Investment considerations in the China market

The key points that differentiate investment structures include, but are not limited to:

• registration procedures (refer to articles on our website about each type of structure)
• business scope
• legal personality
• registered capital

Business scope

Business scope needs to be detailed and accurate, in order to be accepted by the State Administration for Market Regulation (SAMR), and to have a chance to apply for industry-related tax benefits. At the same time, it is advisable to keep some room open for future business expansion, as amending the business scope at a later stage will be arduous, involving majority of government authorities that are involved in the original corporate establishment process. If approved, such a change will take a minimum of two months to complete.

To change its business scope, a company must:

• submit its amended Articles of Association and a Board Resolution (or Shareholder Resolution), among other documents, to Ministry of Commerce (MOFCOM) for approval
• lodge an application with SAMR within 30 days of the decision to make the alteration

If the amended scope is approved, SAMR will grant a new business license within 30 days of the approval.

Legal personality liability

Directors and senior managers may bear personal liability to the company under these circumstances:

• violating laws, administrative regulations or the company's articles of association in the execution of company duties, thereby causing losses to the company
• misappropriating company funds
• taking business opportunities for themselves without shareholders' approval
• abusing their positions to take improper benefits for themselves or for other parties

On the approval of the general meeting of shareholders, listed companies can purchase liabilities insurance for directors, except for liabilities caused by violation of laws and articles of association.

Registered capital

SAMR requires a minimum amount of registered capital before approving an application. This amount does not need to be fully paid up front. The investors may include a capital injection plan in their articles of association.

Investors need to dedicate a minimum amount of registered capital depending on a range of factors:

• Region
• company’s business scope
• the industry the company is in
• planned scale of operations

Investors should make sure to commit sufficient funds to their registered capital, and it is advisable to commit additional capital.

Due to China’s capital controls, the approval process of injecting capital into the foreign-invested enterprise (FIE) can take four to eight weeks. Changing the registered capital during the approval process means restarting the process, which requires these steps:

• apply to increase the registered capital with the SAMR
• apply with the State Administration of Foreign Exchange (SAFE) to transfer the funds into China
• wire the funds to the Chinese bank
• apply with the SAMR to re-issue the business license

If the parent company sends funds to the subsidiary in China without going through this process, the Chinese tax authorities will regard it as income, and tax the subsidiary at 25% corporate for income tax.

Only funds wired in from abroad qualify as registered capital; locally earned RMB cannot be used. Investors are advised not to wire any funds to China before the FIE is set up, as the funds need to be deposited in a special capital account to be recognized as registered capital, and such account can only be opened after the business license is issued.

Registered capital can be contributed in cash or in kind, but in kind contributions may not exceed 70% of the registered capital. Common contributions in kind are intellectual property or equipment. Using equipment as capital contribution can be arduous, and the process is subject to strict requirements.

Total investment vs. registered capital

FIEs are still required to abide by the ratio between registered capital and total investment as shown in the following chart. Unlike registered capital, total investment represents the debt of the investment and can be made up by loans from the investor or foreign banks.

Investment-to-Capital Ratios (amount in USD)

Holding company

Many companies choose to establish holding companies, or “special purpose vehicles” in Hong Kong or Singapore, to hold their Chinese entity. Holding companies can:

• allow for an additional layer between the Chinese subsidiary and parent company
• “ring-fence” the investment to an extent, protecting it from potential risks and liabilities of the Chinese subsidiary
• hold their China-earned profits offshore, which can be used as a tax deferral mechanism subject to the parent country’s anti-avoidance tax rules, and such profits can be re-invested into China, or into expanding operations elsewhere in Asia
• limit tax exposure on capital gains
• have reduced withholding tax rates on the repatriation of profits

In the case that an investor wishes to sell their Chinese business, or introduce a third-party partner/shareholder into the structure, the administrative changes can also be done at the holding company level, rather than at the China level, to avoid tough regulations and time-consuming procedures.

The Foreign Account Tax Compliance Act (FATCA) has significantly disrupted the ability of U.S. investors to open or maintain bank accounts through Hong Kong, threatening to cut off the cash flow to their mainland China subsidiaries. Although also a signatory to FATCA, Singapore appears to be less affected by these developments.

Comparing Establishment Options

Comparison of Different Investment Options