China - Start a Business Entity

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Procedure

The steps for forming a WFOE in China typically consist of the following:

• Determine if the proposed WFOE will conduct a business approved for foreign investment by the Chinese government. For example, until recently, China prohibited private entities from engaging in export trade. All export trade was handled through certain large, state owned trading companies.

China recently abandoned this system, and now both foreign and domestic companies can set up trading companies. Restrictions on export oriented trading companies have essentially been eliminated, but there are still controls on import oriented trading companies that can increase expense and raise costs. Because these rules were only recently changed, the local regulators who must approve these projects do not have a great deal of experience with the attendant issues. This can lead to some delay in the approval process. It also results in an extremely cautious approach towards adequate capitalization even for export oriented trading companies. I discuss capitalization requirements in greater detail below.

• Determine if the foreign investor is an approved investor. Basically, any legally formed foreign business entity is authorized to invest in a WFOE in China. China especially welcomes investment that promotes the export of Chinese manufactured products. The investor must provide the documentation from its home country proving it is a duly formed and validly existing corporation, along with evidence showing the person from the investor who is authorized to execute documents on behalf of the investor. The investor also must provide documentation demonstrating its capital adequacy in its country of incorporation.

To meet these requirements, the following documents are normally needed from the investing business entity:

• Articles of Incorporation or equivalent (copy)
• Business license, both national and local (if any) (copies)
• Certificate of Status (Original) (U.S. and Canada) or a notarized copy of the Corporate Register for the investor or similar document (original) (Civil Law jurisdictions)
• Bank Letter attesting to sound banking relationship and account status of the company (original).
• Description of the investors business activities, together with added materials such as an annual report, brochures, website, etc.
• The first four documents are translated into Chinese and the last one is either translated into Chinese or summarized in Chinese.

Many investors created special purpose companies to serve as the investor in China. The Chinese regulators have become accustomed to this process. However, the Chinese regulators will still seek to trace the ownership of the foreign investor back to a viable, operating business enterprise. Investor secrecy is not an option in China. However, the corporate register for the Chinese company will merely state the name of the foreign, special entity investing company as the owner. In that sense, as far as public disclosure is concerned, the investor privacy can be maintained. The foreign investor should also understand that this tracing process will add some time and cost to the Chinese company formation process.

Chinese government approval for the project. In China, unlike in most countries with which Western companies tend to be familiar, approval of the project by the relevant government authority is an integral part of the incorporation process. If the project is not approved, no incorporation is permitted. The two are inextricably linked.

The following documents must be prepared for incorporation/project approval:

• Articles of Association. This document will set out all of the details of management and capitalization of the company. Nothing can be left for future determination; all basic company and project issues must be determined in advance and incorporated in the Articles. This includes directors, local management, local address, special rules on scope of authority of local managers, company address, and registered capital.
• Feasibility Study. The project will not be approved unless the local authorities are convinced it is feasible. This usually requires a basic first year business plan and budget. We typically use the client produced business plan and budget to draft up the feasibility study (in Chinese) that will satisfy the requirements of the Chinese approval authority.
• Leases: An agreement for all required leases must be provided. This includes office space lease and warehouse/factory space lease. It is customary in China to pay rent one year in advance and this must be taken into account in planning a budget because the governmental authorities will be expecting this.
• Proposed personnel salary and benefit budget. If the specific people who will work for the company have not yet been identified, one must specify the positions and proposed salaries/benefit package. Benefits for employees in China typically range from 32% to 42% of the employee base salary, depending on the location of the business. Foreign employers are held to a strict standard in paying these benefit amounts. The required initial investment includes an amount sufficient to pay salaries for a reasonable period of time during the start up phase of the Chinese company.
• Any other documentation required for the specific business proposed. The more complex the project, the more documentation that will be required.

All of the above documents must be prepared in Chinese.

• It usually takes two to five months for governmental approval, depending on the location of the project and its size and scope. Large cities like Shanghai tend to be slower than smaller cities. The investor must pay various incorporation fees, which fees vary depending on the location, the amount of registered capital and any special licenses required for the specific project. Typically, these fees equal a little over 1% of the initial capital.

On large and/or complex projects, the approval process often involves extensive negotiations with various regulatory authorities whose approval is required. For example, a large factory may have serious land use or environmental issues. Thus, the time frame for approval of incorporation is never certain. It depends on the type of project and the location. Foreign investors must be prepared for this uncertainty from the outset.

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Required Documents

• Notice of approval of company name
• Lease or other proof of company office
• Capital verifica

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Eligibility

Before starting a business in China, you should understand the different types of business structures you can establish as a foreigner, and how they differ. The five options available are:

• Wholly Foreign Owned Enterprise (WFOE)
• Representative Office (RO)
• Joint Venture (JV)
• Partnership Enterprise (PE)
• Hong Kong company

Wholly Foreign Owned Enterprise (WFOE)

The big advantage of Wholly Foreign Owned Enterprises is that it gives the foreign investor sole control of their business activities in China. In certain industries, it is not possible for foreign investors to set up a WFOE, while in others it is increasingly common. A WFOE is a limited liability company, requiring registered capital, with liability limited to its equity. It can generate income, pays tax in China and its profit can be repatriated to the investors home country.

Representative Office (RO)

Representative Offices are technically not allowed to generate revenue or enter into contracts with businesses in China. This entity is intended to allow overseas companies a base in China for networking, conducting market research, promotion and other non-revenue generating activities. It requires no registered capital.

Joint Venture (JV)

Joint Ventures are limited liability companies formed between a Chinese company and a foreign investor (the latter of which can be a company or an individual). Both parties contribute investment, then share the revenues, expenses and control of the enterprise. In restricted industries a JV may be your best option, though these structures are among the trickiest to run.

Partnership Enterprise (PE)

Similar to a JV, Partnership Enterprises allow two or more foreign enterprises or individuals to do business together in China. As a relatively new option, this structure is still subject to some confusion.

Hong Kong Company

Hong Kong is one of the fastest and easiest places to set up a business. Although a Hong Kong company is not a legal entity in mainland China, many foreign investors choose to register their business in Hong Kong to invest in China.

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Instructions

Foreigners can't open a company directly in China. First the company must have been opened outside China and then the foreign company can be registered in China. There are three basic types of foreign companies in China; Registered Office (RO), Wholly-Owned Foreign Enterprise (WOFE), or Joint Venture (JV) with a registered Chinese company. Each one of these has advantages and limitations, so I advise you to do some research to figure out which way is best for your company.

Required Information

• Purpose and estimated investment
• WFOE's operational structure and number of employees
• Permission for land use, environment evaluation report
• Products, size of production, detailed list of equipment, and business plan
• Environmental protection measures
• Requirement for utilities such as power and water supply
• The latest annual audit report copy from the parent company
• Letter of Authorization
• Passport copy
• Certificate of Incorporations, Articles of Formation or Equivalent document
• Bank Reference Letters from investors bank

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Need for the Document

Of all the choices you make when starting a business, one of the most important is the type of legal structure you select for your company. Not only will this decision have an impact on how much you pay in taxes, it will affect the amount of paperwork your business is required to do, the personal liability you face and your ability to raise money.

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