China Bans Offices of Foreign Firms from Business Activities

Many foreign firms (including those from Hong Kong) have offices on the mainland, but very often they are engaging in activities beyond their scope of operation and are actually involved in other lines of business. To address this problem, the Chinese government has just issued a set of implementation opinions banning unauthorised business activities by foreign firms. Hong Kong companies should take note of this development. These rules, which form part of the supporting measures for the Company Law and Regulations on the Administration of Company Registration amended earlier this year, are intended to straighten out the investment activities of foreign firms.

One of the measures is to require each foreign firm to sign a pledge, stating: "This office has never engaged in business activities and will never engage in any form of business activities in future." The authorities will also make surprise inspections of all offices of foreign firms. This work is already underway in places like Zhejiang and Shanghai, with officers from the industry and commerce administration conducting the inspections. This exercise will soon commence in Guangdong.

The above regulations, jointly issued by the State Administration of Industry and Commerce, Ministry of Commerce, General Administration of Customs and State Administration of Foreign Exchange, took effect immediately upon promulgation.

The implementation opinions pointed out that with immediate effect, existing offices of foreign firms may continue to exist provided they do not engage in business activities. They may not engage in unregistered business activities, and must apply for approval to set up a new branch if they intend to engage in business activities.

This new rule has made many offices of foreign-invested enterprises feel all at sea.

Under the Company Law and Regulations on the Administration of Company Registration, foreign-invested enterprise may set up branches or offices at places other than their domicile. While branches may engage in business operations, offices may only engage in business liaison within the parent company's scope of business.

Different tax policies apply to branches and offices. These mainly concern corporate income tax and turnover tax. "Company branches pay corporate income tax and turnover tax in their domicile. Since offices do not engage in business activities, they naturally do not have to pay tax in their domicile. They only have to pay tax in the company's domicile," explained an officer from the State Administration of Industry and Commerce.

Different places have different preferential tax policies, and development zones and bonded areas have more tax concessions to offer. Many companies try to tap these benefits by registering in development zones and setting up offices in other places for business operations.

According to the implementation opinions, no alteration or extension applications for registration will be accepted from offices already registered. Upon expiration of registration, they have to complete deregistration formalities or apply for permission to set up branches if necessary.

Actually, local departments of taxation and industry and commerce administration have long been aware of offices of foreign-invested enterprises engaging in business activities. However, since the government was under pressure to attract foreign investment, they did not take any strict actions against these activities.

China badly needed foreign capital and welcomed any form of foreign investment in the past, but these days are gone. Through strict control of the offices of foreign-invested enterprises and the abolition of the system of annual verification, foreign firms that engage in operations beyond their scope or in violation of regulations will disappear, and so will those with low value-added and those which exist on low taxation. Only those with a higher profit ratio and better quality of output will remain.