Under Chinese law, every company must have a legal representative when starting a company or opening a new business in the PRC. A company’s legal representative is the individual who serves as the legal embodiment of the company’s interests for purposes of the Chinese government. His or her name appears on the company’s business license and, under PRC law, the legal representative is responsible for that company and all of its operations. This may include any “sins” or crimes the company commits in which he has personal knowledge. For instance, the legal representative of a company in China can be held personally responsible for any debts which a company may incur in the course of its operations. Of note, this could include being held in detention if the amount owed is confirmed and validated by a court and that the company defaults on those debts. It can also include being held responsible under the PRC’s criminal laws if the company is found to have committed any legal violations, such as violating environmental laws by dumping untreated waste into a municipal source of drinking water with knowledge or gross negligence. Therefore, although the knee-jerk reaction of many entrepreneurs and CEO’s of either new businesses that are being formed under PRC law or foreign firms that are expanding into mainland China and establishing a formal corporate entity to operate their business is to serve as the company’s legal representative, this may not be the best idea. Instead, depending in particular on the individual and the industry in which the business operates, it could indeed be a terrible idea that could lead to nothing but problems for the entrepreneur or CEO. Therefore, an entrepreneur or company looking to establish itself in the PRC must look to a number of factors when deciding who will serve as the company’s legal representative for purposes of PRC law. There are a number of benefits and drawbacks to choosing a Chinese national to serve as a company’s legal representative and the same is true of utilizing a foreign resident in that role.
The Consequences of Serving as a Company’s Legal Representative Under Chinese Law
Under the PRC Company Law, every company must have a legal representative. Indeed, under Article 7 of that law, the company’s business license is required to contain that person’s name and address, in addition to the company’s registered capital and the scope of its business. A legal representative is the person with the power to bind the company in entering into contracts and who represents the company in submitting reports to Chinese regulatory bodies. He or she also signs the company’s share certificates as well as any corporate bonds issued by the company. Under PRC law, a company’s legal representative is responsible for every aspect of the business’s operations in China. This includes compliance with all laws surrounding the business’s operations, compliance with all tax and financial reporting obligations which apply to the company under Chinese law, and compliance with China’s environmental regulations. This can be quite a burdensome task for either a Chinese or foreign citizen.
For example, consider the case of a seasoned Dutch manager of a petrochemical business who is appointed by his American supervisor, the parent company CEO, to serve as the company’s legal representative. The Dutch manager moves to China to oversee the operations of the company’s Chinese subsidiary. However, one day the company receives a surprise inspection from the Chinese tax authorities, who perform an audit of the company’s finances and discovery that the company has underpaid its taxes for several years. Although the Dutch manager knew the Chinese subsidiary’s overall finances very well, he did not notice the discrepancy between the reports he received from a local manager in central China who was “cooking the books” by inflating his factory’s annual output in reports submitted to Chinese regulator, which caused the entire company to underpay its taxes. As the company’s legal representative, the Dutch manager was responsible for the company’s operations throughout the country, including ensuring it paid the appropriate amount of taxes. However, due to one rogue local manager, the overall company ended up violating PRC law by inflating its earnings and not paying the appropriate amount of taxes. As the company’s legal representative, the Dutch manager was therefore personally liable for this underpayment of taxes under PRC law.
I Am An Entrepreneur or CEO. Should I Serve as My Company’s Legal Representative in China?
This is a particularly important question for any entrepreneur who is starting a business in China and particularly for any established foreign business looking to expand into the PRC. In many cases, it may not make sense for a Chinese or foreign entrepreneur or CEO to serve as the legal representative of his or her business for purposes of PRC law. One can imagine famous business personalities, such as Apple’s late CEO Steve Jobs with his reputation for retaining the final say over every last detail of Apple’s products no matter how minute, refusing not to serve as the company’s legal representative. However, by choosing to serve as the company’s legal representative, an entrepreneur or CEO, whether foreign or a PRC citizen, may open him or herself and his or her business up to legal and other liability that he or she may not be prepared to assume.
For foreign companies, whether or not a CEO should serve as the company’s legal representative of a Chinese subsidiary or company which the foreign company intends to start,is a particularly important consideration. Having a foreign citizen serve as a company can be an easier way to ensure that the company’s foreign owner retains tighter control over the company’s operations in the PRC. Nevertheless, having a non-PRC legal representative also does not come without risk, as a foreign resident may be unfamiliar with Chinese law or not have the connections necessary to ensure the business succeeds. In several noteworthy cases where a company’s legal representative was a non-Chinese citizen, the PRC government actually detained the legal representative on an indefinite basis. There are therefore risks, often considerable ones, in serving as a legal representative of a company in the PRC if one is not a PRC citizen.
However, that is not to say that having a Chinese national serve as the company’s legal representative always is a smooth process. In many instances, a Chinese national chosen to serve as a company’s legal representative can make things incredibly difficult for the company’s owners if they attempt to fire the Chinese national. Often the Chinese national may simply refuse to give up his position, knowing that as the company’s legal representative he is required to sign official documentation that he is relinquishing that role. This is because under Article 13 of the PRC Company Law, a change in a company’s legal representative must be formally registered with Chinese authorities and any change in a company’s legal representative must similarly be registered with PRC authorities.
Conclusion: Be Wary About Who is Chosen to Serve as Your Company’s Legal Representative in the PRC
The PRC Company Law requires that every business must have a legal representative. Oftentimes, an entrepreneur or manager of a multinational corporation looking to expand into the Chinese market may assume that he or she should serve as the legal representative of the company due to his or her role as CEO or head of the larger business. However, serving as a company’s legal representative comes with certain responsibilities and duties under Chinese law. Nevertheless, choosing a Chinese national to serve as the company’s legal representative can sometimes backfire if the company looks to replace its legal representative and the Chinese national refuses to go. These are only some examples of why any business, whether a new business being started in the PRC or an established multinational starting up a Chinese subsidiary to enter the PRC market, should be exceedingly careful in deciding who to serve as the company’s legal representative. This is a decision not to be taken lightly or without expert guidance.
IPO PANG XINGPU, with headquarters in Shanghai China, we have been helping clients from all over the world with their legal matters since 1992. We are a group of dedicated attorneys and professionals with expertise and experience in a variety of legal disciplines. Clients come to us “When Being Right Matters ®”.