I wrote this article originally for China-Briefing, but this is an excerpt which I think is very relevant for all small to medium sized businesses thinking about registering in China.
One of the most common, and most serious, problems with China Foreign Invested Enterprise applications is the issue over registered capital. This is a much misunderstood area. Confusion exists, and many ill-advised investments are made in China due to misinterpretation of the local governments term “minimum registered capital.” This is not supposed to be a ruling on how much you need to invest. Actually, the amount of registered capital needed in the business depends on a number of different factors.
Location – Some regions in China apply different levels of capital requirements than others to reflect their lower or higher regional operational costs.
Scope of business – For certain industries or services, the applicable registered capital amount can be quite high. This is sometimes used as a protectionist tool to discourage foreign investment, and is sometimes used to ensure that only the right standard of international business can enter the market to ensure the quality of the applicant. Note that if some existing businesses wish to expand their current scope of business, it may be required to increase the amount of registered capital.
Cash flow – This is critical and often overlooked. Registered capital is also required to fund business operations until it is in a position to fund itself. Generally speaking this should be catered for in the feasibility report – a business plan type document that is submitted to the authorities as part of the application process. In the rush to attract new investments many government agents do not pay much attention to details of this report. Often the happy foreign investor will naively assume he’s gotten a great deal due to “minimum amounts” being identified as all that is required. However, the business can come to a shuddering halt if the registered capital amount is insufficient to support the operations cash flow. It is also not just a simple matter of wiring additional funds to China.
The procedures to be followed include:
- Application to increase the registered capital with the original licensing authority
- Application to the State Administration of Foreign Exchange to transfer funds into China bank to fund transfer
- Capital verification
- Reissuing of business license reflecting above; this is important as the registered capital amount is also the limited liability status of the business
- Update other licenses at various government authorities for registered capital amount
These steps take between six to eight weeks to fulfill. If you have already run out of operational money, you by now have not paid your staff, your suppliers, and possibly your utilities for two months. In effect, your business has been throttled before it even had a chance to breathe. It is vital you properly capitalize your business in China in accordance not just with government guidelines over “minimum registered capital,” but also with regards to pure economic and operational realities.
Businesses can and do go broke in China because of this issue, and unscrupulous consultants may not always advise on the matter as they seek to gain more fees from you in terms of sorting the problems out when they arrive, or because they are just in the business to make a quick buck out of handling your registration processes without putting any thought into the business aspects of your operations. The catch here is that if you do run out of cash flow due to undercapitalization, you can wire money to the businesses capital account. In doing so, China’s tax bureau will regard this as taxable income, meaning you incur an additional tax bill purely for refinancing your business. It’s an obvious waste. Calculating the required registered capital properly in advance will save a lot of headaches and an unnecessary loss of capital later on.
