A Q&A guide to doing business in China.
This Q&A gives an overview of key recent developments affecting doing business in China as well as an introduction to the legal system; foreign investment, including restrictions, currency regulations and incentives; and business vehicles and their relevant restrictions and liabilities. The article also summarises the laws regulating employment relationships, including redundancies and mass layoffs, and provides short overviews on competition law; data protection; and product liability and safety. In addition, there are comprehensive summaries on taxation and tax residency; and intellectual property rights over patents, trade marks, registered and unregistered designs.
This article is part of the PLC multi-jurisdictional guide to doing business worldwide. For a full list of contents, please visit www.practicallaw.com/dbi-mjg.
The key recent developments affecting doing business in China are concentrated in foreign exchange affairs. In 2012, the State Administration for Foreign Exchange (SAFE) promulgated various regulations simplifying the procedures on foreign exchange control in international trading.
The Chinese Communist Party (CCP) has just had a leadership transition. It is suggested that the new government may have policies that will improve the investment environment in China.
The People's Republic of China (PRC or China) has a civil law system, consisting of statutes, administrative rules and regulations. In addition, the Supreme Court of China issues judicial interpretations which the lower courts must follow in adjudicating cases. The lower courts do not have to follow the rulings of higher courts, although in practice they usually do. China does not have a federal system like the US.
Foreign investment is regulated by various laws and regulations and is classified into four categories:
Encouraged. This category includes:
drink production;
agricultural machinery manufacture;
the development and manufacture of software products.
Restricted. Investment in restricted sectors is subject to various limitations and approval requirements and includes:
the highway passenger transportation service;
legal services;
banking services.
Prohibited. Certain businesses are not open to foreign investment, including:
elementary education;
post offices;
TV and radio stations.
Permitted. Investments that do not fall into any of the other three categories are generally permitted.
There is no restriction on doing business with certain countries or jurisdictions except for those subject to sanctions imposed by the UN. However, for investing in certain countries or jurisdictions made by Chinese domestic entities, the approval from the central government is required.
There are various exchange control and currency regulations in China. A foreign investor in a foreign investment enterprise (FIE) in China (in which foreign investment accounts for at least 25% of the registered capital) is legally entitled to convert after-tax dividends derived from the FIE into foreign currency and remit it overseas in accordance with these regulations.
China offers certain incentives to FIEs, mainly tax reductions and exemptions. An FIE engaging in business in the encouraged category (see Question 3) can be exempt from customs duties when importing equipment for their own use. Also, various incentives may be available to foreign investors based on local practices at provincial or municipal levels.
Wholly foreign-owned enterprises (WFOEs) have recently become increasingly popular. They are now the most common form of business entity since foreign investor would have maximum control power on the business of WFOEs. Sino-foreign joint ventures (JVs) take second place, with equity JVs more popular than co-operative JVs. Partnership and trusts can also be adopted subject to relevant PRC regulations, but are not popular among foreign investors.
WFOEs must be approved by and registered with the Chinese government. It usually takes a couple of months to complete the approval and registration procedures.
WFOEs must have its financial books audited every year by a qualified accounting firm, and undergo annual inspections conducted by the relevant government authorities (for example, tax and customs authorities). The cost of these inspections is minimal.
The statutory minimum registered capital is CNY30,000 for a Chinese company, and CNY100,000 or its equivalent in hard currency for a company with a single shareholder. Higher capitalisation is required to invest in certain regulated business sectors, such as financial leasing and telecommunications. There is no maximum requirement for the registered capital.
Capital contribution can be in non-cash consideration, such as industrial property rights, equipment and land use rights.
Restrictions on rights attaching to shares. A JV's shareholder:
Has rights to dividends from the JV's shares.
Has pre-emption rights.
Assumes the JV's losses in proportion to its equity ratio in the JV.
Exceptions can be agreed by the parties to a co-operative JV by contract.
Automatic rights attaching to shares. Automatic rights attached to shares include, among other things:
The right to receive a share certificate.
The right to register their name on the list of shareholders of the company.
The right to transfer shares in accordance with relevant laws and the articles of association of the company.
The right to attend and vote at any shareholders' meeting.
The right to receive dividends.
The right to review and examine the articles of association, minutes of shareholders' meetings, minutes of board meetings, minutes of board of supervisors' and financial and accounting reports.
The right to receive the remaining property of the company once the company has been liquidated.
The shareholder/shareholders’ meeting is the highest authority of WFOE. The general manager is its top executive and is normally nominated by the shareholders and appointed by the board. The general manager is in charge of the WFOE's daily management.
There are no specific restrictions on foreign managers.
Directors assume fiduciary duties and must not act against the WFOE's interests.
A shareholder's liability is limited to its contribution to the WFOE's registered capital. However, in certain cases, the corporate veil can be pierced. For example, if a shareholder causes damage to the WFOE's creditors, it can be liable jointly and severally with the WFOE for the WFOE's debts.
The PRC Labour Law 1995, the PRC Labour Contract Law 2007, and various administrative regulations regulate (at central and local levels), among other things:
The formation and termination of employment contracts.
Labour standards.
Overtime pay.
Maternity leave.
These laws apply to foreign employees working in China if these employees are directly employed by the Chinese entity, but do not usually apply to Chinese employees working abroad if relevant employment contracts are signed between the employees and a foreign company under foreign law.
Employment contracts between a Chinese company and its employees must be governed by Chinese law, regardless of the choice of law in the employment contract.
A written employment contract is required and must be written in a language that is capable of being understood by all parties. Terms not identified in an employment contract can be incorporated in, for example, provisions of employee handbooks and collective labour contracts, as well as the PRC laws.
Both work permits and residency permits are required for foreign employees. Work permits should be applied for with the labour bureau and a residency permit with the local police. The process (not including the application for the work visa, which depends on the time frame set out by the Chinese embassy) usually takes two or three weeks. The cost of the permits is nominal.
At least one-third of an FIE's supervision committee must be employee representatives. The committee supervises:
The company's operation and financial conditions.
Directors' and senior managers' fiduciary duties.
The FIE's trade union must be consulted if the employer intends to implement mass layoffs (see Question 15) as a result of operational difficulties. The FIE must seek the trade union's opinion when adopting important rules or considering restructuring.
An employer cannot terminate an employment contract except for justified reasons specified in the PRC Labour Law and PRC Labour Contract Law. These include:
The employee's serious violation of the employer's code of conduct.
The employee's incompetence.
The employee's poor health status.
Major changes to the objective circumstances under which the employment contract was concluded.
If an employer intends to terminate an employment contract with proper ground, except under certain circumstances that justify immediate termination, it must provide the employee with:
Written notice 30 days before the dismissal, or payment in lieu of such notice.
Severance pay.
Where an employer is to terminate the employment contract laterally, the employer must inform the trade union (if any) of the reasons in advance and consider its opinions.
For unjustified dismissals, the employee can submit the dispute to a labour dispute arbitration committee for arbitration, and either party can bring a court action if the arbitration award is not acceptable to it. Remedies for unjustified dismissal include reinstatement of employment or compensation equivalent to twice the amount of the statutory severance payment.
The employer must explain the mass layoff plan and the reasons for it to the company's trade union or all the employees of the company 30 days in advance and hear their opinions. They must also report the layoff plan to the relevant labour authority.
Individuals who have their domicile in China or live in China continuously for one full calendar year are tax resident. A foreign national living in China is considered to be resident for one full calendar year if he leaves China for no more than either:
30 days for one single trip.
90 days for multiple trips during that year.
A tax resident employee must pay China individual income tax on his worldwide income. However, an expatriate who has stayed in China continuously for between one and five years can be exempt from payment of individual income tax in China in respect of his non-China source income that is paid by overseas entities or individuals.
For salary income received from employment, the individual income tax payable is calculated at nine progressive rates between 5% and 45%, depending on the employee's taxable income. For income received from independent services, the individual income tax rate is 20%, 30% or 40% depending on the service fee income received each time. The individual income tax rate on royalty, interest, dividends, rental and capital gains income is 20%.
Social security contributions must typically be paid by both employees and employers, except as indicated below, and include:
Pension.
Medical insurance.
Work-related injury insurance (paid by employers only).
Unemployment insurance (paid by employers only).
Maternity insurance.
Housing fund.
However, only a few cities allow expatriates to participate in the social security programme.
Non-tax resident employees only pay PRC individual income tax on their PRC-source income. The rates are the same as for tax resident employees, subject to any applicable bilateral tax treaty (see above, Tax resident employees).
If a non-tax resident employee has been in China for 90 days or less (or 183 days for tax residents of countries which have a bilateral tax treaty with China) in a calendar year, he is not required to pay China individual income tax on his PRC-source income that is paid or borne by an overseas employer.
Employers must make social security contributions for their employees (see above, Tax resident employees).
Chinese resident enterprises include:
All business entities established in China.
Business entities established outside China but with their effective places of management in China.
Non-tax resident business vehicles are subject to withholding tax at 10% on interest, rental income, royalties or other passive income received from China, unless applicable bilateral tax treaties reduce the withholding tax to a lower rate.
Non-tax resident business vehicles might also have to pay BT, stamp duty and other Chinese taxes under relevant Chinese tax laws and regulations.
The main taxes applied to a tax resident business vehicle are as follows.
A PRC tax resident business vehicle must pay corporate income tax on its worldwide profits. The standard rate is 25%, unless a reduced rate or special exemptions or deductions apply.
VAT is payable on the following activities in China, usually at 17%:
Sale of goods.
Provision of processing, repair and replacement services.
Import of goods into China.
BT is payable on the following activities in China, usually at 5%:
Sale of intangible assets.
Transfer of immovable properties.
Provision of services.
LAT is imposed on the appreciated value of real properties (including land use rights and buildings) in case of the transfer of real property in China at progressive rates between 30% and 60%, depending on the appreciated value compared with allowable deductions.
Stamp duty is imposed on various dutiable contracts, the enterprises' accounting books, certificates and licences, as well as evidence of title transfer. Share/equity transfer agreements are subject to stamp duty as they fall within the category of evidence of title transfer. A 0.05% stamp duty is imposed on transfer of equity interest (shares) in Chinese companies. Both the seller and buyer are liable for this stamp duty, and each of them must pay 0.05% stamp duty for each original equity transfer agreement or duplicate copy used as an original.
Dividends paid to foreign corporate shareholders?
Dividends received from foreign companies?
Interest paid to foreign corporate shareholders?
Intellectual property (IP) royalties paid to foreign corporate shareholders?
Dividends paid to foreign corporate shareholders are subject to a withholding tax at 10%, which can be reduced based on a relevant bilateral tax treaty.
Dividends received from abroad are subject to either:
China corporate income tax, if received by Chinese tax resident enterprises.
China individual income tax, if received by Chinese tax resident individuals.
Income taxes already paid outside China in respect of these dividends can be used towards income taxes payable in China.
Interest paid to foreign corporate shareholders is subject to withholding tax at 10%, which can be reduced based on the relevant bilateral tax treaty.
IP royalties paid to foreign corporate shareholders are subject to withholding tax at 10%, which can be reduced based on a relevant bilateral tax treaty.
A business cannot deduct interest paid to related parties exceeding the permitted related party debt-to-equity ratio (Article 46, PRC Corporate Income Tax Law). The permitted debt-to-equity ratio is:
5:1 for financial enterprises.
2:1 for other enterprises.
The profits of a foreign subsidiary do not need to be imputed to a China tax resident parent company. However, if the foreign subsidiary of a China tax resident is established in a country where taxation is lower than in China, and the profits of this foreign subsidiary are not distributed (or are partially distributed) without reasonable operation needs, the portion of the profits attributable to the China tax resident are imputed to the income of the China tax resident.
Dividends obtained by a China tax resident from its foreign subsidiary are taxable in China.
For transactions between a company and its related parties, if the transaction is not on an arm's-length basis (which decreases the taxable revenue or income) the Chinese tax authority can make reasonable adjustments.
Import VAT is payable (usually at 17%) for imported goods and customs duty rates depending on the goods involved. Export of products is generally exempt from VAT. In addition, Chinese taxpayers might be refunded a certain percentage of the input VAT they have paid their Chinese suppliers regarding the exported products.
The export of a few types of goods is subject to customs tariff at various rates depending on the goods involved.
China has signed double tax treaties with more than 80 countries, including the US, France, Germany and the UK.
In China, the authorities in charge of competition affairs are the Ministry of Commerce (MOC), National Development and Reform Commission (NDRC) and the State Administration for Industry and Commerce (SAIC).
Any competing entities are prohibited from reaching any of the following monopoly agreements with each other. Among other things:
Fixing or changing the price of products.
Restricting the production quantity or sales volume of products.
Dividing the sales market or the raw material procurement market.
Restricting the purchase of new technology or new facilities or the development of new technology or new products.
Conducting boycott transactions.
Entities are also prohibited from reaching any of the following monopoly agreements with their trading parties, among other things:
Fixing the price of commodities for resale to a third party.
Restricting the minimum price of commodities for resale to a third party.
Entities with a dominant market position are prohibited from committing any of the following abuses of their dominant position:
Selling products at unfairly high prices or buying products at unfairly low prices.
Selling products at prices below cost without any justifiable cause.
Refusing to trade with a trading party without any justifiable cause.
Restricting their trading party so that it may conduct deals exclusively with themselves or with the designated business operators without any justifiable cause.
Implementing tie-in sales or imposing other unreasonable trading conditions at the time of trading without any justifiable cause.
Applying discriminatory treatments on trading prices or other trading conditions to their trading parties with equal standing without any justifiable cause.
Other forms of abuse of a dominant position are determined by the Anti-monopoly Law Enforcement Agency.
Any mergers and acquisitions which are deemed as a "concentration of business operators" will be subject to merger control. Concentrations of business operators are mergers or takeovers, whether voluntary or by the acquisition of shares, or through the exertion of influence (for example, through contract).
Combinations are subject to merger control if either the:
Aggregate global turnover in the previous fiscal year of all the entities to the concentration exceeds CNY10 billion, of which at least two business operators each has a turnover of more than CNY400 million in China.
Aggregate turnover in China in the previous fiscal year of all the entities to the concentration exceeds CNY2 billion, of which at least two business operators each has a turnover of more than CNY400 million in China.
Foreign-to-foreign acquisitions are subject to the Chinese merger control laws as long as they constitute a "concentration of business operators". There are no foreign exemptions.
Definition and legal requirements. Patents include:
Invention patent.
Utility model patent.
Design patent.
To be patentable, an invention or utility model must be novel, inventive and practically applicable. A design must have distinctive features which are easy to recognise and not conflict with other prior and existing legal rights of other persons.
The patent owner has the exclusive right to use the invention and prevent others from using it without his consent.
Registration. Patent applications for registration must be made to the State Intellectual Property Office (SIPO).
Enforcement and remedies. The SIPO and the court are responsible for enforcing patent rights and can impose the following penalties:
Fines.
Confiscation of illegal proceeds.
Injunctions.
Damages.
The infringer can also be criminally liable for serious violations, for example, if the illegal turnover is more than CNY200,000.
Length of protection. The length of protection is 20 years for invention patents and ten years for utility model patents and design patents. These periods are not renewable.
Definition and legal requirements. To register as a trade mark, a sign must:
Have distinctive, easily recognisable features.
Not conflict with another persons' prior and existing legal rights.
The owner of a registered trade mark can use the mark exclusively and prevent others from using the mark without his consent.
Protection. Applications for trade mark registration must be filed with the Trademark Office of the State Administration for Industry and Commerce (SAIC). Unregistered marks are not protected unless they are well known.
Enforcement and remedies. The SAIC and the court are responsible for enforcing trade mark rights. The liabilities and remedies are similar to those for patents (see above, Patents).
Length of protection and renewability. Trade marks are continuously protected, subject to renewal every ten years.
Registered designs can be protected through patent law (see above, Patents).
Unregistered designs can be protected under copyright law (see below, Copyright).
Definition and legal requirements. Copyright applies to intellectual creations in literary, artistic and scientific domains, provided they are capable of being reproduced in a certain tangible form. The owner of a copyright has the same rights as those of trade marks and registered designs (see above, Trade marks and Registered designs).
Protection. Copyrights are automatically protected on the work's creation.
Enforcement and remedies. The General Administration of Press and Publication and the court are responsible for enforcing copyrights. The liabilities and remedies are similar to those for patents (see above, Patents).
Length of protection and renewability. Protection lasts for:
The life of the author plus 50 years, for copyrights owned by a natural person.
50 years from first publication, or from creation if unpublished, for copyrights owned by a legal entity.
There are no specific laws regulating agency.
There are no specific laws regulating distribution.
Franchises are regulated in China by the Measures for the Administration of Commercial Franchises 2007, issued by the State Council. A franchiser must have established at least two direct sales outlets after engaging in the business for more than a year in China.
The Electronic Signature Law 2005 regulates, among other things:
The scope of electronic signatures.
The requirements for effective electronic signatures.
The storage and transmission of data.
Certification services in connection with electronic signatures.
In China, the major laws and regulations of advertising are the Advertising Law of the PRC issued in 1995 and the Administrative Regulations on Advertisements issued in 1987.
There is no specific data protection law.
The Product Quality Law 1993 regulates the:
Quality of products.
Obligations and liabilities of manufacturers and sellers.
For product defects, the seller must indemnify consumers against losses on request.
The seller can seek recourse from the manufacturer if the manufacturer is responsible for the defects.
If a business entity finds that its goods or services have a serious defect that might cause personal injury or asset damage, it must immediately:
Make a report to the authorities.
Inform the public.
Adopt measures to prevent injury and damage.
The Food Safety Law 2009 regulates the:
Quality of food.
Obligations and liabilities of food manufacturers and sellers.
For food safety accidents, the relevant party must deal with the accident immediately and report to competent governmental authorities.
Main activities. The MOC is responsible for formulating foreign investment and international trade, related regulations, reviewing and approving foreign investment activities and handling anti-trust review affairs.
Main activities. The NDRC is responsible for formulating economic development related regulations, reviewing and approving foreign investment projects and handling industrial development affairs.
Main activities. The SAIC is responsible for formulating company registration and market supervision, regulations, handling company registration affairs, supervising the market activities and investigating unfair competition activities, handing trademark registration.
Main activities. The SAFE is responsible for formulating foreign exchange related regulations, handling registration of foreign exchange affairs and supervising the foreign exchange activities in China.
Main activities. SAT is responsible for formulating tax related regulations and handling tax collection affairs.
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Partner
Jun He
T +86-10-85191337
F +86-10-8519-1350
E chenzr@junhe.com
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Professional qualifications. New York, US; California, US; China, Solicitor
Areas of practice. Foreign investment; M&A; competition and general corporate.
Non-professional qualifications.
Recent transactions
Languages. Chinese, English
Professional associations/memberships.
