One of the most important things our China attorneys do with every contract we write is to determine who exactly is on the other side. This is often no small feat.
If things go smoothly, our client asks us to write a contract with XYZ Mainland Chinese Company and we research XYZ Mainland Chinese Company and determine there is such a company and once we’ve done that, there is rarely an issue. This sort of smoothness happens around 85% of the time.
The other 15% of the time we find really funky things. Oftentimes we find there is no XYZ Mainland Chinese Company and in that situation, we tell our client to go back to the alleged XYZ Mainland Chinese Company and ask them why there is not. Their usual answer is that their company is actually XYZ Hong Kong Company or XYZ Taiwan Company. This difference can make the entire transaction illegal for the simple reason that doing business in China without a Chinese company can itself be illegal. See Doing Business in China Without a WFOE: Will the Defendant Please Rise. This difference can also mean you have no contractual protection against whatever the HK or Taiwan or whatever company might do. See e.g., Hong Kong: We’re Not in Mainland China anymore.
With the downturn in China’s economy, our China lawyers are increasingly having to parse China deals that do not have a legitimate Chinese company on the other side. Why is this? Tax avoidance.
The new thing we are seeing is individuals from companies wanting to be the signatories to deals with foreign companies. When we question why this is being proposed and make clear that our clients cannot do this, the individual sometimes responds by claiming that he (so far it’s been only males) is registered with the local tax authorities as a sole proprietor or 个体户. If true, this registration would likely solve the problem, but so far it has not once been true.
If you do business with an individual not registered as a sole proprietor or with a foreign company without its own China company entity, you expose your company to the following real risks:
1. If you do business with an individual not registered as a sole proprietor you will likely be deemed to be that person’s employer. This means you must pay approximately 40% in employer taxes and benefits and you must withhold and pay to the government an additional 25% (or so) in employee withholding.
2. You could be deemed to be doing business in China illegally and that means you need to pay company income taxes and even worse can happen. See Doing Business in China with Deportation or Worse Hanging Over Your Head.
3. The individual or foreign company can likely breach your contract without any legal repercussions, at least in China. For example, if this individual or company steals your IP, are you really going to sue in China based on a clearly illegal contract?
This is one (of many) reasons why whenever someone requests that we sell them a template contract our answer is ALWAYS the same: Not going to do it. Not at any price. Too risky for you and for us. See China Contract Templates for $99 Each.