When your company is ready to consider expanding overseas, one of the first pieces of advice you’ll 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―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:
The representative office establishes a minimal presence in the country. Your employees work as company representatives only and aren’t 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 doesn’t function as a business, setup is usually as easy as registering with the national and local government.
A branch office is an extension of your company. It’s wholly owned by your company, and its taxes and other administration are handled according to the laws of your company’s 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 country’s laws, setup is a matter of registering with the host country’s government.
However, unlike a representative office, you usually have to have a manager or someone else who is responsible for the company’s 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.
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 it’s 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, you’ll need to do your homework. Take time to understand the market you’re 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 company’s 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, it’s possible to expand globally without putting your business at risk.
Alternatives to establishing a foreign legal entity
Expanding globally is a challenge you don’t have to handle alone. When you’re ready to expand your international presence an employer of record service like Global Employment Outsourcing (GEO) can support your growth in two ways:
- If you aren’t ready to take on the cost and risk of setting up an entity, GEO can help you “test the waters” in your target markets. Use GEO to hire workers while you evaluate the readiness of a market without the investment needed to establish an entity.
- If you’ve identified a country critical to your growth plan and need employees right away, you can use GEO 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.