Many a time a company has come to us wanting a Wholly Foreign Owned Entity (WFOE) formed “right away” so that they can “immediately” bring on a China-based employee or employees.

It’s not that easy.  Not at all.

First off, no matter what anyone may tell you, it is the very rare WFOE that can be formed in less than three months, and three months is possible only if everything goes according to plan.

So what’s a company to do in the meantime? Is there a any way to hire a China Employee before your WFOE is registered?

There is an established legal way to do accomplish the hiring of China employees, pre-WFOE.  The legal way to do it this is to have the person hired by FESCO or some other Chinese company created for hiring Chinese individuals on behalf of foreign entities. The Chinese individual is hired by FESCO and then is dispatched to work for the foreign entity. Under rules that apply to FESCO and others, the minimum term of the contract is two years. Usually there is an agreement between FESCO, the foreign company and the employee that at the time the WFOE is formed, the employee will voluntarily resign from the FESCO position. However, the risk of this is taken by the foreign entity, not by FESCO. This kind of arrangement is further complicated by the fact that in addition to the FESCO contract, the foreign entity will also require a series of contracts with the employee to deal with the transition to the WFOE, intellectual property/trade secrets and the like. FESCO charges a lot for the service, but it is the only way to do it while complying with Chinese law requirements.

There is also an illegal way to do it: The U.S. entity hires the Chinese individual as a consultant. The U.S. entity pays the consultant to assist with forming the WFOE. After the WFOE is formed, the WFOE hires the Chinese consultant as an employee. The Chinese consultant is paid on an independent contractor basis. That is, the Chinese individual is paid a gross amount and it is the responsibility of the Chinese individual to pay his or her taxes in China. This entire arrangement is illegal under Chinese law because China does not permit Chinese individuals to enter into consulting contracts with foreign entities. All businesses done in China by foreign entities must be done with a registered China business entity. We are aware of many companies having “hired” Chinese employees using this illegal method and years ago the odds of being caught and punished seemed pretty low.  But with the economic downturn, we are hearing more and more of foreign companies being blocked from forming their WFOEs for having engaged in this practice and we are even aware of one WFOE that was shut down after formation for having done this.

We are of the strong view that companies who want to be in China long term should either wait until their company is formed to start hiring or go through FESCO or a FESCO type company for any pre-WFOE hiring.

What do you think?