China Has Unveiled the Implementation Regulations for Foreign Investment Law

On 31 December 2019, the State Council of China officially rolled out the Implementation Regulations for the Foreign Investment Law of the PRC (“Implementation Regulations”). Both the Foreign Investment Law (“FIL”) and the implementation Regulations have entered into effect on 1 January 2020. The content of the Implementing Regulations largely corresponds to the provisions of the FIL, while providing more details on certain aspects.

In the early November of 2019, the Ministry of Justice released the draft Implementation Regulations for the Foreign Investment Law (“Draft Regulations”) for public comments. For details of the Draft Regulations, please check out our recent publication for reference.

Compared to the Draft Regulations, the Implementation Regulations expand the number of provisions from 45 to 49 and additionally add the Chapter V for legal liabilities in case of unequal treatment of foreign-invested enterprises (“FIEs”); while modifications are also made on various provisions.

In addition to the Implementation Regulations, various other related accompanying legislations have also entered into force on 1 January 2020, e.g. the Interpretation of the Supreme People's Court on Several Issues Concerning the Application of the Foreign Investment Law. The new FIL, its Implementing Regulations together with other accompanying legislations have brought profound impact on the foreign investment environment in China.  

In this article, we will pinpoint the major highlights of the Implementation Regulations and analyze the issues that remain to be clarified.

1. Allowing Chinese Individuals to Participate in FIE
Article 3 of the Implementing Regulations clarifies that Chinese individuals are included in the term “other investor” as used in Article 2 of the FIL. Consequently, it is clear that Chinese individuals are allowed to directly establish joint venture companies together with foreign investors.

2. Emphasizing Equal Treatment for Domestic and Foreign-Invested Enterprises
Based on the FIL, the Implementing Regulations further emphasize that domestic enterprises and FIEs shall be treated equally with regard to government funding arrangements, land supply, tax/fee reductions and exemptions, qualification licensing, project declarations and human resources policies. (Article 6)

Equal treatment shall further be ensured regarding applications to PRC authorities and their treatment (Article 6) as well as in the fields of formulating and amending national standards, industrial standards, local standards and group standards (Article 13), the application of mandatory standards and participation in government procurement (Article 15-17).

3. Enhancing the Foreign Investment Protection
The Implementing Regulations emphasize the strengthening of protection of foreign investments through the following aspects:

• Article 22: Foreign investors’ legitimate income generated in China (e.g. return on capital, investment proceeds, dividends, IP license royalties and residual assets) may be freely remitted in either Renminbi or foreign exchange without interference from any entity or individual.
• Article 23-25: The equal protections of intellectual property rights and trade secrets of foreign investors and FIEs are dressed under these provisions. Government authorities and their staff shall not force or disguise foreign investors or FIEs to transfer technology by using administrative permits, administrative inspections, administrative penalties, administrative coercions, and other administrative means. Authorities shall take effective measures to protect the trade secrets of foreign investors and FIEs that they acquired during the performance of their duties.
• Article 27: This article defines "policy commitment" as provided under Article 25 as a written commitment made by the local governments at various levels and their relevant departments within their statutory authority on the support policies, preferential treatment and convenient conditions applicable to the investment of foreign investors and FIEs in the region.
• Article 28: Governments at various levels and their relevant departments shall not break the contract on the grounds of adjustment of administrative divisions, change of government, adjustment of institutions or functions, or change of persons responsible, etc. The contents of policy commitments shall comply with the provisions of laws and regulations.

4. Investment Administration
Chapter IV of Draft Regulations set out the administration measures carried out by competent administrative authorities as required for FIEs, among which the most noteworthy rules are the information reporting requirement and security review regime as follows:

• Article 38: The ministry of commerce and the administration of market regulation shall carry out a unified information reporting procedure and provide foreign investors or FIEs with guidance in submission of investment information.
• Article 39: The relevant authorities shall enhance information sharing and shall not require foreign investors or FIEs to submit information which can be shared among the regulatory authorities.
• Article 40: This provision is newly included in the Implementation Regulations, which was not initially included in the Draft Regulations. It provides that the State shall establish a foreign investment security review system, and conduct security review for foreign investments which have or may have an impact on national security.

5. Legal Liabilities of Governmental Authorities and Their Staff
Compared with the Draft Regulations, the Implementation Regulations has added a separate chapter on the responsibilities and liabilities of government authorities and their staff when in violations of the law.

Art. 41, among others, of the Implementation Regulations has set out the following circumstances where the relevant authorities and their staff are subject to legal liabilities:

1. formulating or implement policies which do not accord equal treatment to FIEs and Chinese-funded enterprises;
2. violating the law in restricting FIEs from participating equally in the formulation and revision of standards, or specifically target foreign investment enterprises in applying technical requirements which are higher than the mandatory standards;
3. violating the law in restricting inward or outward remittance of funds by foreign investors; or
4. failing to perform policy commitments made pursuant to the law to foreign investors and FIEs and various contracts concluded pursuant to the law, to make policy commitments beyond their statutory powers, or to make policy commitments which do not comply with laws and regulations.

Issues remain to be clarified
As much clarity as the Implementation Regulations provide as regards with the issues covered by the FIL, more defined interpretation and regulations are expected to be given to elaborate on the following issues:

• For a long time, the Variable Interest Entity (VIE) model has been used in China. In connection with the VIE model, Chinese founders would usually use a round-trip investment structure, by setting up an offshore holding company which will invest back into China. The round-trip issue was touched upon in the Draft Regulations. However, due to the controversy around the VIE and round-trip issue, the provision is omitted from the Implementation Regulations, which leaves room to formulate more unified regulations in this regard in the future.
• China’s current national security review regime mainly applies to foreign investors’ acquisition of domestic enterprises in various strategically important industries where foreign investors gain actual control and in several free trade zones security review may also apply to greenfield investments. With the security review system as provided under Article 40 of the Implementation Regulations, it is anticipated that the national security review regime will be expanded to all types of foreign investment activities as provided in Article 2 of the FIL. Therefore, more detailed review rules and regulations shall be issued based on the foregoing provisions.
• The Implementation Regulations delete the 6-month grace period after the 5-year transition period in the Draft Regulations. The Implementation Regulations give no rules on the consequences if the existing FIEs do not adjust their organizational form before 1 January 2025. We anticipate more regulations will be released for the administration of market regulation and other competent authorities to follow in this regard.

Outlook
Compared with the Draft Regulation released back in November 2019, the final version of the Implementation Regulations have incorporated changes with an effort to reflect public comment received and eventually level the playing field for foreign investors. With the effect of FIL and the Implementation Regulations since 2020, it is essential for foreign investors to review their business in China, assess the practical implications and get prepared for the new era so as to ensure a smooth transition.