funds for payment are lacking. Profit allocations are considered income from business operations (not income from capital assets).
Conclusion
An ideal financing option for companies seeking additional equity. An ideal opportunity to invest in a company without actively participating in its business operations.
