Op-Ed Commentary: Chris Devonshire-Ellis and Richard Hoffmann

Mar. 5 – One symptom of the tightening of China’s economy and the impact of labor law is an increasing desire by Chinese employers to offset or reduce potential liabilities with their expatriate employees, such as expatriates employed by domestic Chinese companies being asked to establish an offshore company and to be paid through that in order “to help reduce the company tax burden.”

However, in doing so, expatriate employees may wish to consider that such moves are purely for the benefit of the employer and are certainly not for the advantage of the expatriate. Eschewing a perfectly good employment contract, in which the employee – including expatriate – rights are enshrined under China’s labor laws is not to the expatriates benefit. In fact, for expatriates who would undertake such a scheme, it would change the employee status by removing them from the payroll as an employee and onto a service contract as a company. This removes all labor law obligations towards the employee and does away with any need to pay them compensation, severance, etc. as would otherwise be due under China’s labor laws.

It also makes it far harder for the employee to press any claims against the employer (such as non payment of wages and so on) as it would then become a cross border company dispute and not a China employee-employer one. It does remove the China tax contribution as an employer towards the employee, but does not do the same for the China based expatriate, who would still be liable for income tax at the prescribed rate while being based in China. It also brings into question the responsibility of which entity would issue work permits, visa and so on.

There is also the tax aspect. Chinese employers, in order to remit money to what would now be an offshore entity, will need to submit your contract for services to the tax bureau for assessment. This is mandatory for all Chinese companies as specific State Administration of Foreign Exchange approval is required for all remittances external from China. Without such clearance, payment to an offshore entity cannot be made.

In most cases, this assessment is likely to result in the imposition of withholding tax. Commonly, this is about 20 percent, but for some services can be far higher. However, it should be noted that if remaining resident in China, the employee still has the same individual income tax burden as before. Removing yourself from an employment contract in China to a services contract offshore not only increases your risks in terms of lack of protection under China’s employment laws, it also significantly increases your tax burden.

In short – being asked to move from an employee based arrangement to an offshore company service contract based arrangement is generally a very bad idea, and does not bode well for the employee. In doing so, there are also the additional costs of purchasing and maintaining an offshore company. Expatriates in China faced with such situations are advised to tread very carefully indeed should such concepts be introduced to them.

Chris Devonshire-Ellis is the founding partner of Dezan Shira & Associates. Richard Hoffmann is the senior legal counsel in the firm’s Beijing office and is familiar with China’s labor law. Expatriates facing questions over their employment status in China may contact Richard at legal@dezshira.com.

Chris also contributes to India Briefing , Vietnam Briefing , Asia Briefing and 2point6billion