China Law Blog

It amazes me as well how misinformed some firms are regarding company formation in China. We had a client come to us recently who had spoken to at least two different law firms in their home country only to be left utterly confused on the process of elementary issues such as registered capital and the injection terms.

That being said, there have been a few clarifications that have occurred since the new company law was introduced early last year. For instance, when the new company law was introduced in 2006 there was a conflict between the company law and the implementation rules of FIE’s in terms of the amount of the registered capital required during the first installment. This was finally resolved in a joint statement issued by MOFCOM and the SAIC later in the year. Also, although the new company law required a board of supervisors for WOFE’s this requirement was not actually implemented until the Fall of 2006 without prior notification – catching my firm, at least, right in the middle of a registration where we had to go back to the client to ask for additional documentation.

Suddenly in March of last year Shanghai and a few other cities decided to institute a policy whereby lease agreements had to be notarized and registered with the Real Estate Exchange Bureau, increasing the amount of documentation required for the setup process.

Finally, two years ago we could conduct cancellations of Rep. Offices and setups of WOFE’s simultaneously at the same address. Now foreign companies either have to wait 7 to 9 months to finish these procedures consecutively or lease a new office space to setup the new entity or physically split their offices in two to get what should be a straight forward procedure finished in a reasonable amount of time. The logic fails me sometimes…

So yes, there still seems to be a fair amount of confusion in the professional services world regarding WOFE’s in China and you have done an excellent job of explaining succinctly (a rare talent it seems these days) how registered capital works, but I am not entirely convinced that WOFE’s are easy.

They should be easier...

Tim --

The "easy" part was just a hook. Certainly the logistics of actually securing approval can be mind-bogglingly difficult.

You are absolutely right that the actual logistics of registering have changed and will no doubt continue to change, but the law and the core is still there. But what you are discussing here is what I think of as the "back room" kind of stuff that is relevant only to those actually doing the registering. Our clients generally want to know just the big picture stuff. If we discussed the logistics (including the differences between cities) with them, I fear we would drive them insane.

As an American lawyer, I agree they should be easier, yes. I am always telling our foreign clients that we can form an LLC for them in less than an hour and the only out of pocket outlay is around $300 (it depends on the state), but forming a company in the US doesn't mean much as everything else has to come later. The office lease. The taxpayer ID. The shareholders' or member agreements. The employment contracts, etc. Whereas in China, forming a company entails virtually everything because the government will not allow the company to be formed without virtually everything already in place.

But it is the U.S. that is in some ways unusual. First off, we have no formal minimum capital requirements. My firm actually does a bang up business forming U.S. companies for Europeans with commercial web sites. They like US companies because it indicates reliability to their customers (as opposed to being based in the Jersey Islands, let's say) and is much cheaper and easier than forming a company in most of Europe. My understanding of most European countries is that they still have minimum capital requirements and the cost of forming companies over there can be rather steep.

And the minimum capital requirement makes sense for China, given the infancy of its market. In the U.S., you can leverage the heck out of a company, but it'd be dangerous to allow that kind of company formation when it is not clear creditors have proper protection.

You bring up a good point, and it seems like every law firm is buying into, or forced to buy into by their clients, the China story without really understanding what's going on. Laws change. When Sarbanes-Oxley came out, people had to deal with it and constantly asked for clarifications from the SEC. The point is people dealt with it and didn't just say it's vague. It is easy to blame Chinese laws as "vague" because people will buy into this stereotype, but a good China lawyer speaks and reads the language, can understand the rules, and does not pretend to be an expert.

Another issue that trips up a lot of investors is that of total investment. My understanding is that the difference between the WOFE's total investment and registered capital is the amount of money that the WOFE will be allowed to borrow. I'm aware of some business registration firms advising clients to set equal amounts for their TI and registered capital. This will lead to difficulties later, because the same firms that give this advice are also the ones that do not correct their clients low-balling of registered capital requirements.

Also, a lesson from personal experience: Always, always, ALWAYS get a back-translation of all registration documents before they are filed, paying careful attention to the Business Scope.

Laws in China? What is this madness!

I don't get it...were you joking about the "easy" part? If so, then that means it is not easy or clear. So why trash your competitors by saying they are vague about the laws when obviously, from your long and convoluted explanation, it is in fact quite vague?

David --

Exactly, though the assertions of "vagueness" of which I am hearing are typically being heard of coming from company formation firms, not from law firms.

Benjamin -

You are exactly right about business scope and that is another critical reason for using someone who truly knows what he or she is doing with respect to China company formation.

Here in the US, most companies list their business purpose as something like "engaging in any lawful enterprise." You cannot do that in China and if you list your business scope as selling widgets and then start repairing widgets, you might very well have a big problem on your hands.

Anyone who seeks to register your company in China without first communicating with you long enough to get a real sense of your business now and what it will be in China is doing you a big disservice.

dudeinwales --

Thanks for checking in.

No madness. Reality.

hwa tsen --

It is complicated, not vague. There is a big difference. Definite answers are out there to most questions, they are just hard to find. The "easy" part was a hook. Journalist's license.

I know this may sound funny, but I definitely do not view company formation firms as competitors. They charge less than my firm and they provide a lot less. I wrote this post not to trash them, but to highlight that much of the information being dished out about China's laws (true not just in this arena) just is not true and these untruths are causing constant and extreme difficulties for foreign businesses operating in China.

Trust me, I see the results of this when companies come to us seeking solutions for their problems and we tell them it is going to be hugely expensive for us to help them fix it AND we are not sure we will succeed.

Doing things right in the legal world is far far cheaper than late having to clean up a mess. It is also far far more predictible in terms of outcome. I analogize it to changing the oil in your car. Do it and you keep your engine. Don't and you will save money for a while, but then ....

Great post, Dan. This is very informative. Thank you.

Dan,

So what is the legal status of these "company formation firms" and where are they from? Does the Chinese bar have a similar requirement that you have to be licensed (pass the bar equivalent) to advise people on legal matters? If not, why not? I know there is a shortage of experienced lawyers because it's a young system and the bar is extremely difficult to pass, but I'd think instituting such a requirement would encourage people to enter into the legal profession by creating some barrier to entry.

Does a company that has been (grossly) negligently advised have malpractice claims against these company formation firms or even a law firm? I suppose the cross-borders aspect makes this complicated because it's not clear whether an American firm who wrongly advises an American company on Chinese Company Law should pay damages under American Law or Chinese Law.

Chris --

You are very welcome.

David: And the minimum capital requirement makes sense for China, given the infancy of its market. In the U.S., you can leverage the heck out of a company, but it'd be dangerous to allow that kind of company formation when it is not clear creditors have proper protection.

In the US, a lot of the things that form a company happen after incorporation. For example, any company can issue stock, but you have to go through a lot of effort if you want that stock tradable and to be worth anything.

A lot of this involves "historical accident." The division between securities regulation and incorporation is in part the result of the division between Federal and state powers in the United States.

What I've seen is that because it is difficult to create a corporation in the PRC, a lot of things that people would use a corporation for in the United States (like creating a special purpose vehicle for an asset based security) is done by other mechanisms like trusts.

Part of the issue is that people assume that the difference between the supposed vagueness of Chinese laws and the supposed non-vagueness of American law has to do with basic cultural mindset, when in fact I think it has to do with the fact that in most cases, American law has been around for a longer time, and so most of the vague parts have been specified. If you read the legislative text of most business laws, they are extraordinarily vague. Its that one has fifty to one hundred years of judicial rulings, administrative decisions, and even custom and usage to clarify things.

This comes clearly when you have exceptions in which US law is new and PRC law is old. Foreign venture law in the PRC is relatively old, which means that you have rulings on a lot of things, and more importantly you have a relatively clear system to issue clarification. This is in contrast to Sarbanes-Oxley which just came out of the gate, and no one quite knows what a lot of the provisions really mean.

One reason why it is easy to form a corporation in the United States, was that in the 19th century, New Jersey made it easier to form corporations to attract business from New York, and then Delaware made it even easier to attract business from New Jersey. Once Delaware made it easy, then everyone made it easy.

Mr. Wang --

You know your stuff. I agree with you regarding the need for minimum capital requirements in China, now. You are also absolutely right that in "the US, a lot of the things that form a company happen after incorporation." This is why American clients are always shocked at what we charge to register companies in China, until they hear what is involved and, conversely, why our European and Asian clients are always so shocked at how little we charge to form companies for them in the United States.

Mr. Wang(2) --

I agree with you that the US has the benefit of history in terms of interpreting its laws. Reminds me of when some Chinese maritime judges in Qingdao complained to Steve about how old US maritime cases were and why didn't the judges ever publish anything. Steve told them because over time the law has become so clear.

Joseph Wang (3) --

Right again. Americans know this and smaller companies now usually just register in their home state. Foreign companies coming over to the US still oftentimes insist on Delaware.

I was interested to here that drawing down on RC after registration is a crime. I have recently project managed 2 start up businesses in China for Foreign investors. In both cases I was "allowed" to withdraw the RC to fund the start up after the registration process was complete. I have found differences in terms of the time limits for depositing RC in Shanghai and Shenzhen, the latter needs 2 years and Shanghai needs 6 months. I am interested in anyones comments re this. I am now moving onto Beijing where I have alraedy found local regulatory issues change the picture again.

Alex,

It is a crime to state a specific amount then not contribute and it is a crime to contribute the amount then withdraw it (i.e. repatriate the funds). It is not a crime to actually use the capital for its intended purpose – operating your venture in China.

There are two injection methods for registered capital: 1) entire amount within 6 months or 2) 15% in 3 months then the rest over two years from the issuance date on your Business License.

Alex/Tim --

Tim is right on all counts. One cannot just repatriate the funds put in for RC, but those funds are intended to be used in operations and certainly can be used for such. Tim is generally correct regarding the "injection methods," though that can vary city to city and it also can vary regarding the amount at issue. The larger the amount, the more likely you will be allowed to inject over time.

Dan,

We have never had a problem in the first tier cities with the 15% in three months and the rest over two years method after April last year when the executive opinions were released but then again it wouldn’t surprise me that certain jurisdictions would require a high registered capital to qualify even though I don’t believe the opinions required it.

Hi Dan,

Informative post here, I've been reading quite a bot on your blog recently, especially with the planned move of the company that I front (Chief Rep), in China from Rep Office to WOFE. With our organisation being positioned as a web development outsourcing hub for our Australian Parent company, we're looking to put on personnel immediately as we've already sourced projects in the region - under the Rep office status and then enter the WOFE registration process, while having a fully operational development team running jobs out of Australia - that we originally secured in China - and once registered, accept RMB payment for the jobs in China - to the WOFE account. The smooth execution of this seemingly confusing transition is dependant primarily on the duration of the WOFE setup process. However the post by T-Lamb (April 12, 2007) mentions that the simultaneous cancellation of Rep office and setup of WOFE is not allowed - what about the running of a Rep office and WOFE simultaneously - then transitioning the entire workforce to the WOFE and then cancelling the rep office. This way we have a functioning office throughout the process.

Thanks Tim and CLB. I can confirm RC funds were used for the running of the business. I will check out the "15% in 3 months then the rest over two years" as it makes for a much more attractive proposal when depositing $1mm +. Any specific reference re this? Thanks all.

Fabian --

What you are seeking to do is possible, but very complicated and I would strongly urge you NOT to attempt it without using very experienced counsel to do it. A mistake in the process could leave you with no company at all.

Dan,

Thanks for the reply - yes I agree the process seems a bit complex at first, but I am definitely progressing with experienced advice. Keep the excellent posts coming. Cheers.

Fabian --

Thank you. Glad to hear it.

CLB. Thanks!

Having been previously assured that I only had 6 months to deposit RC with respect to a WFOE set up I went back to my “advisor” stating your advice and was subsequently told "oh yes, you are right, you now have 2 years!" How wonderful! Needless to say I have dropped my previous support and am currently seeking a new and better informed legal partner.

Thank you.

Alex --

Whoa, whoa, whoa.

Two years is NOT always allowed. It depends on the city and the amount of capital required. What you need is someone (this person has to be fluent in Chinese and this person really should be a lawyer and this person really should be someone who has done this many times before) to go talk to the authorities on your behalf regarding your specific company and then report back to you on the specific requirements for your specific company. Anything else is just generalities.

Make sure you get a good accountant after you set the company up too. Alot of them like to "guanxi" (this is code language for you know what) their way thru the process because it's alot of work otherwise. They are happy to take their monthly salary and do the bare minimum to keep the govt off your back. Then a year later when you are trying to renew, they'll want to know what happened to your registered capital. This is when the accountant disappears and wont answer your calls. Then you have to hire a new accountant who tries to reconstruct the books, and he may not even take your case if there's not adequate records. If he does, you are often overdue on some deadline and he knows he can charge you through the nose. IF he doesnt - Then you're up the proverbial creek sans paddle.

It's not like america where everyone is licensed, standardized, and professional. Alot of the forms and records are in chinese which you probably cant understand. Use good professionals. I wish I knew about this site a few years back, woulda saved me alot of hassle.

What he means is, with the proper counsel, it's easy. I agree. In many countries (so I hear), the process itself is difficult and lengthy and costly and burdensome, even with a perfect lawyer. I seem to remember India requiring 36 forms and 8 months for certain types of business. In China, you can be up and running relatively painlessly. But, again, get a good lawyer. Our lawyer ended up partnering up with our manager (which he met through us) to start some side enterprise. Helping himself to a few of our hard-recruited workers to boot.

In america, this guy would be disbarred. In china, just another story to tell. This site has lots of great info but really you have to be careful, even if something is 'easy' it may not be 'easy' if you're using the wrong people.
In a land of over a billion people all fighting over limited resources (life and death sometimes), they learn to lookout for number 1. You have to, too.

Thanks to all, nice blog. Does anyone have any idea where I might be able to find out more information relating to 'business scope' on the web? We are looking into setting up a consultancy WFOE and it would be useful to find out exactly what the restrictions, limitations and potential opportunities are for each type of business before going too far down the path of submitting our application. Thanks.

jimbob(i)

You are absolutely right about the need to get a good accountant and the reality is there are damn few of them outside the biggest cities and even in the biggest cities so many of the good ones are too busy to take on new clients.

jimbob (ii) --

Again, you are right. I hate to say this (because, yes, it works as a pitch for my firm), but what you describe would almost never happen with a lawyer licensed in the United States or in England because that sort of action can lead to a loss of license.

simon --

I am not aware of any website that has this information and the allowed scope will vary with the city in any event. Work with the registration authorities on this.

Question for the knowing. I have a client in HK and they are setting up a factory in China. They are leasing a factory space which they call a "bonded process factory". They say they to NOT need a BRL (business registration license) for the factory under this process. The company they rent from has the BRL. IS this true? I have spoken with some legal people and they seem to believe they are still required under China law to have a BRL for the factory.