doing business in China

It is … and you might not. Analysing the strategic importance of China to your business and then assessing if you have the resources to execute your plan is generally the best way to determine if a presence in China makes sense. Remember, a “China plan” is not limited to setting up a company. You could begin by working with distributors in the market to ascertain if sufficient demand exists for your products before committing to a presence in the market, or you could hire a sourcing firm to assist with finding suitable and reliable contract manufacturers to produce your products to sell in your home country.

The ability to enforce contracts is improving as China’s commercial sector matures, particularly in those regions and cities that are popular destinations for foreign investors. That is not to say that enforcement will be as straightforward as you could expect in your home country. In other words, while there is a possibility of having an agreement enforced in China under a contract, there is almost no possibility of having an agreement enforced without one.

Given its proximity to Mainland China, the Hong Kong Special Administrative Region could be a viable initial option either for selling into, or sourcing from, China. However Hong Kong is a distinct commercial jurisdiction with different legislation, legal system and currency from Mainland China. You will not be able to: hire local Mainland Chinese to work for you legally on the Mainland; issue official invoices (“fapiao”) that are recognised by the Mainland tax authorities to your Mainland Chinese clients; or spend a substantial amount of time on the Mainland developing and conducting business. As your business grows, you will have to consider a presence on the Mainland. Hong Kong may, however, be a good location to set up an offshore holding company for a Mainland China company.

Yes, you are required to have signed at least a one-year lease agreement in most cities. Virtual office addresses are illegal and should be avoided in most cases. You need to identify a location with a unique address that is correctly zoned for your intended business. Some new ventures use virtual offices for their company set up because disreputable agents have misled them into believing that the process is quick and cheap – but potential problems often don’t manifest themselves until after the agent has left.

Hong Kong, or Singapore can provide a good base from which to access China as well as other Asian markets. A holding company can act as a buffer between the ultimate beneficiary and the China entity, which could be beneficial for tax optimisation and profit repatriation purposes. However there is a risk that the business could be deemed to be liable for taxes in China as follows:

• Effective Management Rule – If SAT deems an offshore company’s day-to-day management to be located in Mainland China, the offshore company may be subject to corporate income tax in Mainland China. Offshore company residence can only be achieved if the offshore directors, wherever they are located, are permitted to exercise effective management of the company.

• Reduced tax rate exclusions – Offshore holding companies with no substantive business activities may be excluded from reduced withholding tax rates under tax treaties with Mainland China.

• Indirect transfer of assets – An investor that has structured an equity interest in a Mainland China enterprise through an offshore holding company could, in the event that the investor sells interests in the offshore company, be subject to an additional tax burden within China.

• Local government kickbacks – China isn’t cheap. It may appear to be so at first because it is not uncommon for local service providers to undercharge for their services and make it up with government kickbacks. Local tax bureaus will often provide subsidies to accounting firms based on how much their clients pay in taxes, while development zones offer agents percentages of the committed investment. Not all commissions are dubious but you should ask your service provider if they are receiving one.
• One-stop-shops – No one company has licences for every service – accounting, recruitment, real estate, HR or to practice law. It’s ok to work with one company for everything, but make sure it is very clear who is doing what.
• The China Expert – There is no such thing as a “China expert”. Run – do not walk – from anyone who tells you that they are one! This also applies to anyone who talks more about their great relationships (“guanxi”) rather than demonstrating meaningful knowledge of the subject at hand.

“Trust, but verify” should be the mantra for your China operations. From the expat who has lived in China for 10 years to the landlord of the new office you intend to rent, you must have systems in place to verify what you are being told. Not everything in China is fake but at some point nearly everything has been faked – even the eggs.