Employer liability in China is expanding as new judicial interpretations clarify the risks associated with subcontracting, outsourcing, and affiliating arrangements involving unlicensed entities. This article unpacks Articles 1 and 2 of the SPC’s Judicial Interpretation II and outlines compliance measures foreign investors should adopt to avoid unexpected liabilities.
On August 1, 2025, China’s Supreme People’s Court (SPC) released the long-awaited Judicial Interpretation II on the Application of Law in Labor Dispute Cases (Fa Shi [2025] No. 12, hereinafter “Judicial Interpretation II on Labor Disputes” or “Judicial Interpretation II”), along with a set of illustrative cases. Both will take effect on September 1, 2025. This new interpretation reflects the SPC’s ongoing effort to unify judicial standards and provide clearer guidance for handling labor disputes in an increasingly complex employment environment.
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Building on our previous article, which provides an overview, this article focuses on Articles 1 and 2 of the Judicial Interpretation II , which clarify employer liability when laborers are employed by unlicensed entities. These provisions assign responsibility to contractors or affiliated entities with legitimate business qualifications, making them accountable as de facto employers for laborers engaged by unlicensed subcontractors or affiliated parties. The Interpretation specifies the circumstances under which laborers can request courts to recognize the contractor or affiliated entity as the responsible employer, covering obligations such as wage payments, work-related injury insurance, and potentially other employment-related liabilities.
For foreign investors, Articles 1 and 2 highlight the critical importance of due diligence when engaging local subcontractors or partners. Even when laborers are formally employed by a third party, failure to verify that the partner holds proper legal qualifications can expose the foreign enterprise to direct liability for wages, work-related injury insurance, and other employment obligations. These provisions emphasize that robust compliance, contract oversight, and proactive labor management are essential to mitigate legal risk and ensure smooth operations in China.
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What is stipulated in Articles 1 and 2?
Article 1: Liability in subcontracting and outsourcing
Article 1 addresses situations where a contractor with legal business qualifications subcontracts or outsources work to an entity without legal qualifications. In such cases, laborers employed by the unlicensed entity can request the court to recognize the original contractor as their de facto employer. Courts are instructed to uphold these claims, ensuring laborers receive statutory protections, including wages and work-related injury benefits.
Subcontracting and outsourcing are common in industries such as construction, manufacturing, and professional services. In construction, subcontracting typically involves transferring the entire contracted project to another entity, whereas outsourcing refers to allocating specific portions of work. In manufacturing and professional services, outsourcing is often used for specialized tasks such as data analysis, translation, or component production.
The Interpretation codifies principles previously reflected in regulations like Article 7 of the 2013 Ministry of Human Resources and Social Security guidelines on work injury insurance. What is new is the explicit judicial endorsement that contractors cannot evade employer responsibility when laborers are employed by unlicensed subcontractors. The Interpretation emphasizes the subcontractor’s “legal business qualification” as the threshold for liability, focusing on formal licensing and registration rather than mere operational activity.
Article 2: Liability in affiliating arrangements
Article 2 addresses cases where unlicensed entities or individuals operate by affiliating with a licensed entity, a practice commonly known as “affiliating” (挂靠). Laborers employed by the unlicensed party can hold the affiliated licensed entity accountable for employer obligations, including wages and work-related injury insurance. Courts are instructed to support these claims, reinforcing the principle that legal qualifications cannot be used as a shield to avoid liability.
Affiliating arrangements are more common outside construction, occurring in sectors such as transportation, pharmaceuticals, and energy. Typically, an unlicensed individual or entity leverages the credentials of a licensed partner to bid for projects or operate legally. From a liability perspective, Article 2 ensures that the licensed entity cannot escape responsibilities by serving as a front for unlicensed operations.
Scope and implications of employer responsibility
Articles 1 and 2 establish that when laborers are hired by unqualified subcontractors or affiliated parties, responsibility may be shifted to the qualified contractor or affiliated enterprise. Specifically, Article 1 covers situations where a qualified contractor subcontracts or re-subcontracts work to an unqualified entity, while Article 2 applies when an unqualified entity operates under the name of a qualified enterprise. In both scenarios, if workers seek confirmation of their rights, such as wages or work-related injury benefits, the courts will hold the qualified enterprise responsible.
While the term “employer responsibility” is not formally defined in existing laws, it is generally understood to cover protections for laborers who may not have a direct contractual relationship with the responsible entity. The Interpretation explicitly mentions wage payments and work injury insurance, and the addition of “etc.” suggests that other liabilities, such as social security contributions or reimbursement for occupational hazards, may also be included.
Why is it relevant to foreign investors?
For foreign-invested enterprises (FIEs), Articles 1 and 2 underscore the importance of carefully managing subcontracting, outsourcing, and affiliating arrangements in China. The rules serve as a reminder that employer responsibility may extend beyond a company’s direct contractual relationships, exposing FIEs to unexpected liabilities if compliance gaps exist in their supply or service chains.
Key scenarios include:
- Subcontracting: FIEs frequently subcontract specialized tasks or segments of a project to local firms, particularly in construction, manufacturing, and services. Under the Interpretation, subcontractors must hold valid business qualifications; if they do not, the FIE risks being deemed the responsible employer. This can mean assuming liability for unpaid wages, mandatory social insurance, and work-related injury compensation—obligations that could become significant financial and reputational risks.
- Outsourcing and indirect subcontracting: Even when FIEs do not directly subcontract, indirect arrangements can still create exposure. For example, a foreign apparel brand may contract production to a qualified local factory, which then outsources portions of the order to smaller, unlicensed workshops. If labor disputes emerge at those workshops, courts may trace responsibility back through the chain and assign liability to the original contracting enterprise, including the FIE. This reflects the court’s intention to protect workers regardless of contractual distance.
- Affiliating arrangements: Although less common, FIEs may become entangled in affiliating practices, where an unqualified party “borrows” the name or qualifications of a licensed enterprise to bid for or undertake projects. An FIE with proper qualifications might unknowingly—or negligently—enable such an arrangement through a local partner. If workers are employed under this setup, courts may hold the FIE responsible for employer obligations. This risk is particularly acute in industries like construction and engineering, where affiliating practices have historically been more prevalent.
In short, the Interpretation raises the compliance bar for FIEs operating in China. It requires not only verifying counterparties’ qualifications but also exercising continuous oversight across subcontracting and outsourcing chains. Ignorance of lower-tier practices may no longer shield foreign investors from liability, making stronger due diligence, contractual safeguards, and compliance monitoring essential parts of risk management.
Practical compliance measures
Given these risks, FIEs should implement proactive compliance strategies that balance operational efficiency with legal risk management. Key measures include:
- Qualification verification: Conduct thorough due diligence on subcontractors, assignees, and affiliated entities to confirm that they hold the necessary legal and business qualifications. This is the first line of defense against being held liable for unqualified partners.
- Contractual safeguards: Strengthen contracts by clearly defining the scope of work, responsibilities, and compliance obligations. Agreements should expressly prohibit illegal subcontracting, outsourcing, or affiliating arrangements and include indemnification clauses to protect the FIE in case of labor disputes.
- Labor oversight: Go beyond contractual terms by monitoring subcontractors’ labor practices, such as ensuring workers are formally employed, wages are paid on time, and social insurance contributions are made in full. Courts are increasingly willing to hold principals accountable if oversight is lacking.
- Insurance coverage: Obtain comprehensive employer liability and project-specific insurance policies. These can provide an additional layer of protection against unforeseen labor claims and financial exposure.
- Continuous legal review: Regularly update compliance programs and internal protocols to reflect the latest judicial interpretations and sector-specific regulations, ensuring that the company’s risk management remains aligned with evolving enforcement trends.
Key takeaways
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Articles 1 and 2 of the Judicial Interpretation II provide clarity and legal certainty regarding employer liability in subcontracting, outsourcing, and affiliating arrangements. For courts, the Interpretation offers clear guidance to hold legally qualified contractors and affiliated entities accountable for laborers employed by unlicensed parties. For foreign enterprises operating in China, these provisions underscore the importance of rigorous partner vetting, structured contracts, and proactive labor management.
Ultimately, the Interpretation strengthens labor protections while emphasizing accountability among legally recognized entities. For HR and legal practitioners, it signals a need for tighter oversight of partnerships, subcontracting arrangements, and any affiliation with unlicensed operators. Adopting robust compliance practices not only mitigates legal risks but also reinforces corporate social responsibility commitments, ensuring that labor rights are safeguarded even when operations involve complex subcontracting or affiliation chains.
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Dezan Shira & Associates assists foreign investors into China and has done so since 1992 through offices in Beijing, Tianjin, Dalian, Qingdao, Shanghai, Hangzhou, Ningbo, Suzhou, Guangzhou, Haikou, Zhongshan, Shenzhen, and Hong Kong. We also have offices in Vietnam, Indonesia, Singapore, United States, Germany, Italy, India, and Dubai (UAE) and partner firms assisting foreign investors in The Philippines, Malaysia, Thailand, Bangladesh, and Australia. For assistance in China, please contact the firm at china@dezshira.com or visit our website at www.dezshira.com.
