China employment lawyerEvery China employer should have a set of rules and regulations setting out employee and its employer duties and obligations. This document should cover all types of employees, including part-time employees. It also should at minimum, cover the following:

Many foreign employers wrongly assume that whatever they use in their home country is good enough for their China employee manual. This is virtually never true as the reason for having employee manuals is so different as between China and Western countries. Western companies often learn too late about these differences when one of their employees leaves or is terminated.

The following are seven common myths our China lawyers often hear about China employer rules and regulations:

Myth 1: It need not be in Chinese. Though having your rules and regulations entirely in English will not necessarily invalidate the entire document (this depends on where you are), it needs to be in Chinese so your employees can understand it. If you do not have a Chinese language version of your rules and regulations, you run the risk of a Chinese court finding it not binding on your employees because they could not understand it and you didn’t bother explaining it to them. Also, the local labor authorities may require a Chinese translation for audit purposes and you don’t want to be caught flat-footed when that happens. And whatever you do, do not just take your English language version and pay a translator to put it into Chinese. Your Chinese language rules and regulations are what the courts will be looking at to determine whether you acted properly or not, so you want that document to be written clearly (and in Chinese) for this purpose.

Myth 2: It need not be in English. You really should have an English translation done and make sure that too is good. You as the employer will need to refer to this document in making employee decisions (especially termination decisions). Unless all of your people who will be making these decisions are fluent in written Chinese, you need a well-written English version to serve as your roadmap on how to handle all sorts of decisions regarding your employees.

Myth 3: It need not be updated because it has a provision that says the outdated sections will automatically be replaced and superseded by then-current laws. Wrong. Both nationally and at the local level, China’s employment laws are constantly changing. It therefore behooves you to do an annual internal audit of the key elements of your employer-employee situation and this yearly employer review should include a review and an updating of your rules and regulations. You could be exposed to huge risks if you have been relying on a section that is contrary to the law. More on this in Myth 5. We also fairly often see rules and regulations that made sense for a company that had employees in just one China city, but no longer do now that the company has employees in three cities.

Myth 4: Employers do not need to follow any procedures in implementing the rules and regulations. You must make your rules and regulations available to every employee so they have an opportunity to read it before signing off on it. And if there is a worker’s union at your organization, you should hold meetings with them and obtain their comments and suggestions before implementing your rules and regulations.

Myth 5: By signing an acknowledgment of receipt, the employee agrees to everything in your rules and regulations, so it doesn’t matter if it conflicts with the law. Not sure why, but our China lawyers have been hearing this myth more frequently of late and it too is just plan wrong. Very wrong. Having a section in your rules and regulations that contravenes the law probably will not invalidate your entire document (though it conceivably could), but many China employment laws must be followed and cannot be contracted away. It does not matter that the employee gives his or her written consent, and it also does not matter that the employee acknowledged that he or she executed the written consent as a free and voluntary act.

Myth 6: Once published, employers can change anything they want at anytime without any notice because the employees are responsible for keeping up to date with the amendments. First, if your rules and regulations document sets forth an internal procedure for amending the rules and regulations, you should follow that. We usually recommend our clients give notice to their employees of any proposed change before implementation. For important issues concerning employees’ interests such as compensation, working time, rest and vacation time, labor security and health, insurance and benefits, employee training, labor discipline, the safest route is to give them prior notice before amending the rules, especially if the changes may have an adverse impact on them. At the very least, provide the employees with notice of the change and give them an opportunity to comment and ask questions. Doing this simple thing can only help you down the road.

Myth 7: The employment contract between the employer and the employee always takes precedence over the rules and regulations if there is any conflict between them. Wrong. Like so much else related to China’s employment laws, the legal interaction between your rules and regulations and your employee contracts depends on your location. The local law may require that the employment contract prevail over the rules and regulations even if the employer and the employee have a written agreement stating otherwise. Or the law may say that the employee gets to decide which to apply based on which the employee believes is more favorable to him or her and the employer has no say on that. The key here is that you know the legal situation in your relevant jurisdiction(s) and to the extent allowed by law, you make clear in both your rules and regulations and in your employment agreements how your rules and regulations interact with your employment contracts.

For more myths about China employment laws, check out:

 

China WFOE lawyerLast week I wrote a post on how our China lawyers have been receiving a steady onslaught of calls from American companies with “employees” or “independent contractors” in China, but no China business entity. The onslaught has continued, and now I know more about why.

China banks (owned by the Chinese government) are providing information to China’s tax authorities regarding account-holders who consistently receive money from foreign companies. China’s tax authorities are apparently going to these individuals and pressuring them into spilling the beans on why they are receiving their funds from overseas. Upon learning of a foreign (usually American) company that has “employees” or “independent contractors” in China, the Chinese government pounces.

If you are a foreign company operating in China without a China WFOE and you are trying to figure out what to do, your choices are relatively simple and stark.

But before I talk about your limited choices, I feel compelled to explain again why it is that so many foreign companies are still operating illegally in China. Chinese law limits hiring China-based employees to only Chinese legal entities. This means that if you are an American software company, you cannot hire someone in China to do your coding or to provide your support services. This means that if you are a Australian company selling widgets, you cannot hire someone in China to sell widgets for you. This means that if you are a British company that has your products manufactured in China, you cannot hire someone in China to do your quality control for you.

Any person (as opposed to a registered China business entity) performing employment-like services for you in China is your employee because China does not recognize independent contractors in anything other than extremely limited circumstances (and your circumstances do not qualify!). And Chinese law requires you pay both employer taxes and benefits on that employee. These employer taxes and benefits vary from city to city, but they usually total around 40 percent of an employee’s salary. China also mandates employers withhold around 15 percent of their China-based employees’ wages for individual income taxes. But those companies that do not realize they have employees in China are not doing that withholding either. Then on top of the employer and employee taxes, the foreign companies with employees in China are almost always going to be viewed by the Chinese tax authorities as “doing business in China” and that is because they almost always are. The foreign company is now almost certainly liable for having failed to pay its corporate taxes as well.

So when all is said and done, the foreign company owes a heck of a lot of taxes to the Chinese government, plus steep penalties, plus interest. Needless to say, the Chinese tax authorities salivate over collecting these taxes and interest and penalties.

In my previous post, I noted two common ways companies operating in China without an entity get caught:

One, we are hearing of long loyal “contractors” going to their employers and saying that if their employer does not double or triple their pay, they will report the foreign company to the Chinese authorities because their doing so will get them a tax amnesty (and perhaps even a portion of the taxes collected?). We are also hearing of vendors with whom the foreign company has no beef making essentially similar threats. Two, and most importantly, we are hearing that the Chinese government is poring over bank records and questioning people (your “employees”) who regularly receive funds unreported funds from overseas.

It is the second way of getting caught that is steeply rising.

What then should you do if you are right now operating in China without a Chinese company. You have essentially the following three choices:

  1. You double-down in China by getting legal. Quickly, but very carefully. If you want to operate in China for the long term and you can afford to do so, you form a Chinese company, almost certainly a WFOE. For a flavor of what this involves, check out The NEW Steps for Forming a China WFOE. Note that it is not inexpensive to form a WFOE and if you do so you will need to start paying your employer taxes and you will need to start withholding your employee taxes and you will need to pay income taxes to the Chinese tax authorities on the income you earn in China. If you are going to choose this tact, you should do so immediately because in our experience, if you get caught before you even commence the process of forming your China WFOE, your chances of avoiding having to pay back taxes are slim to none. But if you can  at least get going on forming your China WFOE, your chances of avoiding having to pay back taxes are shockingly good. But not only should you get legal fast, you should get legal in a way that neither tips off the Chinese government about your previous (illegal and untaxed) activities in China and in a way that works for both your vendors and your “employees.” If just one of your vendors or “employees” believes that your China changes will make things worse for them, you are at great risk of being ratted out to the Chinese tax authorities and seeing your China operations collapse.
  2. You ditch China entirely. If you either do not want to get legal in China or cannot afford to do so, your best course of action is to simply cease everything you are doing in China and leave. Doing this tends to anger vendors and “employees” and it certainly does not guarantee that you will always be safe from the Chinese tax authorities. So if you do this, we strongly recommend that neither you nor any of your foreign employees go to China for a long long time, preferably ever. For why this is so, check out How To Avoid Getting “Detained” in China and Why Your Odds are Worse than you Think. Both you and any of your foreign employees linked to your illegal operations in China are at risk both from your vendors/employees and from the Chinese government.
  3. You make your stand and you die a slow (or a quick) death in China. A third option is to just keep doing what you have been doing in China and do it until caught and closed down. Just as with ditching China entirely, if you do this you and your foreign employees should not go to China again. The added risks of doing this are that your China vendors and employees may seek to take advantage of your situation. Here are some of the examples of this that we have seen:
  • A vendor learns from one of your “employees” that you are not operating legally in China and uses the threat of informing on you to the government to raise prices.
  • Your employees use the threat of your illegal operations to get an increase in salary. I know you are probably thinking that your employees are also at risk for getting caught for not paying taxes, but trust me when I say that this is a classic case of asymmetrical warfare and if you think their risks/costs as a Chinese individual are anything approaching yours as a foreign company, you are just flat out wrong.
  • Your employees literally take over your China operations, leaving you with nothing in China. This is most common when your China personnel are designing or developing something for you for eventual sale, be it a physical product or software. The following two egregious examples nicely highlight how this sort of thing can happen. The first was a U.S. software company that for more than three years paid for an office in China and paid fifteen people to develop a piece of software. Then, when the software was finally completed, rather than turn it over to the US company, the China employees started selling it themselves. The US company came to my firm wanting to sue but how could it and for what? The other example was a US company that used its China operations to source and to oversee the manufacturing of licensed products for a very large US entertainment company. The US company owner was denied a visa to go to China and his employees in China used that as an opportunity to take over the China operations and they did so pretty much without missing a beat. They went to the US entertainment company and offered to continue with “business as usual” but at prices 20 percent lower than they had been. The US company said yes and the US company owner wanted us to sue. But sue whom and where and for what? How can you sue someone in China when you have never had a company there and everything you have done there has been completely illegal?

The above three options are your only reasonable choices, but we have twice heard of an additional option from potential clients, which really is not an option at all. Two companies under extreme pressure from their vendors/employees have made clear to us that none of the above three options are acceptable to them and they want our China lawyers to engage in what they call the “political” or “guanxi” option. Are you kidding me? Are we supposed to do the following:

Hi, we represent Company A. Company A is an American company that has been operating 100% illegally in China for the last _____ years. Despite having _____ [number] of employees in China, Company A has never paid an RMB in employer taxes nor has it ever contributed even one single RMB in employer benefits. On top of this, it has failed to withhold employee taxes and it has not paid anything in income taxes either. But despite these criminal law violations and despite it having no intention of even trying to get legal, we think it makes sense for you to not only allow Company A to continue flaunting Chinese law, but to lean on the vendors/employees with which Company A is having disputes.

Perhaps what they mean by politics/guanxi are bribes, but we will not even go there with them. There is no way any of my firm’s lawyers are going to risk jail time in China and the United States for anyone. Just no way. And of course, they shouldn’t either.

Oh, and note that a Hong Kong company is NOT the equivalent of a PRC company. For purposes of the above, it is the equivalent of having a United States company and having a Hong Kong company will NOT help you avoid the above problems, not even in the slightest. See Having A Hong Kong Business Does NOT Make You Legal in Mainland China and A Hong Kong Company Is NOT a Mainland China Company and a Hong Kong Trademark is NOT a Mainland China Trademark.

Bottom Line: If you are a foreign company operating in China but you are not on the gird there, get legal or not, but don’t be stupid.

 

US-China trade warPresident Trump has already acted on some of his trade-related campaign promises. One of his first official actions was to withdraw the United States from the Trans-Pacific Partnership (TPP). Trump also floated the idea of imposing a 20% tax on all imported Mexican goods to pay for the US-Mexico border wall, but he appears to have backed off that idea, at least somewhat. Below I discuss how the Trump Administrations early trade actions may benefit China the most, instead of benefitting America “first.” I also discuss how China is not standing idly by, but rather is positioning itself to defend or retaliate against U.S. trade actions that target China.

  • Trump’s TPP Withdrawal. In signing the executive order withdrawing the United States from the TPP, President Trump merely signed the death certificate for a trade deal that was practically comatose well before he took office. Trump described the TPP (along with basically every other trade agreement) as a “bad deal” that would result in a “death blow for American workers.”  Many commentators, however, have noted that China will be the biggest winner from Trump’s abandonment of the TPP.  The TPP aimed to reduce trade barriers and tariffs across 12 countries, but specifically and tellingly did not include China. The TPP was part of a strategic U.S. pivot towards Asia that attempted to strengthen American economic ties in the region to counter-balance China’s increasing power there. With the demise of the TPP,  other Asian countries such as Australia, South Korea, and the Philippines, likely will be pulled even tighter into China’s expanding economic sphere of influence in the region. China also has been handed an opportunity to fill the political leadership void in the region created by Trump’s withdrawal from TPP.  China now could take the place of the United States in the TPP, but appears more likely to push for completing of its own proposed Regional Comprehensive Economic Partnership (RCEP), which includes many of the same Asian countries that were part of TPP, but not the United States. If RCEP is successfully negotiated, U.S industries stand to lose significant market share throughout the Asian countries that will have preferential rates with its RCEP partners, but not the United States.
  • Trump Floats, Then Walks Back, A Proposed 20% Tax on Mexican Imports. The Twitterverse exploded with people angry that avocados and tequila could cost more because of Trump’s proposal to impose a 20% tax on all Mexican imports.  White House spokesperson Sean Spicer rushed to explain that the idea of the 20% tax was not really a policy proposal, but just one example of the options for how to pay for the U.S.-Mexico border wall. Trump’s having paused after proposing a 20% tax on imported Mexican goods got a bad reaction (“Guacapocalypse!!”) and that may bode well for China exports to the United States, at least temporarily. During the campaign, Trump had proposed a 45% tax on all Chinese imports. But if U.S. consumers hated the idea of a 20% tax on Mexican goods, it seems likely that a 45% tax on Chinese imports would trigger even greater outrage because of the broader spectrum of goods from China that would be affected. Instead of a straight tariff on imports, however, Trump may now try to impose a border adjustment tax (BAT) similar to what House Republicans have recently started pushing. But calling it a tariff or a more complicated BAT won’t change the bottom line, which is that either option would make imports more expensive and US consumers would bear the brunt of those increased costs.

China thus far has publicly taken the high road and stated no one wins  in a U.S.-China Trade war. However, China also has taken the following steps to better position itself to defend, or to more aggressively retaliate, against the United States if Trump insists on escalating the trade war.

  • China’s WTO Challenge v. U.S. Continuing NME Status for China – China insists that when it negotiated the terms that allowed China to accede to the WTO in 2001, the United States agreed to treat China as a non-market economy (“NME”) in antidumping cases, but only for another fifteen years, after which it would be treated like all other market economy countries. Unfortunately for China, the Chinese negotiators for the 2001 US-China WTO Accession agreement were primarily politicos, and not lawyers. Because this agreement was not drafted precisely as the Chinese intended, the United States has been able to parse the language to come up with a plausible legal argument that the U.S.-China WTO Accession did not call for an absolute hard deadline for terminating China’s NME status, but rather provided only a conditional promise to terminate China’s NME status. The revocation of China’s NME status is a high priority objective among China’s leadership and immediately after the December 11, 2016 fifteenth anniversary of China’s WTO accession, China filed a WTO challenge against the United States’ continued application of NME status in antidumping cases against China.
  • China’s Increasing Opposition to U.S. AD/CVD Proceedings – China’s complaint against the United States’ refusal to grant market economy status will take many years to work its way through the WTO dispute settlement process. In the meantime, China will not just wait to see if the WTO will rule in its favor. China just within the past month has become more outspoken against U.S. Department of Commerce (DOC) determinations in AD/CVD proceedings against China.  China’s Ministry of Commerce (MOFCOM) recently issued press releases objecting to specific methodologies used by DOC and ITC to obtain inflated AD/CVD rates in a wide variety of cases involving off-road tires, biaxial geogrids,  hardwood plywood and amorphous silica fabric, carbon and alloy steel, and ammonium sulfate.  Previously, MOFCOM typically would only monitor the outcomes of DOC and ITC cases without commenting on any specific issues arising from U.S. AD/CVD proceedings. This recent increased activity from MOFCOM objecting to very specific and often technical AD/CVD legal issues in US investigations signals a more aggressive policy stance by the Chinese government to support Chinese companies subject to US AD/CVD proceedings.
  • China’s AD/CVD Actions against U.S. Exports to China – Not only is China playing more aggressive defense in U.S. AD/CVD proceedings, China is also starting to take the offensive and initiate its own AD/CVD cases against certain U.S. exports to China. On January 12, 2017, MOFCOM announced the final results in the AD/CVD investigations against dried distiller grains (DDGs)  from the United States and issued AD and CVD margins of 42.2%-53.7% and 11.2-12.0% that were higher than expected. DDGs is an ethanol by-product used as animal feed, and in 2015 China imported 6.8 million tons of DDGS from the United States worth $2 billion and was the single largest export market for U.S. DDGs producers. MOFCOM’s DDGs determination indicates that China is looking to use its own AD/CVD actions not only to score political points, but also to have an economic impact. It is rumored China already has received an AD/CVD petition against soybeans from the United States and is just waiting for an appropriate time to officially initiate these investigations, probably in reaction to a U.S. action against China.

China employee non-competeChina employee non-compete agreements agreements and provisions are an often-litigated area. Many employers (wrongly) assume that they cannot prevail in such a dispute because employees usually win. This belief is not only wrong, but also risky. It is wrong because Chinese courts do not automatically side with the employee; those rare employers that have done things the right way actually usually win. It is also risky because employers with this attitude and approach tend to do an even poorer job of making sure they have a well-crafted contract, complying with the law and preserving good evidence, which are keys to employer success in any employee dispute.

Let’s look at a fairly recent case in Guangdong. The employee was hired as a brand manager and was then promoted to project manager. The employee’s monthly base salary was low: he started at RMB 3000 per month and it was then raised to RMB 4000 per month, plus commission. The employee signed a three year employment contract and he also executed a confidentiality agreement stating that if he violated any term of the agreement, such as competing with his employer in any way, he would be liable for contract damages of twice his total income during the preceding 12 months before termination. There was no agreement on any non-compete compensation. A few months before the employee left his employment, he formed his own company with essentially the same business scope as his employer, and in the same city. The employee was the legal representative of that new company. A few months later, the employer eventually fired the employee and he then sued his former employer, demanding unpaid salary and commissions and double severance for wrongful termination.

The procedural history is somewhat messy (with multiple labor arbitrations and lawsuits), but essentially the employee lost in the lower court and then appealed and lost again. The employee then petitioned to the Guangdong Province High People’s Court for retrial and lost again.

The primary arguments set forth by the employee were as follows: (1) He was not paid any compensation for not competing, so the non-compete should not be upheld. (2) He was a low-paid ordinary employee with no access to confidential information so the non-compete was never valid in the first place. (3) The contract damages in the confidentiality agreement were grossly disproportionate to his salary, so requiring him to pay such a large amount would be greatly unfair.

The court decided against the employee on all counts, finding that: (1) The employee had a duty not to compete with his employer during his term of employment and the employer was not required to pay employee any compensation for preforming the non-compete obligations during such period. (2) The employee signed a confidentiality agreement binding him not to disclose his employer’s confidential information and not to compete with his employer. (3) The employee failed to present any evidence proving the contract damages were so high as to be unfair.

The employee was ordered to pay around 130,000 RMB to his previous employer per the agreed contract damages provision, an amount nearly 33 times his monthly base salary.

There is much to be learned from this case about China employee non-competes, including the following:

  1. A non-compete with a fairly low paid employee can be enforceable. The key is more the position than the pay.
  2. Generally speaking, an employer is not required to pay non-compete compensation during the term of employment.
  3. It is possible to enforce a contract damages provision in an employee non-compete. If you want your non-compete provisions to have real teeth, consider adding an appropriately crafted contract damages provision to your employment contracts that contain a non-compete provision or to your non-compete agreements.
  4. Proving actual damages in a non-compete dispute is usually difficult and this is all the more reason why you should have a contract damages clause in your employment contracts with non-compete provisions or in your non-compete agreements. See China Contract Damages: More Art than Science, for why contract damages are critical to most China contracts and for how to determine the proper amount of damages to put into your contract.
  5. Lastly, before you hire any new employee make sure your potential candidate is not violating a non-compete agreement with his or her previous employer because the last thing you want is for your company to be sued by that previous employer. These sorts of lawsuits are becoming increasingly common in China and the Courts are often quick to favor them.

China lawyersWow. Just wow.

For the last week straight — literally every day, including the weekend — I have spoken with a Western company operating illegally in China that has decided to decide on what to do in China about that. I will not get into whether these companies knew they were operating illegally in China before they contacted my firm, but I will briefly discuss what led to their picking up the phone or sending an email.

Roughly half of these companies are doing well in China and have resolved to get legal. The other half have a gun at their heads in the form of vendor or “employee” threats.

Let me explain….

Back in May 2015, I wrote an article for Forbes Magazine, entitled, China’s Tax Authorities Want You. That article starts by explaining how China’s slowing economy is causing the Chinese government to increase its tax collection efforts, “especially against foreign companies with off-the-grid ’employees’ in China. The article then explains why it is that what we generally think of as “contractors” does not work in China.

Chinese law limits hiring China-based employees to only Chinese legal entities. This means that if you are an Australian software company, you cannot hire someone in China to do your coding or to provide your support services. This means that if you are a Canadian company selling widgets, you cannot hire someone in China to sell widgets for you. This means that if you are an American company that has your products manufactured in China, you cannot hire someone in China to do your quality control for you.

Any person (as opposed to a registered business entity) performing employment-like services for you in China is your employee because China essentially does not recognize independent contractors. And Chinese law requires that you pay both employer taxes and benefits on that employee. These employer taxes and benefits vary from city to city, but they usually total around 40 percent of an employee’s salary. Many foreign companies do not realize they have employees and they fail to pay required employer taxes and benefits.

China also mandates employers withhold around 15 percent of their China-based employees’ wages for individual income taxes. But of course those companies that do not realize they have employees in China are not doing that withholding either. Then on top of the employer and employee taxes that the foreign company is failing to pay, the foreign companies with employees in China are almost always going to be viewed by the Chinese tax authorities as “doing business in China” because they almost always are. The foreign company is now almost certainly liable for having failed to pay its corporate taxes as well.

So when all is said and done, the foreign company owes a heck of a lot of taxes to the Chinese government, plus steep penalties, plus interest. 

In the Forbes article, I described how the Chinese government inevitably discovers the foreign company that is not paying the above taxes, usually stemming from one of the following:

  • The tax authorities discover that one of the foreign company’s China-based employees did not pay his or her income taxes, and they trace that back to the foreign company.
  • The tax authorities discover the foreign company’s China presence from deductions taken by one of the foreign company’s China customers.
  • The tax authorities discover the foreign company’s China presence when one of the foreign company’s customers seeks to wire funds to the foreign company.
  • The tax authorities discover the foreign company’s China presence when the foreign company terminates one of its employees or has a dispute with one of its customers or vendors and that employee or customer or vendor reports the foreign company to the China tax authorities.

But things have in the last few weeks gotten much much worse. Call it the Trump effect.

Because we are hearing two things now. One, we are hearing of long loyal “contractors” going to their employers and saying that if their employer does not double or triple their pay, they will report the foreign company to the Chinese authorities because their doing so will get them a tax amnesty (and perhaps even a portion of the taxes collected?). We are also hearing of vendors with whom the foreign company has no beef making essentially similar threats. Two, and most importantly, we are hearing that the Chinese government is poring over bank records and questioning people (your “employees”) who regularly receive funds unreported funds from overseas.

Our China lawyers have been working with China for a long long time, and we have seen all sorts of ups and downs in US-China relations and right now is — let’s face it — a down period. More importantly, we have seen how China reacts during down periods and on this their record is actually quite clear. China does not go after the law-abiding foreign companies doing business in China; China goes after the law breaking foreign companies doing business in China. This is a rationale calculus as the law breakers are the low-hanging fruit and who can complain about China merely enforcing its laws?

So if you are operating illegally in China what should you do?

We are telling our clients that they have one of three options, roughly divided between doubling-down, ditching China, or dying in China with your boots on (or off). In our follow-up post, I will explain in detail the various options, along with their pros and their cons.

SPECIAL UPDATE: One of our China attorneys insists I should not wait until Part 2 to point out that if you see yourself in this post, neither you nor anyone else who might be connected to China should go to China unless and until you are operating 100% legally in China. In other words, if you have China “employees” but no China company, do NOT go to China. For more on why this is so, check out How To Avoid Getting “Detained” in China and Why Your Odds are Worse than you Think.

China distributorsClients sometimes come to our China lawyers with an apparent conundrum. They have found a Chinese distributor for their product, and both sides are ready to begin selling products in China right away. As in, tomorrow. So far so good. But our client sells a branded product, and they haven’t registered their brand as a trademark in China. Not so good.

The client knows (perhaps from reading this blog) that the only realistic way to get trademark rights in China is by registering them, because China is a first-to-file country.

And then they learn that it usually takes 12-18 months to register a trademark in China. At this point they become concerned about the nontrivial period when their distributor will be selling their branded product in China without any sort of trademark protection.

They should be concerned. But not too concerned, as long as they file their China trademark application right away and enter into a written agreement with their Chinese distributor. The distribution agreement should contain provisions stating that the trademark belongs to the client and the distributor may use the mark in China, but will not file any competing applications, oppositions, or invalidations.

The distribution agreement should also include appropriate contractual language protecting the IP more generally. And if you want this agreement to work to protect your trademark in China, it is much better for it to be in Chinese.

A distribution agreement with the above provisions (along with countless others, of course) will sufficiently protect your IP as against your China distributor. The remaining concern, which cannot be addressed in a distribution agreement, is infringement by a third party while the trademark application is pending.

Without a valid registration in China, there usually isn’t much you can do to stop a third party from using “your” mark. But any legitimate Chinese company is going to shy away from a strategy that only gives them 12 months to establish and profit from a brand name, after which it must stop using it or risk paying damages. That leaves the counterfeiters, for whom 12 months is more than enough time to make a profit, but who aren’t going to be interested until a brand has developed enough name recognition to be worth ripping off. Still, yet another reason to file a trademark application now. Because the distributor is going to be the one who really bears the brunt of any infringement in China. Sophisticated Chinese distributors know this and so we often have situations where American or European companies come to us after having been instructed by their potential or actual distributors to file their trademarks in China.

One final note: many foreign companies do not create a Chinese brand name before selling their product in China, only to discover that a name has been created for them and registered as a trademark – often by their Chinese distributor. If you haven’t already come up with a Chinese name for your product, do so now, and also make sure your distribution agreement requires the distributor to assign to you any Chinese-language marks that relate to your product that it has already registered.

China Joint VenturesAn old saying about lawyers is that we do well when the economy is rising and when the economy is falling and we do especially well when big changes are expected. Flat and steady we don’t like. The same holds true for China lawyers.

Well our China lawyers have lately been working nearly around the clock on forming WFOEs and working on Joint Ventures for American and European companies that want to set up a business in China, oftentimes because they see doing so as providing them cover should a trade war ensue. They are of the view that having a China business will make them less susceptible to duties and tariffs and blockages. We are seeing the same thing with Chinese companies seeking to enter the United States and Europe, either on their own or by buying American or European companies.

Today’s post focuses on China Joint Ventures for the simple reason we have not written on joint ventures since July of 2016, and that post mostly focused on how distributer contracts can be a great alternative. As part of our return to joint ventures, we will focus on the basics with this point.

As we so often point out, China joint ventures are notorious for their high failure rate. An old Chinese saying often applied to joint ventures is “same bed, different dreams.” This Chinese saying (同床异梦) actually predates joint ventures and it applies to any sort of partnership without a meeting of the minds. American companies and Chinese companies far too often rush into joint ventures without ever discussing their respective dreams. The sooner you seek to discern whether you and your potential China joint venture partner share the same dreams, the sooner you will know whether to keep spending time and money in trying to do the joint venture deal, or simply walk away.

So towards that end, we compiled a list of questions for our clients to discuss with their potential Chinese joint venture partner to help determine whether there is enough commonality to move forward in trying to enter into the joint venture deal.

  • Why are you seeking to accomplish with our joint venture?
  • What will you do for, and with, the joint venture?
  • What will your company do to advance the business of the joint venture and what exactly do you want our company to do to advance the business of the joint venture?
  • Who will make business decisions for the joint venture, and what mechanisms will we use for reaching a decision? Who will control what? Who will make what decisions? The more specific you get here, the better.
  • What will we each contribute to the joint venture? Property? Technology? Intellectual property? Money? Know-how? Employees?
  • If the joint venture loses money, who will be responsible for putting more money in?
  • How will we resolve disputes? Chinese companies love responding to this with something along the lines of “we will work out any issues among ourselves and if that fails, we will have a special meeting to try to resolve everything. That sort of answer is essentially meaningless. The answer you want is the one that explains exactly how day to day disputes will be resolved so the joint venture does not collapse?
  • Can either of us use confidential JV information for our own business? Can our own businesses compete with the JV? Can our own businesses do business with the JV?
  • How and when will the joint venture end? What if one of us wants to buy the other one out?

Posing these questions puts dreams to the test. For the better.

For more on China joint ventures, check out Joint Venture Jeopardy and Avoiding Mistakes in China Joint Ventures.

 

Alibaba FraudLexology ran an excellent article the other day, entitled, Catching the Bad Guys: Recovery for a Defrauded Alibaba Buyer. The article was written by Kai XUE of DeHang Law Offices. Our China lawyers can attest to the need for this sort of article as hardly a week goes by where we are not contacted by someone with a major China Alibaba supplier problem. Note though that these issues are certainly not confined to Alibaba. The article nicely sets out how to handle a situation where you have sent payment for an Alibaba purchase but you receive “either junk or nothing and [you] can no longer reach the seller.” As noted in the article, most of these fraud situations involve a Chinese seller that “is a newly registered entity with little registered capital that uses a fake office address.”

Initiate a police report. The article notes that in a fraud case, you should report the crime to the police to try catch the fraudulent seller and to try to recoup your monetary loss. The article rightly notes the importance of going to the police quickly and ignoring various stalling tactics employed by the seller:

When confronted fraudulent sellers will reflexively claim that the matter is a commercial dispute to avoid involving the criminal justice system. For this reason, in cases of clear fraud it is advisable to proceed quickly to report to police and ignore last minute entreaties by the suspect to amicably settle. These apparent attempts by the fraudulent seller to settle not only may be an insincere attempt to delay for time but are also designed to create the appearance of a commercial dispute to dissuade police from pursuing an investigation.

The article notes the importance of going to the right police department (Hong Kong or Mainland) and of going to the police department with sufficient evidence to entice them to pursue an investigation.

Negotiating a settlement with the suspect. The article goes on to discuss how negotiating for restitution with the seller often should be undertaken, even in conjunction with the police pursuing its investigation of the seller:

Once put in detention and questioned by police, the realization of serving prison time acts as a strong impetus on the fraudulent seller to settle claims with the buyer. In exchange the buyer can agree to make best efforts to end the police investigation or ask for leniency for the fraudulent seller before the court if the case has advances to an indictment.

According to Chinese law, if an accused person returns some or all of the defrauded money and obtains a written pardon from the victim, her/his criminal responsibility may be mitigated. It’s on this basis that a fraudulent seller looks for a reduced sentence or release from detention by striking a deal with the buyer.

The article notes that one way to be able to tell whether the fraudulent seller has exhausted its available resources is “the extent that the fraudulent seller’s immediate and extended family make contributions:”

If a family member of the fraudulent seller provides a mortgage over real property or liquidates real estate assets to pay for restitution, then it’s likely that the fraudulent seller has cobbled together the maximum possible restitution payment.

 

Bottom Line: If you have been defrauded by an Alibaba seller (or any other China seller for that matter), the key is to act as quickly as you can in going to the police and in trying to negotiate repayment from the defrauding seller. The quicker you act, the more likely you are to get at least some of your money back.

China trademark. China Customs.
1. Register your trademark in China. 2. Register your China trademark with China customs.

One of our China lawyers got the following email from a client the other day about an AmCham China IP event:

Just saw that AmCham is putting on this Innovative Approach to Stop Counterfeit Goods and just wanted to congratulate you for having convinced me to institute that approach nearly five years ago.

The “innovative” approach to which both AmCham and the writer of this email are referring is the following, as described by AmCham in its lead-up to this talk:

Many companies with large overseas operations have to deal with lost revenues and reputational damage caused by counterfeit goods. As well as being a large potential market, China is also major manufacturing hub, for both fake as well as genuine products. Despite improvements in the legal framework regarding intellectual property rights, companies are often disappointed by the results of their attempts to prevent the proliferation of counterfeit goods through through the courts, the Ministry of Commerce and local governments.

Now there is a new, innovative approach to stemming the trade of counterfeit products. Based on their experience working with numerous clients, experts … will share details on how the Customs Bureau can help companies in the fight against counterfeits.

Seeing as how none of our China attorneys attended this event, we do not know what was discussed at it. But we can tell you what we have been saying on this blog and to our clients since at least 2013, and that is that not only must you file for a China trademark for your brands and your logos, but you should also then register your granted China trademark with China customs to stem counterfeits of your products from leaving China.

For instance, earlier this year, in China Trademarks: Customs Helps Those Who Help Themselves one of our China IP lawyers, wrote the following regarding the real benefits to be gained by registering your China trademarks with China customs: “For trademark owners, customs seizures can be a valuable part of an anti-infringement strategy. But don’t expect much help from the customs authorities if you can’t be bothered to help yourself.”

But long before that, way back in April, 2013, we wrote a post, Register Your China Trademark Now. Then Register It Again With Customs, where we called for exactly what the title of that post would lead you to expect: that you should not only be sure to file for a trademark in China, you should also be sure to take that China trademark once you get it and register it with China customs. It bears repeating what we said in that post because it so nicely sets out what exactly this will entail and why it is of such importance:

The implication for foreign companies doing business in China is clear: Chinese Customs can help protect your IP from infringement…. What the numbers [of China customs seizures] don’t tell you, however, is that nearly all of the seizures were of goods that infringed registered Chinese trademarks, and that those trademarks had been registered not only with China’s Trademark Office but also with Chinese Customs.

As we have written a number of times — see File Your Trademark In China. Now., China: Do Just One Thing. Trademarks, and China’s Changing Trademark Environment. Why You Need To Register Your Trademark Now. — the essential first step in any China IP strategy is to register your trademarks with China’s Trademark Office. Because China is a first-to-file country, until you register a trademark you have no rights in that trademark. But a trademark registration alone will not limit the spread of counterfeit goods. A trademark registration merely gives you the legal capacity to enforce your rights to that mark, and should properly be seen as one of the pieces in an overall strategy.

For any company concerned about counterfeit goods coming from China, the next step should be registering your trademark with Chinese Customs. This is not a legal requirement but a practical one: though China Customs officials have discretion to check every outgoing shipment for trademark infringement against the Trademark Office database, in reality they only check against the Customs database. No separate registration with Customs means no enforcement by Customs.

If you register your mark with Customs, they will contact you any time they discover a shipment of possibly infringing goods. At that point you have three working days to request seizure of the goods. Assuming you request seizure (and post a bond), Customs will inspect the goods. If Customs subsequently concludes the goods are infringing, they will invariably either donate the goods to charity (if the infringing mark can be removed) or destroy them entirely. The cost of destruction, and of storing the goods during the inspection process, will be deducted from your bond.

Registration with China Customs generally takes three to five months and can only be done after China’s Trademark Office has issued a trademark certificate. The latter currently takes approximately fourteen months, which means that within nineteen months of the date you file your trademark application, Chinese Customs could be helping to stop counterfeit goods from being exported from China.

Nineteen months can be an eternity in the retail world. Whether you’re a toy company producing dolls in Shanghai, a home video company making DVDs in Guangzhou, or a luxury goods company manufacturing high-end purses in Qingdao, there’s only one approach that makes sense. Register your China trademark now. Then register it again.

So though we never saw registering your China trademark with China customs as innovative, we have always viewed it as important, and that really is all that matters in any event.

China employee benefits
China employee benefits: the myths.

China employers must provide certain mandatory benefits to their China employees (both Chinese and expat), and failing to do so can expose them to serious risks. In this post, I discuss six common myths about my firm’s China lawyers often hear or get asked about regarding mandatory employee benefits.

Myth 1: Employers need not pay into an employee’s social insurance during the employee probation period. Wrong. Your obligation to contribute to your employees’ social insurance starts when the employment relationship commences. Do not delay setting up your employees social insurance account or completing the transfer from the previous employer.

Myth 2: Employers need not provide any social insurance benefits to part-time employee. In most places in China, employers are required to pay for a part-time employee’s occupational injury insurance. Whether or not an employer is able to enroll such employee in just this one type of social insurance, rather than the full set of mandatory social insurance program, depends on your locale. For how virtually everything regarding China employment law is localized, check out China Employment Law: Local and Not So Simple.

Myth 3: An employer registered in City A with an employee who resides and works in City B can pay the employee cash to cover the employer’s portion of social insurance contributions. Wrong. Very wrong. The social insurance payments must be made under the name of the employer or, to the extent permitted under the law in the relevant locale, under the name of a qualified HR company. Either way, paying an employee (full-time or part-time) cash is never the right way to go. Note that hiring employees in other cities implicates company formation issues and should always be coordinated with the human resource and social security bureaus of both the city in which your company is located and the city in which your not-so-local employee is located and companies that get this wrong usually pay a very steep price.

Myth 4: Employers decide whether to make housing fund contributions for their employees. Issues regarding employee housing fund contributions do not come within the jurisdiction of the local human resource and social security authorities, but rather are overseen by a different agency. However, this does not mean you as the employer can simply opt out of this program. You must make such contributions for your China employees and if you do not know what these contributions are all about, you should find out.

Myth 5: Employers need not pay into a non-Chinese employee’s social insurance fund. That depends. In some cities (Beijing and Shenzhen, for instance) you cannot contract out of such obligations for non-Chinese employees. However, in other cities (Shanghai, for example) employers can enter into a contract with their foreign employees that relieves them out of having to contribute social insurance for their foreign employees. Note though that this contract has to be a valid and enforceable one under Chinese law and our China attorneys rarely see one that qualifies.

Myth 6: Employers can stop paying social insurance for an employee on statutory sick leave. Wrong, wrong, wrong. Statutory sick leave is defined as a period when the employee gets to take time off to recover from a non-work related injury or illness without having to worry about being unilaterally terminated by the employer. The employment relationship is not severed by such a leave and that means you as the employer must continue making all required contributions during your employee’s statutory sick leave.

For more China employment law myths, check out Six Myths About China Employee Probation, Six Myths About Working Hours and Overtime, and Six Myths About China Employee Non-competes.