Bankruptcy & Insovency

1. What are the most common forms of security taken in relation to immovable and movable property? Are any specific formalities required for the creation of security by companies?


Immovable property

The most common types of security for immovable property are:

  • Mortgage. This is an interest created over the debtor's property without transferring possession or the legal title to the creditor. If the debtor defaults, the creditor has a preferential right to compensation from the mortgaged property. Provided that the debtor agrees, the creditor can be compensated through the transfer of the property (which is independently valued). Alternatively, the creditor can be compensated with the proceeds from auction or sale of the property. If the parties cannot agree how to proceed, the creditor can initiate court proceedings.
  • Maximum claim mortgage.  This is an arrangement in which the parties agree to use the mortgaged property to secure a series of creditors' claims within a certain period of time and up to an agreed amount.

Movable property

The most common types of security for movable property are:

  • Mortgage and maximum claim mortgage. See above, Immovable property.
  • Pledge. This gives the creditor a right to possess the pledged asset and is created on actual delivery of the asset to the creditor. However, pledges of rights (for example, bills of exchange, shares and certain intellectual property rights) differ depending on the nature of the pledged asset (see below, Formalities). The creditor holds the asset until the debt is paid, but the debtor retains legal ownership.
  • Lien.  This gives the creditor a right to possess a debtor's property under a contract and to retain that property if the debtor breaches the contract. A lien depends entirely on possession and is lost when the creditor no longer holds the property. Domestic entities, including foreign investment enterprises (FIEs), cannot offer a lien as a form of security to any foreign party or to any foreign-funded financial institution in China.

Formalities

The following formalities apply:

  • Mortgage.  The parties must:

    • enter into a written contract; and
    • if required, register the property with the relevant authority.

    The relevant authority depends on the type of property being registered. For example, mortgages relating to:

    • land use rights on land with no structure or building must be registered with the local land administration authority;
    • urban real estate or buildings of town and village enterprises must be registered with the real estate administration authority at or above county level;
    • equipment or other movable property must be registered with the local State Administration for Industry and Commerce.

    The contract takes effect on the date of registration, which determines the priority of competing mortgages over the same asset.

    Property not listed as requiring registration can be voluntarily registered with a local public notary. In this case, the contract takes effect on the day it is signed.

    If the parties do not complete these formalities, the creditor does not take priority over a third party claiming the secured property.

  • Pledge. The parties must enter into a written contract, which takes effect when possession of the pledged property is transferred to the creditor. The date on which a pledge of rights takes effect depends on the nature of such rights. For example:

    • a pledge of shares and share certificates takes effect when it is registered with the securities registration authority (for shares in a listed company) or recorded on the register of shareholders (for shares in a nonlisted company);
    • a pledge of bills of exchange, cheques, banker's drafts or debt securities takes effect when the documents evidencing the rights being pledged are delivered;
    • a pledge of trade mark rights, patents or copyright takes effect when it is registered with the relevant administration authorities.
  • Lien. This is created by operation of law and not by contract. However, the parties can agree in a contract that no lien should be formed and the court must recognise this express intention.

2. Where do creditors and shareholders rank on the insolvency of a company?


On the insolvency of a company, the payment of claims will be made in the following order (Enterprise Bankruptcy Law 2007):

  • Secured creditors have payment priority to the extent of the value of the secured properties, but subject to payment of any employees' claims as mentioned in the fourth bullet point below.
  • Bankruptcy expenses, which include the following expenses incurred after the court accepts the bankruptcy petition:
    • court costs in the bankruptcy case;
    • expenses for the management, sale and distribution of the debtor's property; and
    • expenses incurred by the administrator in the performance of his duties, his remuneration and expenses for engaging other personnel.
  • Common interest liabilities, which include the following liabilities incurred after the court accepts the bankruptcy petition:
    • liabilities incurred as a result of the administrator or the debtor requesting counterparties to perform contracts which have not been completely performed by the parties;
    • liabilities incurred in connection with the debtor's property other than those relating to the management of the property;
    • liabilities incurred as a result of improper gains obtained by the debtor;
    • labour remuneration and social insurance premiums payable by the debtor to continue the operations and other liabilities arising as a result of this;
    • liabilities arising from injuries to persons caused by the performance of duties by the administrator or relevant persons; and
    • liabilities arising from injuries to persons caused by the debtor's property.
  • Liabilities owed to the debtor's employees, including:
    • wages, medical and disability subsidies and pensions;
    • basic old-age insurance and medical insurance premiums payable into their individual accounts;
    • compensation payable in accordance with laws and administrative regulations.

If any of these claims had accrued before and up to 27 August 2006 (the promulgation date of the Enterprise Bankruptcy Law) and cannot be discharged in full after exhausting the unsecured properties of the debtor, they will have priority over secured creditors in the secured properties.

  • Social insurance premiums other than those mentioned in the preceding bullet point and taxes owed by the debtor.
  • Social insurance premiums other than those mentioned in the preceding bullet point and taxes owed by the debtor.
  • Ordinary unsecured debts.

Any remaining assets are used to repay shareholders' capital contributions.


3. Are there any mechanisms used by trade creditors to secure unpaid debts?


Trade creditors can use the following mechanisms to secure unpaid debts:

Lien.  See Question 1, Movable property. The benefit of a lien is available to parties of:

  • bailment contracts;
  • transport contracts;
  • contracts for processing materials.

Retention of title clause.  Parties to a sale and purchase contract can agree that the seller retains title to goods if (Contract Law 1999):

  • the seller does not receive full payment for the goods;or
  • the buyer breaches other terms in the contract.

4. Are there any procedures (other than the formal rescue or insolvency procedures described in Question 5) that can be invoked by creditors to recover their debt?


The procedures used to recover a debt are:

Property preservation order.  If a creditor can show a substantial risk of the debtor disposing of, or dissipating, assets that are to be used to pay a debt, it can apply to the court for this order before legal proceedings have begun (Chapters IX and XXVI, Civil Procedure Law 2008). The most common applicants for this type of order are secured creditors whose security assets are at risk.

Before applying for a property preservation order, a creditor must provide a bank guarantee or security backed by its own assets. The guarantee should be equal to the value of the assets over which the order is sought. The creditor must bring a formal action before the court within 15 days or, if the case involves foreign elements, 30 days of the property preservation order being granted.

Subrogation proceedings. If a debtor is not actively seeking to recover a debt owed to it by a third party, the creditor can petition the court to bring subrogation proceedings against that third party (unless the claim is personal to the debtor). The debtor must pay the expenses incurred by the creditor in bringing subrogation proceedings.

Rescission and nullification. If a debtor has waived its right to recover a debt from a third party or transfers its property to a third party with little or no consideration, the creditor can petition the court to rescind or nullify the transaction. The debtor must pay the expenses incurred by the creditor in bringing proceedings for rescission.

An application must be made within a year of the date on which the creditor knew, or should have known, the ground for rescission. In addition, an application must be made within five years of the date of the rescindable transaction.

RESCUE AND INSOLVENCY PROCEDURES


5. Please briefly describe rescue and insolvency procedures that are available in your jurisdiction. In each case, please state:

  • The objective of the procedure and, where relevant, prospects for recovery.
  • Companies to which it can potentially apply.
  • How it is initiated, when and by whom.
  • Substantive tests that apply (where relevant).
  • How long it takes.
  • The consents and approvals that are required.
  • The effect on the company, shareholders and creditors.
  • How the procedure is formally concluded.

Restructuring

Objective.  Extended restructuring procedures are introduced in the Enterprise Bankruptcy Law to prevent the bankruptcy of enterprises that have plentiful assets, but are experiencing cash flow problems.

Companies.  Any enterprise established in China may use the restructuring procedures.

How, when and by whom. Either the debtor or its creditor can directly apply to the court for restructuring. Where a creditor has filed a bankruptcy petition against the debtor, the debtor, or its shareholder holding more than one-tenth of the debtor's registered capital, can also apply to the court for restructuring after the court has accepted the petition and before the court declares the debtor bankrupt. The restructuring period begins on the date on which the court agrees to restructuring.

Substantive tests. An applicant must prove that:

  • the debtor is unable to pay its debts when due and has insufficient assets to pay off all its debts or obviously lacks the ability to pay off its debts; or
  • there is an apparent likelihood that the debtor will be unable to pay off its debts. 

How long. Within six months of the date of the court ruling for restructuring, the court-appointed administrator (or the debtor, if the debtor has applied to the court and is allowed to continue to manage its property and business) should submit a restructuring plan to both the court and the creditors' meeting. A three-month extension can be granted by the court on the application of the administrator or the debtor with justified reasons.

Within 30 days of receipt of the restructuring plan, the court must convene a creditors' meeting to vote on the plan.

If no restructuring plan is submitted by the deadline, the court will terminate the restructuring procedure and declare the debtor bankrupt (see below, Bankruptcy).

Consents and approvals.  Any restructuring plan should be approved by a majority of the creditors in each voting class present at the meeting representing at least two-thirds in value of total claims in that class.

The creditors are classified as:

  • secured creditors;
  • employees with claims on unpaid wages, medical and disability subsidies and pensions, basic old-age insurance and medical insurance premiums payable to their individual accounts and compensation payable to them in accordance with laws and administrative regulations;
  • agencies with claims on outstanding taxes; and
  • ordinary unsecured creditors, and if the court thinks necessary, a small claims class among them.

The shareholders of the debtor can attend the creditors' meeting to discuss the restructuring plan in a non-voting capacity. Shareholders can vote as a separate class on matters that involve adjusting their rights and interests.

Within ten days of the date of adoption of the restructuring plan by all classes of creditors, the administrator or the debtor should apply to the court for approval of the restructuring plan.

If the restructuring plan is not approved by any class of creditors despite consultation by the administrator or the debtor, the administrator or the debtor can still apply to the court for approval of the plan if:

  • the claims of the secured creditors are fully discharged from the relevant secured properties, the losses incurred as a result of the delayed discharge are equitably compensated and the security rights over such properties are not materially impaired, or alternatively, the voting class has approved the restructuring plan;
  • the claims of employees and tax agencies are fully discharged, or alternatively, the voting classes have approved the restructuring plan;
  • the ratio of the claims of ordinary unsecured creditors that would be discharged according to the restructuring
    plan is not less than the ratio that would have been discharged under the bankruptcy procedures at the time
    the plan was submitted for approval, or alternatively, that voting class has approved the restructuring plan;
  • the adjustment of the rights and interests of the shareholders under the restructuring plan is fair and impartial, or alternatively, the shareholders have approved the restructuring plan;
  • the draft restructuring plan treats equitably the members within the same voting class and the priority
    of payment of claims is not against the priority in the normal bankruptcy procedures; and
  • the debtor's business plan is feasible.

The court will determine whether to approve the restructuring plan within 30 days of receipt of the application. If the plan is not approved by the court, the court can terminate the restructuring procedure and declare the debtor bankrupt (see below, Bankruptcy).

Effect.  Any restructuring plan approved by the court is binding on the debtor and all its creditors.

The debtor is responsible for the implementation of the restructuring plan under the supervision of the administrator. The administrator will hand over the property and business in his custody to the debtor.

The secured creditors are subject to a moratorium during the restructuring period. However, the secured creditors can apply to the court to enforce their security rights if it is likely that the secured properties will suffer damage or diminution in value that will prejudice their security rights.

Those creditors who have not filed their claims cannot exercise their rights until after the implementation of the restructuring plan and then only in accordance with the discharge conditions for the same class of claims provided in the restructuring plan.

The creditor's rights in respect of any guarantor of the debtor or other joint debtors are not affected by the restructuring.

During the restructuring period, the debtor's shareholders cannot ask for distribution of returns on their investment and the debtor's directors and senior officers cannot transfer the equity in the debtor held by them to any third party.

The court can terminate the restructuring procedure and declare the debtor bankrupt (see below, Bankruptcy) at the request of the administrator or an interested party, if:

  • the debtor is unable or fails to implement the restructuring plan;
  • the debtor's business and financial condition continues to deteriorate and there is no prospect of a turnaround;
  • the debtor engages in fraud, wilfully dissipates its property or commits other acts that are obviously prejudicial to the creditors; or
  • the administrator is unable to carry out his duties due to acts by the debtor.

When the court terminates the restructuring procedure, the undertakings made by the creditors as to adjustment of their claims in the restructuring plan will no longer have effect. However, the payments made to creditors during the implementation of the restructuring plan remain valid, and the portion of their claims that is not discharged is deemed a claim in the bankruptcy procedure.

Conclusion. After the restructuring plan has been implemented, the administrator submits a supervision report to the court and his supervision duties end. The debtor is discharged from the debts that have been reduced or waived in accordance with the restructuring plan.

Compromise

Objective. The Enterprise Bankruptcy Law sets out the procedure for an enterprise to compromise and settle its liabilities with its creditors. This can save a viable business that would otherwise go bankrupt while maximising the return to creditors.

Companies.  Any enterprise established in China can use the compromise procedure.

How, when and by whom. The debtor applies directly to the court by submitting a compromise proposal, after the court has accepted a bankruptcy petition against the debtor and before the court declares it bankrupt.

Substantive tests.  See below, Bankruptcy, Substantive tests.

How long. If the court decides, after application is made to
it (see above, How, when and by whom), that the compromise application complies with the legal requirements referred to above, it will:

  • permit the compromise;
  • announce the compromise; and
  • convene a creditors' meeting to vote on the compromise
    proposal.

However, there is no time limit for the court to make the ruling and convene the creditors' meeting.

Consents and approvals.  Any compromise proposal must be:

  • approved by a majority of the creditors with voting rights present at the meeting representing more than two-thirds in value of the total unsecured claims; and
  • then submitted to the court for approval. However, there is no time limit for the submission.

If the compromise proposal is not approved by either the creditors' meeting or the court, the court terminates the compromise procedure and declares the debtor bankrupt (see below, Bankruptcy).

Effect. Any compromise proposal approved by the court is binding on the debtor and creditors whose claims were unsecured at the time the court accepted the bankruptcy petition (creditors covered by the compromise).

The debtor discharges its liabilities on the terms provided in the compromise proposal. The administrator hands over the property and business to the debtor and reports to the court on the performance of his duties.

The secured creditors are not subject to a moratorium and may exercise their security rights during the compromise procedure.

If any creditor covered by the compromise has not filed its claim, it cannot exercise its rights until after the implementation of the compromise proposal is completed and in accordance with the discharge conditions provided in the compromise proposal.

The creditor's right in respect of any guarantor of the debtor or other joint debtors is not affected by the compromise procedure.

If the debtor is unable or fails to implement the compromise proposal, the court can, at the request of the creditors covered by the compromise, terminate the compromise procedure and declare the debtor bankrupt (see below, Bankruptcy).
When the court terminates the implementation of the compromise proposal, the undertakings made by the creditors covered by the compromise as to adjustment of their claims in the compromise proposal no longer have effect, but the payments made to them as a result of the implementation of the compromise proposal remain valid, and the portion of their claims that is not discharged is deemed a claim in the bankruptcy procedure.

Conclusion. After implementation of the compromise proposal is completed, the debtor is discharged from the debts, which have been reduced or waived in accordance with the compromise proposal.

Bankruptcy

Objective. The Enterprise Bankruptcy Law provides a unified bankruptcy system for all enterprises with legal person status. The aim of bankruptcy is to liquidate an insolvent enterprise and distribute its assets to creditors.

Companies. Any enterprise established in China can be declared bankrupt.

How, when and by whom. Bankruptcy proceedings begin when the debtor or any of its creditors files a bankruptcy petition with the court. For financial institutions such as commercial banks, securities houses and insurance companies, the application can be made by financial supervisory bodies established by the State Council.

Substantive tests.  An applicant must prove that:

  • the debtor is unable to pay its debts when due; and
  • the debtor has insufficient assets to pay off all its debts or obviously lacks the ability to pay off its debts.

How long. If a bankruptcy petition is filed by a creditor, the court will notify the debtor within five days of receiving the petition. The debtor can object to the petition within seven days of receipt of the notification. The court should rule on whether to accept the petition within ten days of
the expiration of the seven-day period. In other cases, the court makes its decision within 15 days of receiving the petition. If necessary, the deadline can be extended for 15 days, subject to the approval of the court at the next higher level.

Bankruptcy proceedings begin as soon as the court has accepted the petition. A declaration of bankruptcy is likely to follow in due course. The length of the proceedings depends on the complexity of the case.

Consents and approvals.  A bankruptcy petition must be approved
by the court.

Effect. When the court accepts a bankruptcy petition, it appoints an administrator from the liquidation committee. The liquidation committee includes members of the relevant departments and authorities or intermediary organisations such as law firms, accounting firms and bankruptcy liquidation firms.

The administrator's duties and responsibilities include:

  • taking possession of the debtor's property, seals, accounting
    books and documents;
  • investigating the financial status of the debtor and
    reporting on these;
  • determining the debtor's internal management affairs;
  • determining the debtor's daily expenses and other necessary expenses;
  • before the first creditors' meeting, determining whether to continue or suspend the debtor's business and getting the permission of the court to do so;
  • managing and disposing of the debtor's property;
  • representing the debtor in legal and arbitration procedures;
  • convening the creditors' meetings; and
  • other duties and responsibilities that the court deems necessary to be performed by the administrator.

The court notifies the debtor within five days after accepting a bankruptcy petition, and the debtor must submit certain financial statements to the court within 15 days of receipt of this notification.

The court also notifies known creditors and makes a public announcement within 25 days of accepting a bankruptcy petition specifying a deadline for filing claims (apart from employees' claims) of between 30 days and three months from the date of publication. The creditors that have filed
their claims have the right to attend and vote at a creditors' meeting.

Once the court accepts a bankruptcy petition, no discharge of debts to individual creditors by the debtor is valid.

A creditor can ask for debts owed by the debtor to that creditor to be set off against debts owed by that creditor to the debtor, except in the following situations:

  • a debtor of the debtor acquired a debt against the debtor from a third party after the court accepted the bankruptcy petition;
  • a creditor incurred a debt to the debtor despite being aware of the insolvency of the debtor or the bankruptcy petition, unless the creditor incurred this debt by law or due to a reason that arose one year before the bankruptcy petition; or
  • a debtor of the debtor acquired a debt against the debtor despite being aware of the insolvency of the debtor or the bankruptcy petition, unless this debtor incurred this debt by law or due to a reason that arose one year before the bankruptcy petition.

The administrator can decide whether to terminate or fulfil the debtor's ongoing contractual obligations. If the administrator fails to notify any counter-party within two months of the date of acceptance of the petition or fails to reply within 30 days of receipt of a demand notice from any counterparty, the administrator is deemed to have terminated the
relevant contract. If a contract is terminated, the counterparty can file a claim for damages incurred.

All civil actions and enforcement procedures involving the debtor are generally stayed until after the administrator takes custody of the debtor's property.

If a creditor fails to file its claim by the deadline set by the court, a late claim can be filed before the final distribution, but no supplementary distribution can be made to it from any previous distributions. Any expenses incurred for considering the late claim are borne by the creditor making the application.

The administrator should prepare a list of claims and submit it to the first creditors' meeting for verification. If the debtor or a creditor has any objection to the list, it can institute a legal action in the court that accepted the petition.

The first creditors' meeting is convened by the court and held within 15 days after the deadline for filing claims.

Subsequent creditors' meetings are held as deemed necessary by the court or when proposed to the chairman of the creditors' meeting by:

  • the administrator;
  • the creditors' committee; or
  • creditors representing more than one-quarter in value of the total claims.

Secured creditors do not have the right to vote on the adoption of settlement agreements or on adopting plans to distribute the debtor's property, unless they have waived their rights to priority in payment.

Resolutions at the creditors' meetings require a majority of the creditors with voting rights present at the meeting representing more than half in value of the total unsecured claims. These resolutions are binding on all creditors.

The creditors' meeting can establish a creditors' committee comprising a maximum of nine representatives from the creditors and from the employees or labour union. The members of the creditors' committee should be approved by the court. The creditors' committee supervises the management, disposal and distribution of the debtor's property and
convenes the creditors' meetings. The administrator reports to the creditors' committee on material transactions involving the debtor's property.

The administrator is answerable to the court and supervised by the creditors' meetings and committee. The creditors' meeting can apply to the court to have the appointed administrator removed for failing to discharge his duties properly. The court has the final say in the appointment of the administrator.

A bankruptcy declaration applies to all assets located around the world and not just to the debtor's assets in China.

Conclusion. Once the final distribution is completed, the administrator reports this to the court. The court should decide within 15 days whether to conclude the bankruptcy proceedings. The administrator should, within ten days of the date of conclusion of the bankruptcy proceedings, carry
out deregistration procedures and then cease his duties.

Liquidation

Objective. The aim of liquidation is to dissolve a solvent enterprise, in most cases without involving the court.

Companies. This procedure can be used by any limited liability company or company limited by shares, which is incorporated in China. Specific provisions apply to FIEs (see Question 1) such as equity joint ventures (EJVs), cooperative joint ventures (CJVs) and wholly foreign-owned
enterprises (WFOEs).

How, when and by whom.  A company can be liquidated if:

  • the period for operation as set out in the articles of association (articles) expires or for any other reason for dissolution specified in the articles;
  • at least a two-thirds majority, in value, of the shareholders at a shareholders' meeting votes to dissolve the company;
  • liquidation is necessary due to the merger or division of the company;
  • the company's business licence has been revoked or the company is ordered to close down because it has violated laws or administrative regulations;
  • the court orders its liquidation because at least 10% of the shareholders petition for dissolution on the basis that:
    • serious difficulties have arisen in the operation and management of the company;
    • its continued existence would cause a material loss to the shareholders; and
    • the difficulties cannot be resolved though other means.

Unless dissolution is because of a merger or division, the company must arrange for a liquidation committee to complete
the liquidation. 

An FIE can be liquidated if:

  • the term of the FIE expires;
  • the FIE incurs serious deficits, or suffers severe losses as a result of force majeure, making it impossible to continue operating;
  • the FIE is a joint venture, and a party to it does not perform its obligations under the joint venture contract or the FIE's articles, which makes it impossible to continue operating;
  • any other situations that gives rise to liquidation under the joint venture contract or the articles;
  • the FIE is an EJV that fails to achieve the desired objectives
    and has no prospects for future development;
  • the FIE is a CJV that is ordered to close down because it has violated legal or administrative regulations;
  • the FIE is a WFOE whose right to operate is revoked as a result of violation of law or regulations, or in the public interest.

Substantive tests.  See above, How, when and by whom. There are no specific criteria for granting approval for a liquidation of an FIE. Approval is at the discretion of the approval authority or the relevant court.

How long.  As soon as any of the specified events occur (see above, How, when and by whom), the company immediately goes into liquidation. There is no time limit for carrying out the liquidation of a company.

Consents and approvals. A special resolution of shareholders (passed by a two-thirds majority in value) is usually needed to liquidate companies.

An FIE's liquidation commences without the approval authority's consent if caused by:

  • expiry of its term;
  • determination by the judiciary;
  • revocation of its business licence.

If liquidation is due to a breach of the joint venture contract or the FIE's articles, either the approval authority's consent or the relevant court's determination is required. In any other circumstance the approval authority's consent is required. The FIE must arrange for a liquidation committee to complete the liquidation.

The party applying for the approval authority's consent or the relevant court's determination is either the FIE itself or the non-defaulting party to the joint venture contract, depending on the grounds of liquidation.

Effect. After liquidation begins, a liquidation committee, made up of the shareholders or their nominees, or the nominees of the relevant court, is established to:

  • examine the property of the company and prepare a balance sheet and property list;
  • notify creditors and relevant authorities;
  • dispose of unfinished business;
  • pay outstanding taxes and debts;
  • dispose of any remaining assets after the enterprise's debts have been paid;
  • participate in civil litigation on behalf of the company;
  • publicly announce the liquidation in local or national newspapers;
  • register creditors' claims.

After thoroughly examining the enterprise's assets, the committee formulates a liquidation plan for approval by a shareholders' meeting or the relevant court. The order of priority for the enterprise to pay its debts is:

  • liquidation expenses;
  • wages of staff and labour insurance premiums;
  • outstanding taxes;
  • debts of the enterprise.

Only after all debts have been fully paid are any remaining assets distributed to the shareholders in proportion to their capital contributions.

If the liquidation committee discovers that the enterprise's assets do not cover its debts, it must immediately apply to the court for a bankruptcy declaration. 

During liquidation, an enterprise cannot engage in any business activities unrelated to the liquidation.

Conclusion.  After the process has been completed, the liquidation committee produces a report, which is presented to and approved by the same bodies that confirmed the original plan, as well as the company registry. The liquidation committee arranges for the enterprise to be deregistered with the tax and custom authorities, and the State Administration for Industry and Commerce.

LIABILITY AND TRANSACTIONS


6. Are there any circumstances in which a director, parent company
(domestic or foreign) or other party can be held liable for the debts of an insolvent company?


If a director, a supervisor or a member of the senior management of the debtor commits a breach of his obligation of loyalty or due diligence, causing the bankruptcy of the debtor, he bears civil liability and can be disqualified from serving as a director, a supervisor or a member of the senior management of another enterprise for three years of the date of conclusion of the bankruptcy proceedings.

If the debtor commits any acts as referred to in Question 7, prejudicing
the interests of the creditors, the legal representative and other directly responsible persons of the debtor, it can be liable for damages.

If the administrator fails to perform his duties with due diligence and good faith, he can be liable to a fine and can also be liable for damages if the creditors, the debtor or a third party incurs a loss as a result.

A parent company is a separate legal entity and is not liable for an insolvent subsidiary's debts, unless it has given a guarantee for these. However, if a Chinese or foreign investor of an FIE disposes of the FIE's property during liquidation, that investor can be ordered by the approval authority to:

  • Pay compensation to the liquidated FIE.
  • Restore the property to the liquidated FIE.

An enterprise can be ordered to remedy the situation and pay a
fine if it:

  • Conceals property.
  • Falsifies the balance sheet or list of assets.
  • Distributes assets before paying the liquidation expenses
    and repaying its debts.

Fines can be between 1% and 5% of the value of the property
concealed or the assets distributed.

The officers in charge of the liquidated enterprise and other employees
responsible for the offences can also be liable for a fine.

Liability can also arise under criminal law.


7. Can transactions that are effected by a company that subsequently becomes insolvent be set aside?


The administrator can apply to the court to set aside any of the
following transactions involving the debtor's property and to recover
the debtor's property:

  • Transfer of the debtor's property without consideration within one year before the court's acceptance of the bankruptcy petition.
  • Transactions carried out at an obviously unreasonable price within one year before the court's acceptance of the bankruptcy petition.
  • Provision of property as security for debt not secured by property within one year before the court's acceptance of the bankruptcy petition.
  • Early payment of a debt which has not fallen due within one year before the court's acceptance of the bankruptcy petition.
  • Renunciation of a claim within one year before the court's acceptance of the bankruptcy petition.
  • Payment of a debt to an individual creditor within six months before the court's acceptance of the bankruptcy petition when the debtor is insolvent (see above, Bankruptcy: Substantive tests), unless this payment is beneficial to the debtor's property.
  • Concealment or transfer of property to avoid debts.
  • Fabrication of debt or acknowledgement of a debt, which is not genuine.
  • Obtaining irregular income from the debtor and misappropriation of the debtor's property by any director, supervisor or member of the senior management of the debtor by using his authority.

8. Please set out any conditions under which a company can
continue to carry on business during insolvency or rescue
proceedings. In particular:

  • Who has the authority to supervise or carry on the company's
    business?
  • What restrictions apply?

Bankruptcy
When accepting a bankruptcy petition, the court at the same
time appoints an administrator. The administrator decides, before
the first creditors' meeting, whether to continue carrying out
the debtor's business and obtain the approval of the court to do
so. The creditors' meeting can also decide on whether to continue
carrying out the debtor's business.

Restructuring
On application by the debtor and subject to the approval of the
court, during the restructuring period the debtor can manage its
business under the supervision of the administrator. If the administrator
is responsible for managing the business, he can appoint
the operation and management personnel of the debtor to run
the business.

Liquidation
A liquidation committee takes control of the enterprise, which cannot
engage in any business activities unrelated to the liquidation.
The role of the committee is to organise the valuation and disposal
of assets, as well as to settle debts (see Question 5, Liquidation).

INTERNATIONAL CASES


9. Please state whether:

  • Courts in your jurisdiction recognise insolvency and rescue
    procedures in other jurisdictions.
  • Courts co-operate where there are concurrent proceedings in
    other jurisdictions.
  • There are any international treaties relating to insolvency to
    which your jurisdiction is a signatory.
  • There are any special procedures that apply to foreign creditors.

Recognition. The courts generally review whether to enforce
any ruling or court order obtained in another jurisdiction that
is either party to an international treaty or to a reciprocal arrangement
with China. Rulings or orders are enforced if:

  • they do not violate the fundamental principles of Chinese law;
  • they do not undermine the sovereignty, security or public interest of the state; and
  • they do not prejudice the lawful rights and interest of creditors in China.

If no international treaty or reciprocal arrangement applies(which is most often the case), the parties can, at least theoretically, begin fresh legal proceedings to enforce a foreign court order. In practice, however, this process is often difficult.

The courts do not usually give much assistance to insolvency practitioners appointed outside China. However, the position is improving and the reciprocal recognition and enforcement of judgments signed on 14 July 2006 between the Courts of China and the Special Administrative Region of Hong Kong is a significant step. The scope of application of this arrangement is limited to money judgments on commercial contracts.

Concurrent proceedings.  The courts co-operate in foreign insolvency proceedings only if their duty towards the other jurisdiction can be balanced against ensuring that Chinese creditors receive fair treatment.

International treaties.  China is not a signatory to any significant international treaty relating to insolvency.

Special procedures for foreign creditors. Apart from debt approval and registration requirements set by the State Administration of Foreign Exchange, there are currently no special procedures for foreign creditors. In practice, it is often more difficult for a foreign creditor to recover assets from a Chinese debtor due to the lack of recognition procedures.

PROPOSED REFORMS


10. Are there any proposals for reform to insolvency law in your
jurisdiction?


The Enterprise Bankruptcy Law was passed on 27 August 2006. While the old law only applied to the bankruptcy of state-owned enterprises (SOEs), the new law applies to all enterprises with legal person status (those that can own property, have civil rights and can be civilly liable), including both SOEs and privately owned companies. However, individuals and partnerships are not covered by this statutory regime.

Further details of the procedures provided in the Enterprise Bankruptcy
Law are expected to be set out in additional subsidiary legislation and regulations. There have already been various regulations announced and adopted by the Supreme People's Court.

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