Buying a Customized Cake is Too Complicated in China

Most of the time I prefer to write about the cultural differences in the Jungle and how they impact foreigners doing business here. Sure, I can write about the law and it’s changes and provide a list of things that you must do if attempting to do business here. As I have said before, there are many other websites that do this and at the end of the day you probably don’t want to know or don’t care and in fact should leave this to your lawyer and concentrate on your business.

With that in mind, I had an interesting experience recently when I went to buy a birthday cake for the 237th birthday of the United States Marine Corps. As a former Marine, it is a tradition to celebrate the birthday each year and I thought I would have a cake made and share it and some drinks with some friends here in the Jungle.

So I marched into the cake shop with my assistant, who is a very competent translator (I can speak and understand Chinese, but not cake Chinese as it’s not something I usually need to talk about) and a detailed diagram of the cake that I wanted. You would have thought that I wanted them to make a nuclear reactor or enrich uranium.

They immediately said no. So I asked why and they said “we don’t have a box that big.” I was asking for a plain white sheet cake with some writing on top. "So, you don’t want my money because you can’t figure out what to put the freakin cake on? I’ll bring my own box" and that led to “okay go get your own box and come back and then we will make the cake.” "How about you make the cake and then I’ll bring the box when I pick it up?" “No, we need the box now.” "How about if you take two of your boxes and put them together and then you will have one box?" The look they gave me was the same look I get from my clients when trying to explain the intricacies of cross border mergers and acquisitions and the impact of the Internal Revenue Code.

Okay forget about the 30 second chore of putting two boxes together, I’ll bring a box tomorrow when I come. “Okay.”Whew, crossed that hurdle. “Now what kind of cake do you want?” It says right there on the intricate diagram that I drew. HAPPY 237th BIRTHDAY and then the Marine Corps Logo below it. “Okay?” So, I stood there for a few minutes because when they say “Okay” in the Jungle, you should be nervous. Then they did nothing but just stand there staring at me like I had three heads. Okay, so do you want to write this stuff down? “Okay” Nervous. So, I started telling them how to do their job. I will pick up the cake at 4 pm tomorrow, is that okay? “Okay” Nervous. How much will it cost? “68 RMB per pound.”

And, would you like to tell me how many pounds it’s going to be? “Oh, about seven pounds”. So, I’m paying the equivalent of $70 dollars to get a 14×14 sheet cake? “Yes, that is the price”. Okay, nervously. So, they proceeded to write everything down and then we moved over to speak with the actual baker, who was within three feet of us during the entire 1 hour conversation to make sure he understood. I provided him with the diagram and a color copy of the logo. Here we go again. “We can’t do this.” Why? “We don’t have a box big enough” I’ll bring my own box. “Yes, but I don’t have anything to put the cake on after I bake it.”

How about you put two of those flat pieces of cardboard together and then you can put it on that. “Grunt, okay” “Now where do you want the writing?” Exactly how it is shown on the diagram. “Okay, I can write it in black” Okay. What about the logo? “I’m going to cut out the piece of paper you gave me and put it on top of the cake, where do you want it?” You gotta be kidding me, you need to make the logo out of that edible writing stuff that cake makers use. Haven’t you seen the Cake Boss? “I can’t make the logo.” Why not? “Too difficult.” Well just make it close. “Okay” Nervous. “I can make it in black only.” Why? “It’s the only color we have.” You gotta be kidding? “No.” Okay just don’t put a logo on there and I’ll figure out something later. Well, this went on for another hour, and fortunately I was joined by a Chinese-American friend who has infinitely more patience than me and figured out a way to make the logo out of chocolate from a local friend of his.

If it wasn’t for his help I would have never got the cake and in the end it turned out awesome. So, this story isn’t about the law or how to structure a cross border acquisition or even how to comply with the confusing tax regulations in the Jungle.

It’s about the difficulty of doing business here and how something as simple as ordering a birthday cake can be a huge ordeal. Imagine purchasing custom products from a manufacturer or entering into a Joint Venture with a Chinese company or bringing your products into this market.

A great deal of patience along with competent advisors to help you will save you time and money, but most of all sanity.

By Frank Caruso. Chair, China Practice Team

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To contact IPG send an email to: SeanHayes@ipglegal.com

Happy Lunar New Year: From IPG Legal

IPG Legal is an international Asia-focused law firm and business advisory focused on assisting clients in entering and succeeding in Asian markets, including China, Korea, Hong Kong and the majority of nations in Southeast Asia.

This past year, among other projects, we are proud to have:

• advocated for a Fortune 500 company on an ongoing trade dispute with Korean conglomerates.
• advised international franchise companies in expansion in Asia.
• advised a high-tech agricultural business in a joint venture with a Korean manufacturing company.
• prevailed in nearly all of our shareholder, international sales, IP, employment and other commercial and contentions disputes.
• advised a major Korean entertainment company on the majority of its overseas projects.
• completed a merger between a major Korean technology company and a Chinese government-controlled corporation.
• successfully raised funds for growing major corporations through traditional lenders and private lenders.
• been recognized by international rating companies as one of the leading law firms in Asia.

Please feel free to subscribe to our Korean Law Blog and/or Asian Law Blog.
Click Here to Subscribe to The Korean Law Blog
Click Here to Subscribe to The Asian Law Blog

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To contact IPG send an email to: SeanHayes@ipglegal.com

Increasing Protests in Shenzhen, China: What is Their Exit Strategy?

I have been writing for many years on the changes that have occurred here in the Jungle. I have seen China and specifically the Pearl River Delta undergo dramatic changes since I first arrived ten years ago and counted 80 construction cranes outside of my hotel room window.

Many of the changes have been positive and I often congratulate the government here for the work they have done in improving education, infrastructure and of course the rule of law. I leave the criticizing for the pundits and observers who don’t have to operate here and travel freely in support of their clients.

However, the Jungle continues to develop and at the governments’ behest it is moving from a manufacturing economy to a consumer economy, much like its Western predecessors, and with that change comes growing pains and tidal waves. This week has seen some big waves that have affected some of our clients whose government is at odds with the government here (we’ll let you figure that one out) over island and territorial disputes.

It seems that while the governments do their thing to resolve the matter, the inhabitants of the Jungle have taken matters into their own hands and destroyed their businesses, attempted to destroy their brands and forced them to close just because their government is at odds with the Chinese government.

At least eight cities here in the Jungle have seen not so friendly behavior which includes the destruction of private property and looting. We have been called on to help their management and employees deal with the threats and the stress involved and will undoubtedly be asked to help clean up the aftermath and deal with the various governments and the police as we are often asked to do when foreign companies in the Jungle run into angry inhabitants.

While your company or operation is chugging along and your business is operating without any problems, this is a good time to start thinking about what you will do when there are problems – and there will be problems. I don’t know how many times I have come across prospective clients who are shocked that the people they are doing business with in the Jungle don’t share the same morals as they do.

Now is the time to review your risk management plan, your exit strategy (if you have one) and to review your overall business and short and long term objectives here in China. We understand business first and we know how to help your business survive and profit here in the Jungle and we also know how to help you exit. Better to be safe than sorry.
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To contact IPG send an email to: SeanHayes@ipglegal.com

Which Visa Must Your Employees Have?

China has passed a new law to take effect July 1, 2013. According to government officials, these rules are not new but simply codify current law enforcement practices. In summary, non-Chinese citizens who are found to be working in China without a work visa or residence permit will be fined and possibly deported. The employer will also face fines for having a foreigner working for them.

One large change is that the requirement for remuneration has been removed from the law, now focusing on whether the foreigner is “working.” The new law does not repeal theForeigners in China Provisions, which does retain the definition that working is social work for the benefit of labor remuneration. Calls to law enforcement and immigration ministries have provided no detail on what is considered “social work.” All departments have replied that they will determine each case on an individual basis. From our experience, working has meant receiving payment for goods or services from a Chinese company or individual. The new wording implies that simply being seen in an office on a computer will be enough for the police to question you although we won’t know until next year. 
Worse, the new law now expressly authorizes deportation for foreigners for illegal work. In comparison, those who simply stay in China longer than their visa allows will be given a warning and on subsequent violations a fine of up to 10,000RMB. Severe cases, which are at the government official’s discretion to determine, can incur a 100,000RMB fine and detention for 15 days. Those who are “unsuitable” to remain will be given a deadline to leave, and will not be allowed to return for 1-5 years. In severe situations (again, at the discretion of the government office), the foreigner will be deported. After deportation, the foreigner will not be allowed to enter China again for 10 years. This is in addition to a fine on any company the foreigner worked with of 10,000RMB plus the confiscation of any income earned by the company from such work.

This new law will also likely make receiving a visa more difficult as well. The regulation states that a visa should not be issued to a person who is likely to engage in activities prohibited by their visa (link in Chinese). Thus, anyone entering China on an L visa (also known as a tourist visa) that has been renewed several times without leaving China for a significant amount of time will be suspect. The new law also forbids officials from stating the reason for denying a visa, leaving foreigners with little ability to appeal denials.

So what can a foreigner do to avoid the penalties and possible deportation? The best thing a foreigner can do is get an employment visa instead of the common tourist or business visa, especially if they are planning on staying long term in China. For those people who stay in China for business reasons, the best option is often to set up a company in China and work as the manager. While the initial investment to set up a company will vary depending on the industry, people who plan on staying in China for more than a year find the investment will pay for itself in peace of mind. This strategy has the added bonus of making sure Chinese partners can’t report you as working illegally in order to take over your business.

With experienced legal counsel, a foreigner can live and work in China without fear for many years.

Posted by Frank Caruso at IPG.
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SeanHayes@ipglegal.com

Another Reason for Establishing a Company in Hong Kong for Entering the Chinese Market

As those of you who have read my blog over the past 6 or 7 years (I can’t even remember how long I have been writing it) you know that I have always been a big fan of Hong Kong. Ever since 1989 when I sailed into Hong Kong on U.S. Navy ship as a young U.S. Marine Officer I have been enthralled with the city.

While the dramatic beauty of Central and the sky scrapers overlooking Victoria Harbor against a backdrop of lush green mountains, the iconic Star Ferry and other attractions make it my favorite city in the world, it is the business climate and rule of law that make it the best place in the world to do business.

I have written about this in Hong Kong and the Rule of Law and Hong Kong Phooey and numerous other articles on the topic. I also advise my clients from all over the world on using Hong Kong as the only legal corporate structural platform for their entry into China and South East Asia. Well, we now have another reason to support Hong Kong as a market entry, financial and administrative center for China operations – regardless of the scope of business.

China’s State Administration of Taxation just announced a change in the rules governing the withholding tax that foreign investors pay on dividends repatriated from their share of investments in Chinese companies. Companies and shareholders based in countries outside Mainland China (such as the United Kingdom, Hong Kong and Singapore) that have double taxation agreements (DTAs) with China will only have to pay 5% in withholding tax on the dividends they receive from Chinese companies, instead of the usual 10% payable by companies and shareholders resident in countries without DTAs (U.S. and many EU companies).

Although the reduced rate has been available for several years Hong Kong holding companies did not meet the ‘substantial business activity’ requirement which has in effect been removed. So, now there is even more reason to use Hong Kong as the structural platform for you operations in China and beyond.

Posted by Frank Caruso, Chair China Practice Team at IPG.
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SeanHayes@ipglegal.com

Taxes on U.S. Citizens Residing Abroad

Everyone wants to avoid taxes and only a few people really know how.  This goes double for US citizens who earn income in China.  This is because the US taxes foreign income as well as income earned within the States.  Even worse, the IRS requires any US person with a financial account overseas to register it with the treasury department, as long as such account has held over $10,000USD at some point during the year. This provision was meant to discourage the use of overseas tax shelters, but they equally apply to US people teaching English in China that have managed to save $10,000USD in their Bank of China account. And speaking from personal experience, the process is complicated because it involves both the IRS and the Treasury department.  Luckily, the filing can be done online, even if it is not particularly simple.

For those earning a salary in a foreign country, the most important exclusions to know about are foreign earned income and foreign housing exclusions.  For 2012, the foreign earned income exclusion is up to $95,100 and the foreign housing exclusion/deduction is 30% of the foreign earned income exclusion (but varies by location).  The housing exclusion applies to income received from an employer, and the deduction applies to self-employment income. The details for calculating the foreign housing exclusion/deduction are maddeningly complicated and beyond the scope of this article.  The foreign earned income exclusion is more straightforward as it directly excludes the income from taxes.   Most important to these exclusions is how to qualify for them.

First, you must be a resident alien or citizen of the United States.  Resident aliens are those who have Green Cards or who have been in the United States for a total of 183 days over the past 3 years, only counting 1/3 of days in the 2^nd year and 1/6 of the days in the least recent year. (That is the easy math. Imagine what the housing exclusion entails.)

Second, you must have a foreign country as your tax home.  This means you have employment in that country and it is where you permanently or temporarily work.  Business trips don’t count, but moving there to fulfill employment or contract work likely would. As a general rule, if you expect to be working in the country for over a year, it is your tax home.

Third, you must be in a foreign country for a significant time, determined by the bona fide resident test or the physical presence test.  Bona fide residence means you are living in a foreign country as a resident would for a full tax year. Each case is evaluated individually, but those who rent an apartment in a foreign country, live there 7 days a week, and only leave the foreign country for business and vacation with a clear intention to return to the foreign country, are almost certainly residents. The physical presence test is for those who live a long time in a foreign country but not the January-December tax year.  If you spend 330 days in a foreign country over a consecutive 12 month period, you meet the physical presence test.  Unlike the bona fide resident test, you could live out of your suitcase, travel through Europe to multiple countries for any reason, and as long as you spent 330 days outside the US you can meet the test.

Finally, you must have foreign earned income. Usually, foreign earned income is any income earned when you have met the tax home and bona fide residence/physical presence test. Foreign income also includes housing and meals provided by the employer, allowances such as cost of living or education reimbursement, and commissions earned. Money from the US government or a pension does not count as foreign earned income.
If all four factors are met, then you can use the exclusions and can avoid some or all US taxes on your foreign income.  Of course, if you have set up a company in a foreign country, the process is very different. 

Posted by Frank Caruso.  Chair, China Practice Team for IPG. _________
SeanHayes@ipglegal.com

Minimizing your Tax Liabilities in China

China is and will continue to be one of the most attractive markets for consumer goods.  With a population of more than one and a half billion people and a middle class of more than 300 million, that is projected to grow to at least 700 million in the next 20 years.  Based upon our experience in China and having been a part of the tremendous growth, we have seen that this emerging middle class, which is already larger than the U.S. population, is spending money like crazy and is not saving like previous generations.

Given that China is one of the only places in the world that has had double digit growth in GDP (except for this year which is still 8%), it has a burgeoning and spend crazy middle class, a developing legal system and excellent infrastructure, everyone should want to bring their products and services into this market.  It’s not that easy.  For many products, and services there are taxes.  China does not have a national sales tax on retail items like other countries and so it imposes import duties, value added taxes and consumption taxes which the importer, wholesaler or retailer must add to the price the consumer pays.  It’s all hidden, but, believe me they can be quite steep.  For example, the total duty on imported wine, which is the only wine worth drinking in China, is between 41 and 50% which can make many products cost prohibitive when compared to quality – the value is just not there.
And people think China is cheap!

I would offer that in the major cities in China, cost of living is higher than most cities in the U.S. and Europe and inflation has not stopped in the 10 years that we have been advising clients in China.  China aint cheap anymore, but, the domestic market where they don’t mind paying higher prices on quality items (that aren’t fake) is enormous and growing.

So, until the central government decides to either scrap it’s antiquated and cumbersome Value Added Tax “V.A.T.” system, which we don’t see that happening for a long time as too many people would lose a lot of money, or they lower the import duties and consumption taxes on imported products – there might be other ways to import products that are in high demand in China.

China and Hong Kong operate under a one country two systems arrangement that has been in place since the turnover in 1999.  Despite obvious cultural differences and the fact that there is a border crossing, most of us who do business in South China consider the two as one.  In fact, there is a treaty between Hong Kong and China which many people don’t know about that allows for Hong Kong companies and professionals to operate in China and also a few other things such as the duty free import of Hong Kong made products.  Below is a summary of the CEPA rules pertaining to importation of Hong Kong products which could provide a solution to the high import duties in China.
In order to enjoy zero tariffs under the Closer Economic Partnership Agreement (CEPA), goods exported from Hong Kong to Mainland China must fulfill the rules of origin and show evidence of being “made in Hong Kong.”

The execution of the rules of origin is detailed in the “Customs Provisions of the People’s Republic of China on Executing the Rules of Origin for Trade in Goods under the Mainland/Hong Kong Closer Economic Partnership Arrangement (haiguanshuling No.106, hereinafter refers as ‘Provisions’),” which was promulgated in December 2003 and came in effect from January 1, 2004. Under the Provisions, “Hong Kong” as the origin of goods shall be determined according to the following principles:

1. Goods entirely obtained in Hong Kong; and 
2. Goods “substantially manufactured” in Hong Kong if not entirely obtained in Hong Kong Goods entirely obtained in Hong Kong According to the Provisions, goods entirely obtained in Hong Kong include:

• Minerals exploited or extracted in Hong Kong
• Plants or related products collected in Hong Kong
• Animals born and raised up in Hong Kong and their related products
• Animals hunted in Hong Kong
• Fish and other sea products caught by ships with Hong Kong licenses and regional flags and their related products
• Waste disposal for recycling from and collected in Hong Kong
• Waste and scrap for recycling resulting from manufacturing in Hong Kong
• Products made out of waste disposal or waste and scrap mentioned above Substantial processing, transformation, or manufacturing The criteria of determining whether the products are “substantially manufactured, transformed, or processed” in Hong Kong should include the following:

Manufacturing or processing operations.  The goods should be endowed with essential characteristics after principal manufacturing or processing operations in Hong Kong.
Change of tariff number.  Change of tariff number refers to a change of the four-digit tariff numbers and taxation categories after the manufacturing or processing operation of non-Hong Kong materials in Hong Kong. Moreover, no further manufacturing or processing should happen outside Hong Kong.
Ad valorem percentage.  Ad valorem percentage is the ratio between the total value of raw materials, components, labor and product development that are fully acquired in Hong Kong, and the FOB value of the finished product for export.

• Ad valorem percentage = (Value of raw materials + value of components + labor costs + product development costs) ÷ (FOB value of finished product for export) Products with an ad valorem percentage equal to or greater than 30 percent, and with the last manufacturing or processing procedures completed in Hong Kong, shall be regarded as “substantial processing.” The following stipulations apply:

• Calculation of the above “ad valorem percentage” should be consistent with generally accepted accounting standards and with the “Agreement on Implementation of Article VII of the General Agreement on Tariffs and Trade 1994.”
• “Product development” refers to product development conducted in Hong Kong for the purposes of producing or processing the exporting goods. Incurred expenses for development shall be related to the exporting goods, including the costs for self-developing of the producers and processors, as well as the costs for the developing of consigned natural or legal person. The expenses also includes fees for purchasing designs, patents, patented technologies, trademarks or copyrights processed by a natural or legal person in Hong Kong. The concerned value should be clearly identifiable under generally accepted accounting standards and the provisions of “Agreement on Implementation of Article VII of the General Agreement on Tariffs and Trade 1994.”
• If raw materials or components originating from Mainland China are used and they constitute part of the export products in Hong Kong, when calculating the ad valorem percentage of the export product, the raw materials or components from Mainland China should be deemed to be originating from Hong Kong. The ad valorem percentage of the export product should be greater than or equal to 30 percent, and greater than or equal to 15 percent excluding the price of the raw materials or components from mainland. Other criteria The “other criteria” refer to other criteria agreed by authorities of both Mainland China and Hong Kong in determining the origin of the products, besides the three above-mentioned criteria.

Mixed criteria. The “mixed criteria” means that two or more of the above-mentioned criteria are used in determining the origin of the products. Manufacturing or processing for the purpose of transporting or storing the goods, facilitating the packaging of the goods, or better packaging and displaying the goods is not considered as “substantial processing, transformation, or manufacturing.”
Simple diluting, blending, packaging, bottling, desiccation, assembling, sorting or decorating will not be regarded as “substantial processing, transformation, or manufacturing.”

Package, packaging materials, containers and accessories, spare parts, tools and explanatory materials accompanying the goods should be ignored in determining the origin of the goods.

by Frank Caruso
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SeanHayes@ipglegal.com
IPG is engaged in projects for companies and entrepreneurs doing business in Bangladesh, Cambodia, China, Korea, Laos, Myanmar, Vietnam and the U.S. www.ipglegal.com _________ SeanHayes@ipglegal.com

Protecting your Reputation in China: Copied Products

You know that I like to write about the various copied products that are made here in the Jungle.  I usually find things like copy salt and eggs to be humorous, but, in this case it is not funny as the lives of civilians and military personnel are on the line when counterfeit parts are sold to the U.S. and other armed forces.

After a year long investigation, where we advised the Senate Armed Services Committee on the real problem with counterfeit parts and the harsh reality of counterfeiting in China, the SASC released its report which you can find a synopsis here with the full report being available on the SASC website soon.

While one of the objectives is to place the blame squarely on the counterfeiters in China, there is little legal recourse available and given that most companies that purchase electronic components from China know that many of the parts are counterfeit, they look the other way and pass the parts up the Defense Department supply chain.  Up until now, that hasn’t been much of an issue and the reward far outweighed the risk.

Of course cost is an issue when there are four or five companies involved in the supply chain and each one has to make some margin on the product.  However, an easy solution, to this problem, would be to ensure that the parts are inspected by a reputable third party electronic component inspector, such as the non-Chinese owned Whitehorse Laboratories who has been warning everyone of this problem for years and was also involved in advising the SASC on this matter.

As the Justice Department and various enforcement divisions of the Defense Department and Department of Homeland Security begin investigating defense contractors and component suppliers and this has already begun and will be ramped up considerably in the near future, the simple solution is to test the components and have agreements in English and Chinese with the Chinese suppliers that provides for recourse.

The penalties for supplying counterfeit parts are set forth in the recent National Defense Authorization Act which you can find a summary here and investigation and enforcement has begun.
While the SASC and the State Department will continue to pressure China to wipe out counterfeiters, it will not happen.  Counterfeiting and copying is woven into their DNA, especially in certain parts of Guangdong Province where even the late Chairman Mao had a difficult time trying to control the leaders who ruled this region.

So, what can you do so that your company will not be investigated and fined.

1.  Have a sample of the parts tested by an independent and professional laboratory.
2.  Purchase from reputable vendors in China and have written agreements with them which could be as simple as purchase order terms or terms of purchase on your website in English and Chinese.
3.  Keep records of the efforts you make to ensure that you are not passing on counterfeit parts.
4.  Don’t trust your Chinese employees to handle any of the above and if you do, supervise, supervise, supervise.

More on this as it develops.  Be vigilant.
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SeanHayes@ipglegal.com
IPG is engaged in projects for companies and entrepreneurs doing business in Bangladesh, Cambodia, China, Korea, Laos, Myanmar, the Philippines, Vietnam and the U.S.
www.ipglegal.com

Yachting Industry in China

I like to write about my clients who try.  Now, they don’t always succeed and when they don’t it is usually because they were too early or the market factors weren’t what they expected and a few other reasons, as believe me, they were prepared legally to enter the fray here in the Jungle.  It turns out that the clients of mine that are entrepreneurial, using their own money and taking their own risk are my favorites and they turn out to be some of my best friends.  I wrote about Jame Guo and Ben Hart on my blog a few years ago when they launched the first sailboat that they built in their factory north of Shenzhen.  I was honored to be invited to the launching and when they put the beautiful 48′ foot cruising sailboat in the water I was also very proud of them because it is difficult – extremely difficult.

Now, more than two years has passed and 8 sailboats have been delivered and are comfortably sailing the seas.  I had the opportunity to go on an afternoon sail on their brand new 52′ Farnova Catamaran this past weekend and once again I was honored to be included and equally proud of my friends and clients.  Now, I prefer mono-hull sailboats because it just feels more like sailing, this new Catamaran was just about the most comfortable sailing yacht I have ever been on.

While it’s not easy to build a shipyard from scratch and begin making insurable and sea worthy vessels that people want to pay lots of money for – Ben and Jame at Farnova have pulled it off.  Not only are they making beautiful sailboats, but they recognize that the domestic market in China will continue to grow and the Chinese consumers will purchase more sailing yachts.  Congratulations to Farnova and we are happy to have you as a client.

By Frank Caruso, Chair of the China Practice Team at IPG.
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SeanHayes@ipglegal.com
IPG is engaged in projects for companies and entrepreneurs doing business in Bangladesh, Cambodia, China, Korea, Laos, Myanmar, the Philippines, Vietnam and the U.S. www.ipglegal.com