Here's the answer to the tough and scary question first: Am I supposed to take off all my clothes?
The answer depends on where you are and what you're doing. Most Chinese massages, e.g. foot massage, Chinese traditional massage, at small spas like Dragonfly or even the local ones will offer pajamas to put on. If the spa caters to Westerners, the outfit should be larger and you shouldn't have any trouble.
If it's a local place, and you're a big person, then you may want to check it out before you strip.
Generally your therapist will lead you to your therapy room and point out where you are supposed to change and what you are supposed to change into. Have a good look around the room and take stock of what's there. Don't be shy and ask questions if you're unsure.
Other types of spas and certain treatments like a full-body oil massage, require nudity. When in doubt, just ask. You'll have to be a little immodest and brave, but you can mime to the therapist and ask if you should take everything off. You will be gently guided to the robe, paper (disposable) underwear or other garments you should put on. Just relax, you're in good hands. Your therapist will discreetly leave the room and knock before entering to give you the greatest privacy.
Bathhouses like Xiao Nan Guo Spa in Shanghai require you to walk around completely nude except for slippers and your locker key.
You'll leave your clothing in a locker and be guided to a shower area where you'll wash away the day's grime. Then strut your stuff around to the various soaking pools, steam rooms and scrub rooms. You will not be alone in your nudity and you'll get used to it pretty fast. You'll be given cotton pajamas to wear to the public areas.
Unlike spas in the West, you are not expected to tip at spas in China. If you have a treatment at an international hotel, there will be a hefty service charge added. But even other facilities won’t expect tipping. Read more about tipping in China.
Depending on what kind of spa you're visiting, you don't always need to book in advance. If you're in the middle of a shopping trip or walking tour and you pass a reflexology spot (you'll see the giant image of a foot on a sign outside) you can easily pop in for an hour’s foot massage without booking in advance. At hotel spas and popular spots like Dragonfly, it’s better to book in advance.