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Starting a business in China By: Danos & Associates
There are four types in which foreign investors usually choose to form a business in China. These are Wholly Foreign Owned Enterprise, Representative Office, Joint Venture, Partnership Enterprise. Provided below, is a highlight of the most important points regarding each of these four types of Foreign Business Presence in China.
Wholly Foreign Owned Enterprise (WFOE)
Basic Definition of WFOE
A WFOE is a company with limited liability which is owned exclusively by a foreign investor. It requires registered capital which ought to be subscribed and contributed entirely by the foreign investor.
One of its primary characteristics is that it can produce income and transfer any profit made back to the investor’s home country. Yet, it pays taxes to China. Following a change in the Chinese Law in 2016, the legal requirement for the minimum paid-up capital contribution has been terminated. It is also important to highlight that the Chinese law does not recognise branches or representative offices established by the foreign investor in China as WFOE. This of course serves in favour of the investor as they have the ability to actually carry out businesses instead of merely serving as a representative office. Consequently, the investors are able to carry out any transaction with their customers in RMB but also exchange the money in dollars in order to transfer them back to the investor’s home country.
Categories of WFOE
Following the two major changes in the regulations concerning foreign investment area, the Negative List governs the WFOE, enlarging the application from the tax-free trade zone to the all areas of China. As long as the investment area does not fall into the categories in the Negative list, which are restrictive or prohibitive, a WFOE can be recorded and registered with local MOFCOM (Ministry of Commerce of China) and the pre-approval is no longer required.
Even though they can sometimes be difficult to set up, they nevertheless have some strong advantages which make them a popular choice when it comes to business presence in China.
- Provides the foreign investor with nearly the same rights as a Chinese owner would enjoy.
- Offers unrestricted independence to the foreign investor to take business strategic decisions, avoiding the necessity to consider the opinion and involvement of a Chinese Partner.
- Its shareholders enjoy fully the growth of the company yet their liability is limited to the amount they invested in the company.
Representative office (RO)
A RO is a co-operation office of its parent company which does not do any direct business while acts primarily as a marketing arm which cannot generate a profit, or be a party in a business contract. The Chinese law on RO does not necessitate registered capital.
A RO’s functions are slightly more limited compared to those of an WFOE. These include but not limited to the promotion of a product or service or investigation into the business of its parent company. As mentioned above, a RO faces a series of limitations when it comes to its business conduct. A RO is not allowed to manufacture, import or export any goods. It is prohibited from receiving payments coming from a Chinese client and consequently not allowed to issue invoices. All in all, a RO is forbidden from carrying out any profit generating act of business.
Categories of RO
- Market research
- Building business relationships
Even though, at first glance, a RO seems to be burdened with a strict set of limitations, yet it carries some distinctive advantages which sometimes make it the Investors’ most preferred choice.
- It is considerably easier to establish than any other type of business in China, since it is defined by its faster and simpler formation process.
- Its marketing functions are really beneficial since it promotes the services or products, offered by the foreign company, in the hurriedly growing Chinese market and assists in attracting new valuable Chinese clients.
Foreign Invested Partnership Enterprise (FIPE)
A FIPE is an unlimited liability company created by two or more companies or individuals in China where partners enjoy the profits and suffer the losses of the business that they have all invested in. There is no necessity for minimum registered capital.
A FIPE enjoys the benefits of conducting direct business. That being said, a FIPE is allowed to generate profit, hire local and foreign employees, be a party in contracts between the FIPE and local or foreign business in China. Further, it is allowed to receive payments and consequently issue invoices. This form of business is also allowed to send back any profits to its parent company outside China.
As mentioned above a FIPE is created by two or more partners. These can either be a combination of foreign and Chinese investor(s) or a wholly foreign invested enterprise. This is considered to be one of its most desirable characteristic since as seen in a Joint Venture which is discussed below, a Chinese individual is prohibited from entering into any form of partnership or cooperation with a foreign investor.
Categories of FIPE
- General Partnership Enterprise; formed by general partners with unlimited liabilities on the debt of the businesses.
- Limited Partnership Enterprise; formed by general and limited partners. Limited Partners share the liabilities for the business’s debts based on the value of their investment.
- Special General Partnership Enterprise; Similar to the General Partnership expect they offer services based on professional knowledge and special skills. Similar to Limited Partnership as it protects co-partners from any liability arising from malicious misconduct/gross negligence of general partners.
Advantages Even though FIPE seems to be the least known type of business presence in China while the number of foreign investors showing preference to it is still relatively small, yet it is considered by many to be much easier to form than WFOE or JV.
- There is no minimum registered capital which enables foreign investors to establish a Business in China easily and with very low starting capital. This speaks to young entrepreneurs looking to form their start-ups in China on a low budget.
- It is a new type of business presence in China thus offers an up-to-date response to the needs of foreign investors.
- Investors can easily and without any restraint apply for work and consequently obtain residence in China.
Joint Venture (JV)
A JV is a limited liability company created by equity contribution of a Chinese company and a foreign investor where they share the management, profits and losses of the business.
The investors in this type of business share the investment, any costs arising
from running the business, share the responsibility of managing the business but most importantly the profits and losses.
Categories of JV
Equity Joint Venture;
Cooperative Joint Venture;
Even though JV can be less favourable to foreign investors due to the necessary involvement of a Chinese partner, yet in some cases they could prove to be the only choice, especially to industries which are still heavily controlled by the Chinese authorities. This includes but not limited to, Car Production, Building and Construction, Hospitality etc.
- Offers the opportunity to foreign investors to enter restricted areas of industry such as Education, Entertainment, Mining or Hospital.
- Foreign investors who are involved with this type of business entity in China are exposed to advanced technology and new management skills.
- Investors enjoy low costs of running a business under a JV. Low costs of production and labour which are the highest percentage of expenses faced by a company.