The Chinese government is encouraging affected Chinese parties to take legal action against foreign investors that improperly depart from China. The Chinese government has also emphasised that foreign investors may be liable beyond their capital contributions if their failure to properly liquidate an investment results in losses for creditors.

 This new "encouragement" is set out in the Guidelines for Transnational Investigation and Litigation Work of Affected Chinese Parties regarding the Improper Departure of Foreign Investors from China (the "Guidelines") jointly issued by the Ministry of Commerce, the Ministry of Foreign Affairs, the Ministry of Justice and the Ministry of Public Security.

 Improper departures

Chinese media has reported that a growing number of foreign investors have improperly departed from China, causing losses to Chinese joint venture partners, creditors and domestic employees, and contributing to social instability.

 Although not defined in the Guidelines, the term "improper departure" almost certainly includes foreign investors abandoning an investment or withdrawing capital prior to the liquidation or transfer of an investment.  

By contrast, the withdrawal of capital following liquidation or transfer will not be caught by the Guidelines, provided that the foreign investor fully complies with applicable Chinese laws and regulations. The legal requirements for the withdrawal of capital include approval by the competent Chinese governmental authorities.  

Piercing the corporate veil  

Generally, shareholders in China are liable for the debts of the company only to the extent of their equity in the company. However, the Guidelines emphasize the additional liability of foreign investors that fail to properly liquidate their investments.

 The additional liabilities of an investor are set out in a Supreme People's Court interpretation of the Company Law. Among other things, the interpretation states that investors in a limited liability company or shareholders of a joint stock company are liable to creditors for amounts beyond their equity contributions if their non-compliance with liquidation procedures result in creditor losses. Such additional liability is also extended to the directors of a joint stock company, and de facto controlling parties.  

In particular, a shareholder will have joint liability with the company if:

  • the company cannot be liquidated due to absence of financial books or other important documents, and the absence of the financial books or documents resulted from the negligent or intentional acts of the shareholder;
  • the shareholder fails to establish a liquidation committee within the prescribed period, thus causing the loss of company property (in this case joint liability only arises to the extent of the loss); and
  • the shareholder fails to liquidate the company before cancellation of its business registration, or maliciously disposes of the company’s assets after dissolution, thereby causing damage to creditors' interests.

The Guidelines encourage affected Chinese parties (including joint venture partners and employees) to take legal action against foreign investors in these situations.

Liability in home jurisdiction  

If a foreign investor cannot satisfy its debt obligations with assets in China, then the Guidelines specifically require them to use assets from their home jurisdiction to cover the liabilities in China.  

If foreign investors come under suspicion of committing serious crimes, such as tax evasion, then China may demand extradition of the responsible persons.  

Whether the judgment of a Chinese court could be enforced overseas, and whether an individual could be extradited to China, depends on the rules of the foreign investor's home jurisdiction, whether any relevant treaty exists and the particular facts of the case.  

Implications  

With the Chinese government increasingly concerned about the negative impact caused by improper departure of foreign investors, foreign investors must be sure to liquidate or transfer any investment strictly in accordance with the law prior to withdrawing investment from China