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China briefing: Wholly Foreign Owned Enterprise

The most popular structure for doing business in China is the Wholly Foreign Owned Enterprise (WFOE), which is a company established in China according to Chinese law and wholly owned by one or more foreign investors.

The main highlights of a WFOE are:
• It offers the greatest range of permitted legal activities
• The most suitable vehicle for establishing a long-term business presence in China
• Ability to provide a wide variety of services within their business scope
• It can sell China-made products directly to Chinese consumers.

The main characteristics of a WFOE are:
• It is a limited liability company
• Has capital entirely owned by its foreign investors (not Chinese)
• Allows investors to retain control of strategic decision making
• Offers operational and management flexibility.

Why choose a WFOE?
• Authorization to operate in numerous sectors
• The right to carry out commercial activities and to invoice Chinese clients
• Control and autonomy are retained by the foreign investors
• Strategic decisions by the parent company are applied in a flexible and fast manner
• Better protection of intellectual property rights
• The potential to convert RMB profits and to repatriate them to the parent company
• Exemption from the obligation to obtain a license for the import and export of products fabricated by the WFOE
• Exclusive control of human resources.

Limitations of a WFOE include:
• The application process is very involved and each step may have a profound impact on the future development of the company including in the areas of business scope, financing, tax rates and board management
• A WFOE faces limited access to government support
• Investors must provide foreign funding for the company's registered capital
• There are significant regional differences in regulations within China.

Things to consider before establishing a WFOE:

● A WFOE's business scope is a one-sentence description of the company's activities within China. Once written and approved it is printed on the company's business license. Changing a business scope is a very complicated and time consuming process.

Registered capital refers to the amount of money needed to support a WFOE's activities. Currently, there is no fixed rule as regards the minimum registered capital. If, as a result of cash flow challenges, there needs to be a transfer of funds from overseas for purposes of increasing the registered capital at a later date a re-registration of the minimum capital will be required otherwise, the funds will be treated as income and taxed accordingly.

Every city can impose its own capital requirements for setting up a company. If your business is subject to additional licensing requirements, then a minimum capital investment may be imposed. For most companies, the amount of minimum capital will depend on the location and the nature of their business. State officials reviewing your application will determine whether the amount you intend to invest is sufficient for your business activity.

A company's registered capital can affect more than its registration. It is can also impact on:

• Local employees' residence permits – with a low registered capital, companies may not be able to sponsor temporary residence permits for local employees who reside outside the administrative district where the company is situated
• Foreign employees – certain administrative districts in China will limit the number of foreign employees a company can employ based on the company's registered capital
• Future adjustments – the ability to make changes to a company's structure or set up branch offices could be hindered by a low registered capital
• Tax bureau relationship – general VAT taxpayer status and export VAT rebate applications may be held up by the local tax bureau.

It may be that none of these issues currently applies in the administrative district where a company is looking to establish. However, conditions can change suddenly and this could have an impact on a company's future operations.

Chops are the legal seal of a Chinese company taking the form of simple ink stamps. A company's official seal has legal authority over a legal representative's signature. Regardless of who uses it, it has the power to validate documents and contracts. For this reason, its possession and whereabouts must be extremely carefully observed.

Exit strategy - there are many reasons why a foreign-invested company might seek to close their China operations – financial difficulties, bankruptcy, reorganisation or merger, relocation or a change in circumstances to an overseas parent company – but dissolving and liquidating a Wholly Foreign Owned Enterprise can be a confusing and frustrating process.

Whatever the reasons for exiting, there are strict procedures to ensure the company's final bills are settled, tax is paid, and all the company's remaining liabilities and statutory responsibilities are correctly discharged.

It may come as a surprise to learn that closing a WFOE can be even more expensive and time consuming than opening it. It is therefore advisable for any company considering entering China to also devise an exit strategy.

For further information about doing business in China please contact our Business Development Director Cindy Cheng at cindy.cheng@ils.world

Please note: ILS World does not offer tax advice and would therefore recommend you obtain your own tax advice. If you require an introduction to a tax adviser we would be happy to assist.