Legal and Financial Checklist before Entering the Chinese Market – A Guide for British Businesses

Entering the Chinese market is an intimidating step for most British businesses, but the rewards of successfully navigating its opportunities and challenges are also immense. In this article, we provide a necessary legal and financial checklist for British companies seeking to protect and optimize their operations in China and strategize for growth.

Entering the China market is an intimidating step for most British companies, with an almost endless series of potential pitfalls to be negotiated. Although there are often many obstacles in the way, the rewards of successfully navigating this difficult course are also immense.

The aim of this article is to highlight some of the legal and financial must-knows to successfully enter the China market by lowering business operation risks and achieving long-term global growth strategies.

What is covered in this article?

• Company background and credit check
• Draft or review of legal documents
• Legal translations
• Business negotiation on behalf of clients
• Trademark registration
• Product registration
• Tax implications
• Cross-border agreements
• Double tax agreements
• Permanent establishment risks
• Financial due diligence
• Annual audit and tax compliance under different corporate structures
• Profit repatriation
• Tax incentives
• Transfer pricing

Applicable to following industries:

• Exporters
• F&B
• Trade and e-commerce
• Professional services
• Information technology (IT)
• Manufacturing
• Entertainment and sports
• Education

This guide will be of interest to you if you are in the following business stages:

• Already dealing with the Chinese market in terms of exporting or services and have yet to establish an entity.
• Considering entering the China market and have not had any past encounters.

Company background and credit check

Why is it important?

The enormous China market is not risk-free. One of the reasons British businesses fail in this market tends to be the hasty selection of a partner without appropriately investigating the company and verifying the resources it claims to bring to the table.

How to conduct a thorough background check?

We are regularly asked to provide information on China-based companies and have been able to develop a specific service to address the issue. Such services require sound relations with various authorities in China.

The checklist below will assist you to lower the risk of your business operations when dealing/entering the China market:

• Corporate registration information (e.g., business scope, registered capital, etc.)
• Accessible information about the corporate history
• Information about the shareholders
• Structure of the management and legal representative
• Information about bank relationships
• Information about business relationships (e.g., main suppliers, customers, etc.)
• Financial statements for the latest year

Detailed credit and background check and other documents:

• Analysis of the business field
• Business license
• Certificate of Approval (only for FIEs)
• Verification Report issued by a Chinese accounting firm for the company’s registered capital
• Articles of association
• Any board resolution for changing the company’s information recorded in BAIC
• Any modification to the company’s registered information
• Directors’ registered personal information
• Analysis of the operation development since incorporation
• Financial statement and analysis of the financial status up to the latest 8 years

When we gather and present the above information to our British clients, we always explain the importance of each point on the checklist.

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For example, when dealing with manufacturers, it is important that you understand their business scope and activity, as the sourcing companies in China may be legally limited to a specific focus area. A manufacturer’s business scope might be to manufacture bicycles whilst you need tricycles. They might inform you that they can produce it but will be doing so illegally and putting you and your business at risk.

Draft or review of legal documents

Why is it important?

China’s contract law states that both parties should be equally favored in the contract. The importance of contract review is the fundamental basis of protecting yourself and your business. Most business contracts should be written in English and Chinese and in the event of conflict, the Chinese contract will prevail. It is thus important to seek professional advice to ensure that contracts are translated correctly to avoid unnecessary issues in the future.

Checklist to review

• Understand what products or services will be provided, who the interested parties are, and how and when payment will be processed
• The translated document reflects the exact language of the initial contract
• Termination and renewal terms
• Deadlines and important dates

Legal translation

Why is it important?

Translating documents is essential in China. About 80 percent of foreign businesses entering China translate documents. It is crucial to ensure that technical details are correct in both English and Chinese, as most documents are required to be in Chinese. Developing an accurate document translation for various documents is challenging and thus we recommend using professionals to translate your documents.

Documents that you will need to translate

• Technical documents
• Contracts
• Financial documents
• Legal documents
• Academic documents

Negotiation on your behalf

Why is it important?

When negotiating contracts with Chinese companies, you should pay attention to Chinese laws but also take note of Chinese culture, environment, and language barriers. China’s business environment is substantially different compared to other western countries. Culture and language play a major role and having the necessary professionals to assist is often overlooked.

Why companies hire us to negotiate on their behalf

• We understand most industries and market conditions in China.
• We have a vast network of people who provide high-quality information to contribute to the negotiating process.
• We have roughly 30-years’ experience in successfully negotiating on behalf of other clients.

Trademark registration

Why is it important?

Before you even sell your products on the Chinese market, the first thing you should do is register your trademark. China only acknowledges trademarks registered within its jurisdiction and operates a first to file policy, meaning if someone registers your trademark in China before you, it belongs to the earliest applicant. Thus, to avoid bad faith registrations and protect against counterfeiting, file your trademark before entering the Chinese market.

Tips for overseas trademark applicants entering the Chinese market

• Register your trademark via a qualified trademark agency
• Register your trademark in Chinese characters
• Registering a trademark takes about 12 months in China
• Choosing the product and service subclasses

Product registration

Why is it important?

China has strict and complex documentation requirements for most products that can be consumed, applied, or that can penetrate the skin of someone. For example, food, drinks, and cosmetics. For these types of products, there should be an entity in China that is liable if anything goes wrong, and submitting the correct documents is the first step to export or sell products in China.

Checklist to export products to China

1. Complete the importers and exporters registration
2. Prepare documentation, pre-import licensing, and trademark registration
3. Label your product in simplified Chinese characters

Tax implications

Why is it important?

Taxation affects almost all aspects of doing business in China. Because of its idiosyncratic business environment, which is significantly different than Western countries, business leaders need to understand how different investment activities will trigger different taxes in China. Developing a strong understanding of China’s tax liabilities will assist British businesses to maximize their tax efficiency while maintaining compliance with tax laws and regulations.

How we can assist

We assist British companies to determine the tax implications of doing business with Chinese partners and engage these partners directly to negotiate on payment terms. We highly recommend seeking advice from well-reputable firms to assist with such matters.

Cross-border agreements

Why is it important?

When working with Chinese partners, it is incredibly important to negotiate an agreement that protects both the foreign entity and Chinese partner. British businesses offering cross-border service provisions to Chinese entities must take caution as it can stipulate permanent establishment (PE) risks. British businesses should first refer to applicable double taxation agreement (DTA) between China and the UK. Without proper guidance, tax disputes can occur, putting the business at risk. Additionally, specific documents will have to be submitted at the Tax Bureau.

Key concerns that should be addressed on priority

• The agreement is negotiable
• The agreement will have to be submitted to the Tax Bureau and some Chinese companies are not aware of it
• Withholding taxes will need to be presented to the bank to prove taxes has been paid
• Reviewing the financial and legal aspects of the document
• Tracking the IP and ownership of the services
• Calculating withholding taxes that will be presented to the bank

Our financial and legal team can assist measures that would protect your entity from implications.

Double tax agreement (DTA) benefits

Why is it important?

A British entity who engages in cross-border transactions with a Chinese partner, might be subject to tax implications. When your entity engages in cross-border transactions, you can seek professional advice to conduct a beneficial owner assessment to determine whether the DTA benefits are applicable to you. By doing this, you can enjoy the preferential withholding tax rates upon withholding tax filing without pre-approval from the tax bureaus.

Material to be submitted

• Reporting form on tax resident identity of non-resident taxpayer
• Report form on entitlement of non-resident taxpayer to tax treaty benefits
• Identity certificate (e.g., a passport copy) of the non-resident taxpayers
• Proof of ownership, such as payment receipt, contracts, or agreements regarding the payment, resolution of the board of directors, or shareholders meeting
• Other documents that can prove the taxpayers are beneficial owners of certain income

Permanent establishment risks

Why is it important?

Most British companies are not aware that their customers or affiliates in China might trigger a permanent establishment, which means that the company would be liable to pay Chinese enterprise income tax on profits and value added tax on revenue generated from the activities in China.

Furthermore, most companies typically send employees to China based on an assignment or secondment arrangement, which might trigger a PE as well.

Due diligence

Why is it important?

Whether you are already working with a Chinese partner or planning to engage in a new partnership, extensive due diligence should be conducted as the first layer to protect your business. While China’s legal system has made great progress in becoming more business friendly, prevention and preparation should still be conducted before engaging with Chinese partners.

Checklist for conducting due diligence

• Operational due diligence
• Financial due diligence
• Reference check

Annual audit and tax compliance under different corporate structures

Why is it important?

Depending on the business scope, size, and short- to long-term objective of the company, setting up a specific structure might be beneficial in terms of compliance and duration to complete, but might limit the company’s objective when attempting to expand. We recommend contacting a service provider or the local government to achieve full compliance.

For JVs, WFOEs, and FICEs – achieving annual compliance can be a long and complicated process but such entities are the most common corporate structures.

For ROs – annual compliance procedures are simpler but limits the ability of the business to perform certain activities.

Profit repatriation

Why is it important?

For multinational corporations operating in China, repatriating cash from their subsidiaries has always been an important but challenging issue. China maintains a strict system of foreign exchange controls. For example, service agreements signed between a WFOE and its foreign parent company must be supported by facts. If the tax authorities become suspicious of the authenticity of the contents of a service agreement and/or the legitimacy of service feed remitted, and the WFOE is not able to provide clear and convincing evidence to support them, a 25 percent CIT may be imposed on the service fees.

Different ways to repatriate profits from China

• Remitting profits as dividends
• Paying intercompany fees to foreign investors such as:
  – Service fees
  – Royalties

• Extending loans to a foreign related company

Tax incentives

Why is it important?

With tax incentives being one of the drivers for China’s ambition to attract foreign investment, it’s important to note that companies will have to present the strongest case to meet the criteria to qualify for tax incentives. Additionally, most British businesses are not aware that they may qualify for certain incentives. Thus, we always recommend consulting with a professional advisor to assist you in building a strong case and identifying those areas to optimize your business.

Types of tax incentives

Different tax incentives are available for:

• Small and low-profit enterprises
• High-tech enterprises
• Advanced technology service enterprises
• R&D
• Other incentives

Transfer pricing

Why is it important?

China’s transfer pricing environment is more stringent than most other countries in the world. Any Chinese taxpayer engaged in related party transaction with other group entities is required to demonstrate that such transactions are conducted in a manner consistent with the “arm’s length standard”. Understanding various transfer pricing rules can ensure full compliance for MNCs while still guaranteeing that the transfer pricing process is effective and worthwhile.

Both Chinese resident enterprises and non-resident enterprises operating and paying taxes in China must make a joint declaration of their business activities when filing their annual income tax declaration form.

Information requirements for related-party filing forms

• Full information regarding the reporting company, covering basic company information, internal department information, employee headcount information, senior management information, and shareholder information.
• Detailed information on both sides’ financial asset transactions, equity investments, and cost sharing agreements.
• Information of the overseas related party, including registered business address, actual operation address, business scope, applicable tax rate, and any relevant income tax incentives.
• Current financial situation of the reporting company, including outbound and inbound related and non-related party transactions.

If you have more questions on how to protect your business before entering China or would like to schedule a consultation, please contact uk.ireland@dezshira.com

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