In 2006 and 2007, the Chinese Government imposed significant restrictions on foreign investment in China’s real estate sector, aiming to mitigate the over-appreciated real estate market, stabilise property prices and reduce renminbi appreciation pressures. These restrictive rules mainly include the Opinions on Regulating Market Access and Administration of Foreign Investment in the Real Estate Market (Circular 171), the Circular on Further Strengthening and Regulating the Approval and Administration of Foreign Direct Investment in Real Estate Industry (Circular 50), and the Circular on Issuing the List of the First Batch of Foreign-Invested Real Estate Projects Having Passed the Procedures for Filing with the Ministry of Commerce (Circular 130).

These regulatory restrictions, together with the global credit crunch and recent property price plunge in many Chinese cities, significantly affected the foreign investors seeking to benefit from China’s urbanisation and renminbi appreciation. In fact, since the second quarter of 2008, there have been very few new foreign-invested real estate projects, and many major foreign players have sold or plan to sell their properties in China. Given that the global financial turmoil poses severe threats to China’s economic development, the Chinese Government is revisiting its policies and considering easing its control over foreign investment in the real estate market so as to boost the Chinese economy. The list of policies and practices recently adopted by national and local Chinese governments clearly shows this tendency:

On 18 June 2008, the Ministry of Commerce (MOFCOM) issued the Circular on Better Implementation of the Filing of Foreign Investment in Real Estate Industry (Circular 23), in which MOFCOM delegated its verification power regarding the filing of foreign investment in real estate to the provincial level commerce authorities. As filing verification by MOFCOM is usually harder and more time consuming to obtain than verification by provincial commerce authorities, this delegation of power is believed by many to be a signal of easing foreign investment in the real estate industry.

On 20 December 2008, the State Council issued Several Opinions on Promoting the Healthy Development of Real Estate Market (Circular 131), which provides various tax incentives to boost home-purchase demand and requests local governments to take measures to enhance local real estate markets. Accordingly, many cities, including Shanghai, Xiamen, Nanjing and Chongqing, have showed a positive attitude toward foreign investment in their policy making.

On 31 December 2008, the State Council issued Order No. 546 to repeal the Urban Real Estate Tax previously applied to foreign-invested enterprises and foreign enterprises that own property in China. According to the Order, from 1 January 2009, foreign-invested enterprises and foreign enterprises will instead be subject to a Real Estate Tax, which is lower than the Urban Real Estate Tax and previously only applied to domestic enterprises.

In February 2009, the Shanghai Government confirmed in a press conference that foreign investors again are allowed to bid on land use rights by paying deposits in foreign currency. In 2007, foreign investors were required to pay deposits in renminbi for land bidding, which was a measure taken by the Shanghai government to prevent new real estate foreign investors from acquiring land use rights, because those investors usually will not have (or be permitted to buy) large amounts of renminbi. In early 2009, Tianjin and Xiamen also issued similar policies to encourage foreign investors to acquire land use rights in their cities.

Considering the decreases of property prices, the demand for capital by domestic real estate developers and China’s potential standing during this economic downturn, the easing of regulatory restrictions appears to have created a good opportunity for foreign investors, as demonstrated by several recent benchmark foreign-invested real estate projects in China. Foreign investors interested in the Chinese real estate market should keep a close eye on market development and potential policy changes later in 2009.

Nevertheless, because Circular 171, Circular 50, Circular 130 and other restrictive regulations are still effective, foreign investors must carefully take into account the significant restrictions set forth therein before they structure any investments in the Chinese real estate market. Below is a short summary of the major restrictions found in these circulars.

Commercial Presence Requirement

Foreign investors must establish an onshore foreign invested enterprise before they purchase, develop or operate any real estate in China (except for purchasing self-use property by the foreign investor’s China representative office).

Registered Capital Requirement

If the total investment of a foreign-invested real estate enterprise (FIREE) is not less than US$10 million, then its registered capital shall be no less than 50 per cent of the total investment.

Pre-Conditions to the Establishment of FIREE

A foreign investor shall have acquired the land use right, property ownership right or at least have entered into an agreement with the relevant parties to acquire land use right or property ownership rights before it applies to establish an FIREE.

Special Approval Procedures

A new FIREE cannot obtain a formal business license and formal foreign investment approval certificate before a land use right certificate is issued.

Limited Business Scope

An FIREE is permitted to engage in the development of common residential properties (previously this was encouraged) but is restricted from developing high-end hotels, villas, office buildings and international convention centers. Real estate agencies or brokerages are also restricted to foreign investment.

Debt Financing Restriction

An FIREE is prohibited from borrowing any domestic or overseas loans if it fails to pay up its registered capital, it fails to obtain the land use right certificate, or its project capital is less than 35 per cent of its total investment.

Fixed Return Prohibited

If the FIREE is a Sino-foreign joint venture, the parties cannot guarantee a fixed return to any other contract party.

Acquiring Existing Real Estate Projects

Foreign investors acquiring existing real estate projects in China (by equity transfer or asset transfer) shall pay the purchase price in lump sum, and shall guarantee that they will continue performing the land use right grant contract, the construction land planning certificate, and other government permits and certificates.

Real Estate Project Filing

All foreign investment real estate projects approved by the local authorities must be verified by and filed with MOFCOM (now delegated to provincial commerce authorities pursuant to Circular 23). Without such filing, the FIREE cannot process the foreign exchange settlement for capital account items.

Foreign Debt Restriction

For an FIREE approved by the Government and filed with MOFCOM after 1 June 2007, the State Administration of Foreign Exchange (SAFE) or its local counterparts will not register or settle its foreign debt. For a FIREE approved after 1 June 2007 but not filed with MOFCOM, SAFE will not even process its foreign exchange registration nor settle its capital account items.

In conclusion, recent policy changes indicate that the Chinese Government is considering easing its control over foreign investment in the real estate market, and this trend may create opportunities for interested foreign investors. However, significant restrictions imposed by the Chinese Government in 2006 and 2007 remain largely unchanged and constitute real barriers to foreign investment in China’s real estate market. Interested foreign investors should closely monitor policy changes in 2009 and take advantage of new opportunities with careful preparation.