HR-Glossar
Umlageverfahren (pay-as-you-go funding and employer levies)
Why the German term covers two things — pay-as-you-go funding of social insurance and the employer levies U1, U2 and U3 — and what follows from that.
1. What is Umlageverfahren (pay-as-you-go funding and employer levies)?
The German term Umlageverfahren is used in HR work for two different things. Not keeping them apart means talking at cross purposes.
First, it denotes the funding principle of statutory social insurance: the contributions taken in fund the current benefits directly. Nothing is accumulated. The opposite model is funding by capital, where money paid in is invested and later paid out with its returns.
Second, it denotes the employer levies collected together with social security contributions through the health insurance funds:
- U1 – reimbursement of continued pay in case of illness, for small businesses only (Section 1(1) AAG). - U2 – reimbursement of expenses in connection with maternity, for all employers (Section 1(2) AAG). - U3 – the insolvency pay levy under Section 358 SGB III, for all employers; it funds the insolvency pay provided by the Federal Employment Agency.
What the two meanings share is only the principle: many carry together what individuals cannot carry alone.
For a group building a cost model, the second meaning is the one with a number attached. These levies are borne by the employer alone and appear nowhere in gross pay.
2. Origin and development
German social insurance began partly funded by capital. Two world wars, episodes of inflation and a currency reform destroyed the accumulated capital – the change to pay-as-you-go after 1945 was also a consequence of that. Its advantage is obvious: it is insensitive to the erosion of money and to capital market crises. So is its disadvantage: it depends on the ratio of those paying in to those receiving benefits.
The employer levies arose later and from a different need – not retirement provision but the sharing of risk between businesses. They are therefore not insurance contributions and create no entitlements for employees.
3. Core principles and how it works
Solidarity rather than accumulation
In both meanings, many carry together a risk that would overwhelm individuals. Nothing is set aside.
The levies create no entitlements for employees
U1, U2 and U3 reimburse the employer or fund a benefit of the Federal Employment Agency. The employee's entitlement – to continued pay, for instance – exists independently of them.
Collected through the same body
All three levies run with the total social security contribution through the collection agency. They appear on the contribution statement, not on a separate invoice.
Different groups of participants
U1 only for small businesses, U2 and U3 for all. Membership of U1 is redetermined each year.
The demographic dependence of the principle
For the funding principle, the ratio of those paying contributions to those receiving benefits directly determines the level of benefits.
4. Who is Umlageverfahren (pay-as-you-go funding and employer levies) relevant for?
- Employers – they pay all three levies and bear them alone. - Small businesses – for them U1 is a noticeable buffer. - Payroll teams – the calculation and the statement pass through their hands. - Anyone dealing with retirement provision – the funding principle explains why supplementary provision is built into the design.
5. How it differs from related terms
- Pay-as-you-go and funding by capital – pay-as-you-go pays out of current income, capital funding out of accumulated assets. Occupational and private provision work predominantly on a funded basis. - Employer levy and social security contribution – the contribution creates entitlements for the insured, the levy does not. - U1/U2 and U3 – U1 and U2 reimburse the employer, U3 funds a benefit paid to employees in an insolvency. - Levy and contribution surcharge – a surcharge increases a contribution; a levy is a charge of its own with a purpose of its own.
6. Variants and adaptations
- U1 – illness – small businesses only, partial reimbursement, optional rates available. - U2 – maternity – all employers, full reimbursement of the reimbursable expenses. - U3 – insolvency pay – all employers; the rate is set annually and can be zero. - Pay-as-you-go funding of social insurance – pension, health, long-term care and unemployment insurance all work on this principle.
7. Advantages and challenges
Advantages
- Risks that would overwhelm individual businesses are carried collectively
- Insensitive to the erosion of money and to capital market crises
- Collected through the existing collection agency, with no additional administrative route
- U2 removes the economic disadvantage of employing women
Challenges
- Payable even where no claim ever arises
- The funding principle depends on the ratio of those paying in to those receiving
- No capital stock to cushion fluctuations
- The double meaning of the term regularly causes misunderstandings
- Fund-specific rates make comparison and planning harder
8. Best practices for implementation
Clarify the term in conversation
Anyone speaking about a levy should say which meaning is intended. That saves half the discussion.
Include the levies in workforce cost planning
They are employer costs and do not appear in gross pay. Calculating with gross plus employer contributions alone plans too tightly.
Claim the U1 and U2 reimbursements consistently
They are the return on the levy paid and arrive only on application.
Check participation status annually
U1 membership is determined at the start of the year and changes with the size of the business.
9. Tips for employers and employees
For employers
- **You bear all three levies alone** – unlike social security contributions, there is no half-and-half split
- **Match the U1 optional rate to your own sickness record** – the business's history is the best basis for the decision
- **Do not overlook the insolvency pay levy** – its rate is set annually and can change markedly
For employees
- **Your entitlements do not depend on the levies** – continued pay and maternity benefits are due to you regardless
- **Know about insolvency pay** – where the employer cannot pay, it secures outstanding remuneration for a limited period
10. Conclusion
Umlageverfahren means two things, and both are everyday matters in HR work: the funding principle of social insurance and the three employer levies U1, U2 and U3. They share the same idea – carrying together what overwhelms individuals – and little else. For businesses the practical consequence is simple: all three levies are paid by the employer alone, they belong in cost planning, and the reimbursements from U1 and U2 arrive only where they are claimed.
For an international group that first consequence is the one that distorts a cost model. These levies sit outside gross pay and outside the employer's share of contributions, so a cost-per-employee figure built from those two components alone is understated – and the money flowing back from U1 and U2 is not automatic but has to be applied for.
A note on sources: there is no official English version of the AAG or SGB III (checked on 2026-09-28); the German texts are cited below and their wording governs.
Sources
- Section 1 AAG – Reimbursement claim, U1 and U2 (German original; no official English version) (opens in a new tab)
- Section 7 AAG – Raising the funds (German original) (opens in a new tab)
- Section 358 SGB III – Raising the funds for insolvency pay (German original) (opens in a new tab)
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