“Doing Business in a Re-opened China” S1:E2：How to set up a business entity in China

Introduction

Since the economic reform of the late 1970s, China has been increasingly opening up to the outside world and the country has now become one of the most popular destinations for foreign investment. According to the Ministry of Commerce, China’s actual use of foreign capital in 2021 reached US$180.96 billion, 21.2% higher than 2020 and the highest in history. 48,000 new foreign-invested enterprises (“FIEs”) were established in 2021, 23.5% higher than in 2020.¹ Growth also continued in the difficult year of 2022. The actual use of foreign capital in 2022 reached RMB 1232.68 billion, a 6.3% growth compared to 2021 (equivalent to US$189.13 billion, at 8% growth against 2021)².

The legal regime regarding foreign investment keeps evolving in China. On March 15, 2019, the Second Session of the Thirteenth National People’s Congress adopted the Foreign Investment Law of the People’s Republic of China (the “Foreign Investment Law”), which became effective on January 1, 2020. The Foreign Investment Law replaced three pivotal foreign investment laws enacted during 1979 and 1990, being the Sino-Foreign Equity Joint Ventures Law, the Sino-Foreign Contractual Joint Ventures Law and the Wholly Foreign-Owned Enterprises Law, and ushered China into a new era of foreign investment regulations. In the second chapter of our “Doing Business in a Re-opened China” series, we summarize some of the most frequently asked legal and practical questions on how to set up a business entity in China following the introduction of the Foreign Investment Law.

I.   What type of business entities can a foreign investor establish in China³?

A foreign individual, company or organization can set up a business in China. A foreign investor may set up any of the following types of businesses in China:

Generally speaking, except for any special restrictions provided in the relevant business scope or permits, the above entities may carry out businesses in all provinces, autonomous regions and centrally administered municipalities in mainland China.

An FILLC is the common type of business for FIEs in China, due to the convenience of setting up the business, independent legal person status, direct access to local employees, and minimum restrictions on its business operations, foreign equity ownership and remittance of profit abroad. In the following sections, we will focus our discussions on FILLCs.

II.   What are the prerequisites (approval, registration, qualification and license) for setting up an FILLC?

For most industries, establishing an FILLC only requires a registration with the competent State Administration for Market Supervision or its local counterparts (“AMR”). For a limited amount of industries and fields, special administrative procedures may be applicable. The following are some of the scenarios where special administrative procedures may apply:

With respect to a foreign-invested joint venture, depending on the background of the joint venture parties and the governance structure of the joint venture, it may be necessary to examine whether a merger control filing is required under PRC law. If a merger control filing is applicable, it needs to be completed before the establishment of the joint venture.

III.   What are the usual governmental procedures required for setting up an FILLC? What are the time requirements and costs?

（1） Establishment Procedures

The general procedures are illustrated in the flowchart below, which include: online pre-verification of the company name through the enterprise registration system of the local AMR (the “Enterprise Registration System”), online recordal of company information through the Enterprise Registration System, submission of application materials for company establishment and obtaining the business license from the competent AMR, online initial reporting of foreign investment to MOFCOM, and  foreign exchange information filing and bank account opening at local commercial banks. If pre-establishment or post-establishment approvals are involved, pre-establishment approval shall generally be obtained from relevant authorities after online pre-verification of the new company name but before the online recordal of company information, and post-establishment approval shall be obtained from relevant authorities after the establishment of the FILLC. An FILLC is formally established and becomes a legal person on the date it completes the establishment registration with the competent AMR and obtains its business license.

（2）Timetable

The time needed to complete the aforesaid procedures and establish an FILLC depends on the nature of the enterprise and the practice of the local authorities. For most industries not subject to pre-establishment approvals, it usually takes about 15 days to set up an FILLC and obtain a business license if the application materials are complete. It should be noted that a foreign investor will usually be required to provide its incorporation documents and have such documents notarized and legalized. This may take weeks or even months to complete. Therefore, it is advisable to start the preparations early and take into account the time considerations.

（3）Costs and expenses

The costs and expenses for the establishment of an FILLC are mainly the costs for purchasing or leasing office premises to be used as the registered address, legal fees and the filing agent fees. There are no material governmental charges.

Purchase or lease costs of office premises varies depending on the localities of registration. Some development zones may offer free office premises or certain financial and/or tax preferential policies. For more information, please contact us at China_Business_Support@junhe.com.

IV.  What documents will be required at the time of application for establishment and what information will be made public?

The main application documents for setting up an FILLC include standard application forms, the notarized and legalized incorporation documents and charter documents of the FILLC, such as its articles of association (the “AoA”). If the FILLC is a joint venture, the joint venture parties will usually enter into a joint venture contract or shareholders’ agreement, but such legal document is usually not required to be submitted to the government authority.

After the establishment of the FILLC, the basic registration information will be accessible to the public on the National Enterprise Credit Information Publicity System (https://www.gsxt.gov.cn/index.html), including the company name, shareholders information, registered capital, business scope, legal representative, directors, general manager, history of change in registration, equity pledges/freezes/auctions and administrative penalties. As discussed in our previous chapter - “How to Conduct Due Diligence on Chinese Suppliers”, a lawyer may apply to the AMR to review the entire filing archives of any company.

According to the Foreign Investment Law and its implementing regulations, where materials and information involving trade secrets are required to be disclosed to the administrative authorities, the administrative authorities shall require such materials and information on a need to know basis, keep such materials and information in strict confidence, and assume liabilities for leakage.

V.   How does a foreign investor provide capital to an FILLC? Are there any minimum amount or contribution timing requirements on the registered capital?

Foreign investors may fund an FILLC by contributing its registered capital or providing shareholder loans.

Generally speaking, there is no minimum capital contribution amount or statutory capital contribution timeline requirements for the contribution of registered capital, although limited industries may be subject to special regulatory requirements. The amount of the registered capital shall be registered at the establishment of the FILLC (which may be increased or decreased later), and the shareholder shall contribute the registered capital according to the timeline provided in the AoA of the FILLC in one lump-sum or in installments.¹⁰

The provision of shareholder loans to the FILLC shall comply with the relevant regulations on foreign exchange and foreign debts, including a limitation on the maximum amount linked to the paid in capital or net assets of the FILLC, and shall be subject to foreign debt registration with the foreign exchange authority.

An FIE may borrow loans from financial institutions or other third parties, and raise funds through equity financing and IPO, just like other companies in China.

VI.  What kind of routine reporting and filing are required to be made by an FILLC each year and what are the costs?

The FILLC shall submit its annual report through the National Enterprise Credit Information Publicity System from January 1 to June 30 each year. Such report mainly includes basic information of the company, its shareholders and ultimate beneficial owners, operations and assets and liabilities status, and where the restrictions under the Negative List are applicable, the FILLC shall also submit information on relevant licenses, permits or approvals. The aforementioned information will be publicly available through the Foreign Investment Information Reporting System Platform (https://wzxxbg.mofcom.gov.cn/gspt/). While the FILLC must provide information on its business, assets and liabilities status in its annual report, it may elect whether to make such information publicly available. The FILLC shall submit its first annual report from the second year of its establishment. Where there is a change in registration or filing during its business operation, the FILLC shall file a report for change with the Enterprise Registration System.

During its business operations, an FILLC shall also comply with tax filing and payment obligations in relation to corporate income tax (“CIT”), value-added tax (“VAT”) and other taxes. CIT shall be prepaid on a monthly or quarterly basis and shall be settled annually on or before May 31 of each year. The tax period of VAT is determined by the competent tax authorities according to the amount of tax payable of such taxpayer. In practice, general taxpayers usually pay VAT on a monthly basis, while small-scale taxpayers usually pay VAT on a quarterly basis.

With respect to the reporting and filing above, the FILLC is not required to pay any significant governmental charges. However, it will usually require external accountants and lawyers to complete such work.

VII. What are the main channels for funds to be remitted abroad? Is there any limitation for the inbound and outbound remittance of foreign exchange?

An FILLC may remit funds abroad to discharge its payment obligations under international commercial transactions, such as the payment for goods, services and royalties. Foreign shareholders may also receive funds from its Chinese subsidiaries through the distribution of dividends, capital reduction, equity transfer, and liquidation. Cross border payments under capital account transactions, such as payments arising from capital reduction, equity transfer or liquidation will be subject to company change registrations with the AMR and foreign exchange filing, which could be time-consuming. It is more straightforward to make cross-border payments under current account transactions, such as a payment for goods, services, royalties and dividends.

VIII.  What types of assistance can external lawyers provide?

A full-service Chinese law firm with an international vision and local expertise is well positioned to provide cost-effective legal services on foreign investment in China. We provide the following services for a client intending to establish a presence in China:

• before the commencement of regulatory filing, advising clients on China’s legal and business framework, and assisting clients to formulate appropriate investment structures, strategies and plans;

• assisting clients to negotiate with development zones, joint venture partners, regulatory authorities and other stakeholders;

• assisting foreign investors to obtain the requisite approvals, registrations and filings and obtain the requisite licenses and permits; and

• providing ongoing legal support to the Chinese entity to mitigate its legal risks and ensure its compliance with the law.

JunHe offers both standard and tailor-made services to meet the needs of our clients. For inquiries about our rates and track record, please email us at China_Business_Support@junhe.com.

In our next chapter, we will discuss “Commercial and legal considerations for setting up joint ventures in China”.

[1] Data from China Foreign Investment Report 2022; for more information please refer to http://images.mofcom.gov.cn/wzs/202301/20230104194934606.pdf 

[2] Data from the Ministry of Commerce website; for more information, please refer to http://www.mofcom.gov.cn/article/xwfb/xwsjfzr/202301/20230103379768.shtml

[3] China refers to mainland China. The laws and practices differ for mainland China, Hong Kong, Macau and Taiwan. The discussions in this chapter only apply to mainland China.

[4] The Negative List refers to the special restrictions on access to particular industries by foreign investment; specifically: (1) for industries where access by foreign investment is strictly forbidden, foreign investors are not permitted to invest; (2) for industries where access by foreign investment is limited, the foreign investor may only invest upon satisfaction of certain conditions set out in the Negative List; and (3) for industries not included on the Negative List, a foreign investor may invest in the same manner as a domestic investor.

[5] Subject to statutory “piercing corporate veil” exceptions, i.e.: a shareholder of a company who abuses the independent legal person status of the company and the limited liability of shareholders to evade debts and cause damage to the interests of the creditors of the company shall bear joint liability for the company’s debt.

[6] For example, according to the Negative List, the legal representative of a public air transportation company or a general aviation company shall be a Chinese citizen.

[7] Based on our experience, the governing authorities tend to be of the view that such entities may directly engage in business in China and therefore may hire employees directly.

[8] The latest version of the Negative list is Special Administrative Measures (Negative List) for the Admission of Foreign Investment (2021).

[9] In practice, under special circumstances, the capital contribution schedule of the shareholder may be accelerated, e.g., (1) the company is subject to judicial enforcement in a case in which the people’s court has taken all enforcement measures but there is no property available for enforcement and the company meets the conditions for bankruptcy but fails to apply for bankruptcy; or (2) the capital contribution schedule is extended by resolutions made by a company’s shareholders’ meeting or by other means after the incurrence of the company’s debts.