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April 14, 2020
When your company is ready to consider expanding overseas, one of the first
pieces of advice youโll get is to set up an international entity. But what
does that mean, and more importantly, how will a foreign legal entity affect
your business?
What is an international entity?
An international entity, also known as a foreign legal entity, is the foreign
arm of a domestic company that is created when a company wants to expand into
a new country. There are a number of ways to set up an international entity,
but the end goal is always the same โ to facilitate global expansion.
What do you need to set up a foreign legal entity?
The requirements and structure of a foreign legal entity vary from country to
country, but there are three main types:
Representative office
The representative office establishes a minimal presence in the country. Your
employees work as company representatives only and arenโt involved in sales or
contracts. This type of office gives your company a foothold in the country,
allowing you to do research and begin to explore the possibility of further
expansion. A representative office is often the first step before more
extensive global expansion.
Because a representative office doesnโt function as a business, setup is
usually as easy as registering with the national and local government.
Branch office
A branch office is an extension of your company. Itโs wholly owned by your
company, and its taxes and other administration are handled according to the
laws of your companyโs home country. A branch office grants more flexibility
in your international business, but it can also open your company to greater
legal liability.
Setting up a branch office as a legal entity is generally a straightforward
process. Since the office is owned by your company and is largely governed by
your home countryโs laws, setup is a matter of registering with the host
countryโs government.
However, unlike a representative office, you usually have to have a manager
or someone else who is responsible for the companyโs operations on-site locally to complete the registration. The person who completes the registration is usually required to be a citizen or permanent
resident of the host country.
Subsidiary
A subsidiary is owned by the parent company but operates as a separate legal
entity. This status shields the parent company from legal liability in the
host country.
A foreign subsidiary has many advantages, such as the ability to branch out
deeper into foreign markets as well as more international credibility. But
establishing a subsidiary can be expensive and time-consuming.
Additionally, your subsidiary will face regulatory and political challenges
that are specific to the host country, so itโs wise to hire a citizen who is
local to the business community, such as an attorney or an accountant who can
assist you.
To set up a subsidiary, you will also need to have a company representative
who can speak on behalf of the company meet with banks and government
officials face-to-face, and depending on the host country, they may have to do
this several times.
When should you invest in entity setup?
Before you get started with setting up an entity, youโll need to do your homework. Take time to understand the market youโre going into. Less than 25% of U.S. companies that expand globally are successful, in large part because they do not understand the local culture and laws of the countries they enter. Proper planning is essential for success. Regulatory requirements vary significantly between countries, and taxes, banking and transfer pricing will be significant factors in your planning and decision-making process.
Once you fully understand the local market and work through all the regulatory requirements of setup, your decision of whether or not to invest in an entity will become more clear.
How can legal entity setup help or hurt your global expansion plans?
Under normal conditions, international expansion through entity setup may seem like a straightforward decision, depending on your companyโs long-term goals. It can give you access to new markets, increase brand recognition worldwide, and make it easier to set up cost-effective production.
But establishing a presence overseas is costly, especially tax-wise, and it makes you more vulnerable to local market fluctuations and economic downturns. Are you ready to heavily invest in an unfamiliar market?
The COVID-19 pandemic has proven how volatile markets can become, seemingly overnight. Restrictions on international travel, closures of government and financial offices and endless fluctuations in local legislation recently made entity setup significantly more complex and time-consuming.
Fortunately, with a different approach, itโs possible to expand globally without putting your business at risk.
Alternatives to establishing a foreign legal entity
Expanding globally is a challenge you donโt have to handle alone. When youโre ready to expand your international presence an employer of record service can support your growth in two ways:
- If you arenโt ready to take on the cost and risk of setting up an entity, EOR can help you โtest the watersโ in your target markets. Use EOR to hire workers while you evaluate the readiness of a market without the investment needed to establish an entity.
- If youโve identified a country critical to your growth plan and need employees right away, you can use EOR to get them up and running in as little as two weeks, while you continue to build your entity in parallel.
An employer of record provides in-county HR expertise to help you employ local talent and navigate local employment laws, keeping you in compliance, and out of risk, while developing your business abroad. View our frequently asked EOR questions page for more details.
Learn about the 10 things you need to know about setting up a legal entity overseas in our ebook.
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