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Interpretation of the New Law: Highlights and ImpactsImpact of the China Foreign Investment Law

2019-06-24/ARTICLES/ Chelsea Li李乔姗Cindy YU

Legislative evolution of the Foreign Investment Law of the People's Republic of China (the “PRC” or “China”) (the “Foreign Investment Law”).

  • 1979

    PRC Sino-Foreign Equity Joint Ventures Law

    This law governs various aspects of any Sino-foreign equity joint venture, including preferential treatment, organizational form, and business model.

  • 1982

    Constitution of the People's Republic of China

    Article 18 of the Constitution, as amended in 1982, provides that the legitimate rights of foreign investors and enterprises shall be protected by PRC laws.

  • 1986

    PRC Wholly Foreign-owned Enterprises Law

    This law governs various aspects of any enterprise wholly funded with foreign capital, including establishment, division, merger and termination, as well as the requirement to record production and business plans.

  • 1988

    PRC Sino-Foreign Cooperative Joint Ventures Law

    Prior to promulgation of laws such as the PRC Company Law and the PRC Tax Law, China’s initial foreign investment regime regulated the treatment of foreign investment, protection and special management as well as the management control and organizational form of foreign-invested enterprises.

  • 2008

    PRC Enterprise Income Tax Law

    This law commenced the integration of the income tax system for foreign-invested enterprises with that of domestic enterprises, which was implemented during a five-year transitional period.

  • 2008

    PRC Anti-Monopoly Law

    This law marked the point in time when China’s system of fair competition law was essentially completed.

  • 2008.6

    Commencement of China-US Bilateral Investment Treaty (“BIT”) negotiations

    BIT negotiations led to extensive discussions on the reform of China's foreign investment system.  One of the important issues discussed was whether China should use a positive list to achieve investment liberalization in a gradual manner, or use a negative list as a high-level approach to investment liberalization.

  • 2013.7

    Pre-entry national treatment and negative list

    The fifth round of the China-US Strategic and Economic Dialogue was held in Washington, DC.  Vice Premier Wang Yang, on behalf of China, agreed to conduct substantive negotiations with the United States on the basis of “pre-entry national treatment and negative list.”

  • 2013.9.29

    China (Shanghai) Pilot Free Trade Zone put into operation

    Regulations relating to approval in relevant foreign investment management laws were suspended for three years within the scope of the free trade zone.

  • 2015.1

    Foreign Investment Law (Draft for Comments)

    The draft provides detailed provisions with respect to variable interest entity (“VIE”) issues, national security review issues, information reporting systems, and other related matters, many of which were not included in the final version of the law.

  • 2016.10

    Interim Administrative Measures for Record-filing of the Incorporation and Change of Foreign-invested Enterprises (the “Interim Measures”)

    “Pre-entry national treatment and the negative list management model” began to be implemented in China on a nationwide basis.

  • 2017-2018

    The Interim Measures were twice amended

    The two amendments only modified minor provisions of the Interim Measures, including clarifying the scope and procedures for foreign-invested enterprise filings.

  • 2018.6.30

    Executive meeting of the State Council

    National implementation of a system of “one form and one-stop services” for a foreign-invested enterprise to establish business records and complete industrial and commercial registration.  Business filings are basically integrated into the industrial and commercial registration process.  It can be said that for foreign investment outside the negative list, pre-entry national treatment has been essentially realized, and that access procedures now are basically no different from those of domestic enterprises.

  • 2019.3.15

    Foreign Investment Law

    The new law was adopted at the Second Session of the 13th National People's Congress.

  • 2020.1.1

    Foreign Investment Law

    The new law is scheduled to come into effect as of January 1, 2020.

1. Main Contents and Highlights

The new Foreign Investment Law is divided into six chapters which are comprised of 42 articles.  Three chapters are respectively titled “General Provisions,” “Legal Liability,” and “Supplementary Provisions,” and the remaining three chapters respectively address the topics of “Investment Promotion,” “Investment Protection” and “Investment Management.”  Below is an analysis of the main contents and highlights of the General Provisions, Investment Promotion, Investment Protection, and Investment Management chapters of the new law.

01. General Provisions

1)Redefining “Foreign Investment” and “Foreign-Invested Enterprise”

Chapter I of the Foreign Investment Law, “General Provisions,” defines “foreign investment” and “foreign-invested enterprise,” as well as explaining four examples of foreign investment.  It should be noted that these definitions eliminate earlier distinctions between wholly foreign-owned enterprises, Sino-foreign joint ventures and Sino-foreign cooperative enterprises which had applied for many years.  Secondly, the definition of “foreign investment” provided in the General Provisions omits earlier wording to the effect that “the provision of more than one year of financing to domestic enterprises in which they hold the rights and interests referred to above.”  In addition, there are some differences between domestic and foreign-invested enterprises in the current external debt management system.

2)Clear Pre-Entry National Treatment and Negative List Management System

Article 4 clarifies implementation of pre-entry national treatment and the negative list management system for foreign investment.  For example, if a foreign investor intends to invest in the construction of a factory in China, then so long as the concerned industry is not included in the negative list, such foreign investor will be treated the same as a domestic Chinese investor at the entry stage.  Accordingly, the foreign investor will be treated like a domestic Chinese investor, and may conduct the investment according to the procedures and requirements prescribed in the PRC Company Law, greatly reducing the time and expense of foreign investment.

Article 4 also provides that, to the extent that more preferential treatment concerning access is available to a foreign investor pursuant to any international treaty or agreement that the PRC is party to, such relevant provisions may prevail.  This permits flexibility for China to enter into a future bilateral investment agreement involving the “pre-entry national treatment plus negative list principle.”

02. Investment Promotion

Chapter II of the Foreign Investment Law, “Investment Promotion,” regulates the promotion of investment from two aspects: (i) fair and equitable treatment and (ii) preferential treatment in investment promotion.

1)Fair and Equitable Treatment

With regard to the fair and equitable treatment of foreign investors in China, the Foreign Investment Law, on the basis of providing for a negative list of national treatment prior to entry, also ensures and strengthens national treatment after access through a number of provisions, and implements the basic principle of equal treatment as between domestic and foreign investors.  In particular: Article 9 provides for the equal application of relevant PRC governmental policies by foreign-invested enterprises; Article 15 provides for the establishment of standards for equal participation of foreign-invested enterprises and the equal application of PRC regulatory requirements; Article 16 provides for the fair participation of foreign-invested enterprises in government procurement activities; and Article 17 stipulates that foreign-invested enterprises can provide financing on an equal footing with their domestic counterparts.  These regulations have accelerated the speed of foreign investment into the Chinese market, broadened the scope of foreign investment, treated the domestic and foreign investors equally, and embodied the principle of national treatment.

2)Preferential Treatment in Investment Promotion

The Foreign Investment Law regulates such situations where local governments have, in the past, exceeded their statutory authority to make commitments of preferential measures, and the situations where they have failed to deliver on the commitments made by them.  For example, Article 18 provides that local people’s governments may formulate preferential policies only within the scope of their statutory authority, and Article 25 provides that local people’s governments must abide by policy commitments and contracts concluded in accordance with the law, which may include commitments made through official documents, speeches, and similar means.  However, at the same time, the Foreign Investment Law also expressly prescribes certain preferential policies.  For example, Article 13 provides for special economic area or pilot policies and measures to promote foreign investment, and Article 14 provides for preferential policies to encourage foreign investment in specific industries, fields and geographic regions.

03. Investment Protection

Chapter III of the Foreign Investment Law regulates investment protection and incorporates certain improvements as compared with prior law.

1)Limitations on Expropriation of Foreign Investments

Article 20 of the new law provides that expropriation of foreign investments may only be carried out in accordance with the law, and that foreign investors must be compensated fairly and reasonably.  PRC Wholly Foreign-owned Enterprises Law, the PRC Sino-Foreign Cooperative Joint Ventures Law and the PRC Sino-Foreign Equity Joint Ventures Law (“Three Capital Laws”) provided that the government may not nationalize, or expropriate the assets of, foreign-invested enterprises but, in special circumstances, when necessary, the assets of a foreign-invested enterprise may be expropriated for the public interest in accordance with the law, and be paid compensation accordingly.  In contrast, the Foreign Investment Law now omits reference to nationalization, and further emphasizes both (i) that any expropriation must be carried out in accordance with the law, and (ii) that any such action must be compensated consistent with principles of fairness and rationality.

2)Allowing Profits to be Freely Remitted in Accordance with the Law

Article 21 of the new law provides that a foreign investor may, in accordance with the law, freely inwardly and outwardly transfer capital contributions, profits, capital gains, income from asset disposals, royalties from intellectual property rights, lawfully obtained compensation or indemnity, and income from liquidation, etc.  Compared with the Three Capital Laws, the contents of the Foreign Investment Law are more detailed, and the regulation of foreign exchange is more relaxed, reflecting improvement of investment facilitation.

3)Increased Emphasis on the Protection of Intellectual Property Rights

Article 22 provides that administrative departments and their staff may not use administrative means to forcibly transfer technology.  It should be noted that previously, due to the existence of equity restrictions on foreign capital and joint venture requirements, China joint venture partners involved in technology introduction negotiations could apply increased pressure on foreign investors to transfer technology.  The system of pre-admission national treatment plus negative list as stipulated in the Foreign Investment Law reduces the potential pressure which may be applied on foreign investors to transfer technology during actual negotiations.

4)Establishment of a Complaint Mechanism

In addition to issues relating to expropriation and expropriation compensation, remittance problems and forced transfer of technology, the Foreign Investment Law provides for the establishment of a corresponding complaint mechanism.   Article 26 provides foreign-invested enterprises and their investors with the right to complain regarding administrative actions which they consider to infringe upon their legitimate rights and interests, as well as the right to apply for administrative reconsideration, and to initiate administrative proceedings in accordance with the law.

04. Investment Management

Chapter IV of the Foreign Investment Law also provides for the review and verification of foreign investment access which can be summarized as “one list, two reviews, and three procedures.”

“One list” refers to the negative list.  Article 28 provides that foreign investors may not invest in any field where the negative list prohibits investment.  For any such field, a foreign investor must conform to the investment conditions established in the negative list.  Fields not included in the negative list are managed under the principle that domestic investment and foreign investment are to be treated uniformly.

“Two reviews” refers to an anti-monopoly review and a security review.  Article 33 provides that foreign-invested enterprises involved in a concentration of undertakings willl be subject to an anti-monopoly examination.

Article 35 provides that the PRC government will establish a security review system, pursuant to which a review will be conducted for any foreign investment affecting or having the possibility to affect national security, and that the security review decision made in accordance with the law is final.

“Three procedures” refers to the approval or record filing of projects, industry licensing and the management of the market supervision department for enterprise registration procedures.

Article 29 provides that foreign investment shall be approved and filed in accordance with relevant provisions of the PRC government, while Article 30 provides that foreign and domestic investors may apply for licensing in relevant industries and fields on an equal footing;

Article 32 provides that foreign-invested enterprises must, in accordance with the law, complete enterprise registration (tax, foreign exchange, and accounting) and abide by relevant provisions with respect to labor protection and social insurance that are specified in relevant laws and administrative regulations, and that they shall be subject to the supervision and inspection of relevant competent departments.

In addition, the Foreign Investment Law provides for an information reporting system.  Article 34 specifies that foreign-invested enterprises and foreign investors must systematically submit investment information to the competent commerce department through the enterprise registration system and the enterprise credit information publicity system.  The content and scope of the information to be reported is to be determined in accordance with the principle of necessity.

2. Impact on Foreign-Invested Enterprises

In general, the introduction of the Foreign Investment Law is a significant positive development for foreign-invested enterprises, and such enterprises may invest in China with confidence.  However, it is also undeniable that the introduction of the new law may also exert certain negative effects.

01. Changes in Company Establishment Process, Etc.

Because the pre-existing concepts of “wholly-owned foreign enterprise” and “Sino-foreign joint venture” are no longer recognized by the Foreign Investment Law, foreign enterprise certificates of establishment, approval, verification, filing, and licensing, which had been obtained on the basis of the Three Capital Laws, may no longer have validity after the Foreign Investment Law is formally implemented.  It will be necessary to continue to pay close attention to the further development and promulgation of relevant supporting laws and regulations and other specific implementing measures.

02. Amendment of Enterprise Articles of Association

In accordance with the provisions of the Three Capital Laws: (i) the highest authority of a Sino-foreign joint venture is a board of directors composed of persons appointed by the parties to the joint venture.  The company implements the general manager's operation and management system under the leadership of the board of directors; (ii) a Sino-foreign cooperative enterprise shall establish a board of directors or a joint management institution, and may also entrust Chinese and foreign partners to operate and manage; (iii) and a wholly foreign-owned enterprise may not have a board of directors, but it must have an executive director.  The three types of corporate form are different, and there are conflicts with the provisions of the PRC Company Law.  After the implementation of the new law, the standards of the PRC Company Law will be unified.  This means that the shareholders’ meeting as the highest authority will appear in all foreign-invested enterprises.  Accordingly, company articles of association and the subsequent management system will change greatly.

03. Changes in Registered Capital

Article 4 in the PRC Sino-Foreign Equity Joint Ventures Law provides that joint ventures shall be established as limited liability companies, and the proportion of a joint venture's registered capital contributed by the foreign party shall generally be no lower than 25 percent.  The Foreign Investment Act does not limit the proportion of foreign capital invested, which greatly increases the freedom of foreign capital, and which may also allow foreign investors interested in reducing their holdings to more easily reduce their equity investment.

In summary, the Foreign Investment Law has brought generally good news for foreign investors, but it has also brought certain challenges to the management of foreign-invested enterprises ment.  Forthcoming supporting regulations hopefully will address these issues, but it remains to be seen to what extent and how quickly this will be achieved.

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