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How to establish a business in China

How a foreign company invests and establishes a business in China and what aspects you need to think about:

 

The Chinese economy is considered by many to be the ultimate investment opportunity. Not only does it offer a market of up to 1300 million possible consumers, it also brings about annual growth rates that most countries would not even dare dreaming of. This is further strengthened by the fact that the Chinese government is doing everything in its power to continue to improve the investment climate for foreign companies by, among other things, continually spending large amounts of money on the improvement of the infrastructure. Here is a brief overview of the four main forms that a business establishment in China can choose.

 

 

 

The first issue is the business type. You have 4 options: Representative Office (RO), Joint-Venture Company (JV), Wholly-Foreign-Owned Enterprise (WOFE) or you may purchase shares in a Chinese company.  For the last option, you may purchase a Chinese company including companies owned by a local Chinese entity or foreign invested companies, including WOFE or JV that is considered a Chinese company since it is registered in China. As per Chinese law, an RO has no separate legal status and is forbidden to do any purchasing or sales (e.g. goods, land, properties). JV's shareholders are Chinese companies (not individuals) and foreign companies or foreign individuals. This type of business was quite popular when China began opening up and reforming in the 1990s. Currently, more and more foreign companies choose to set up WOFE for they may have more control over the enterprise and less disputes during business operation. We as lawyers have witnessed many disputes between the parties in JV companies thus it is also our recommendation that a WOFE, not JV, be established when you start your business in China. For the registration of a new business or the purchase of shares, the Chinese government shall normally approve them, after reviewing your company's history and your capacity, for it encourages foreign investment entering the Chinese market.

 

Secondly, the issue of employment is also important. Since an RO has no independent legal status, it is obliged to hire employees through a Foreign Enterprise Service Corporation (hereafter refer to FESCO). The RO needs to pay a certain service fee, normally several hundred Chinese Yuan per employee, to a FESCO. In case of the termination of employment, the RO needs the cooperation of the FESCO and must pay the severance by itself. For the last option, you need to get to know the existing employment situation of the Target Company in due diligence so as to have a stable transition period whilst the shares are being transferred. JVs and WOFEs, like other Chinese companies, are allowed to recruit and hire employees directly.

 

Thirdly, one must consider tax burdens. An RO's tax is based on the expense it incurs in business operations. Considering all other items, the comprehensive tax rate of ROs based on aforesaid expenses is around 12-15%. For JVs, WOFEs and the company that has been purchased (option 4) the main tax items are Value-added Taxes, Business Taxes, Consumption Taxes and Income Taxes. Value-added Taxes is a circulation tax that shall be collected when the value of a product is increased when a service is provided or goods are sold, and the bearer is the seller. According to professional accounting personnel’s analysis, the comprehensive tax burden rate of Value-added Tax is around 3% based on sales revenue. Business tax normally applies to the turnover of service provided or the turnover of sales of immovable properties, or of intangible assets, at a fixed rate varying from 3-5%. Income tax is collected based on total profit; a rate of 25% applies to most of Chinese companies.

 

Lastly, industry restrictions in national policy also need to be considered. China is a developing country so there are many industries that are restricted or forbidden for foreign investors. Before you decide to establish a business in China, you need to talk to your lawyer and learn whether the industry you intend to invest in is restricted or prohibited by the Chinese Centre Government. If the industry is listed as restricted, you’d better discover which level of Chinese government is involved in granting approval and what other conditions are involved (such as your company’s capacity and the minimum registered capital that should be injected).

 

In general, it depends on your requirements to decide what kind of entity to establish. All procedures need you or your company to prepare your legitimacy documentations which need to be notarized by a public notary and attested by the Chinese embassy or Consulate in the country in which you are based. A Credibility letter shall be prepared by your bank so that the Chinese government shall review your capital qualification and capacity to invest in China. If you are opening a company (WOFE or JV) or purchasing shares in a Chinese company, funds need to be transferred from you or your company’s bank account abroad to the registered capital bank account of the new company, or to the bank account of the seller of the shares.                                     

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