China Employment Law: The Myths and the Realities of Employee Severance

Generally speaking, once an employee has completed his or her probation period, termination requires severance payment. Note also that even when the employer and the employee mutually decide to terminate their employment relationship, a severance payment is usually required if the employer is the one that initiated the conversation about ending the employment relationship.

Under the PRC Labor Contract Law, the amount of severance that must be paid to the employee is based primarily on the employee’s wages and years of employment. The law provides that for each year (which is any period longer than 6 months) the employee has worked for the employer, the employee will be entitled one month’s wages. For any period of employment of less than 6 months, the employee will be entitled to half a month’s wages. So for example, if your employee worked for you for 30 years and 4 months, you must pay 30.5 months of his or her wages as severance payment.

However, as one of my favorite law professors at Beida used to say: in your practice, you will find a general rule on a particular issue and then you will find an exception to the basic rule and then you will find an exception to that exception. One exception to the basic rule above is that if your employee’s monthly wage exceeds 300% of the local average monthly wage, then the latter should be used in calculating his or her severance payment. Here is an additional wrinkle: in this situation, the number of years of service used to calculate statutory severance will be capped at 12 years.

However, this is not the end of the story. For example, things can get even more complicated when you are dealing with an employee who started working for you before the current PRC Labor Contract Law came into effect on January 1, 2008. Suppose you are terminating an employee whose monthly wage during the last 12 months of employment is higher than 300% of the local average monthly wage. Because the Labor Contract Law does not operate retroactively on this, the employee’s years of employment before 2008 will not be subject to the 300%-local-average-monthly-wage cap and thus the employee’s actual monthly wage should be used for those years. The years of employment after 2008, however, will be subject to the 300% cap.

As is true of nearly everything related to China employment law, the application of what is a relatively clear national law can vary on the local level. For instance, some municipalities apply a 12-month cap under a wider range of circumstances than the national rule. And in Shanghai, if the employee is forced to unilaterally terminate the employment contract due to the employer’s fault (e.g., violence or threats by the employer), the statutory severance will also be subject to a 12-month cap.

At the end of an initial employment term, if an employer does not wish to extend the contract to its employee, it must pay severance. Furthermore, if the employee quits because of employer abuse (e.g., failure to pay the employee wages on time per the employment contract), the employer must pay statutory severance to the employee as well. And don’t forget that the employer is required to withhold any applicable individual income tax on the severance payment.

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We will be discussing the practical aspects of Chinese law and how it impacts business there. We will be telling you what works and what does not and what you as a businessperson can do to use the law to your advantage. Our aim is to assist businesses already in China or planning to go into China, not to break new ground in legal theory or policy.