China is Killing Rep Offices
For many years, Representative Offices (Rep Offices) were the go-to choice for foreign companies entering the Chinese market. They offered a faster, cheaper setup process and tax advantages compared to Wholly Foreign-Owned Enterprises (WFOEs). However, the landscape is changing rapidly.
A recent conversation with a fellow lawyer friend revealed a telling trend: both our international law firms have seen a significant shift towards WFOEs. This shift is driven by a growing disfavor towards Rep Offices by the Chinese government.
Why China is Killing Rep Offices
China is killing Representative Offices to increase its tax collections. In the past, China Representative Offices virtually always provided substantial tax savings. In the past, forming a Rep Office was nearly always faster, cheaper, and easier than forming a WFOE. Now, it is usually a push on money, but because WFOEs are much more flexible in terms of what they can do in China, it is rare when a Rep Office makes sense. Rep Offices, unlike WFOEs, are not allowed to engage in profit making activities. Chinese law limits them to performing “liaison” activities. They cannot sign contracts or bill customers. They cannot supply parts and after-sales services for a fee. They cannot earn any money in China or take any payments from a Chinese person or business for any reason. They also cannot hire employees.
China has Increased the Tax Rate on Rep Offices
In the last year or so, China has increased the tax rate on Representative Offices, greatly stepped up its enforcement of Representative Offices in terms of making sure they do not engage in anything beyond “liaison” activities, and instituted various other provisions to make them less favorable and more expensive. Just by way of example, China Rep Offices have always been required to “hire” their employees through an outside third-party agency such as FESCO, but what makes that so onerous now is that these agencies now require a minimum two-year employment contract.
China Has Instituted Tougher Rules on Rep Offices
And now there’s more. China’s State Administration for Industry and Commerce (SAIC) recently instituted new regulations for representative offices of foreign companies (ROs) in Shanghai, limiting head count as well as the validity period of the RO’s registration. ROs are now only able to sponsor a maximum of four foreign representatives and the registration certificates for ROs must be renewed annually. Though these restrictions are being implemented only in Shanghai now, they will be implemented throughout China in 2010.
The Future of Rep Offices in China
Though China Rep Offices might still be a viable option in very specific situations, the trend is clear: WFOEs offer a more practical and flexible solution for most foreign businesses in China. China does not like Representative Offices and the situations in which they still make sense are becoming even rarer.
If you’re contemplating establishing a presence in China, a WFOE (or maybe even a Joint Venture) might be the better option. It provides greater operational freedom and the ability to generate revenue within the country. We recommend consulting with an experienced China lawyer to determine the best structure for your specific needs.
