WFOE Setup & the “Actual Controlling Person” Requirement

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WFOE Controlling Person Regulation to Foreign Companies

Learn about the new WFOE controlling person regulation:
  • Requirements to comply with the WFOE controlling person regulation
  • What is the business impact?
  • What can be done?

Over the past couple of years, China has made a number of changes to the rules for foreign company setup, investment and operation. Most of these have reduced red tape and improved the situation for foreign companies; an expected but nonetheless well received consequence of China’s growth and development.

One major change that should be highlighted however is the new requirement for all foreign companies to specify who has majority control, the so-called “Actual Controlling Person” requirement. The government it seems is no longer willing to accept complex or “hidden” ownership structures, and will require identification of an actual person, persons or public company in control of the company.

Such rules, which go far beyond those seen in most foreign countries, will present challenges for many companies. We summarize here the new requirements and provide some thoughts on their impact in the current business environment in China.

Foreign companies requirements for the “WFOE Controlling Person” regulation

The WFOE controlling person regulations are implemented as part of the latest filing system for Foreign Invested Enterprises (FIEs) from the Ministry of Commerce (MOFCOM). As part of a new form to be submitted online, companies must specify the “actual controlling person” – defined as either the person (or persons) who have at least 50% ownership of the FIE, or who actually control the foreign investor (for example through contractual control).

There are seven options for this controlling person, defined as follows:
  • Foreign listed company
  • Foreign natural person
  • Foreign government agency
  • International organization
  • Domestic listed company
  • Domestic natural person
  • State Owned Enterprise (SOE) or collective enterprise

Critically, note that any form of private business is missing from this list. In the common case of multiple owners / shareholders of an FIE, it is required to list them all as collectively in control of the company. And if any of these are private companies, their ownership will also need to be detailed, to the point where a natural person or public company is identified.

Business impact

Naturally, this requirement has a strong impact on many businesses operating or planning to operate in China. Many international corporate structures are of course very complex, and indeed often set up to avoid a single point of control. Such structures will be difficult to document as required.

MOFCOM’s intention here is to force the full disclosure of ownership and prevent hiding this through private company structures and special purpose vehicles.

Several types of common operating structure in China will directly suffer. Some that we would highlight include:
  • Companies which have Chinese individuals owning a foreign investor. Such entities will no longer be able to not disclose this (this ownership is permitted but required government approval).
  • Foreign companies with complex ownership and investment structures. Investment from private equity, venture capital or angel funds, and trusts will all cause difficulties. Many companies in these situations do need even know who the ultimate owners are.
  • Some companies investing in restricted industries. A common method for foreign companies operating in restricted industries is to set up a Variable Interest Entity (VIE) structure, where foreign control of a domestic Chinese company is hidden through contractual agreements. Under the new regulations, the Chinese party would need to be declared as the actual controlling person.

What can be done?

For companies with simpler ownership structures and no issues with declaring their shareholders, this amounts to just an additional administrative requirement.

For those operating with more complex structures, professional guidance will likely be needed. At best, registration will require extensive research and documentation of ownership structure; at worst, some level of company restructuring may be required. Note that for VIEs facing difficulty, there is a grace period until late 2019 to comply. If contractual agreements cannot be set up to allow the recognition of a WFOE controlling person, an approach would likely need to be made to MOFCOM for foreign market access.

To add to the overall complexity, all companies can only make disclosure online through the new FIE form, preventing discussion directly with MOFCOM as to appropriate content. This certainly can cause delays and frustrations.

It is of course still relatively early days for these requirements. Companies with difficulties can and will launch discussions via government channels and chambers of commerce.  Whether any changes or exceptions will be permitted is unknown, but certainly for now all companies will need to address how they will comply.