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LEGAL: Legal Updates on Foreign Exchange Capital Funds
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Legal Updates on Foreign Exchange Capital Funds

By Manual Torres (Managing Partner of Garrigues Shanghai) & Cao Jia (Associate of Garrigues Shanghai)

BT 201506 15 Legal 219251040 8 e1397112473746On 8 April 2015, the State Administration of Foreign Exchange ("SAFE") issued a new circular, which will take effect on June 1, 2015.

Circular 19 aims to facilitate the settlement of the foreign exchange capital funds of the foreign invested enterprises ("FIEs") from foreign currencies into CNY funds ("Capital Fund Settlement").It has launched several preferential measures compared with the restrictions under the previous foreign exchange administration regime.

This article will briefly introduce the key features of the Circular 19 and the implications for FIEs in China.

BT 201506 12 Legal HL"At Will" Settlement Approach (in Chinese, "意愿结汇制")
Prior to the Circular 19, the famous Circular 142 promulgated by the SAFE on 29 August 2008 and its relevant supplementary circulars required that the Capital Fund Settlement shall be subject to the rule of "Settle-to-Pay" (in Chinese, "支付结汇制"), which means only if the authentic underlying transaction occurs and the payment in CNY is required, could the Capital Fund Settlement be conducted through banks. The FIEs are not allowed to choose the timing for said settlement.

Under said "Settle-to-Pay" approach, before applying for the Capital Fund Settlement, a FIE shall first arrange for the capital verification by a Chinese accounting firm and obtain the capital verification report. During the application procedure for the settlement, the bank handling the settlement will review the documents evidencing the usage of settled CNY funds, such as the underlying contracts, invoices, latest capital verification reports and other evidence which said bank deems necessary.

In addition, if the ninety five percent (95%) of the foreign exchange capital fund of a FIE has been settled, the bank must first verify the authenticity of the invoices and other documents related to the previous settlement before proceeding the settlement of the remaining five percent (5%) of foreign exchange capital funds.

However, under Circular 19, the above mentioned capital verification is no longer required, and FIEs are able to settle "at will" the one hundred percent (100%) of their foreign exchange capital funds into CNY funds at any point of time, provided that said FIEs have completed the capital contribution confirmation registration (in Chinese, "货币出资权益确认") before the competent counterparts of SAFE or the book-entry registration of monetary contribution (in Chinese, "货币出资入账登记") are put before the banks for their paid-in capital fund.

This "At Will" settlement approach will enable the FIEs to choose the timing they deem appropriate by adopting a favorable exchange rate, and as a result, avoid the unnecessary losses occurred in the currencies exchange.

We draw your attention to the fact that, the settled CNY funds shall be kept in a designated "Settled-to-be-Paid" bank account (in Chinese, "结汇待支付账户") opened by the FIE, from which the payment will be made under the supervision of the handling bank. The bank will still require the FIE to provide relevant supporting documents evidencing the authenticity of the usage of the settled CNY funds.

BT 201506 13 Legal mao on the yuan 5Negative List for Usage of Settled CNY Funds
The Circular 19 specifically listed the restrictions on the usages of the settled CNY funds, including:

1)The settled funds shall not be directly or indirectly used for the payment beyond the business scope of the FIEs or the payment prohibited by the laws and regulations;
2)The settled funds shall not be directly or indirectly used for investment in securities, unless otherwise provided by laws and regulations;
3)The settled funds shall not be directly or indirectly used for granting entrust loans in CNY (unless permitted by the business scope), repaying the inter-company borrowings or repaying bank loans in CNY that have beenlent to third parties; and
4)The settled funds shall not be used for paying the expenses related to the purchase of real estate not for FIE's self-use, except for the foreign-invested real estate enterprises.

The above "negative list" is transparent and enables the FIEs to internally examine the envisaged usages of settled CNY funds in advance to avoid the potential violation of foreign exchange administration policies in this respect.

BT 201506 14 Legal 2014 09 24T093634Z 1100065768 GM1EA9O1CRI01 RTRMADP 3 CHINA SHANGHAI FTZEquity Investment in China by Using Settled CNY Funds
Under the Circular 142, the FIEs whose main business does not involve equity investment, such as manufacturing FIEs, trading FIEs and consulting FIEs shall not directly use the settled CNY funds to make equity investment in China.

However, the Circular 19 eliminates said restriction.

The following formalities as required by SAFE shall be fulfilled by the above FIEs:

-The target company to be invested shall first apply for the re-investment registration (in Chinese, "境内再投资登记") before the competent counterpart of SAFE and open its designated "Settled-to-be-Paid" bank account (in Chinese, "结汇待支付账户"); and

-After the foreign exchange capital funds of FIEs are settled into CNY funds, the settled funds shall be remitted directly to the target company's "Settled-to-be-Paid" account.

Please note that, since the settled CNY funds must be used within the business scope of the FIEs, and considering said FIEs do not have a specific business scope of "equity investment", there is the possibility that in practice said FIEs may still not be allowed to use the settled CNY funds for equity investment in China, unless said business scope is included (but subject to relevant legal requirements).

It would be necessary and advisable that FIEs consult with the competent counterparts of SAFE on a case-by-case basis before actually conducting equity investments in China with settled CNY funds.

Although the Circular 19 endeavours to facilitate the Capital Fund Settlement and the usage of the settled CNY funds, there are still uncertainties regarding its implementation from 1 June 2015. We recommend FIEs keep a close eye on the implementation of said circular and exploit the new policies for their envisaged business needs.


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