Employing Staff in China: A UK Lawyer's Guide to the Labour Contract Law

When a UK group asks you to "tidy up" the employment position at its Shanghai or Shenzhen subsidiary — whether to performance-manage a country manager, restructure a sales team, or harmonise contracts across the region — the instinctive common-law playbook does not translate. PRC employment law is statutory, employee-protective and unforgiving of procedural shortcuts. The points below are the ones we are most often asked to brief partners on before they advise the board.

The written contract rule and the double-salary penalty

Under the PRC Labour Contract Law, every employer must sign a written labour contract with each employee within one month of the start date. If the employer fails to do so, from the second month onwards the employee is entitled to double their monthly salary for up to eleven months. If no written contract is signed within a year, the relationship is deemed to be an open-term (indefinite) contract by operation of law.

This is not theoretical. It is one of the most commonly pleaded claims in labour arbitration, and the penalty accrues automatically — there is no requirement to show loss. Practical implications for instructing solicitors:

• Onboarding must be tight. The signed Chinese-language contract should be in the HR file before, or on, day one.
• Bilingual contracts are common and acceptable, but the Chinese version governs in any PRC proceedings; the English text should be reconciled carefully.
• "Consultancy" or offshore-payroll workarounds rarely defeat the rule where the individual is in fact working in China for the local entity; the labour arbitration commissions look at substance.
• A signed offer letter is not a labour contract. The statute prescribes mandatory contents (term, role, location, hours, remuneration, social insurance, occupational protection).

Fixed term, open term and the "two strikes" rule

PRC labour contracts come in three flavours: fixed-term, open-term (no fixed end date) and project-based. The commercial instinct of UK groups is to roll short fixed terms — typically one or two years — to preserve flexibility. The Labour Contract Law neutralises that strategy in two ways:

1. After two consecutive fixed-term contracts, the employee is entitled to demand an open-term contract on the next renewal (subject to limited exceptions such as serious breach by the employee).
2. An employee with ten years' continuous service is also entitled to an open-term contract on request.

Open-term does not mean unsackable, but it does eliminate the easiest exit route: simply letting a fixed term expire. On non-renewal of a fixed term where the employer offers no worse terms, statutory severance is still payable unless the employee declines equal or better terms. We routinely see UK-headquartered groups discover, mid-restructuring, that their China entity has inadvertently converted half its workforce to open-term status.

Why "dismissal at will" does not exist

There is no PRC equivalent of the at-will employment doctrine, and no equivalent to the unfair dismissal compensatory cap that UK practitioners are used to. An employer may only terminate unilaterally on grounds expressly listed in the Labour Contract Law. The principal categories are:

• Mutual agreement — by far the most common lawful exit; documented in a separation agreement.
• Summary ("instant") dismissal for serious breach of the employer's rules, serious dereliction or graft causing significant harm, criminal liability, dual employment materially affecting performance, or fraudulent inducement of the contract.
• Termination with 30 days' notice (or one month's pay in lieu) for non-culpable incapacity — sickness preventing return to original or alternative duties after the statutory medical period, or proven incompetence persisting after training or reassignment.
• Economic redundancy — only where the statutory threshold is met (20+ employees or 10%+ of the workforce), with consultation of the workforce or trade union, a report to the local labour bureau, and statutory selection priorities.

Notably, "without cause" termination on payment of severance is not a statutory ground. An employer who pays severance and walks an employee out the door without a recognised basis is exposed to a finding of unlawful termination — which entitles the employee, at their election, to reinstatement or to double statutory severance (often called "2N").

Severance maths: N, N+1, 2N

The arithmetic itself is straightforward but the labels matter. Statutory severance ("N") is one month's average wage per year of service, with half a month for service of six months or less, and a full month for between six and twelve months. Average monthly wage is the average over the twelve months preceding termination, including bonuses and allowances, capped at three times the local average wage where the employee earns above that threshold (in which case service years are also capped at twelve).

• N — payable on most lawful employer-initiated terminations and on non-renewal of a fixed term where the employer does not offer at least equivalent terms.
• N+1 — the additional month is pay in lieu of the 30-day notice required for non-culpable incapacity, incompetence or material change in circumstances; it is not a generic top-up.
• 2N — the statutory damages for unlawful termination, at the employee's election in lieu of reinstatement.

In negotiated exits, the commercial settlement often lands between N+1 and 2N depending on litigation risk, seniority and how cleanly the file supports the asserted ground.

A lawful termination playbook

For a UK partner stress-testing a China dismissal, the workflow we recommend is:

1. Identify the statutory ground before any conversation with the employee. If none fits, plan a mutual separation, not a unilateral termination.
2. Audit the paper trail. Is there a signed, bilingual employee handbook? Was it adopted through the democratic consultation procedure required by the Labour Contract Law? Are PIPs, warnings and performance reviews documented and acknowledged?
3. Check special protections. Pregnancy, maternity and nursing periods, statutory medical period, work-related injury, and trade union officers all carry enhanced protection against termination.
4. Calculate severance correctly, including capped salary, accrued untaken leave, unpaid bonuses and equity treatment.
5. Document the exit in a bilingual separation agreement with a full release, confidentiality, non-disparagement and — where relevant — confirmation or waiver of post-termination non-compete (which, if enforced, requires monthly compensation typically of 30–50% of the prior wage).
6. Handle deregistration steps: social insurance and housing fund stop-filing, individual income tax clearance, and return of the work permit and residence permit for foreign nationals.

FAQ

Can we terminate a Chinese employee for poor performance the way we would in England? No. "Incompetence" is a statutory ground but requires documented evidence of failure to meet the role, plus training or reassignment, plus continued failure thereafter, plus 30 days' notice or pay in lieu, plus statutory severance. A single bad appraisal is not enough.

Is a PILON clause in the contract effective in China? Only within the statutory framework. Pay in lieu of the 30-day notice is recognised for the specific non-culpable grounds set out in the statute. A contractual PILON cannot be used to buy out an employee on grounds the law does not permit.

What are the hiring in China legal requirements for a newly incorporated WFOE? Register with the social insurance and housing fund bureaux, adopt internal rules through democratic consultation, issue compliant written labour contracts in Chinese within one month of each hire, and put PRC-compliant data processing notices in place under the Personal Information Protection Law (2021) before collecting HR data.

How are post-termination non-compete covenants enforced in China? They bind only senior management, senior technical staff and others with confidentiality duties, last no more than two years, and require the employer to pay monthly compensation during the restricted period. Without that compensation, the employee can apply to have the covenant released.

How Eugen Law Firm assists

Eugen Law Firm acts as PRC employment counsel to UK law firms and their corporate clients with Chinese subsidiaries. We draft and localise bilingual labour contracts and handbooks, run pre-termination risk reviews, calculate and benchmark severance, negotiate exits, and represent employers in labour arbitration and court proceedings across the major commercial cities. To discuss a specific matter, please contact us at [email protected].