Taxes on foreigners raise cost of business in China

HONG KONG -- A controversial new tax on foreign companies and workers is adding to rising business costs in China.

The tax requires foreigners to contribute to China's social welfare system for pension, medical, unemployment, work-injury and maternity benefits.

Doing so allows foreigners to access social services in China. But it could end up duplicating benefits that workers retain in their own countries while working in China and saddle employers with thousands of dollars in extra costs each year.

The new policy — which took effect Oct. 15 but has yet to be rolled out in most of the country — requires foreigners to pay up to 11% of their salary and employers to contribute up to 37% of workers' pay to these social programs. The maximum tax varies by city: In Shanghai, employers and employees pay a combined maximum of about $882 per month, while in Beijing, it's about $837.

Meanwhile, the city of Dalian has removed a cap on employers' social insurance contributions, raising concerns that other cities could follow suit. This expense will take a toll on small and midsize businesses. Such companies may reconsider hiring foreign staff, experts say.

"This change might lead to the perception that foreign staff is going to be more expensive," encouraging some companies to replace junior to midlevel managers with Chinese citizens, says Martyn Huckerby, a partner at Mallesons Stephen Jaques, an Australian law firm that represents multinationals doing business in China.

Xinhua, China's official news agency, has defended the necessity of the tax. Chinese companies are required to buy social insurance for their employees, so not requiring foreign companies to do the same would give them an "unfair cost advantage in hiring," said an Oct. 30 Xinhua editorial.

At international schools, which employ a large number of foreigners, expatriate salaries and other costs make up about 70% of operating expenses, according to the American Chamber of Commerce in China. The foreigners' tax could raise one unnamed international school's operating expenses by 30%, which would "threaten the financial viability of the school," the chamber says in comments posted on its website. AmCham says that contributions to China's unemployment and maternity insurance program should be voluntary, as many employees already receive such benefits in their own countries or through personal insurance.?

The law will also drive up the already-high cost of international school education, says Tim McDonald, headmaster of the International Academy of Beijing, a Christian school that serves the expat community. More than half of the academy's 70 staff members are foreigners.?

At the end of 2010, of the 600,000 foreigners in China, 231,700 had work permits, according to China's Ministry of Human Resources & Social Security.

Germany and South Korea have negotiated pacts with China to exempt their workers from portions of the new tax. German citizens are exempt from unemployment and retirement insurance payments, while South Korean citizens are exempt from pension payments, which make up about two-thirds of the tax.?

U.S. workers won't get the same treatment. The Social Security Act requires that any country the U.S. strikes an agreement with meet certain requirements: The partner country's social security system, for instance, must pay regular benefits and apply to the general population. China's system does not meet those criteria, says Kia Green, a spokeswoman for the Social Security Administration.

Foreign business groups in China complain that mainland authorities didn't give them enough warning about the tax — meaning they didn't budget for the expense — and haven't clarified important details such as how to enroll employees for the social benefits. If foreigners leave China, they won't be reimbursed for most social welfare contributions, although they might be able to take a lump sum pension, says Christopher Xing, a partner at KPMG China.??

At a time labor expenses are rising in China, some see the new tax as just one more unavoidable cost to doing business there.

"Everyone's blowing this out of proportion," says K. Lesli Ligorner, a Shanghai attorney for the Paul Hastings firm. "There's nothing wrong with the country making sure that everyone has basic insurance."