Chinese Lawyers Clearing the Situation on Payment of Salary and Tax by WFOEs

In the last post regarding payment of non-Chinese employees, we had discussed about the double payment to a non-Chinese employee residing in China for over 183 days. The payment is done by the WFOE or a Wholly Foreign-Owned Enterprise. We had talked at length about the payment being doubly taxed as well. The payment of such employees are taxable under Chinese laws, rules and regulations. On the other hand, the employer will also have to pay tax regarding the same when he/she is maintaining the parent organization as well as the WFOE (Wholly Foreign-Owned Enterprise). When the WFOE is paying salary to a non-Chinese employee, then it becomes taxable. Chinese lawyers often face questions on how to solve this situation from their WFOE clients. However, there is nothing much they can do, because in China the taxation rules are stringent.

Combining the China and US salary for their employees and paying tax on that combined salary is the method followed in China. The methods followed in China are absolutely different from that of other places. Thus, employers and employees get confused regarding the same. This has been mandated by the “Circular of the State Administration of taxation on Income Tax Paid by the Enterprises with Foreign Investment and Foreign Enterprises for Their Employees on Behalf of Their Enterprises Abroad”. This is also referred to as the Circular No. 241.

Circular No. 241

The Circular No. 241 only applies when the foreign business entity and Chinese entity will be related. Now, the client asks and even others can ask what does the term related mean in this context? This might lead to a confusion because no clear explanation is provided regarding the relation between the foreign and the Chinese entity. This makes the Chinese laws regarding employee payment even more perplexing. Without a proper explanation on the Circular No. 241, nobody understands what could be the possible relationship. However, usually, lawyers treat it as the business relationship between the entities.

The Loophole in the System

Since, there is no clear explanation as to what the relationship between one foreign and one native business entity can be, there are various loopholes which are making way for corruption at different levels. Clients also ask this question whether they can flout the taxation rules and get around those by having Chinese employees work for a US company separate from the regular US company. Though the Chinese lawyers advise their clients against this practice, the clients still seek answer to the same question. However, Chinese law defines the term related but loosely and that too in other contexts. Now, this somewhat half-baked explanation works for the circumstances under which both the parties treat it as business relation between them. Two entities are considered related when:

  • Direct or indirect ownership or control with respect to capital, sales, purchase and business operations.
  • Direct or indirect ownership or control by a third party.
  • Other beneficially mutual connections.

The Chinese tax authorities generally apply this broad definition to define the relationship between two entities. They conclude that the China WFOE and the US company are related enterprises. Now, that they establish the fact in a roundabout manner, Circular No. 241 requires the WFOE to report and pay taxes on the employee’s full salary if they work in China for over 183 days in a calendar year.

China business lawyers have thought about employee dispatching service to tackle the combined salary problem. The lawyers have tried talking to Chinese government employees and they have disagreed the dispatch procedure. They say this is not possible because the foreigners work certificate must specify the employer of the foreigner. Employing dispatch agency will also lay out that the companies are trying to evade taxes.

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Chinese Business Lawyers Lead You to WFOE Close Down in China

A number of China WFOEs have been sold over the years. There are various reasons to that, however, Chinese business lawyers have had to put in a lot of hard work to advice people regarding this. There was a time when China’s economy was contracting and with that contract a great number of WFOEs were sold by foreign owners. WFOEs in renowned and powerful cities like Shanghai, Beijing and Dalian were also sold due to this condition. But this is not the real concern, the real concern lied in how to sell China WFOEs. Since, nothing is easy to buy and sell in China, this has always remained a concern for the business owners as well as for the lawyers.

The Biggest Problem with the WFOE (Wholly Foreign-Owned Enterprise)

The off the shelf WFOEs face the problem of not being customized. If the company has been settled up stating a particular business and has sought permission for a specific business, then the owner cannot change the business scope later on by petitioning to the government. Similarly, if the company needs to move its WFOE to a different city or open a branch still doing the same business, it will also need to petition to the government. However, they can still maintain 2 offices. Therefore, doing proper research before setting up a WFOE is truly essential to find out whether you can set it up without any liabilities which include tax, tort, employee and environment. Doing research will enable you to establish it safely and at a cheaper rate. The biggest advantage of buying a WFOE is its speed.

Many people have tried to sell their WFOEs in China and also thought that it would be simple and straight. But, unfortunately, it is not true. However, the problems faced by different people vary. Terminating the approval and the license of WFOE in China is difficult and time-consuming you have to get it done through the long list of government agencies. Moreover, the fees for closing down a WFOE is too much. You could actually leave everything in the hands of the government but if you are shifting to another city within China, then that would be a problem.

The primary licensing authority is the Bureau of Industry and Commerce in China and visiting this place to get the license canceled involves following a proper method. As long as the company existed, you will have to file tax reports and complete the statutory annual audit and renewal process. You will also have to meet all the other requirements from other agencies. The fact that, the company will not engage in any other activity made no difference.

Selling the WFOE

Not just shutting down the company, but also selling it is a problem within China. The first step is to get a buyer which is comparatively easier, but again filling out the transfer notice for business license as a legal person again is difficult and involves filling out a couple of forms. The buyer actually follows the same process which had to be initially followed while setting up the company. The demand to increase the registration money goes on illegally. The negotiations take a convoluted process and thus the buyer has to beat around the bush. It takes a lot of time to complete the entire process which includes discussions, chopping forms, providing capital for registration and also defining the scope of the business. License transfer consumes separate time.

The process of completion will definitely take you closer to the Chinese bureaucrats. The fact is that the local Chinese government is the de facto partner in establishing and closing down a business. Chinese bureaucrats are omnipresent in any body’s business. Sometimes, in a reasonable manner and at other times in a meddlesome way. You have to pursue government officials to give you permission to let go of your business. The formation of WFOE is easier now, but the process for closing it down still remains difficult and time-consuming.

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