Corporate Establishment, Tax, Accounting & Payroll Throughout Asia. Establishing Wholly Foreign Owned Enterprises DEZAN SHIRA & ASSOCIATES 1

Transcription

1 Corporate Establishment, Tax, Accounting & Payroll Throughout Asia Establishing Wholly Foreign Owned Enterprises DEZAN SHIRA & ASSOCIATES 1

2 Welcome to Dezan Shira & Associates and to the emerging Asia markets of China, India and Vietnam. With 18 years of experience in the region, our firm is one of the very few cross-border practices operating in emerging Asia. The countries we work in are evolving rapidly and so are the legal and tax environments there. As a professional services firm, Dezan Shira & Associates combines both business advisory and tax disciplines under one roof. Add to this our extensive, local knowledge of each of the markets we operate in, and we are able to provide a uniquely strong platform to help our clients take their businesses forward. Do you want to do business in China? Whether you already have a presence in China or are new to this fascinating market, this guide will be a practical introduction to wholly foreign-owned enterprises, the most popular foreign direct investment vehicle in China. Our expertise in this area is just one aspect of the specialized business advisory and tax services that our team of experts on the ground in offices throughout China has to offer. We believe our resources and expertise are unmatched in Asia, and this, coupled with our dedication to client service, is the reason our practice has become the market leader it is today. Welcome to emerging Asia. Welcome to Dezan Shira & Associates. Establishing And Maintaining Wholly Foreign Owned Enterprises In China Fast facts WFOEs are growing in popularity because they provide greater control and access to the Chinese domestic market. Be aware that the business is limited based on the choice of entity and the business scope. Plan ahead for what you will need. Special care must be taken in writing the Articles of Association. Tax planning is an important part of the legal administration application process and should not be left until after the license is issued. You need to take advice during the planning stages and pay attention to the details. Otherwise, you can lose out significantly in available profits repatriation, VAT reclamations and customs duty rebates. It is important to recognize that registered capital amounts (your investment) should be measured against the businesses cash flow needs and not against minimum qualified amounts issued as guidelines. Introduction The wholly foreign-owned enterprise has become the investment vehicle of choice for the international investor wanting to manufacture, service or trade in China. In addition to the WFOE s expansive business scope, its unrivaled popularity arises from multiple other factors: 100 percent foreign ownership and control Security of technology and intellectual property rights Self-developed internal structure Insertion of existing company culture Profit repatriation Domestic sales Your organization has decided to invest in China. Deciding which entity to establish based on your short and long-term plans is the next step. 2 DEZAN SHIRA & ASSOCIATES

3 WFOEs and their operational applications Since China s ascension to the World Trade Organization in 2001, WFOEs can do almost any type of business in China that does not involve protected goods and services. They can import and export. They can trade, retail and wholesale merchandise sourced domestically or abroad. They can manufacture, process and assemble goods or provide services like quality-checking, logistics and sourcing. There is little a WFOE cannot do in China. Though operational overlap occurs and business entities are allowed to perform ambiguously defined related services, there are essentially three distinct types of wholly foreignowned companies: Manufacturing, processing, and assembly WFOEs A manufacturing, processing or assembly WFOE changes the physical nature of a good. They make everything from light bulbs to high-tech medical equipment, much of it for export. Secondarily, they are also capable of import, export and domestic wholesale. Though China s export tax rules fluctuate with the economic and political climate, the possibility of lowering all export-related taxes to zero has recently been raised good news for these types of WFOEs. Foreign-invested commercial enterprises Commercial, or trade, is the operative word. As of 2005, a FICE is forbidden from changing the physical nature of a good but can distribute, act as an agent, retail and wholesale domestically, source domestically and import and export all over China. Previously, such functions were only allowed in free trade zones or through joint ventures with a domestic partner. Service WFOEs Service WFOEs handle no tangible goods or products; rather they provide expertise and service. Examples of encouraged service industries include management of public docks and freight transportation and international economy and environmental protection consultation. The postal service, gambling and news and media are some examples of restricted service industries. Please ask a Dezan Shira associate for more information on manufacturing WFOEs, service WFOEs or FICEs. WFOE eligibility and status In China, certain industries are favored and encouraged over others. Depending on the government s economic development plan, your WFOE will fall into one of four industrial categories as delineated in the Catalogue for the Guidance of Foreign Investment Industries, and this distinction could be the difference between establishing your WFOE or going home empty-handed. Hi g h - t e c h, e n v i r o n m e n t a l protection and agricultural development industries are encouraged, as are any industries that promote the development of the interior region. Incentives are often the ability to obtain custom duty exemption on imported equipment and increased tax holidays or turnover tax refunds. WFOEs can apply for encouraged status, and its entailing incentives, even after registration. Restricted industries are those that are technologically backward, environmentally unfriendly or industries that are being opened up to foreign investment on a pilot basis. These industries are often first accessed via the joint venture rather than the WFOE. Prohibited industries are those that are technologically unique to China or would harm the national interest, the environment, human health or are politically sensitive (industries such as mass media, defense, stem cell development and green tea processing are categorically prohibited). You will not be able to setup a WFOE in a prohibited industry. Permitted industries are those that are not categorized as encouraged, restricted or prohibited. Permitted industries are WFOE accessible. Building the nation s interior and western regions is China s latest developmental initiative creating new development zones and improving existing infrastructure to entice foreign investment. China s Go West policy is intended to help the hinterlands of China catch up with the far more developed coastal region; as such, there are some very attractive incentives in the interior for encouraged projects. For more information on industries and their statuses, contact a professional. WFOE locations and zoning Unfortunately, the new unified tax code did away with many of the tax incentives in special economic zones. Of course, other incentives remain that may influence your decision to set up in a development zone. Convenience of location, modern infrastructure, rich human resources and efficient management services are persuasive advantages, and many zones in many places offer differing and competitive incentives. Patience DEZAN SHIRA & ASSOCIATES 3

4 during your search and review will be rewarded when you discover the appropriate development zone for your business. Following is a brief review of the most common zones: Free trade zone located next to ports; often used by FICEs with heavy exports for its VAT and customs tax incentives. Companies here focus on trading goods, not manufacturing them Export processing zone like the free trade zone, this zone is export-oriented and VAT-free, but it provides a simpler mechanism for export processing with more locations. Here, many companies process as well as export goods Special economic zone only available in five locations in South China (Shenzhen, Xiamen, Shantou, Zhuhai and Hainan). SEZs retain rights to enact their own relevant legislation Economic and technological development zone located in every province, many include export processing zones. Local authorities can approve foreign invested enterprises with a value up to US$100 million, but larger investments require state approval High-tech industrial development zone aimed at commercializing the results of scientific research; often located next to universities. Previously, companies seeking income tax advantages (15 percent CIT) needed to be located in these zones, but this is no longer the case Development zones are an important part of the playing field for foreign investors in China. The incentives do vary, but the best zones are a great help in dealing with China s bureaucracy as well as offering superior infrastructure. They are, by and large, created with the investor in mind. Legal status and limited liability definition WFOEs are limited liability legal personalities established under Chinese law and are usually owned by a single international parent company or ambitious i n d i v i d u a l. Re g i s t e red capital usually takes two forms cash or equipment and represents the extent of the WFOE s liability. It is important to note that according to Chinese law, when foreign parties are jointly investing in China without any local partner, the company will always be regarded as a WFOE. This is a bit different from how the term joint venture is generally used internationally i.e., several parties that jointly invest in a company. Structuring Your WFOE Business scope You need to ensure your business scope is accurate and genuine. The requisite administrative government offices will quickly pass your proposed business scope, but that does not mean you are out of the woods. Your proposal will then make its way to the state and local tax bureaus, and they are the ones who need to be appeased. Any attempts to fool the tax bureau into thinking you are producing one thing when you are actually producing another will inevitably fail. WFOEs can only operate within the business scope approved by the authorities. The business scope article within your articles of association will define exactly what your company is going to do. If you are going to be selling your product domestically, be sure to mention China s required compliance with the WTO treaty. This will allow easier access to the domestic marketplace. Also, your business focus must be clearly indicated or problems with the tax bureau and customs will arise when seeking due tax refunds. This does not mean your WFOE must be one-dimensional, but that you must be honest and prescient when planning your operation. Beyond being a complicated approval process, it is also a lengthy one due to the requisite translations and multiple bureaucratic departments. Capital requirements Registered capital requirements are dependent on location and industry and are used as an entry barrier to ensure FIEs are of sufficient quality and financial strength. Minimum capital requirement The absolute legal minimum capital requirement for a multiple shareholder company is RMB30,000 but immediately jumps to RMB100,000 for single shareholder companies. In reality, however, the minimum capital requirements vary drastically by location and industry. For instance, a manufacturing WFOE in Beijing may face different capital requirements than a manufacturing WFOE in Tianjin, a service WFOE in Shanghai, or a FICE in Guangzhou. Shop around and compare regional differences. But beware people are often duped into attractive but untenable minimum capital requirements proffered by local magistrates trying to meet their quotas. This will lead to complications with the central and local tax bureaus, both of whom will be intimately involved in your business life. It might be helpful to note that your registered capital your 4 DEZAN SHIRA & ASSOCIATES

5 liability will be included on your business license. This could become a deal-breaker if a potential client wants to do business but cannot determine whether or not you are solvent. Working capital The amount of working capital required until a business is self-sufficient is often underestimated. When the time comes, do not simply put in the minimum registered capital requirement during initial capitalization as you may later find the business is under-capitalized, unable to pay its bills and out of funds. Injecting capital is costly in terms of time and money. Any money sent to make up an operational shortfall that does not follow the government s business cash injection protocol can be subject to the 25 percent enterprise income tax. Err on the side of over-funding. It is an operational cashflow issue, not a regulatory licensing matter. Bear in mind that newly established foreign businesses in China must still make a tax deposit to customs for VAT and remit duty on initial imports, usually for a period of about six months. Many new businesses do not cater for this as initial working capital (as part of their registered capital requirements), leaving them short of cash later on. Factor in your working capital requirements as your registered capital amount as opposed to any minimum suggestions. Total investment Registered capital and total investment figures are both required during the application procedure. The total investment is the amount necessary to realize the company s operations, while the registered capital is the equity pledged to the local authorities. The difference between registered capital and total investment represents the debt of the investment and can be made up by loans from the investor or foreign banks. Pay attention to the relationship between registered capital and total investment in case you need to obtain further debt or other financing from your holding company or other financial institution. Keeping this window open will cost you nothing, but closing yourself off from further financing by equating registered capital and total investment may leave you handcuffed. The payment schedule of the WFOE registered capital also needs to be specified in the articles of association. The investor may choose to pay it as a lump sum or in installments. It is crucial for the investor to understand the importance of minimum registered capital, total investment, and working capital; but beyond that, basic investment criteria remain the same. The government will look at the general viability of the project and a reasonable cash requirement for a particular type of investment. Injections of cash and plant equipment take place after the WFOE license is approved, making it a no-risk investment in terms of money upfront. See table below. Total investment vs registered capital Investment guidelines for total investment capital Total investment Registered capital to total investment Notes Up to and including US$3m At least 7:10 From US$3m to and including US$10m From US$10m to and including US$30m At least 1:2 At least 2:5 The registered capital should be at least US$2.1m where the total investment is less than US$4.2m. The registered capital should be at least US$5m where the total investment is less than US$12.5m. Over US$30m At least 1:3 The registered capital should be at least US$12m where the total investment is less than US$36m. Time schedule for registered capital contribution Contribution methods Amount Time schedule 1. Paying off the registered capital as a lump sum In a lump 2. Paying off the registered capital in installments All the registered capital (1) the first installment At least 20% of the registered capital (2) the rest of the capital Paid in installments within two years Within six months after issuance of business license Within three months after issuance of business license An investor in a holding company (FICE) has up to five years to pay the balance of the registered capital

6 Set - up Process Feasibility study report The feasibility study is one of the first steps in the application process. Reviewed by the Ministry of Commerce or its local counterpart to assess foreign direct investment in China, this non-binding report is also used to assess exactly how much thought and planning has gone into your business. You will need to address your operating budget and the raw material inputs, among other pertinent information. The application follows a standard format and is provided by the authorities to you as part of your application documentation. It needs to be translated into Chinese for application. Environmental protection valuation report The Environmental Protection Bureau will issue you a document that is intended to control manufacturing production processes in accord with specified environmental norms. The bureau will require information about the raw materials used, the machinery and equipment, and consumption and safe disposal of toxic products. Please note that all assembly and manufacturing WFOEs applications must obtain approval by this bureau. In some cases, a full report on the environmental impact issued by an appointed agent shall be required (for example, the chemical or leather processing business) and this may represent a major step to go through as it would affect the time frame to get your factory up and running. Key articles of association The articles of association is one of the most important documents in establishing your WFOE. These are the operating rules of the company and it is vital that they are properly structured. If not, you could run into problems later on or even lose out on benefits from day one. Unfortunately, many foreign investors make the mistake of regarding them as a simple formality. When establishing a company with a limited life span of 30 to 40 years, know what you are agreeing to. Here we highlight some of the articles, what they mean and what should be included. Business scope article As mentioned earlier, the business scope article expresses the limits of your WFOEs business practice. It needs to be a clear, honest assessment of your intended business scope while leaving the possibility for expansion. Production scale article This can be useful for expressing an exit strategy by linking production and profitability scales to unacceptable levels of business, thus requiring liquidation. Liquidation audit article A board of director s resolution approves liquidation and termination in conjunction with the production scale article included in your articles of association. Liquidated assets are then paid in the following order: liquidation expenses, employees, outstanding taxes, secured debts, and other debts. Any funds remaining after business deregistration can be repatriated to the investors. Total investment article The relationship between your registered capital and your total investment capital can affect debt financing and the ability to obtain parent company loans. Clarity is important. Profits repatriation article This gives the parent company the right to bill the WFOE for services, royalties, and R&D costs for example. This will make it easier to overlay expenses, send money out as an invoice payment and save on your profits tax bill. Trade union article In China, the staff has the right to form a trade union but not to strike. They can however, elect a representative that you will need to deal with. It is wise to attempt to control the union s budget and influence its expenditure. The articles of association should be studied in great detail and redrafted to fit your business situation. Once completed, they need to be translated into Chinese as part of the application document. It is important to note that the Chinese language version of your articles of association will take legal precedence over any other version. For these reasons, this stage of the application needs to be handled with the utmost precision and care. For more information on the set-up process please reference the "Procedural Workflow for Establishing FICE in China" located at the end of the guide. 6 DEZAN SHIRA & ASSOCIATES

7 Tax and Audit Matters for WFOEs Chinese tax administration The State Administration of Taxation is the body in charge of tax administration in China. The Ministry of Finance also issues circulars affecting tax from time to time, but only following approval from the SAT. Both bodies, however, have discretionary powers to approve tax reductions, exemptions and waivers. Each business entity has to register and pay different taxes to both the state and local tax bureaus. These two entities will be intimately involved in your WFOE s business life from incorporation onward tax unification One of the more recent and significant changes to China s business landscape began January 1, Acquiescing to the equal-playing-field regulations of their WTO agreement, China equalized the domestic and foreign entities income taxes into the corporate income tax regime. This ended a two-decade policy of preferential treatment toward FIEs and affectively induced a protective measure by removing the foreign enterprises tax advantage. Domestic and foreign companies are now on the same playing field in terms of income tax. Most companies in China now must pay an corporate income tax of 25 percent. High-tech companies, however, can still obtain a 15 percent CIT rate if they meet certain staffing and R&D requirements. Small and medium-sized foreign companies with slim profits are only required to pay a 20 percent CIT. Types of taxes The main taxes you will need to be aware of as a foreign investor are: Enterprise income tax This is effectively a tax on your business s profits. It is now 25 percent, but with special status it can be as low as 15 percent (see above). Value-added tax VAT applies if your company is selling, manufacturing, processing or repairing tangible goods, or importing raw material and equipment. For VAT general taxpayers, the rate is generally 17 percent. For the VAT small-scale taxpayer, those with taxable sales below RMB 500,000 (for enterprises engaged primarily in the production of goods or the provision of taxable services) and RMB800,00 (for enterprses engaged in the wholesaling or retainling of goods), the tax rate is 3 percent. There are additional rules and regulations that are subject to change with the political and economic climate. The most important thing to remember is that as a small-scale taxpayer, you cannot issue invoices that specify the VAT and you cannot get a VAT refund when exporting. Business tax The business tax rate varies by industry and is based on turnover of taxable services. It is usually around 5 percent and paid monthly. Strictly speaking, manufacturing, processing, and assembly WFOEs need not apply unless their related services are applicable. When you first register, the tax bureau will issue you a form showing all the taxes applicable. Consumption tax This tax applies whenever certain luxury or other goods are manufactured, processed or imported. Consumption tax is levied only once. Tax rates vary considerably with the product. Withholding tax Withholding tax is a PRC tax levied on funds leaving China. If you are based outside the PRC but have Chinese clients receiving your services, your invoices are in effect China-derived income and may be taxed if a permanent establishment is created. Passive income such as royalties, dividends and interest payments are subject to a 10% rate. WFOE audit requirements in China For their annual audit, all WFOEs are required to prepare annual calendar-year financial statements balance sheets, income statements and cash flow statements in accordance with the Chinese General Accounting and Audit Practice. There are no longer any differences between standards for foreign and domestic enterprises. These statements will be used for computing the WFOE s taxable and distributable profit. Thus, an annual audit by a firm of certified public accountants registered in the PRC is required under Chinese law and due by the end of April every year, for the year ending the previous December 31. Transfer pricing audit On January 8, 2009, the SAT issued China s longawaited transfer pricing regulations. Transfer pricing is the methodology used to determine a range of acceptable, fair-market prices for international, related-party transactions. When the China branch of a multinational sells goods or services to a related party, the parties must do so at an "arm's length" to ensure the transferred material is at a fair market price. China s new regulations, rigorous and time-consuming, include an audit for which businesses must possess DEZAN SHIRA & ASSOCIATES 7

8 Wholly Foreign-Owned Enterprise A B C D The WFOE now legally exists E Name pre-registration with State Administration of Industry and Commerce (SAIC) Approval of Feasibility Study Report by Ministry of Commerce Environmental Protection Valuation Report by Environmental Protection Bureau (if applicable) Issuance of Business License by SAIC Approval for making chops issued by Public Security Bureau Open temporary bank account (upon request) J Registration with State Adminstration of Foreign Exchange (SAFE) F Enterprise Code registration by Technical Supervision Bureau G Office inspection by tax bureau (if applicable) K Open foreign capital bank account H Tax registration L Inject capital I Open RMB bank account M Capital Verification Report O Financial registration N Renewal of Business License P Statistics registration Q Apply for general tax payer status R Customs registration S Commodity inspection registration with Commodity Inspection Bureau * Procedural Timeframe: Typically three to four months from commencement to license issuance -depending on specific licensing complexities within certain industries. * Please note variations may occur regionally and in specific industries requiring additional licensing contemporaneous documentation SAT statistics demonstrate a stronger, more concentrated effort by China in securing revenues from transfer pricing cases a US$110 million revenue increase coincided with a 45 percent reduction in audits. If your WFOE requires a transfer pricing audit, it must start preparing well in advance of the June 1st deadline. National audit principles In China, an audit requires the creation and submission of the Audited Financial Report, the Foreign Exchange Audit Report, and the Annual Report. FIEs may need to submit the Annual Taxation Consolidation 8 DEZAN SHIRA & ASSOCIATES

9 Reporting Package to both the national and local tax bureau. This includes information on VAT, business tax, consumption tax, CIT, and other taxes on the basis of the audit result. If the audited taxes are different from the taxes paid by the FIE, the FIE shall discuss the variation with the tax bureau. Should the audited tax figure be lower than the figure paid, the FIE will need to apply for a tax rebate or tax reduction for the fiscal year in question. Accordingly, should the audited tax figure be higher than the paid EIT, once the FIE submits the report, it would have to pay the balance due to the tax bureau. Beware there are a number of areas where you need to take particular care and where there are differences between Chinese and Western accounting practice. Your auditors should be competent to handle such rebate issues. The process above can be ascribed to joint ventures and FICEs as well as the common WFOE. There are additional regional issues and nuances that do not fit the general scope of the material discussed here. For more information, contact a professional. Things to watch for when doing business in China Land use rights Granted rights you have the title ( ownership ) Allocated rights someone else has the title but you have permission to use the land for a specific purpose; these take the form of an issued certificate in your name. The difference is important. Granted rights mean you can profit from any increase in the value of the land if you develop it. This is not so with allocated rights. Additionally, there have been cases of subterfuge and legerdemain as to which rights an FIE thought they were receiving. closing audit. Keep in mind that if you are exiting the market you will no longer be paying taxes to the Chinese government. Therein lies the government s incentive for dragging out your liquidation to the full legal extent. Preparing for such a possibility will make things less painful. Recent changes and restrictions Again, dependent on your WFOE s business scope, certain sectors offer competitive incentives. Effective December 1, 2007, the new Catalogue for the Guidance of Foreign Investment Industries made some significant changes: Withdrawal of investment incentives targeting conventional manufacturing industries in which China has mastered advanced technologies and has competent production capacity R e s t r i c t i o n o f f o r e i g n i n v e s t m e n t a n d development of large-scale property, construction and operation of high-end hotels, villas, office towers and exhibition malls New restrictions on foreign investment flowing into housing agents, brokerages and the second-tier real estate markets Encouragement of development away from the coast; the revised catalogue drops the article limiting foreign investment in the central and western regions of China Please contact us if you are interested in setting up a wholly foreign-owned enterprise at following info@dezshira.com Alternatively, call any of our offices at the numbers listed on the back of this brochure. Exit strategies If it all goes horribly wrong in China, who gives the exit order and how is it effected? Such a scenario needs to be considered when forming your organization. Differences of opinion and interest between yourself and the government may be revealed during the DEZAN SHIRA & ASSOCIATES 9

10 Dezan Shira & Associates Regional Offices CHINA Beijing Suite 701, East Tower Twin Towers, B-12 Jianguomenwai Avenue Beijing, Dalian Dalian Ascendas IT Park Room 304, 1 Hui Xian Yuan, Dalian HTIZ Dalian, Qingdao qingdao@dezshira.com Room 2307, Building A Central International Plaza 19 Zhangzhouer Lu Qingdao, Shanghai shanghai@dezshira.com Suite Tian An Centre 338 Nanjing Xi Lu Shanghai, Hangzhou hangzhou@dezshira.com Suite 1001 Xuefeng Mansion 346 Qingtai Lu Hangzhou, Ningbo ningbo@dezshira.com Room 505 Shiji Jinmao Mansion 158 Baizhang Dong Lu Ningbo, Guangzhou guangzhou@dezshira.com Unit 1005, 10/F Tower B Center Plaza 161 Linhexi Lu Guangzhou, Shenzhen shenzhen@dezshira.com Suite , Diwang Commercial Building 5002 Shennan Dong Lu Shenzhen, Zhongshan zhongshan@dezshira.com Room 513, West Wing Yi Hua Commercial Center Section 3, Zhongshan Lu Zhongshan, HONG KONG Hong Kong hongkong@dezshira.com Unit 1618,16/F Miramar Tower 132 Nathan Road Tsimshatsui, Kowloon Hong Kong INDIA Delhi delhi@dezshira.com Unit 205, Tower D, 2nd Floor Global Business Park Mehrauli Gurgaon Road Gurgaon, India Mumbai mumbai@dezshira.com Level 2, Kalpataru Synergy Building, Opposite Grand Hyatt Santacruz (East) Mumbai, India Chennai chennai@dezshira.com Regus CitiCentre, Level 6 10/11 Dr. Radhakrishnan Salai Chennai, India Bangalore bangalore@dezshira.com Level 9, Raheja Towers Mahatma Gandhi Road Bangalore, India Kolkata kolkata@dezshira.com Level 6, Constantia Dr. U. N. Brahmachari Marg Kolkata, India VIETNAM Hanoi hanoi@dezshira.com Rm 1028, Pacific Place 83B Ly Thuong Kiet St. Hoan Kiem District Hanoi Vietnam Ho Chi Minh City hcmc@dezshira.com Room 1319, 13/F Kumho Asiana Plaza 39 Le Duan Str. District 1 Ho Chi Minh City Vietnam