Ms Flora Luo
Dr. Scott Heidecke
When a foreign investor or parent company decides to shut down the operations of a wholly foreign-owned enterprise (WFOE) subsidiary in China, it is crucial to follow the formal legal process for liquidation and deregistration.
Failure to properly liquidate and deregister a foreign-owned company in China can have dire consequences for the parent company, and for the Legal Representative of a WFOE. There are three phases to terminating a WFOE, including liquidation, tax clearance, and deregistration, which in total require a minimum of nine months to complete.
The liquidation process for a solvent WFOE requires many steps that must follow a precise timetable. Firstly, the WFOE’s board of directors must draft a resolution to terminate the operations and appoint a liquidation committee. Following notification to local authorities and creditors, a pre-liquidation audit will determine the WFOE’s assets and liabilities, from which a liquidation plan is created. Where liabilities exceed assets, the WFOE must enter into bankruptcy liquidation, which is controlled by the courts. A solvent WFOE may sell its fixed assets and use proceeds to pay off liabilities. Finally, a second audit and completed liquidation report must be submitted to authorities for approval.
During tax clearance, a considerable amount of documentation must be submitted, including the current year tax return, the liquidation tax return, a VAT settlement for liquidation activities, previous statutory audit reports, and other documents as requested. Tax officials may scrutinise up to ten years of tax filings and supporting documents, especially regarding related party transactions and transfer pricing practices. It is therefore extremely important that a WFOE maintains complete and accurate records throughout its operational period.
After tax clearance, the WFOE proceeds to cancel registrations with a variety of government agencies. As part of this process, the originals of the various registration certificates must be returned, so it is critical that the originals be safeguarded during the operational period. When this process is completed, remaining WFOE assets/funds may be remitted back to the foreign investors.
Winding up a WFOE in China is a complicated process, strictly governed in accordance with the relevant laws. The foreign investors of a WFOE are strongly advised to follow the laws and proper liquidation procedures rather than attempting to abandon the investment. If a WFOE fails to do so, the Legal Representative can be pursued for all outstanding debts and/or taxes, penalties and interest owed to the government, while the foreign investors can face penalties and be banned from conducting any business in China for lengthy periods.
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