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How To Form A China WFOE: Hong Kong Parent Company Is Optional

Posted in Basics of China Business Law, Legal News

I was cc’ed on the following email the other day from one of our China lawyers responding to a client who wanted to know the “benefits” of forming a Hong Kong company to own its China WFOE, as opposed to its just forming its China WFOE directly in China. I am publishing it below because it provides such a good and blissfully succinct explanation of the pros and cons of forming a Hong Kong company to own a China WFOE. The key takeaway should be that whether it makes sense to have a Hong Kong entity be the parent of a planned China WFOE truly depends on the individual situation.

 

The question you ask is a complicated one. Generally speaking, there are two basic reasons for establishing a subsidiary in Hong Kong to be the direct parent of a WFOE in China: (1) tax benefits and (2) ease of incorporation.

(1) The tax benefits depend on a number of factors, such as the country where the parent company is incorporated, the tax treaties between that country and Hong Kong (if any), the tax treaties between that country and China (if any), the type of work done by the WFOE, the amount of profit the WFOE is projected to make, the amount of money the WFOE plans to repatriate to the home country, and so forth. Sometimes there are no tax benefits; it is something to discuss with your international accountant beforehand. If you need any assistance in finding the right accountant to work with you on this, please let us know as we can certainly make some referrals for you.

(2) Ease of incorporation has to do with the substantial (and often nonsensical) documentary requirements of the Chinese authorities. For a variety of mundane reasons, it is almost always easier and faster to submit documentation from a Hong Kong parent company than from a U.S. company.

Forming a Hong Kong company also has disadvantages. You will have to pay for incorporating a separate entity, and to maintain that entity you will have to file annual reports, pay taxes, and do all the other things required of Hong Kong corporations. All of this is relatively easy and cheap, but it’s an additional layer of complexity. Also, while incorporating a Hong Kong company is easy, opening a Hong Kong bank account is not. It takes time, a lot of documentary evidence, and an in-person appearance at the bank by at least one representative of the Hong Kong company.

The above discussion presumes that the Hong Kong company is a mere shell company that has no employees and no operations outside of its ownership of the Chinese WFOE.

Happy to discuss further if you’d like.

  • Clarence

    I thought it was a WFOE requirement that you can’t just start a China company from nothing? You HAD to have a foreign company that’s expanding into China?

  • http://www.orangefield.com Callan Anderson

    Dan .. the above is a very good overview – some points missed however relate to 1) The rule of law, and the fact that contractual disputes generally get a better hearing if the company holding the WFOE is from Hong Kong, especially regards trademark and letters of credit disputes.(Hong Kong keeps you at arms-length from China and the weird and wonderful things that can happen there 2) The ability to invoice in RMB through Hong Kong means there is no requirement to relly upon your China partners using USD at an exchange rate they determine (usually with mark-up) 3) The Closer Economic Partnership Agreement (CEPA) opens up far more services and product lines that can be provided in China than if you simply setup in China without a HK holding co.- some business lines are not allowed if don’t use Hong Kong 4) Say you want to bring in a new investor and give them 40% ownership in your China business. Assuming the HK company owns 100% of the PRC company, selling 40% of the HK company has the same effect as the investor owning 40% of the WFOE – you can’t do that if it is stand alone