Real Estate _ Construction

JULY 14, 2009 Real Estate & Construction Legal Environment for Foreign Investment in Chinese Real Estate Market after Circular 171 I. Introduction of FIR Policy On July 11, 2006, the Ministry of Construction, the Ministry of Commerce, the State Development and Reform Commission, the People’s Bank of China, the State Administration for Industry and Commerce and the State Administration of Foreign Exchange jointly promulgated the Opinions on the Admittance and Administration of Foreign Investment to or in Real Estate Market (“Circular 171”), setting forth strict regulatory requirements for foreign investment in the Chinese real estate market in terms of the admittance of foreign investors, M&A and sales and purchase of real estate by foreign investors and foreign-exchange settlements. Therefore, Circular 171 is otherwise named “Foreign Investment Restriction Policy” in Chinese real estate market (“FIR Policy”) and becomes a barrier for foreign investors to invest in the Chinese real estate market. Foreign-invested real estate enterprises1 are the first to be significantly impacted by Circular 171. For the purpose of implementing Circular 171, the Ministry of Commerce, the State Administration of Foreign Exchange, the Ministry of Construction and other competent authorities seperately or jointly promulgated implementation rules with respect to certain issues mentioned in Circular 171, including the Circular on the Issues Pertinent to the Implementation of “Opinions on the Admittance and Administration of Foreign Investment to or in Real Estate Market” promulgated by the General Office of the Ministry of Commerce on August 14, 2006, the Circular on the Issues Pertinent to Regulating the Administration of Foreign Exchange in Real Estate Market jointly promulgated by the State Administration of Foreign Exchange and the Ministry of Construction on September 1, 2006 (“Circular 47”) and the Circular on Further Strengthening and Regulating the Examination and Approval and Supervision of Direct Foreign Investment in Real Estate Market jointly promulgated by the Ministry of Commerce and the State Administration of Foreign Exchange on May 23, 2007 (“Circular 50”). II. Contents of FIR Policy FIR Policy regulates and restricts foreign investment in Chinese the real estate market mainly in the following aspects: (1) Principle of Business Presence 1 Whether a foreign investor can purchase real estate for a purpose other than his own use in China shall be subject to the principle of “business presence”. A foreign entity or individual may not be permitted to purchase real estate for a purpose other than his own use/residence purpose unless he has duly established a foreign-invested enterprise. Any branch or representative office established by a foreign entity in China, or any foreign individual who has worked or studied in China for more than one year, may purchase commodity premises in China for his own use/residence as they actually need. In other words, neither a foreign entity without a branch or representative office in China nor a foreign individual who has worked or studies in China for less than one year, is allowed to purchase commodity premises in China. A resident of Hong Kong, Macao or Taiwan or an overseas Chinese may purchase commodity premises with a limited area for his own residence or need for when they are living in China. (2) Ratio of Equity to Total Investment FIR Policy imposes strict requirements on the equity of a foreign-invested real estate enterprise. The registered capital of a foreign-invested real estate enterprise with a total investment over USD 10,000,000 shall be no less than 50% of its total investment. Such requirement for a larger proportion of registered capital to total investment means that a foreign-invested real estate enterprise shall have more equity and less leverage, which may avoid speculative investment in real estate by use of borrowings, loans and other financial leverages and prevent the increase of the bubble and risk in the real estate sector. (3) Mandatory Filing Requirements The establishment of a foreign-invested real estate enterprise (including the conversion of an existing foreign-invested enterprise to a foreigninvested real estate enterprise by adding “real estate development and operation” to its business scope) approved by a local examination and approval by authority needs to be promptly filed with the Ministry of Commerce. The foreign exchange administrative authorities, and the banks authorized thereby to conduct foreign exchange transactions, may not provide any foreign exchange settlement service to a foreign-invested real estate enterprise which fails to be filed with the Ministry of Commerce or fails to pass the annual inspection for foreign-invested enterprises. Furthermore, in the event that the registered capital of a foreign-invested real estate enterprise has not been paid up, or it has not A foreign-invested real estate enterprise refers to a foreign-invested enterprise engaged in the construction and operation of various residential premises (inclusive of ordinary residential premises, apartments and villas), hotels (restaurants), resorts, office buildings, exposition centers, commercial facilities or theme parks, or the land development or tract development project for the purpose of the construction of any of the foregoing real estate projects. obtained the State-Owned Land Use Certificate, or its capital funds for developing a project has not reach 35% of the total investment of such project, it may not borrow any loan within or outside China, and the foreign exchange administrative authorities shall not approve its settlement for foreign exchange loans. (4) Strict Requirements for M&A FIR Policy imposes stricter requirements on the foreign investment made in real estate by merger and acquisition. Where a foreign investor acquires a domestic real estate enterprise in China, or acquires the equities interest held by the Chinese party in a joint venture enterprise, it is required to properly settle down the employees, pay off bank loans, and use its own capital to fully pay the price for the equity transfer in one lump sum. If the foreign investor fails to fully pay the transfer price in one lump sum within three months following the effective date of the agreement executed for such equity transfer, the foreign exchange administrative authority may refuse to accept the application for registering any foreign exchange paid by it as the consideration for such equity transfer. (5) Project Company Principle Whether to approve the establishment of a foreign-invested real estate development enterprise by a foreign investor shall be subject to whether such foreign investor has obtained the right to develop a real estate project. For the purpose of applying for the establishment of a real estate enterprise, a foreign investor shall first obtain the right to use the land, or the ownership of the building, to be used for a project, or execute a pre-grant/purchase agreement for such land use right or building ownership with competent land administrative authority or relevant land developer/building owner. If the foreign investor fails to satisfy the requirements, the approval authority shall not approve the establishment of the real estate enterprise. The establishment of a foreign-invested real estate enterprise shall be subject to the approval by and registration with the commerce administrative authorities and the industry and commerce administrative authorities. Upon such approval and registration, the foreign-invested real estate enterprise established will be issued a temporary Approval Certificate for the Establishment of Foreign-Invested Enterprise and a temporary Business License, each with a valid term of one year. With the temporary Business License, the foreign investor shall apply with the competent land administrative authority for a State-Owned Land Use Certificate with respect to the to-be-used land upon the full payment of the grant fee for such land. Upon the receipt of the State-Owned Land Use Certificate, it shall apply with the commerce administrative authority for a final Approval Certificate for the Establishment of Foreign-Invested Enterprise and with the administrative authority of industry and commerce for a new Business License with a term equal to the term of the final Approval Certificate for the Establishment of Foreign-Invested Enterprise. Finally, it shall complete tax registration formalities with the competent tax authority with respect to the establishment of such foreign-invested enterprise. III. Effect and Function of FIR Policy Due to the promulgation of FIR Policy and its supporting rules, foreign entities are totally prohibited from investment by directly purchasing real estate in China. In practice, foreign entities have been seriously obstructed from being approved to establish a foreign-invested real estate enterprise engaged in purchasing, holding and operating premises in firsttier cities in China (such as Beijing and Shanghai). Therefore, many foreign entities have choosen to establish foreign-invested real estate enterprises in a second-tier city (such as Tianjin and Shenyang) and, by acting through the enterprise so established, acquire premises in first-tier cities. This is why the investment made by foreign investors to acquire premises in China has not been prevented but increased during the year immediately following the promulgation of FIR Policy: the proportion of the real estate investment to the total direct foreign investment in China was 11.6% in 2006 and increased to 24% in 2007. This increase forced the government to promulgate Circular 50, requiring that the establishment of a foreign-invested real estate enterprise be filed with the Ministry of Commerce. From the list of the foreign-invested real estate enterprises which have been approved to be filed with the Ministry of Commerce, it can be told that most approved enterprises are real estate enterprises established in second-tier cities and no difference exists between the total investment and the registered capital of each of these enterprises nor has each of these enterprises undertaken not to seek any foreign exchange loans within or outside China. It is uncertain whether the filing of the establishment of a foreigninvested real estate enterprise with the Ministry of Commerce can be complemented successfully. In addition, the Ministry of Commerce has taken more effective measures to prevent the foreign investors to acquire premises in first-tier cities by acting through an enterprise established in second-tier cities for the purpose of avoiding the examination and approval requirements. This is why the direct foreign investment in Chinese real estate market has been materially impacted upon the promulgation of Circular 50. due to the Ministry of Commerce overloading the filing work and the Chinese real estate market becoming depressed due to the effect of FIR Policy and its supporting rules, the Ministry of Commerce promulgated the Circular on Improving the Archival Filing of Foreign Investment in Real Estate Sector on June 18, 2008, authorizing the commerce administrative authorities at provincial levels to approve the filing of the establishment of foreign-invested real estate enterprises. This was supposed to be good news for foreign investors who intend to invest in the Chinese real estate market, but due to the global economic crisis, this circular has not been successful. IV. Tendency for Development of FIR Policy The central government has not promulgated any policy to revoke the restrictions on the investment by foreign individuals in Chinese real estate market. However, for the purpose of stimulating the real estate market during the global economic crisis, some local governments promulgated policies to revoke relevant restrictions in a disguised way. On January 20, 2009, Beijing municipal government promulgated the Opinions on Promoting the Healthy Development of Real Estate Market in Beijing, providing that the following restrictions under the Circular on Regulating the Purchase of Commodity Premises by Foreign Entities or Individuals shall be temporarily suspended during the period from January 1, 2009 to December 31, 2009: for the purpose of purchasing commodity premises in Beijing, a foreign individual shall have been resided in China for at least one year, shall not purchase more than one apartment, and shall undertake not to use the premises purchased by him for a purpose other than his own use or residence. We learned that the Ministry of Commerce and the State Administration of Foreign Exchange may jointly take proper measures to make the foreign exchange registration formalities required to be completed by foreign-invested real estate enterprises easier and less strict. Although no official document has been promulgated in this regard, FIR Policy, which has been implemented for three years, is very likely to be gradually lifted in consideration of the impact of the economic crisis and the depression of the Chinese real estate market. www.junhe.com marketing@junhe.com