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I. Background
It is not uncommon for foreign companies that have not established a representative office, subsidiary, or any other form of business presence in China to nonetheless carry out business activities—such as sourcing and procurement—through local teams based in China. In these circumstances, some foreign companies enter into service agreements with Chinese human resources providers, under which the provider acts as the nominal employer (commonly referred to as an Employer of Record, or "EOR"). The EOR formally enters into employment contracts with Chinese staff, handles payroll processing, and administers social insurance and housing fund contributions, thereby enabling the foreign company to meet its staffing needs in China. This model is attractive to many foreign companies because it allows them to commence operations in China quickly, with a relatively light asset footprint, while streamlining HR administration and maintaining greater flexibility in staffing.
II. Labor Law Considerations
Foreign companies that lack a separate legal entity or a permanent representative office in China generally do not qualify as "employers" under Chinese labor law. As a result, they are not in a position to establish a direct employment relationship with Chinese workers.
That said, in two guiding cases published by the Supreme People's Court, the Court applied a substance-over-form approach in determining the nature of an employment relationship. Rather than relying exclusively on the contractual framework, the Court looked at the actual working arrangements, focusing in particular on whether the employer exercised directional authority and control over the worker and whether the worker was effectively integrated into the employer's organizational structure. In our view, this principle—which is well established in Chinese case law—should likewise apply when assessing whether a de facto employment relationship exists under the EOR model, even though no directly comparable precedent specifically addressing the EOR structure has yet been handed down. Where an employee is in practice subject to the direct oversight and instructions of the foreign company, and the HR service provider's role is limited to administrative functions such as payroll and social security remittances, the arrangement may be viewed as an attempt to circumvent the formal contractual structure of the EOR model. If so, the foreign company could be deemed to have assumed the full range of employer obligations under Chinese labor law, including the potential liability to pay severance, compensation, or other statutory entitlements.
III. Regulatory and Tax Risks
(1) Risks Arising from Unregistered Business Operations in China
Under Article 35 of the Administrative Regulations on the Registration of Permanent Representative Offices of Foreign Enterprises, the registration authority has the power to prohibit the unauthorized establishment of a representative office or the pursuit of business activities without prior registration, to order the cessation of such activities, and to impose monetary penalties. Where a foreign company engages in substantive and ongoing business operations in China, the regulatory authorities may characterize this as impermissible "business activity" conducted without proper registration, which exposes the company to considerable compliance risks.
(2) Tax Risks
Where a foreign company's activities in China rise to the level of a substantive business operation, the Chinese tax authorities may take the position that the company has created a permanent establishment for purposes of the applicable double taxation treaty. This would in turn give rise to corporate income tax liability in China. Additional tax-related exposures include potential issues concerning the withholding and remittance of individual income tax, as well as compliance requirements in connection with cross-border service fee payments.
IV. Conclusion
While the EOR model may serve as a short-term solution to address staffing needs for foreign companies without a physical presence in China, it carries inherent risks that should not be underestimated. As such, the model is best suited to short-term, temporary, or project-based engagements of relatively limited scale, and is not recommended as a long-term strategy for conducting substantive business activities in the market. For foreign companies with longer-term plans in China, we recommend establishing a formal business presence—whether through a subsidiary, a representative office, or another appropriate structure—based on their specific operational requirements, in order to effectively manage and mitigate the associated legal and regulatory compliance risks.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
