How to Choose Between a Foreign Subsidiary or Overseas Branch Office
Erez Greenberg| Aug 11, 2021
- A foreign subsidiary is a separate legal entity
- Main benefit of a foreign subsidiary is the separation of liability and risk between parent company and the new office
- An overseas branch is part of the main parent organization and not its own legal entity
- An overseas branch can be a representative office or branch office
- Level of commitment to the new overseas location will guide whether to open a subsidiary or overseas branch
Business is booming, and you’re ready to expand your operations to a new location. If you’re in this scenario, one of the first questions you’ll need to ask yourself is whether to open a foreign subsidiary, or whether a local representative office or branch office will better suit your needs.
There is no single correct answer for which will suit your requirements – so it’s about understanding both choices and then making the right decision for your organizational context. To help you understand the two options, this article will dive into the differences between an overseas branch office and a foreign subsidiary, including the pros and cons of each.
What is a Foreign Subsidiary?
A foreign subsidiary is a separate legal entity, and as a result it can have a totally different purpose than your main organization. Your company will still hold the majority of the ownership (usually anywhere from 51% to 99%).
A foreign subsidiary is a company operating in one country that’s part of a larger corporation with headquarters in another country. While subsidiary companies are sometimes called daughter companies, the larger corporation is often known as a parent, umbrella or holding company.
If your company holds 100% of the stock – this is known as a wholly-owned subsidiary. This approach is not possible in all countries due to local laws over foreign ownership. For example, when CNN opened a subsidiary in the Philippines, they could not wholly-own it due to local laws on media subsidiaries that had foreign ownership.
The main benefit of opening a foreign subsidiary in comparison to a branch office is the separation of liability and risk between your parent company and the new office. Local compliance issues won’t impact your main headquarters for example, the way that they could if you had a branch for which you were ultimately responsible.
In contrast, the main challenge with using a foreign subsidiary is that you will have greater tax obligations, as you’ll need to file separately for the subsidiary as its own entity. With a branch office – you can usually use the same tax return, and benefit from tax agreements that stop you paying duplicate taxes in the two locations.
What is an Overseas Branch?
An overseas branch refers to a location or operational extension of a company that is established in a foreign country and operates as a part of the parent company, sharing resources and branding while remaining legally connected.
The main thing to know about an overseas branch is that it’s a part of the main parent organization, and is not its own legal entity. There are two options here, representative or branch.
Representative office: A representative office is the easiest to set up, and can allow workers from your organization to reach out and make contacts in a new location. You can use a representative office to promote your business, but in most countries you cannot make any transactions or form contracts with customers. Simply put, if it’s making you profit – a representative branch won’t cut it.
Branch office: A branch office or an overseas branch is a direct extension of your organization. Its purpose is to help you to generate revenues in a specific region, as a part of your parent company. As it is not its own legal entity, it can support the organization but it doesn’t have its own business discretion. It’s a fairly low-cost set up process, and can often be limited to paying for an office and the staff that you need.
As a branch office is not its own legal entity – generally the parent company retains all control, and all liability. There will usually be no joint ownership between the two, which means the buck will stop with your organization. However, in certain locations this isn’t the case. For example, in Brazil, corporate law separates the relationship between branches and parent companies, so that branches can enter into contracts on their own behalf, without the parent company controlling the agreement.
Although many people think that you will be able to set up a branch office far quicker than setting up an entity abroad, this may not be the case, and there will also be some limitations on what you can do with the branch office, for example moving away from the focus of the parent company’s business if you spot a new opportunity in the region.
Even when it comes to naming the office, some governments enforce a connection with the parent organization. For example in China, your branch name needs to contain the nationality and Chinese name of the parent company, and have the suffix “representative office”. If you wanted to hide the relationship with your main organization, this would be impossible in China with an overseas branch, but easy to do with a subsidiary.
Understanding the Differences
A foreign entity within the realm of businesses and companies refers to an organization that is registered and operates in a country other than the one under consideration. This category encompasses a variety of structures. Foreign corporations are independent companies established abroad, while foreign branches are extensions of companies originating elsewhere but operating in the local market.
Foreign subsidiaries, on the other hand, are distinct entities that are partially or wholly controlled by a parent company based in a different country. Unlike branches, subsidiaries have a separate legal identity and are subject to local regulations. While both subsidiaries and branches may represent a company’s interests in foreign markets, subsidiaries enjoy more autonomy and liability protection due to their separate legal status. In essence, a foreign subsidiary resembles a locally owned company with the advantage of international support and expertise from its parent, while a foreign branch remains an extension of its parent, sharing resources and branding but lacking legal separation.
Which Option Will Work for your business?
Think about the goal of your expansion. If your company is looking to explore new economic opportunities, and create an office that will work independently of your main company – you’ll need a subsidiary. This also offers greater protection against liabilities, and allows your new office to have more control and flexibility over the way it works.
If however, you’re looking to test the waters in a new location, or expand the existing business to a new geographic region, you may not want to go to the trouble of opening a foreign subsidiary. After all, the tax requirements could be heavy, the costs may be large, and you have no guarantee that you will be able to keep the business going in the new location. In this case, you may opt for an overseas branch.
But what if an overseas branch still seems like a lot of effort and risk, especially when you want to hit the ground running in your new location with ease?
One option that could be a great middle ground is relying on an Employer of Record solution. This is an innovative employment option where a local in-country partner takes on the employment of new workers on your behalf, hiring them locally in your region of choice. As an organization you retain full control over how they work and their role in the company, but the local in-country partner can use their local knowledge in areas such as compliance and benefits and become their on-paper employer.
This model also means you don’t need to worry about the limitations (and the liability) of a representative or a branch office, and can launch into transactions and contracts without lengthy set up or registration times. As the local partner becomes the employer – they also hold the responsibility over compliance, and take on much of the liability on your behalf.
Papaya Global Supports Your Business as You Grow
At Papaya Global, we are the only payroll solution that can manage your whole global workforce, from full-time employees to contractors and Employer of Record arrangements. If you’re looking to expand internationally, we can advise you on the right choice for your requirements, whether that’s opening a representative or an overseas branch office, utilizing an Employer-of-Record solution, or going straight to registering a foreign subsidiary.
In addition, as your business evolves, we can support your growth and help you make intelligent changes, such as moving from Employer of Record to opening a subsidiary when you’ve gained a foothold in the new location. At all times, we’re a true partner, understanding your business context and working to make sure that you have all the information you need to make an informed choice.
Want to see how our single platform for global workforce management works for yourself? Get in touch to schedule a demo.