During the past five years, China’s auto export has witnessed a rapid development with the value of export reached 28.6 billion U.S. dollars in 2008 from 14.4 billion U.S. dollars in 2006.

Details please refer to Caijing

This is Alibaba’s second overseas purchase of its kind this year. Alibaba acquired another e-commerce company Vendio Service in June, which owns more than 80,000 online sellers with a annual sales volume of 2 billion U.S. dollars.

for details, please refer to Caijing

Common Issues Concern OEM Agreement

Due Diligence on your China Supploier

Sizing up China Effective China Sourcing from Overseas

According to the agreement, both sides have reached consensus in the application of 3G operations in the automobile field, which will help the application of Internet of Things data transmission modules in other fields. China Unicom Group points out that both sides will launch close cooperation in terms of customized technology, service and operational standards in the automobile field, popularizing automotive communications modules in the automotive terminal market. Previous, China Unicom and Huawei had a successful cooperation partnership. China Unicom and Huawei jointly launched 3G modules (C114 Net)

The CPI gained 3.3 percent in July from a year earlier, 0.4 percentage points higher than in June, the National Bureau of Statistics (NBS) said Wednesday. It has exceeded the 3-percent full-year target ceiling the government set in March. Food prices, which account for about a third of the weighting in calculating the CPI, climbed 6.8 percent in July, compared with June's increase of 5.7 percent. The CPI gained 2.7 percent year on year in the first seven months of this year, 0.1 percentage points higher than the January-June figure, the NBS said.

The producer price index, a major measure of inflation at the wholesale level, grew 4.8 percent year on year in July, 1.6 percentage points lower than in June, the NBS said. (Xinhua News)

The joint statement by the National Energy Administration and the National Bureau of Statistics of China came three weeks after the International Energy Agency (IEA) said China replaced the United States last year to become the world's largest energy consumer.

China's energy consumption was 2.146 billion tonnes of oil equivalent last year, compared with the 2.382 billion tonnes the US Energy Information Administration says the US consumed last year, the statement said.

To reduce its dependence on energy to fuel economic growth, the Chinese government has taken a series of energy conservation and emission reduction measures, including shutting obsolete factories. "China's total energy consumption growth has slowed year by year," the statement said. According to the IEA, China consumed the equivalent of 2.252 billion tonnes of oil in 2009, 0.4 percent more than the 2.17 billion tonnes the United States consumed.

This Brieding was updated in July 2010

Click here to download Briefing in Hebrew  

This briefing was updated in October 2009.

Click here to download briefing in Hebrew 

Subsidies set to spur green vehicles  development (July 2010)

The new subsidies announced by the government will not only prompt automakers to manufacture more fuel-efficient vehicles but also make considerable progress in terms of technology and reduced emissions, analysts said on Thursday.

Vehicles eligible for these subsidies should have an engine capacity of 1.6 liters or less and will qualify for a subsidy of 3,000 yuan per unit, the National Development and Reform Commission said in a statement. 

Details please refer to articles from China Daily.

Changes in Representative Office Regulations (February 2010)

For those with Representative Offices in China, there are a number of recent changes that may affect their operations. In February this year, the State Administration of Industry and Commerce (SAIC) released new regulations regarding the registration of Representative Offices in China. The changes include the following:

An Overseas company must be at least 2 years old before they qualify to establish a representative office in China. 

For detail article, please refer to articles from The JLJ Group

 China rolls out fresh measures for property market amid rising house prices (Jan 10, 2010)
 
The General Office of the State Council, China's cabinet, Sunday issued a notice that required central governmental departments and local governments to strengthen management, stabilize market expectations and facilitate stable and sound development of the real estate market.

"With the recovery of the real estate market, such problems as excessively rising house prices have recently emerged in some cities, which call for great attention," said the notice.

It listed 11 specific measures which should be taken in five aspects -- increasing supply of low-cost houses for low-income families and common residential houses, encouraging reasonable house buying while restraining purchases for speculation and investment, strengthening real estate project loan risk management and market supervision, speeding up construction of housing projects for low-income households, and specifying responsibilities of local governments.
 
For the full article: http://english.gov.cn/2010-01/10/content_1507154.htm

Catalogue for the Guidance of Foreign Investment Industries (Amended in 2007)

Customs and International Trade Services - 2008 (This information is courtesy of Deloitte).

Foreign Invested Partnerships (December 2009)

There are some new updates concern Tax by The JLJ Group

EVR in China (June 2010)

Changes in Representative Office  Taxation (Mar 2010)

The below information is courtesy of Deloitte Touche Tohmatsu.
Updated: January 2008

Tax rates table

Implementation rules and their impact

Matters Affecting Primarily FIEs

Incentives

Tax authority tools to counter Tax avoidance

Tax Accounting and other rules applicable to all enterprises

Areas of Delayed Guidance—Summary

Implementation rules and their impact
The new Enterprise Income Tax Law, enacted on 16 March 2007 (New Law), will be effective as from 1 January 2008. Under China’s “principlesbased” approach, the entire New Law contains only 60 articles, meaning that implementation rules and future circulars and other guidance will be key to its impact on specific taxpayers.

The New Law unifies the income tax treatment of domestic and foreign enterprises by consolidating the Enterprise Income Tax Law (EIT Law), applicable to domestic Chinese enterprises, and the Foreign Enterprise Income Tax Law (FEIT Law), applicable to foreign enterprises and FIEs. These two laws will cease to be effective for tax years beginning on 1 January 2008. Unification under the New Law affects tax rules, tax rates and tax incentives. With respect to tax rules, or example, the prior salary deduction limitations applicable only to domestic Chinese enterprises are abolished. Certain new expense limitations (e.g. advertising, contributions, etc.), as well as new tax accounting rules, will apply uniformly to all enterprises. The New Law establishes a common 25% tax rate (down from 33%) that applies to both domestic and foreign-funded enterprises. Under certain transition relief rules, enterprises that enjoyed substantially lower than 25% tax rates due to incentives will gradually increase to the new 25% rate over a five-year period.

The dual system for tax incentives is eliminated under the New Law, and the new trends are clear:
• Shift from granting incentives only in special regions to the entire country;
• Shift from a regional development orientation to an industry orientation; and
• Shift from an export-oriented economy to a domestically driven economy.

The new incentive that has attracted the broadest attention is a 15% tax rate that applies to an enterprise that qualifies as a new and high tech enterprise. More broadly, the New Law includes a complete redesign of tax incentives, which represents a clear move from the wide-ranging benefits previously available for manufacturing generally, and for specific locations. In addition to the 15% incentive rate, other incentives apply to:
• R&D—150% super deduction for qualifying R&D expenses;
• Encouraged industries;
• Certain venture capital enterprises;
• Certain major infrastructure, environmental and agricultural projects;
• Encouraged industries in certain autonomous regions; and
• Certain labor and welfare services.

By eliminating the dual taxing systems and establishing new incentives, the New Law attempts to balance a number of competing goals. These include:
• Encouraging and attracting both foreign and domestic investment;
• Spurring economic development and innovation;
• Enhancing tax administration and achieving fairness; and
• Securing the government’s revenue needs.

Finally, the New Law incorporates (wholly or in part) a number of international taxation concepts into Chinese tax law. These include:
• Tax residence based on management and control;
• CFC rule;
• Allowing cost sharing agreements for certain joint services and the joint development of intangible assets;
• Thin capitalization rules;
• General anti-avoidance rule; and
• Deemed paid foreign tax credits.

Transfer pricing concepts, which have been an issue in Chinese tax practice for some years, have been given a new emphasis in the New Law.

The new environment will affect enterprises differently depending on their particular situations.

FIEs and Foreign Investors: Since many FIEs have enjoyed low effective tax rates due to the broad incentive system, implementation of the New Law should increase the tax burdens of FIEs as a whole. The significance of this overall increase will depend on how expansively the tax authorities define the category of new and high tech enterprises that will be eligible for the 15% tax rate. The New Law will affect FIEs’ decisions and choices regarding their business model, investment structure, site selection and financing strategy. Until now, foreign investors and FIEs have relied extensively on the broadly granted tax holidays that typically make China a low-tax country for many investors. Under the new approach to tax incentives, this is no longer a sustainable long-term strategy. FIEs and foreign investors should be developing strategies that optimize global tax benefits and rely more on traditional international tax planning tools such as intellectual property planning, tax-aligned supply chain planning, transfer price planning, etc. With the abolition of geography-oriented tax incentives, the key drivers for site selection will shift from tax incentives to operating factors such as proximity to natural resources and local markets, human resources, etc.

Domestic Companies: The nominal tax rate applicable to domestic enterprises will drop from 33% to 25%, and the New Law eliminates the deduction limits on certain costs and expenses that have been applicable only to domestic enterprises. Because these limits have applied to such significant items as deductible wages, many domestic enterprises will have major reductions in their tax burden. The elimination of incentives only available to FIEs, the initiation of a dividend withholding tax and the introduction of the corporate residence concept will help to reduce the practice of “round-tripping,” whereby domestic enterprises transfer domestic capital overseas for the purpose of making inbound investments. Meanwhile, the new provisions on the indirect foreign tax credit and CFC rules will affect the manner in which outbound investments are made.

Industries: The implementation of the New Law will stimulate the development of high-tech, infrastructure, agriculture and many other industries. Meanwhile, simple production and processing industries, driven mainly by cheap labor, will be under pressure to upgrade their technology and labor productivity. The New Law reduces the tax rate for a large segment, including general service, financial, telecommunication and real estate enterprises, which will facilitate their development.
Regions: The New Law abolishes the existing tax incentives for FIEs in special regions, leaving limited benefits for minority autonomous regions irrespective of FIE status.

Matters Affecting Primarily FIEs
• Withholding tax rate for dividends After months of uncertainty for foreign investors and endless discussion amongst differing bodies with varying interests within the government (i.e. protection of the revenue base vs. more strongly encouraging foreign investment), the 20% statutory dividend withholding rate has been reduced to 10%. Although there had been some discussion to eliminate withholding for dividends paid by new and high tech enterprises, the Rules provide no such exemption but do include flexibility in that they allow the State Council to later approve other exemptions. Considering that China has entered into a number of tax treaties that provide for a lower 5% withholding tax for qualifying investors, ownership restructuring may be appropriate. Any such planning should take into account the new general anti-avoidance rule in the New Law.
• Withholding rate for interest, royalties, gains, etc.
A 10% withholding rate has been set for these various types of income. Because a number of China’s tax treaties provide for a lower withholding tax rate for interest, royalties, rental, etc., and exempt some gains on sales of shares and other equity interests, ownership restructuring may be appropriate. Any such planning should take into account the new general anti-avoidance rule. There is a potential additional change in the calculation of taxable gain that could increase the effective tax on sales of shares and other equity interests. Currently, when a foreign investor is exiting from a Chinese company, taxable gain is calculated by subtracting from the gross proceeds both the cost basis of the share or other equity interest being sold and the owner’s percentage interest in undistributed earnings. With the advent of the 10% dividend withholding tax, it no longer makes sense to reduce the gain on sales by the owner’s percentage interest in undistributed earnings.
• Key date for qualification of grandfathering of incentives
Enterprises qualifying for the transition rules must have been “approved to be established” prior to the New Law’s 16 March 2007 enactment date. The Rules make clear that this “approval” means that the business registration must have been issued before this date.
• Definition of “establishment” of a nonresident enterprise The New Law and the Rules both refer to “establishment” rather than the more commonly seen “permanent establishment.” The Rules are significantly broader than most tax treaty definitions in that the appointment of any business agent in China to store and deliver goods will constitute an establishment. This means that non-treaty protected principals in many supply-chain structures may be treated as having establishments. Further, there is no “agent of independent status” exception. China is aggressively seeking to treat the performance of consulting and other services as an establishment even where the service provider does not have a place of business in China. While tax treaties generally provide a “more than six month” rule, the Rules are silent as to the length of time required.
Similarly, there is no stated minimum time period in the Rules for a place of construction, installation, assembly, repair or exploitation to be deemed to be an establishment.

Incentives
Definition of “new & high technology enterprise” to qualify for 15% tax rate
As the principal remaining incentive in which foreign investors have an interest, the criteria for new and high tech enterprise status have been eagerly anticipated. An important area of concern for foreign investors has been the previous indications that this status would require legal ownership of intellectual property (IP).
In brief, the stated criteria are as follows:
– Independent ownership of “core IP rights” (The Chinese language for this criteria is unclear regarding whether “economic ownership” of IP without legal title will be sufficient. Because many foreign investors have concerns about leaving IP ownership legally in China, this is an important issue. Where the IP represents localization of products for the Chinese market, it is possible that foreign investors will be comfortable leaving such IP in China.);
– Product/service included in the “State Encouraged High and New Technology Catalog” (This catalog is to be released by the State Council and the science, tax and finance bureaus.);
– R&D expenditure exceeds a minimum required percentage of annual sales revenue;
– Income from high-tech product sales or services exceeds required percentage of total revenue;
– Number of R&D personnel exceeds required percentage of all employees; and
– Satisfy any other requirements.
The various required percentages and any additional requirements are expected to be provided in a future circular or other guidance.
• Application of 150% super-deduction for qualifying R&D expenditures
While the Rules provide little guidance on the definition of qualifying R&D expenditure, they do refer to the development of new technologies, new products or new techniques. The Rules are silent with respect to any requirement that any IP resulting from the R&D efforts be legally owned by the enterprise conducting the R&D work.
The Rules provide that any qualifying R&D expenditure properly chargeable to the income statement will be allowed an additional 50% super deduction. For any such expenditure capitalized as intangible assets, 150% of the cost of the intangible asset will be the basis for amortization. Although the Rules do not refer to any carryover of unused super deductions, it appears from the language that the additional deductions will become a part of a company’s net operating loss carryover. As a result, unused super-deductions will have a five-year carryover period.
• Certain industry, infrastructure, environmental, etc., incentives
Numerous activities in the agricultural, forestry, animal husbandry and fishery industries are subject to full exemption. Several others are allowed a 50% reduction in the normal 25% tax rate.
For major State-supported public infrastructure facility projects, the covered projects include pier and dock projects, airports, railroads, roads, urban public transportation, electricity projects, water resources utilization projects, etc. Qualifying projects will be granted, from the first revenue producing year, a three-year exemption followed by a three-year 50% reduction in the normal 25% tax rate.
For qualifying environment protection projects, water or energy saving projects, the covered projects include public wastewater treatment, public refuse treatment, comprehensive exploitation and utilization of bio-gas, upgrade of energy-saving/pollution-discharge-reduction technologies, seawater desalination projects, etc. Qualifying projects will be granted, from the first revenue producing year, a three-year exemption followed by a three-year 50% reduction in the normal 25% tax rate.
Qualifying transfers of technology by resident enterprises shall be subject to tax exemption with a cap of RMB 5 million for income earned in a taxable year from the transfer of ownership of technologies, and any excess shall be subject to a 50% reduction in the normal 25% tax rate.
• Venture capital investment in high-tech unlisted SMEs
Where a venture capital enterprise invests in the shareholdings of private small or medium-sized new and high tech enterprises for more than two years, 70% of the investment amount may be deducted from taxable income in the year the two-year holding is completed. Unutilized deductions may be carried forward to future tax years.
• Application of 20% tax rate for small-scale enterprises
There will likely be little interest by either foreign or major Chinese investors in this special low tax rate. In brief, for industrial enterprises, the concessionary 20% rate will only apply where taxable income is RMB 300,000 or less, the head-count is 100 or less and total assets are RMB 30 million or less. For non-industrial enterprises, the relevant numbers are taxable income RMB 300,000, headcount 80, and total assets RMB 10 million. In addition, the relevant enterprise must be in “nonrestricted and non-prohibited sectors.”
Interestingly, there are no “controlled group” rules that would prevent common ownership of a number of qualifying small-scale enterprises. However, even if the new general anti-avoidance rule were not an issue, it would seem that the administrative costs of forming and maintaining numerous enterprises would likely make any such planning prohibitively expensive.

Tax authority tools to counter Tax avoidance
• Definition of resident and nonresident enterprise
While the tax residence concept of management and control is vaguely defined, the focus is on more active operating management functions rather than on a more narrow board of directors’ approach.
The Rules look to substantial and comprehensive management and control over the manufacturing and business operations, personnel, accounting and properties of an enterprise.
• Contemporaneous transfer pricing documentation requirement
The Rules require “contemporaneous documents” in respect of related-party transactions such as pricing, standards for determining expenditures, computation methods, explanatory notes, etc.
While it is unclear what specifically must be filed with the annual tax return as opposed to merely being held for a future tax examination, it is expected that guidance on this will be issued soon. And, although we must await further guidance for confirmation, it appears that 2008 is the first tax year for which “contemporaneous documents” must be prepared.
• Cost sharing arrangements
While the New Law provides that cost sharing arrangements may cover the joint development of intangible assets and the provision of labor services, the Rules merely acknowledge that an enterprise may share costs with its related parties. The Rules require that allocations must be based on the principle that the costs and expected benefits are matched. Without providing any details, the
Rules require that an enterprise sharing costs must timely file relevant documents in according with the tax authorities’ requirements. Further guidance should be forthcoming.
• Definition of related party debt and equity for purposes of the thin capitalization rule Related-party debt is broadly drawn, including both back-to-back loans through unrelated parties and shareholder guaranteed debt. Although unclear, we believe that the definition of a related party for this purpose will likely follow the transfer pricing rules. In this regard, the Rules do not specify a percentage for related-party status for transfer pricing purposes. The current percentage for transfer pricing purposes is 25%. Whether this percentage will change is subject to future guidance.
The definition of equity is unclear and may be based on a cost of investment approach rather than a fair market value approach.
As noted below, the Rules include no safe harbor debt-to-equity ratios.
• CFC rule
The Rules provide a definition of CFC that follows the U.S. CFC statutory definition. As such, a foreign enterprise will be a CFC when China resident enterprises and individuals each directly or indirectly hold 10% or more of total voting shares, and jointly hold more than 50% of total shares.
There is also a “substantial control” provision when these percentage tests are not met.
The Rules also provide that the effective tax rate of the foreign enterprise must be less than 12.5% (less than 50% of China’s tax rate) for it to be subject to the CFC provisions.
It is expected that considerable additional guidance will be provided later.
• Interest on tax adjustments
The Rules provide for nondeductible interest to be charged on underpayments from 1 June following the tax year until the date of payment.
Where an underpayment arises from transfer pricing, CFC, thin capitalization or general antiavoidance rule issues, the interest charged will be computed in accordance with the standard RMB loan interest rate for the same period as the underpaid tax published by the People’s Bank of China, plus an additional 5%. Based on the current rates announced by the Peoples Bank, the combined rate is likely to be 12% or higher. Note that the additional 5% will not be charged where the underpayment relates to transfer pricing and all documentation requirements have been satisfied (including the contemporaneously required documents).
• Statute of limitations on transfer pricing and general anti-avoidance adjustments
For an adjustment involving transfer pricing or the general anti-avoidance rule, the tax authorities have the right to make tax adjustments within 10 years from the tax year in which the transaction occurred.

Tax Accounting and other rules applicable to all enterprises
• Direct and indirect foreign tax credit
The Rules provide for a country-by-country foreign tax credit limitation with a five year carryover for any unused credits. With respect to the ability to claim an indirect foreign tax credit, a greater than
20% direct or indirect ownership interest is required in each foreign enterprise. Future guidance regarding whether the benefit of the indirect foreign tax credit will be limited to a certain number of tiers of foreign enterprises will be necessary.
• Sourcing of income
The Rules provide relatively detailed guidance for the sourcing of various types of income, including income from the sale of goods, the rendering of services, the transfer of moveable property, immoveable property, and equity interests, dividends, interest, rents and royalties.
• Income and expense recognition
The Rules provide relatively detailed guidance on numerous issues. For example, as a general rule, the accrual method will be applied to the timing of income. However, more detailed rules are applied to a number of categories of income such as dividends (time of dividend declaration) and rents and royalties (time when payments are made as agreed in contracts).
• Treatment of purchased goodwill
While the Rules provide generally for the amortization of intangible assets, they specifically provide that goodwill is not amortizable and can only receive tax recognition when the entire assets of an enterprise are sold or when the enterprise is liquidated.
This treatment suggests the importance in any asset acquisition of identifying the specific intangibles acquired to minimize the quantum of goodwill.
• Liquidation income and character of liquidation proceeds
The Rules provide that a liquidating enterprise immediately prior to liquidation must calculate any gain represented by the fair market value of total assets in excess of the tax bases of those assets.
In addition, rules are provided under which liquidating distributions to the extent of each equity holder’s share of retained earnings and reserves will be classified as dividend income. Any excess over this amount and the investment’s cost will be gain or loss from the transfer of the investment.
For China resident equity holders, the treatment of a liquidating distribution as dividend or gain/loss will have important tax consequences because most dividends will be received tax-free by such equity holders. For nonresident equity holders located in treaty countries, the treaty’s dividend withholding and capital gain provisions may create different taxation depending on circumstances.
• Exemption for dividends paid by resident enterprises
The exemption for dividends paid by resident enterprises to other resident enterprises and to foreign enterprises maintaining an establishment in China will not apply where the shares held are publicly issued and have been held less than 12 months.

Areas of Delayed Guidance—Summary
• Ratcheting of 15% rate over five years to 25% for grandfathering of incentives
It has been discussed that grandfathering would apply to both the “2+3” exemption (two year exemption from tax and three years of half the regular tax rate) and for enterprises enjoying certain geographic incentive rates (often 15%). For those enterprises that paid at this 15% rate, we understand that the 15% rate would ratchet up to 18%, 20%, 22%, 24% and 25% in 2008, 2009, 2010, 2011 and 2012, respectively. These rates were not included in the Rules, but should be separately released at some future time.

Numerous non-manufacturing enterprises located in Pudong have enjoyed a 15% tax rate despite there being no official national law providing for this beneficial treatment. It has been discussed that the grandfather rule may not apply to such enterprises so that their tax rate will rise immediately to 25% in 2008.
• Treatment of enterprise restructuring and liquidations
Earlier drafts of the Rules included a section covering corporate reorganization and liquidation transactions. Presumably due to the complexity of this area, the section was withdrawn and is expected to be issued as a circular or other document in the future.
In general, the earlier drafts provided a general rule for enterprise restructuring transactions that gains or losses would be recognized at the time the transactions occur. Deferrals of gain or loss recognition or other special treatments, though, were provided for certain debt restructurings, mergers, splits and exchanges. The rules contemplated where appropriate carryover or substituted bases, as well as net operating loss transfers in mergers and splits.
The earlier drafts also included an elimination from 1 January 2008 of the present intra-group reorganization exemption that has often allowed investors to move the ownership of their Chinese subsidiaries from one holding company to another outside China at cost so that no taxable gain would be recognized. It is expected that this change will be reintroduced in the near future.
• Exemptions for royalties, interest, etc., earned by nonresidents
The Rules include specific exemptions only for interest on government-to-government loans and preferential loans from international financial organizations. The State Council may approve other exemptions in the future, for example, perhaps royalties paid for the use of advanced IP.
• General anti-avoidance rule
The Rules are totally silent on this important subject.
• Safe harbors under thin capitalization rules
While earlier drafts had provided certain safe harbor debt/equity ratios, the final issued Rules eliminated them. We expect that ratios that vary by industry may be issued in the future.
• Taxation of enterprises that are partners in Chinese partnership enterprises and characterization of foreign partnerships
As from 1 June 2007, enterprises have been able to become general and limited partners in the new Chinese partnership enterprise. Future guidance is expected on the taxation of enterprise partners, particularly for foreign enterprise partners.
The Rules are unclear regarding whether a non-Chinese partnership that maintains an establishment in China or that earns Chinese-sourced income should be treated as a taxpayer or as transparent, in which case the partners would be the taxable persons under the New Law rather than the partnership.

The below information is courtesy of The JLJ Group.

Recruitment in China  Updated: July 2010

The below information is courtesy of Dezan Shira & Associates Consulting Firm.
Updated: January 2008

A new labor law

Employer’s liabilities

Written forms

Probation period

Confidentiality clauses

Non-competition

Fixed and open-ended contracts

Part-time employment

Payment of wages

Union and employee representatives

Collective dismissals

Company rules

Staffing agencies

Unresolved issues

National Holidays 2008-2009

A new labor law
On June 29, 2007, the Standing Committee of the National People’s Congress adopted the Labor Contract Law of the People’s Republic of China, set to come into effect January 1, 2008.
The law applies to all employers within the People's Republic of China. The provisions prescribed by the law are meant to discourage employers from signing short-term labor contracts and will have a direct impact on employment costs. The aim of the new law is to improve the employment relationship, clarify rights and obligations of employees and employers and provide more stability and security for the employees in the PRC.

However, our experience has shown that these rules are poorly enforced, particularly in rural areas. In spite of existing labor laws, companies still underpay their staff, require them to work for extreme periods of time without rest and ignore health and safety measures. Many cases in which we have conducted due diligence with companies in China, we have come across non- or under-payment of wages or social welfare. This can be especially dangerous when acquiring companies or parts of companies as one may acquire all the liabilities as well.

Foreign investors have to be in compliance with all the laws and regulation of the PRC – even if local Chinese companies are not. Foreign investors are the number one target of legal and financial control mechanisms in China. Before the Chinese authorities check local companies' compliance issues, they will check the foreign investor. Therefore, a foreign investor has to make sure they are in compliance with China’s often changing laws and regulations.

If you are not sure that you are in compliance, you are well advised to work with someone who can help. Make sure that your Chinese documents are in compliance with all laws and regulations. You are in China, only the Chinese version is the binding one.

Employer’s liabilities
Employers are liable for damages caused by invalid contracts, lack of mandatory minimum content in labor contracts, violating laws by company rules or failure to issue termination certificates. Penalties can be imposed by the authorities in cases where the employer keeps the employees ID card or collects security deposits from their employees, and when salaries are not paid in time or below the locally stipulated minimum levels. The same is true of nonpayment or no additional rest time for overtime work and nonpayment of severance pay after termination or expiration of labor contracts.

Items that must be included in the labor contract

•  company name, address and legal representation
•  employee’s name, address and personal ID number
•  term
•  job description and location
•  working hours, rest and leave
•  compensation
•  working conditions
•  workplace safety/protection
•  protection for job-related hazards
•  social insurance

Written forms
Make sure that you have written contracts. A written contract must be signed by both parties to establish the employment relationship. If the employer fails to enter into a written contract with an employee for more than one month but less than 12 months, the employer shall pay the employee twice the salary for every month without a written contract.

As stated in Article 14 of the contract law, if there is no written contract concluded for 12 months or more after commencement of work, the contract is deemed to be open-ended. Oral contracts are only permissible for part-time labor. 

Well drafted labor contracts will become increasingly important. If a contract violates applicable laws, excludes the employees’ rights or relieves the employer from his responsibilities, the labor contract becomes invalid. The same rule applies when the employer exerts deception or coercion on the employee through the contract. Look for good advice if you are not familiar with these issues.

Probation period
The parties can agree on only one probation period that cannot be extended. The law requires employers to pay their employees at least 80 percent of their contractual salaries and not less than the locally stipulated minimum salary. The maximum probation period is based on the term of the contract, thus:

•  no probation period applicable if the contract term is less than three months (even if short term project)
•  one month, if contract term is between three months and less than one year
•  two months, if contract term is between 12 months and less than three year
•  six months, if contract term is more than three years

Termination of contract is only possible if the employee does not meet the recruitment requirements. The employer will have to explain the reasons for dismissal to the employee. In that case no severance pay is required.

The employee is obliged to give a three-day prior notice to the employer, before terminating the contract and during the probationary period.

Confidentiality clauses
Provisions on confidentiality with regard to maintaining the confidentiality of the trade secrets of the employer and to intellectual property may be included in the contract. If the obligations agreed in the contract are breached and cause the employer to suffer losses, the employee will be liable for damages.

Non-competition
The employer and employee may enter into a non-competition agreement; however, such an agreement should be limited to senior management personnel, senior engineers and any other employees having confidentiality obligations. There are no restrictions regarding the scope, the geographic area and the terms. The maximum duration of the non-competition period is two years. Non-competition is particularly critical for FIEs, as their projects often involve significant know-how and technology transfers. The non-competition obligation is tough: the employee is not allowed to work for a competing employer that produces the same type of products or is engaged in the same type of business. An employee is restricted from establishing their own business in order to produce the same type of products or engage in the same type of business. The employee is liable to pay penalties “as agreed” and for damages caused.

An employer has to pay for a non-competition agreement: the law requires “compensation on a monthly basis” for the employee during the term of the competition restriction after the termination or end of the employment contract.

Consider the use of non-competition clauses carefully – it could be an expensive but necessary burden. If an employer does not pay compensation, the employee will be released from any non-competition obligation.

Fixed and open-ended contracts
Different from earlier drafts, the termination rights between the fixed and open-ended contracts are the same. Open-ended contracts are concluded if:

* the employer and employee have mutually agreed to do so
* the employee has been working for the same employer for ten consecutive years
* the second fixed-term contract expires and the employee requests or agrees to renew the contract (please note that this only applies to fixed-term contracts entered into on or after January 1, 2008)
* the labor contract has not been signed for one year or more

Part-time employment
Part-time employees should work no more than four hours per day and no more than 24 hours per week for an employer. The maximum payment schedule is 15 days. No written contract is necessary and a part-time employment can be terminated at any time – monetary compensation is not payable.

Payment of wages
An employer is obliged to pay the salary, in accordance with the national regulations and the provisions of the employment contract, on time and in full. Under the current law, employees must hand in their complaints against unpaid wages at a labor arbitration tribunal; from 2008 onwards, they will be able to ask the court directly for an order to pay.

Unions and employee representatives
Unions and employee representatives protect the interests of workers. They may organize collective bargaining and have to be “consulted” on many instances, even though their agreement is not mandatory. They must be involved in mass lay-off and company policy making. Unions have to be informed if the employer unilaterally terminates labor contracts or establishes changes in regulations and policies concerning immediate interest of the workers, such as labor compensation, work hours, rest, work safety, insurance, and training. The trade union may render support and assistance for employees that apply for labor arbitration or file for litigation. Unions will enter into collective contracts. Industry-wide or regional collective bargaining is encouraged by the new law. A collective contract is binding on all companies or employees in the industry and/or region concerned. The stipulated terms must be above minimum standards specified by local regulations. Employees hired through staffing agencies are also entitled to participate in or organize trade unions.

Collective dismissals
Mass layoffs (20 or more employees or 10 percent of the total workforce) are only permitted if the employer has consulted the union or employee representatives, and proposed the action to the labor departments in accordance with the law. Collective dismissals are only allowed if one of the following reasons applies:
•  the company is undergoing restructuring according to the Enterprise Bankruptcy Law
•  the manufacturing or operating capacity of the enterprise is severely limited
•  the enterprise switches its mode of production, introduces major new technology or adjusting its operations and, following modification of employment contracts, still needs to retrench employees
major changes have occurred in the objective circumstances under which the labor contracts were concluded, such that the contracts could no longer be performed.

Priority must be given to employees who have a long fixed-term contract, open-term contract, or are the sole breadwinner in the family. If the employer decides to recruit within six months of a mass layoff, the dismissed employees should be notified, and if they accept the same conditions as new applicants, must be given the position.

Company rules
A specific procedure must be followed in order to validly adopt company rules. The terms and conditions must be discussed by the employee representative congress (ERC) or employees at large. The ERC/employees at large will put forward proposals or comments. The management then negotiates with the ERC/union and publicly communicates the new regulations and policies to the employees. Any charges or revisions to the company rules must follow the same procedure.
 

Staffing agencies
The new law affects representative offices which use the service of FESCO or other staffing agencies. The requirements for the agent are the following: RMB500,000 minimum registered capital, two year contract with employee with monthly pay, even without actual employment.

A company using staffing agencies services will have to pay overtime and performance based bonus and benefits, and apply the same pay standard and pay increase mechanism for all employees. The company may not send the employee to another entity than agreed in the contract. Please note that the agent and the company are both jointly and severally liable for a breach of contract.
 

Implications of the Labor Contract Law for foreign invested entities
The ultimate consequence of the new labor law will be the effective abolition of fixed-term contracts. Every fixed-term contract that expires creates a severance obligation. Without paying compensation, a problem employee cannot be dismissed. Business costs will rise due to the higher expenses for hiring and terminating staff. Increasing obligations and legal requirements lead to declining employment flexibility and rising employment risk. However, those who have intently followed the previous drafts will notice that the cost increases could have been even higher. Companies will need to reassess their China HR capability and decide if someone should be designated to handle labor issues, if they do not have an established department. Possible solutions could be outsourcing or part-time employment. In all cases you should act with caution, especially when drafting contracts and company policies. Consider hiring a professional advisor to make sure contracts are in compliance with the new law and to avoid unnecessary administration and legal costs due to incomplete or worse, invalid contracts.

Besides drafting the contracts and revising the pay structures, companies can also be proactively involved in the process of establishing an employee representation committee (ERC) or unions in order to build a strong and trusting communication basis. As collective bargaining will be reinforced, a good relationship with the ERC/union advances cooperation and may help influencing their decisions. The Labor Contract Law improves the power of unions and serves to inform employees better of their rights, which might encourage workers to do more to enforce better working conditions. The law is aimed at changing unfair labor practices that are not employed by most foreign companies (e.g. confiscating employee ID cards or collecting a security payment to detain them is common practice in Chinese entities).

Employers should...
•  make themselves familiar with the new Labor Contract Law
•  prepare basic contracts for new employees that meet the new legal requirements (in Chinese)
•  prepare or revise employee handbooks
•  review existing contracts and pay structures (open or fixed-tem, non-compete/confidentiality clauses, probation period arrangements)
•  update or draft company rules 
•  establish an employee register and draft a termination certificate
•  review cost impact and create annual provisions (severance, compensation)
•  have HR connect with the union/worker representation (expect collective bargaining, involvement in policy decisions)
•  plan for increased labor costs in the near future
•  extend existing contracts
•  communicate and sign new contracts will all employee before 2008
•  review staffing agency arrangements (check for outsourcing options)

 The government of Jiangsu province, The People's Republic of China and the government of the state of Israel have signed a bilateral agreement on 2008, to form Jiangsu – Israel program for Industrial R&D with a primary aim to support joint industrial R&D projects aimed at development of products or processes leading to commercialization in the global market.