Virtual Open House Webinar Series – China
Legal Entity Setup:
China is one of the most complex jurisdictions and one of the hardest in terms of setting up your own legal entity or Wholly Foreign Owned Entity (WFOE). This is in terms of the time frame and the complexity of the different cities and zones you must go into. You have two options: you can do a 100% owned WFOE or you can do joint ventures in the same legal entity.
Typically, most companies go into the free trade zones – the most popular of which are Shanghai and Beijing – but there are other similar places around the country for finding free trade zones. Some considerations in where to go are around intellectual property and protection of your brand and your trade rights in China, as it does have a reputation of companies copying or taking advantage. The other thing to bear in mind is – and you have the same thing in Japan – company “chops.” These are physical chops that you must use for opening a bank account, establishing trade with a lot of the vendors in the country, as well as company compliance requirements.
Company Law Compliance:
In terms of company law compliance, there is no requirement for resident directors. Of course, there are some advantages to having directors in the country to execute business; however, you can use foreign nationals for everything. China has changed the rules recently in terms of work authorizations for foreign nationals, so they have implemented a national registry. Everyone who comes into the country, who is working for you, who is a foreign national are tracked and they are required to register as they change jobs.
Taxation and Accounting:
China is a huge country. There are many different provinces and different cities with their own regulations and tax codes, and often, you are required either to register your WFOE in that zone or sometimes open branches to accommodate and employ people in those environments. In terms of accounting, as well as human resources and payroll records, there are requirements to maintain local accounting records and personnel files which can be subject to government audits. There are a lot of tracking requirements within the government systems to ensure they understand who you are doing business with. They also want to make sure they are tracking everything from a tax environment standpoint. Besides annual compliance requirements for the WFOE, filing requirements entail recording payroll taxes, statutory contributions for benefits, and sales and income taxes. They are quite onerous in terms of the time table.
Because it can take 3 months or longer to open your own Wholly Foreign Owned Entity and employ people, there is another option going into China. If you want to hire directly, it would be your own entity. However, if you want somebody else to hire on your behalf, there are professional employment organizations (PEOs) or employer of records (EOR). These companies can hire employees on your behalf and act in the role of supplying the human resources, managing payroll requirements, and overseeing the employment law. Further, they can give you direction even though you have no legal jurisdiction or presence in the country. Local Chinese agencies can hire for you, as well as a lot of US companies that open PEOs in the country, such as ourselves.
In terms of hiring, China has fixed-term contracts. These contracts specify when you employ a person. They define that it is for a fixed term which can be renewable. But, these contracts do not cover the severance and termination payments, as there are already statutory minimums in China. Employment is governed by the fixed terms of the contract. Additionally, they are required to be in the local language – so, often in Mandarin and Cantonese – as well as the English version, for dual understanding of what goes on. In the event you do terminate employment the severance and termination payment requirements contracts are extensive, and the process is burdensome.
In terms of the local requirements, there are statutory benefits and set contributions that you must make as an employer. They also have supplemental customary benefits – for example medical, life insurance and pension savings plans – which you may want to implement yourself if you want to be competitive in the marketplace. We have contacts with local brokers, so we can assist with this as it happens.
Additionally, only certain banks are actually authorized to pay the payroll taxes and statutory contributions, so you have to be very aware of who you are doing business with and who you are setting up a bank account with. Then, as you supply a locally compliant payroll system you need assistance in paying the payroll taxes and statutory benefits and with the filings. Everything must be executed by an authorized bank account to make those payments on your behalf.
Other things to consider in terms of hiring employees: there are requirements for pre-medical exams before you hire employees, so you need contacts with local labs in the city that you are doing business in to ensure they carry out the checks and submit them; employment contract requirements; and addressing labor laws and statutory requirements in the country.
Regarding employment contracts, we always recommend making sure all the terms of employment, such as the definitions, holidays, vacations, statutory leaves, benefits, entitlements, and what they are entitled to for termination and severance payments, are addressed in the employment contracts. That way, the terms and conditions they are hired under are very clear to the employee. Moreover, if you end up going in front of any labor courts, the conditions of employment and their entitlements are clearly defined in the contract.
QUESTIONS AND ANSWERS:
What are the requirements for time off?
In China, vacation is tenure based. It is actually quite modest, with 5 days for less than 10 years of employment, 10 days between 10 and 20 years of employment, and 15 days for over 20 years of employment. Yet, it is common practice for foreign employers hiring mid- to senior-level employees to provide upwards of over 4 weeks of vacation.
Additionally, there are 7 national holidays and it is considered good practice to provide flexibility for travel around the Chinese New Year’s holiday. Sick leave entitlements can vary and ranges from anywhere between 3 to 24 months, dependent on tenure and the illness.
What are the key differences between payroll in China versus the US or Canada?
The key differences of China’s payroll compared to the US or Canada are: (1) the bank account and making sure that you are going to make social payments out of your bank account; (2) there is no national minimum wage but each of the 22 provinces, and five autonomous regions, and four directly controlled municipalities set their own minimum wages; (3) keep in mind the tax system is complex, where you have national tax rates and local tax rates that exceed what is based in the US and Canada.
What details can you provide about resident directors?
There is no requirement for local nationals to be a resident director of the WFOE upon incorporation. However, it is advantageous to have a local national act as a director. First, there are requirements – in terms of company chops – where the execution of certain documentation must be done in person and often the director must be present at the time. Also, if you want to open a bank account, rather than having an employee in the US fly to the country, visit the bank, and execute the open documents, the local national can fulfill that role. Everything else can be handled from outside the country.
What types of pay should an employer expect to payout other than salary and when? For example, labor union quarterly expenses and disability funds.
There are quite a few different payments that are made. But the thing to keep in mind is when submitting these payments, some of the documentation will need company chop stamps. So, think of the company chop as a stamp: when you submit these payments – whether tax, social contributions, general individual returns or individual income returns where annual income is RMB120 or higher throughout the year – you will need to make sure that those items are stamped. It is a very manual process in China.
We are considering downsizing in China, and we have an employee reaching the retirement age, what should we consider?
There are many things to consider when downsizing in China. But as there is a lot of emphasis placed on seniority, that’s going to be a significant consideration in your downsizing activities. There are restrictions on employees getting close to retirement; specifically, an individual employed for 15 years and that is within 5 years of retirement is protected from termination.
Who are the payroll, HRS and ETS and other systems’ vendors that can handle global clients including China?
You have all the major payroll providers present in China: ADP, Northgate, Safeguards, Celergo, and a couple of the HRIS systems like Workday and Fairsail. The payroll services are a little bit more established in terms of doing business there. And there is a little requirement for the personal files being maintained in the country. However, in terms of global payroll providers there are some that are quite advanced in working with in-country partners, have globally compliant systems in Mandarin and Cantonese, and can supply the payroll information in terms of the local languages as well. On the other hand, the local requirements for the HR, personal files, and an accounting system emphasize localization in the country even more to execute payroll, human resources, and benefits requirements.
What is the best way to manage fixed-term contracts?
The vast majority of employees hired in the private sector in China are given fixed-term contracts. Generally, these contracts are for full-time positions, although they don’t necessarily have to be. The key point to consider is what length of contract to offer to each staff member that you are hiring. The fixed-term contract can be for any length of time; however, the length of a fixed-term contract has a major effect in the employer and employee relationship. The fixed-term contract can be renewed once, and upon the second renewal, the contract effectively becomes an open-term contract. The length of a fixed-term contract can also determine the probationary period, anywhere from 1 to 6 months, with the maximum 6-month probationary period being tied to a 3-year term contract. Something to keep in mind is managing the renewal process for the contacts in your workforce management.
What is the termination process and what payments do you need to be aware of when terminating a fixed-term contract in China?
There are a variety of different types of terminations, but in most terminations the employer will be responsible for providing 30 days’ notice and that can be paid in lieu as well. Additionally, there is a severance obligation that would be required with it. The employer may also provide an additional payment to reach an agreement with the employee. It is very important that all of these are documented formally in the terms and conditions to avoid future liabilities regarding future terminations. One thing to keep in mind is that fixed-term contracts that are not renewed will also have a severance component, even though the contracts are expired and the company chooses not to renew the contract.
What are the obligations with respect to employee terminations vs resignations?
With resignations, China allows employees to terminate their contract by giving 30 days’ written notice. If the employee is still in the probationary period, they would be able to give as short as 3 days of notice.
When it comes to purchasing a business that has an existing legal entity that you are absorbing, then you can bring those employees over using the same employment contract. With mergers and acquisitions, if you are in an asset purchase situation then whether the employees are coming over – transferring from the business that has been acquired – or employees that are considering having their contract terminated, they enter into a new contract. If you are setting up a new WFOE and transferring a business, it is treated as a full termination with the severance entitlement and a new hire.
So, it’s important to note that for consideration, especially from a severance standpoint, and that you will have to deal with that process when you transfer the employees over.
Are options received in an employee recognition program taxable? If so, is this at issuance, or upon redemption?
In China, employees are not allowed to hold options or stock in a foreign-owned company. In that regard this will not be allowable.
Our local team has already made an offer to a candidate, and we are not fully aware of the local employment laws. How do I minimize employment law exposure or risk in this situation?
There is an obligation to provide employees with a written contract within one month of employment. As long as you are within that one month, you are fine. Otherwise, failure to do so presents a penalty of an additional 200% payment in wages for that employees without a contract after their first month of employment.
We need to onboard a large number of employees quickly after an acquisition. What’s the best approach? These employees are in multiple countries.
With mergers and acquisitions, in China specifically, you have to prepare the employment contracts within that one-month period. In Asia itself, it depends on the country. In India for instance, you can use transfer methods, just as you can in number of other countries. If you go to Europe, then the acquired rates directive applies as is implemented in many other countries such as the UK which is “two-pay” in terms of what you must do in terms of the transfers. Essentially, if you are operating in various countries, it varies country to country. But China specifically does require a new employment contract.
What are some of the non-salary or infrastructure costs that we need to consider when expanding into China?
China requires an accounting system, including integration into the government reporting requirements, the personal files, and a lot of the obligations regarding how you are transacting business there. You must think in terms of satisfying the local requirements to really be able to put that infrastructure in place to meet the government regulations, especially from an accounting, human resources and payroll perspective.
How do we ensure headquarters maintain control and proper reporting across multiple countries?
It is important that as you grow into new countries you are using a local provider who is giving you a locally compliant accounting and payroll system. As you centralize control, then you work toward centralizing your own ERP system, your own payroll system, and your own human resources system. This means you are going into an Oracle SAP, NetSuite, and tracking everything, so that you see the transactions daily. If the payroll reporting is in a centralized system, you can go in and see exactly who is getting paid what. The most important thing is to maintain control over your bank accounts, because then you see exactly what’s been authorized, and your intervening from a central location, saying “I approve” and will make those payments for those people. The more you can centralize control to have universal company policies, procedures and controls, the better.
Can we recap the legal entity set up and hiring options in China?
Establishing a wholly owned foreign enterprise in China, most people incorporate in the free-trade zones, the most popular of which are Singapore and Beijing. In a free-trade zone the process is typically 4-6 weeks from submitting the application and incorporations. You must also then do the registration for income taxes, payroll taxes, direct taxes, and statutory benefits. After that, you must open the bank account, and then you are in a position to actually start hiring people. It’s very important to make sure that you work with companies like ourselves or law firms during the process but do focus on your end goal. Your end goal is to employ people, onboard them, and get them set up for payroll. To do that, you do need the entity incorporated, you need the registrations, you need a bank account that’s compliant and can meet the requirements of paying the payroll taxes and statutory benefits, and make sure that you have that ability to onboard quickly and complete payroll.
*PLEASE NOTE – These questions and answers are intended to be used for informational and guidance purposes only, not as legal advice. Set up a consultation today with a Global Upside team-member for advice and strategy specific to the unique needs of your business and geographic area.
VP, Strategic Accounts
Andrew helps some of the world’s leading companies tackle complex global HR and Payroll challenges. Prior to Global Upside, Andrew worked at Price Waterhouse Coopers, Oracle and also consulted for companies like Nestle, P&G, Pepsi-Cola and Colgate Palmolive.
VP, Human Resources
Mary manages Global Upside’s HR capabilities worldwide, including the provision of services for startup organizations in need of creating scalable and efficient HR infrastructures as well as mature organizations in need of adjunct resources.
Director, Global Payroll
Nathan North is Director of Global Payroll and manages all aspects of payroll for Global Upside clients. Currently, he oversees payroll processing for 5000+ client employees across 45 countries.