In an ever more connected world, an increasing number of companies decide to consolidate their various operations to form one “enterprise”, with departments being organized across legal entities and often even across borders. Thus, organizational charts need to be changed to create global sales or marketing departments. Dotted lines represent the future reporting relationship to a functional or project manager, whereas solid lines still run to the traditional disciplinary manager – a so-called matrix organization is born.
From a business perspective, a matrix organization seems to help in bringing the right people together and prevents silos within the organization, which have their own benefit in mind rather than the benefit of the group as a whole. What seems so obvious from a business perspective triggers a series of questions from a legal and tax perspective. Despite its merits, there is no doubt that a matrix organization is much more complicated to handle than a simple “pyramid” structure with just one reporting line.
From a purely legal perspective, a matrix organization requires a new set of rules which should be laid down in a matrix (group) policy or matrix agreement. In particular, such a policy or agreement needs to deal with the following changes that typically take place in a matrix organization:
- instruction rights are conferred to a superior who might not work for the same employer (dotted lines);
- the employer’s management might lose control over decisions;
- employees are subject to instructions from superiors working for other legal entities, possibly even abroad;
- work results of employees are used by other legal entities within the matrix organization;
- flows of personal data to other legal entities within the matrix network increase;
- job-related travel increases, although meetings might be replaced by videoconferences.
Instruction Rights – Enabling Matrix Managers
The first and obvious challenge when implementing a matrix is changing reporting lines. The matrix manager must be enabled to give instructions to his or her team members, even when working for a different legal entity. Under § 613 of the German Civil Code (Bürgerliches Gesetzbuch), an employee owes his services exclusively to the contractual employer. He or she does not need to follow instructions issued by another employer. Thus, to enable the matrix manager to do his job, he must be authorized to exercise the right to give instructions on behalf of the employer.
To be on the safe side, the employee should be additionally requested to sign an addendum to the employment contract stipulating that he or she agrees to work within a matrix organization (matrix clause). However, strictly speaking, a matrix clause may not be necessary if the matrix manager has been properly authorized by the contractual employer to act on his behalf.
Such authorization of the matrix manager needs to be limited to the instruction rights regarding the performance of work within the matrix. The employer’s disciplinary rights are inalienable and therefore have to remain with the contractual employer. Thus, the matrix manager’s powers typically end when it comes to deciding on salary increases, sanctions or even termination of the employment.
The additional powers vested in the matrix manager (dotted line) are at the expense of the former superior within the contractual employer’s work organization (solid line), ultimately the local entity’s managing director. Thus, decisions regarding the goods to be sold in the local market may no longer be discussed with the managing director but rather in the global group-wide sales matrix. However, such decisions may have a serious impact on the contractual employer as the local entity may incur losses without selling the product. Thus, the matrix policy needs to ensure that the local managing director can still comply with his duties under local corporate laws and principles of corporate governance, e.g. by conferring information and veto rights upon him or her.
Matrix Organization = Temporary Agency Work?
This scenario of transferring instruction rights to a person in a different legal entity has some similarities to so-called labor leasing (Arbeitnehmerüberlassung), i.e. the supply of workers by a temporary work agency to work for the benefit of another employer. The supply of workers is highly regulated in Germany and across Europe based on Directive 2008/104/EC of the European Parliament and of the Council of 19 November 2008 on temporary agency work. In Germany, acting as a temporary work agency generally requires a license. Permanently supplying workers to another employer is illegal, even within a group context. Employers can be fined, and even worse, employees may transfer to the legal entity they have been supplied to and be entitled to equal pay with its other employees.
The main criteria for labor leasing are that (i) the instruction rights for the worker supplied by the agency is transferred to another employer, and (ii) the worker is integrated into the work organization of that other employer (cf. § 1 German Labor Leasing Act – Arbeitnehmerüberlassungsgesetz). However, unlike temporary workers, employees in a matrix organization still work for the benefit of their contractual employer and the matrix work organization they are integrated in is as much the work organization of their employer as of the other legal entities united in the matrix. Thus, it is widely acknowledged by German labor lawyers that establishing a matrix organization does not qualify as labor leasing. The German Federal Labor Court (Bundesarbeitsgericht) held about twenty years ago that a joint use of employees in a common business or in a cooperation of two employers does not constitute labor leasing (BAG, decision date 25 October 2000, file number 7 AZR 487/99). Although this decision does not directly relate to employees in a matrix organization, its principles can also be used to justify that employees working in a matrix organization for the benefit of all entities participating in the global sales or marketing department (as an example) are not integrated into “another” work organization but still form part of the employer’s own work organization. Thus, documenting the legal basis of a matrix organization is one of the main purposes of a matrix policy or agreement.
Involvement of Stakeholders
At first glance, implementing a matrix organization primarily seems to be a HR matter. However, on closer examination it is a project affecting several stakeholders such as the company’s data protection officer, the works council and the tax department.
Typically, a matrix organization leads to an increase of data flows between group entities as the matrix manager needs personal data of his or her team members. Neither the EU General Data Protection Regulation (GDPR) nor the German Federal Data Protection Act (BDSG) clearly recognize a privilege of group companies to freely exchange data among themselves. Such data transfer requires a legal basis which can and should be documented when implementing the matrix organization.
Moreover, participation rights of the works council may have to be observed. Thus, implementing a matrix organization may qualify in some cases as a so-called operational change within the meaning of § 111 of the German Works Constitution Act (Betriebsverfassungsgesetz), which may even require the employer to negotiate a so-called balance of interest (Interessenausgleich) and a social plan (Sozialplan) with the works council. An operational change may, for instance, take place when the hierarchical structures change (for implementing “flat hierarches” see BAG, decision date 26 October 2004, file number 1 AZR 493/03). Moreover, the works council may need to be involved when a matrix manager is integrated into the work organization. Such integration may not only take place at the location where the matrix manager physically works but also at other locations where his team members work, which may require the involvement of several local works councils (BAG, decision date 12 June 2019, file number 1 ABR 5/18).
Tax Issues and Cost Allocation
As regards tax, increased travelling and cross-border working should be reviewed from a wage tax perspective. Moreover, creating a taxable presence in another country by implementing a matrix organization should be avoided.
The common use of employees also needs to be considered when it comes to distributing costs within the matrix organization. Multinationals tend to implement a traditional intercompany service charge calculated on a cost plus basis using the salary costs (and potentially some overhead costs) for cases in which individuals or teams work cross-border in a cross-functional dimension. This may be appropriate for cases in which supporting services such as finance, tax or HR are rendered. However, most of the matrix organizations implemented go far beyond supporting activities, e.g. global sales organizations or global product management. In these cases, a pure cost plus remuneration may not be appropriate and a more sophisticated transfer pricing mechanism is recommendable.
A matrix policy or agreement which specifies rights and obligations, as well as a transfer pricing guideline regulating the overarching principles and defining the processes should be concluded. The matrix policy or agreement supports consistent practices throughout the group and the transfer pricing guideline can further specify approval processes, Do’s and Don’ts for the respective employees, as well as a policy on the delegation of authority. This will help to prevent unpleasant surprises in a future tax audit.
Successfully implementing a matrix requires more than just a new organizational chart. It requires the close cooperation of the HR and tax departments to create a solid basis for the common use of employees and to ensure compliance with local employment and tax laws. Involvement of other stakeholders such as the data protection officer and the works council may have to be considered to avoid later pushbacks. A matrix policy or agreement may serve to document the legal basis for using employees across legal entities.