On the issue of whether real estate could be financially leased, it is still arguable both in theory and in legal practice as the relevant laws and regulations are unclear and even with discrepancies, even although there do exist some cases where the subject of financial leasing is real estate, such as sale-leasebacks of Kunming Kunshi Highway 
in Yunnan Province, financial leasing of factories under construction in Tianjin Port Free Trade Zone, sale-leasebacks of the office building in Tianjin Bonded Area, sale-leasebacks of urban transportation infrastructure in Wuhan,financial leasing of wharf under construction in Zhoushan and Yueyang urban road in Hunan Province 
and BOT projects of urban infrastructure. 

We briefly analyze the issue form the laws, regulations and regulatory documents and reveal potential legal risks in operating real estate financial leasing business in China.

I Relevant Provisions on Real estate Financial Leasing Under Chinese Laws and Regulations 

1. No Prohibitive Provisions in Laws And Regulations level

   There are no prohibitive provisions on whether real estate such as building could be the subject of financial leasing in relevant laws and administrative regulations such as Property Law, Contract Law, Land Administration Law, Urban Real EstateAdministration Law. According to the principle established in Article 52 of Contract Law that a contract is valid provided it does not violate a mandatory provision of any law or administrative regulation, real estate financial leasing contracts shall be valid in principle. 

2. Different Attitudes On Normative Documents of Law
   The Chinese administrative departments in charge of the financial leasing industry include China Banking Regulatory Commission (hereinafter"CBRC"), Ministry of Commerce (hereinafter “MOFCOM”) and the State Administration of Taxation (hereinafter “SAT”). Financial leasing companies, foreign financial leasing companies and domestic financial leasing companies will be supervised by CBRC, MOFCOM and SAT respectively.

   According to Article 4 of Measures for the Administration of Financial Leasing 2 Companies (Order of the CBRC [2014] No. 3), the leased assets to which financial leasing transactions will be applicable to fixed assets, unless otherwise prescribed by the CBRC. The term “Fixed Assets” shall be not excluding real estate in accordance with common sense. Although Notice of the General Office of the CBRC on Strengthening the Supervision of Leaseback Business Conducted by Financial Leasing Company (General Office of CBRC [2005] No.19) provides that leaseback business activities should be a specific subject of leasing which be fixed assets except for real estate. However, the aforementioned document, CBRC [2005] No.19, was expired according to Announcement by the CBRC on the List of Rules and Normative Documents Newly Promulgated, Amended, Abolished and Invalidated (CBRC [2007] 
No.56), which means as the regulatory department, CBRC is no longer takes negative attitude towards real estate financial leasing.

   According to Article 6 of Measures on the Administration of the Foreign-Funded Lease Industry (Order of MOFCOM [2005] No. 5) , “The leased property as mentioned in the present Measures includes:
   (1) various personal property such as production equipment, communication facility, medical device, scientific research equipment, inspection and testing apparatus, engineering machinery and office equipment;
   (2) various transport facilities such as planes, automobiles and vessels;
   (3) intangible property such as software and technologies attached to personal property and vehicles asmentioned in clause 2 and 3 of this article, but the value of such intangible property shall not exceed 1/2 of a leased property.”

   Because the aforementioned article belongs to enumerative rules and absent of save clauses, it can be speculated that real estate is excluded. Therefore real estate financial leasing shall be excluded from business scope of foreign-invested financial leasing companies.

    Article 2 of Implementing Opinions of the Ministry of Railways on Encouraging and Guiding Private Capitals to Invest in Railway Industry (Railway Politics & Law [2012] No. 97) provides that: “Further promote the reform of railway investment and financing systems, explore methods of establishing railway investment foundation, support railway enterprises to go public through share structure reform in an active manner, create innovative methods of issuing railway bonds, encourage insurance foundation to flow into railway investment to a wider and deeper extent, explore more financing channels such as project financing, lease financing, trust, etc., to provide investment and financing platforms for the private capital to invest in railway industry and widen the channels and methods for the private capital to flow into railway constructions.” Although the aforementioned rule does not clarify the detailed 
investment scope for “railway constructions” by the way of financial leasing, some 
professionals estimate that the forbidden of operating real estate financial leasing 
business will be possiblely released. 

3. Different Taxes In Tax Law

    (1) Value-Added Tax
   According to Notice of the Ministry of Finance and the State Administration of Taxation on the Inclusion of the Railway Transport Industry and Postal Service Industry in the Pilot Collection of Value-added Tax in Lieu of Business Tax (Finance and Tax [2013] No.106), tangible personal property lease (including financial leasing 
belongs to the scope of value-added tax in lieu of business tax and therefore levy on value-added tax, where real estate financial lease is excluded.

 (2) Business Tax
According to Circular of the State Administration of Taxation on Printing and Distributing the Annotations on Business Tax Items (Draft for Trial Implementation) (SAT [1993] No. 149), leasing industry means transferring sites, houses, goods, equipments or facilities to others for use within an agreed period of time, which are classified of "service industry" category to levy Business Tax. According to this regulation and Finance and Tax [2013] No.106, real estate financial leasing should be classified of “service industry -- leasing industry” category to levy Business Tax. In addition, Announcement of the State Administration of Taxation on Tax Issues Concerning the Sale of Assets by the Lessees to the Financing Sale Leaseback (Announcement of the SAT [2010] No. 13) provides that in accordance with currently applicable provisions on value-added tax and business tax, the sale of assets by the 
lessee in the financing sale leaseback does not fall under the coverage of value-added tax or business tax and is therefore not subject to either value-added tax or business tax. Although subject matter of lease is not clarified hereby, this provision merely applies to personal property according to aforementioned provisions on value-added tax and business tax. 

    (3) Land Appreciation Tax 
   There is no special regulation on real estate financial lease among relevant laws and regulations of land appreciation tax , transfer of real estate property will be levied land appreciation tax pursuant to relevant regulations.

   (4) House Property Tax 

   According to Circular of the Ministry of Finance and the State Administration of Taxation on Relevant Issues Concerning House Property Tax and Urban Land UseTax (Finance and Tax [2009] No. 128), the lessee should pay house property tax according to the house residual value as of the month following the month in which the financial leasing contract commence regards to financial leasing house. If the commencement date is not stipulated in the contract, the house property tax thereon shall be paid by the lessee from next month after executed.

    (5)Urban Land Use Tax
   There is no special regulations for urban land use tax on the real estate financial leasing. According to Circular of the State Administration of Taxation on the Issuance of the Interpretations and Interim Provisions on Certain Specific Urban Land Use Tax Issues (SAT [1988] No. 15), land use tax shall be paid by the entity or individual that 
holds the land use rights in principle. Where a taxpayer who holds land use rights is not domiciled where the land is located, the custodian or actual user of the land shall pay the tax.

(6) Enterprise Income Tax

Article 11 of Law on Enterprise Income Tax provides that in computing taxable income, the fixed assets which are rented out through finance leasing should not be depreciated. Article 57 of Implementing Regulations of the Law on Enterprise Income Tax provides that the fixed assets mean the non-monetary assets which the enterprise has possessed and used for over 12 months in manufacturing products, providing labor service, leasing, or operation management, including house, building, machine, transportation vehicle, and other equipment, apparatus and tools in connection with the production operation, whereby real estate is not excluded.

   In addition, the Announcement of the SAT [2010] No. 13 provides that in accordance with the currently applicable enterprise income tax laws and provisions on the identification of enterprise income, income from sale by the lessee to the financing sale leaseback is not identified as sales income. Therefore, the assets in the financing leasing will still be subject to depreciation on the basis of the book value of such assets before sale. Lessee’s payment identified as financing interest shall be deducted before tax as the enterprise financial expenses during lease term,. According to the principle of systematic interpretation, this provision does not apply to real estate financial leasing as well, since it exists in the document which regulated value-added tax and business tax.

   According to Announcement of the State Administration of Taxation on Several Issues concerning the Administration of Income Tax on Non-Resident Enterprises(Announcement of the SAT [2011] No.24), Where a non-resident enterprise without any branch or establishment within the territory of China leases its equipment or articles to a domestic enterprise in China by the way of finance leasing, and the ownership of the equipment or articles belongs to the domestic enterprise after the expiration of the lease period (including the situation under which the equipment or articles are transferred after being evaluated to the domestic enterprise) and the non-resident enterprise collect rent according to the term specified by the contract, the sum of rent (including sum which is paid to the domestic enterprise after the expiration of the lease period) minus the price of the equipment or articles shall be treated as loan interest income to calculate enterprise income tax and the domestic enterprise shall withhold the enterprise income tax when paying rent. Where a non-resident enterprise without any branch or establishment to conduct management within the territory of China leases its real estate such as houses or buildings in China, the enterprise income tax on the income from the lease of the houses or buildings shall be calculated on the basis of all the rent income. The domestic lessee shall withhold the enterprise income tax when paying the rent or when the rent is due and payable. Where a non-resident enterprise dispatches employees or entrust other domestic companies or individuals to conduct daily management of the aforesaid real estate within the territory of China, such non-resident enterprise shall be deemed to have a branch or establishment within the territory of China, and it shall, within the time limit specified by the Enterprise Income Tax Law, declare tax return for enterprise income tax and pay it. Therefore, it can be inferred that real estate cannot be financial leased where a non-resident enterprise pays the tax. 

   (7)Stamp Tax

   According to Specific Provisions of the State Administration of Taxation on Issues Concerning Affixing Tax Stamps to Loan Contracts (SAT[1988] No. 30), financial leasing business conducted by banks and financial institutions is a form of business under which achieving the aim of “financing capital” through “financing goods”,and it is essentially an amortizable loan of fixed amount. Therefore, the amount of Stamp Tax payable on the financial leasing contract can temporarily be calculated in the same way as that of the loan contract on the basis of total rent. 

II Potential Legal Risks of Conducting Real Estate Financial Leasing Business in China 

   In conclusion, there are no laws and administrative regulations against conducting real estate financial leasing business. In spite of discrepancy in other normative documents, there are no rules applied by the court in confirming the invalidity of real estate financial leasing contracts. On the contrary, in the case of Huazhou Power Supply Bureau and others vs. International Leasing Co., Ltd on 6 Disputes over the Financial Leasing Contract (Final Judgment No. 53 [2003] of the Second Civil Tribunal of Shanghai Higher Court), Shanghai Higher Court confirmed the validity of financial leasing in the leaseback contract between Huazhou Power Supply Bureau and International Leasing Co., Ltd where “all the houses, constructions and equipment in the electric power station” are the subject of financial leasing.

   In spite of the aforementioned case, as uncertainty in laws and discrepancy in implementation among various regions, risks may still exist in real estate financial leasing as follows:

   (1) Real estate financial leasing contracts may be recognized as invalid.
   As mentioned above, according to Measures on the Administration of the Foreign-Funded Lease Industry (Order of the MOFCOM [2005] No. 5), real estate financial leasing shall be excluded from business scope of foreign-invested financial leasing companies. According to Measures for the Administration of Financial Leasing Companies promulgated by the CBRC, however, only financial leasing companies are allowed to conduct business of real estate financial leasing. Therefore, the court may hold invalidity of a contract of real estate financial leasing for exceeding business scope. 

   Meanwhile, if a financial leasing company is recognized as a financial enterprise, the ownership of real estate belongs to the leasing company during lease term , and real estate financial leasing might be mistaken for real estate investment, which violates relevant rules in financial industry.

   (2) Exceeding business scope may face Administrative penalty 

   Article 69 of Administrative Regulations on Company Registration provides: “When the registered items of a company have been altered, if the company fails to transact the alteration registration according to the provisions of the Regulations, the company registration organ shall order it to get registered within a time limit. If it fails to get registered within the time limit, a fine from CNY10,000 to CNY100, 000 shall be imposed. If the registration items fall within the items that shall be examined and approved as prescribed by laws, administrative regulations or decisions of the State Council, but the company has engaged in relevant business operations without approval and the circumstance is sever, its business license shall be revoked. ” Therefore, even though no disputes arise in the implementation of a financial leasing contract, administrative departments might impose penalty on financial leasing 
companies engaging in business of real estate financial leasing.

   (3) Legal risks where a financial leasing company as the lessor cannot register property rights 

   According to Real Rights Law, the creation, alteration, transfer or termination of the real rights of an real estate shall have no effect if it is not registered. Therefore, if a financial leasing company engaged in real estate financial leasing does not register property rights, it cannot gain the ownership of leased real estate. If the ownership of 
real estate is not registered in the name of financial leasing company, it might be regarded as loan between enterprises in legal practice, thus the rent gained by a financial leasing company as the lessor hereby would not be protected by the laws.