Forming a China WFOE: Scope is Key ,Part 2

Forming a China WFOE: Scope is Key ,Part 2

It is important you get your business scope right the first time. If you get it wrong, in most places of China, this will mean you will need to negotiate a new scope with the Chinese authorities. But in some places, you are at risk of your WFOE being denied and your having to start all over on your WFOE formation. I repeat: it is important you get your business scope right the first time.

 

Choosing the correct scope of your China WFOE is also critical for avoiding problems months and even years after your WFOE has been formed. Although it’s not common for Chinese authorities to censure an organization for periodically stepping outside the bounds of its officially authorized business activities to engage in auxiliary activities, the ability to issue tax invoices to its partners for the specific services rendered is very important.

These clients or customers will normally insist upon a specific invoice based on a certain value-added tax (VAT) rate for use as a tax offset or deduction, and it would not be unusual for them to refuse to make payment for services rendered if the appropriate invoice cannot be issued. Therefore, because a VAT invoice cannot be issued at the relevant tax rate for activities not specified in the business scope, it is critically important to negotiate approval of a sufficiently broad and relevant business scope with careful consideration from the beginning of one’s anticipated scope of business activities and client’s and customer’s required invoicing.

 

I then explain the various options foreign companies have for going into China — still essentially confined to going it alone as a Wholly Foreign Owned Entity (WFOE, a/k/a Wholly Owned Foreign Entity or Enterprise or WOFE), Representative Office (Rep Office) or partnering with a Chinese company in the form of a Joint Venture (JV).

 

Then we start talking about what sort of entity makes sense for this particular company. Nine out of ten times, the company wants to go into China on its own as a WFOE and that is where the problem sometimes starts. The company has heard that China is very capitalistic and “wide open” and did not know that is not really the case, particularly as it relates to foreign companies.

 

China has what it calls its “Catalog for the Guidance of Foreign Invested Enterprises.” This catalog divides foreign investment into “encouraged,” “restricted” and “prohibited” investments. Foreign companies cannot invest in prohibited industries and foreign investment in restricted industries typically requires the foreign company joint venture with a Chinese company. Industries that are not classified into any of the three categories are generally assumed to be permitted.

 

So every once in a while, I have to inform the American or European company that it simply cannot go into China at all or that it can only do so if and when it has found a Chinese company with which it can joint venture. The moral of the story is that it makes sense to find out whether your proposed company can work in China at all, and to do so before funding market and operations research or China trips.

 

But this research is oftentimes not so simple and that is because a lot depends on how the business is defined when the application is made. The business scope is relevant to the catalog on foreign investment because a business sometimes can fit within one or more categories of the catalog and how you describe your business scope on your WFOE application can make the difference between approval and rejection. You sometimes can massage the description of your business scope to obtain more favorable classification.

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Elite Stage is a platform that provides One-stop business Solution for start-ups and foreign enterprises, founded by Venture Capital and Elite Stage Consulting Company, individual Lawyer Partners and Deloitte Auditors. For over 8 years, Elite Stage successfully assisted more than 800 companies from all over the world with their China market entry.

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