Is it worth setting up a company in China?
In this article, you will discover that creating a company in China is not easy. The first question you should ask yourself is whether, in order to fulfill your objectives, it is really necessary to have a legal entity in China or if, on the contrary, it is enough to use an “umbrella” company, an offshore entity (for example, a company in Hong Kong, which is much easier and cheaper to manage), a distribution agreement or a representative office.
In short, if you intend to hire a large number of employees in China (say more than five), receive payments in the country without paying commissions to an intermediary company or open a factory or a company that needs specific infrastructure, you will have to create a company in China compulsorily. In almost all other cases, there are simpler solutions.
What is an “umbrella” company?
An “umbrella company” is a Chinese company that acts as a subsidiary of your service company in China (e.g. sales, marketing or consulting agency – or any kind of freelance work). Please note that this solution is not available if you intend to work in a sector that cannot be considered as a “service” (e.g. a restaurant or a manufacturing company).
So, in case you are interested in working in the “service” sector, an umbrella company can:
- Take on a limited number of employees (say 1 to 5) in your place (and, if they are foreigners, provide them with a work visa)
- Pay salaries, insurance, contributions and/or maternity leave to your employees
- Managing the complex administrative procedures required to start a business in China
- Receive payments from your Chinese customers directly in China (and then send them to your company’s foreign account)
- Paying, on your behalf, suppliers or taxes on profits generated by your business in China;
Renting an office for your employees or a warehouse for your products
In practice, if it is important for you to start doing business in China in a simple and economical way, using an umbrella company is undoubtedly the best option, at least to begin with.
When your business becomes established, you can create an independent company so that you do not have to pay an umbrella company for the services described.
Note that this option is only viable for certain types of businesses, such as consulting. Opening a factory or working in the industrial sector requires a joint venture, so this option would not be suitable.
What is a distribution agreement?
If you intend to make your products in China and sell them to Chinese customers, the easiest way is to agree with the manufacturing company to distribute your branded products themselves. Click here for more information on that option.
A distribution agreement with a Chinese company can also be the right solution if you want to sell your foreign-produced goods in China.
What is a representative office?
A representative office is certainly easier to set up than a corporation; the problem is that this option has a number of limitations, for example, it does not allow you to receive payments from your customers in China. It is only useful in case you need a support office (for example, a marketing or sales department).
Since a representative office cannot receive money from customers, the only way to pay for expenses is to send money from abroad. Also note that even though you do not make a profit, the Chinese government still claims to pay taxes, usually on a percentage of the expenses.
Create a company in China: WFOE (100% foreign capital company)
Any company that is controlled in a quota equal to or greater than 25% by foreigners is considered an FIE (Foreign Invested Enterprise).
The most common FIE is the WFOE (100% foreign-owned company), or, as its name indicates, a legal ‘entity’ that is fully owned by foreigners.
The type of WFOE used in most cases is the LLC (Limited Liability Company) which, as a legal structure, is very similar to our SRL (Limited Liability Company), where the liability of each of the shareholders is limited to the capital invested in the company.
Since China’s entry into the WTO, it is also possible to establish a WFOE that deals exclusively with purchases and sales in China (a “trading company” or “retail store”). These companies are a subcategory of the WFOE and are called Foreign Invested Commercial Enterprises (FICE).
Please note that depending on the sector (manufacturing, consulting, language school, services, trade, etc.) and the province where the company is registered, a different share capital (or initial capital deposited in the company’s bank account after obtaining the trade license, but before the company is operational) will be required.
Although at present the minimum share capital required may be very low, it is advisable to make an estimate of the company’s expenses until it can be made profitable by the profits generated by the company and to choose a share capital that does not deviate too much from the estimate.
The reason is that, if the expenses are close to the amount present in the company’s bank account before the company starts to generate profits, an injection of foreign capital would have to be made to avoid bankruptcy. This involves either a new registration procedure for the registered capital (which requires a maximum of 8 weeks and the approval of the local government) or the payment of income tax on the amount paid in order to avoid imminent bankruptcy. Both problems can of course be avoided by providing sufficient registered capital to cover expenses until such time as the company is able to become self-sustaining.
If in the future you plan to sell your Chinese company, you may want to own a foreign “parent” company or a company outside of China that holds, on your behalf, the shares of the Chinese company. In this case, at the time of sale, you will be able to leave the foreign parent company without incurring the lengthy process required to transfer ownership of a company in China.
Finally, although a WFOE can pay dividends to shareholders, there is one restriction: dividends in a given year, for example, 2016 can only be paid if the company is active in that year. Another fairly common way to “withdraw” profits from a Chinese company is to pay advice to a foreign company in which you are a shareholder.
Setting up a company in China: Joint-Venture
After the WFOE, the most common FIE (Foreign Invested Enterprise) is the Joint-Venture or a company controlled by both foreign and Chinese partners.
Note that a joint venture usually involves a transfer of technology. Due to the intellectual property issues in China, foreign companies that intend to manufacture or sell a high value-added product (such as a patented product or software), prefer to opt for a WFOE.
In case you want to operate in a “restricted” industry sector (e.g. SaaS, Software as a service), the Joint-Venture is your only option. For more information on restricted industry sectors, please read point 2 of the following section.
Otherwise, WFOE and Joint-Venture are quite similar.