This country-specific Q&A provides an overview of Restructuring & Insolvency laws and regulations applicable in China.
What forms of security can be granted over immovable and movable property? What formalities are required and what is the impact if such formalities are not complied with?
According to Real Right Law of the People’s Republic of China and Security Law of the People’s Republic of China,The security over immovable and movable property usually include mortgage, pledge and lien.
Where any of the immovable and movable property, which meet the legal requirements, is mortgaged, mortgage registration formalities shall be completed. Mortgage interests shall be created at the time of registration.The parties concerned have no claims against a bona fide third party interest where the mortgage interest was not registered.
Where a debtor defaults on its debt obligations, the creditor shall be entitled to retain the already lawfully possessed movable property of the debtor, and have a priority over the movable property in satisfaction of its claim.
What practical issues do secured creditors face in enforcing their security (e.g. timing issues, requirement for court involvement)?
Mortgage and pledge interests must be exercised by the mortgagee and pledger within the statute of limitations of the main creditor’s rights; failing which, no legal protection shall be granted by the People’s Court.
What is the test for insolvency? Is there any obligation on directors or officers of the debtor to open insolvency procedures upon the debtor becoming distressed or insolvent? Are there any consequences for failure to do so?
According to Enterprise Bankruptcy Law of the People’s Republic of China (hereinafter referred to as “EBL”), If the enterprise legal person is unable to repay the debts as they become dueand there are no sufficient assets to pay off all of the debts or clearly lacks the ability of repayment,which may be recognized as an insolvency.
In general,the director,supervisor or senior manager are not liable for the obligation of the company.However,if they breach the duty of loyalty and diligence and render bankruptcy of the company,they would assume the civil responsibilities.Those persons are not required to serve as a director,supervisor or senior manager in any company within three years.
If insolvency procedures are not commenced,the director,supervisor or senior managers,who have loyalty and diligence duties to companies,should undertake civil liabilities where they violate the duties and result in insolvencies of the company under the ELB,they are not allowed to be in the position as director,supervisor or senior manager wither three years after the termination of insolvency proceedings.
What insolvency procedures are available in the jurisdiction? Does management continue to operate the business and/or is the debtor subject to supervision? What roles do the court and other stakeholders play? How long does the process usually take to complete?
Where a debtor is unable to repay its debts as they become due, the creditors and the debtor itself may apply to a People’s Court for bankruptcy liquidation of the debtor.
Where a bankruptcy application is made by the creditors, the People’s Court shall notify the debtor within five days from the receipt of the application. Where the debtor objects to the application, the debtor must raise the objection to the People’s Court within seven days from the receipt of the notification by the People’s Court. The People’s Court shall rule on whether to accept the bankruptcy application within 10 days from the date of expiry of the objection period.
Where a People’s Court accepts a bankruptcy application in its ruling, a notice shall be delivered to the applicant within five days from the date of the ruling.
Where a People’s Court rules against the acceptance of a bankruptcy application, a notice with reasons thereto shall be delivered to the applicant within five days from the date of delivery of the ruling. Where an applicant does not accept the ruling, the applicant may submit an appeal to the higher-level People’s Court within 10 days from the date of the ruling.
Where a People’s Court rules in favour of accepting a bankruptcy application, the People’s Court shall simultaneously appoint an administrator.
The People’s Court shall, within 25 days from the date of ruling in favour of acceptance of a bankruptcy application, notify all known creditors and make a public announcement.
The first creditors’ meeting shall be convened by the People’s Court and it must be within 15 days before the day when the time limit for declaration of creditor rights expires.
When an enterprise goes into bankruptcy proceedings, the administrator shall decide on the continuation or suspension of business of the debtor before the first creditors’ meeting is convened. Where the administrator decides to continue with or suspend the business of the debtor prior to the first creditors’ meeting is convened, permission by the People’s Court must be obtained.
Generally, there is no specific period to complete whole insolvency proceedings.
How do creditors and other stakeholders rank on an insolvency of a debtor? Do any stakeholders enjoy particular priority (e.g. employees, pension liabilities)? Could the claims of any class of creditor be subordinated (e.g. equitable subordination)?
The creditors are divided into different groups,which is based on a different category of creditor rights,including secured creditors’ rights,employees, the tax owed by debtors and unsecured creditors’ rights.
According to EBL,Holders of security interests over specific assets of the bankrupt shall be entitled to a preferential right of repayment in respect of such specific assets..
Upon settlement of bankruptcy expenses and collective debts using the bankrupt’s assets, the following expenses shall be repaid in the following sequence:
wages, medical subsidies, disability subsidies and compensation expenses owed to workers by the bankrupt which are to be included in the basic pension insurance and basic medical insurance expenses of the individual accounts of the workers, and any compensation required to be paid to workers pursuant to provisions in laws and administrative regulations;
social security expenses other than those mentioned in the preceding item as owed by the bankrupt and unpaid taxes of the bankrupt; and
normal bankruptcy creditor rights.
Where the bankrupt’s assets are insufficient for the repayment of these expenses in the same sequence, the distribution shall be made on a pro-rata basis.
There is no regulation that the claims of any class of creditor shall be subordinated.
Can a debtor’s pre-insolvency transactions be challenged? If so, by whom, when and on what grounds? What is the effect of a successful challenge and how are the rights of third parties impacted?
The administrator has the right to apply to the People’s Court for a declaration of any of the following acts to be invalid if the act involving the debtor’s assets was committed within one year before the People’s Court accepted the bankruptcy application:
uncompensated transfers of assets;
transactions executed at a clearly unreasonable price;
pledge of assets as collateral for non-secured debts;
prepayment of debts that are not due; or
any waiver of creditor rights.
Where a debtor falls within the description of the first paragraph of Article 2 of EBL, yet nonetheless makes a debt settlement with any individual creditor during the last six months before the People’s Court has accepted the bankruptcy application, the administrator has the right to apply to the People’s Court to declare the act invalid, unless any such debt settlement is for the benefit of the debtor’s assets.
In addition, if a debtor conceals or transfers assets in order to evade debts,or fabricates debts or admit unreal debts,such actions relating to debtors’ assets are invalid.
After a successful challenge, the fruits are recognized as the assets of bankruptcy.
What form of stay or moratorium applies in insolvency proceedings against the continuation of legal proceedings or the enforcement of creditors’ claims? Does that stay or moratorium have extraterritorial effect? In what circumstances may creditors benefit from any exceptions to such stay or moratorium?
Upon the acceptance of a bankruptcy application by a People’s Court, all commenced and pending civil proceedings or arbitration proceedings that are related to the debtor shall be suspended; such proceedings or arbitration shall continue after the administrator has taken over the administration of the assets.
Upon the acceptance of a bankruptcy application by the People’s Court, the preservation measures over the relevant debtor’s assets shall be discontinued and enforcement procedures shall be suspended.
Whether having extraterritorial effect, there is no special regulation in EBL and other laws in China.
There is no exception circumstance that creditors benefit from such stay or moratorium in insolvency proceedings
What restructuring and rescue procedures are available in the jurisdiction, what are the entry requirements and how is a restructuring plan approved and implemented? Does management continue to operate the business and/or is the debtor subject to supervision? What roles do the court and other stakeholders play?
Where an enterprise as legal person is unable to repay its debts as they become due, and its assets are insufficient for the settlement of all debts or where it is clearly insolvent, such an enterprise as legal person may carry out restructuring pursuant to the provisions of EBL.
Where the People’s Court, upon examination, deems that an application for restructuring complies with the provisions of this Law, the People’s Court shall make a ruling for the restructuring of the debtor and a make public announcement of the ruling.
The debtor or the administrator shall, within six months from the date of the People’s Court’s ruling for debtor restructuring, submit a draft restructuring plan to the People’s Court and the creditors’ meeting simultaneously.
The People’s Court shall convene a creditors’ meeting to vote on the draft restructuring plan within 30 days from the date of receipt of the draft restructuring plan. Where the draft restructuring plan is resolved by all the voting groups, the restructuring plan shall be deemed approved.
Where the voting groups that have not resolved the draft restructuring plan refuse to vote or where the voting groups have not resolved the draft restructuring plan at the second voting, the debtor or the administrator may apply to the People’s Court for an approval of the draft restructuring plan where the draft restructuring plan satisfies the relevant criteria stipulated in EBL.
Where a draft restructuring plan has not been resolved and approved by People’s Court according to EBL, or a resolved restructuring plan has not been approved, the People’s Court shall make a ruling for the termination of restructuring procedures and declare the debtor bankrupt.
During the restructuring period, upon application by the debtor and approval by the People’s Court, the debtor may manage its assets and business under the supervision of the administrator. Under the circumstances in the preceding paragraph, the administrator that took over the debtor’s assets and business for administration pursuant to the provisions of this Law shall transfer the assets and business back to the debtor and the debtor shall perform the duties of the administrator as stipulated in this Law.
Can a debtor in restructuring proceedings obtain new financing and are any special priorities afforded to such financing (if available)?
According to EBL, Wherea debtor or the administrator takes a loan for the purpose of continuing the business during the restructuring period, the debtor or the administrator may create a security interest over the loan.
Can a restructuring proceeding release claims against non-debtor parties (e.g. guarantees granted by parent entities, claims against directors of the debtor), and, if so, in what circumstances?
In restructuring proceeding,the reorganization plan is not allowed to arbitrarily release the liability of the third party, unless in the circumstance that the creditor obtains corresponding comprehension.
Is it common for creditor committees to be formed in restructuring proceedings and what powers or responsibilities do they have? Are they permitted to retain advisers and, if so, how are they funded?
Generally, inlarge complex restructuring proceedings, it shall establish a creditors’ committee by the creditors’ meeting and it is composed of the representative from creditors and the representative from the labour union or the employee of debtors.The creditors’ committee is not permitted to exceed nine members who are approved in writing by the Court.
The committee of creditors have power as follows:
supervise the disposal of the assets of debtors;
supervise the distribution of bankruptcy assets;
propose to hold a creditor’s meeting;
other duties that are entrusted by a creditor’s meeting
There is no specific restriction regulation on engaging advisers by creditor committees in EBL, however, in general, if engaging advisers by creditor committees, the cost shall be borne by creditor committees itself.
How are existing contracts treated in restructuring and insolvency processes? Are the parties obliged to continue to perform their obligations? Will termination, retention of title and set-off provisions in these contracts remain enforceable? Is there any ability for either party to disclaim the contract?
According to EBL, upon acceptance of a bankruptcy application by the People’s Court, the administrator shall have the right to decide whether, a contract that was concluded between a debtor and another party prior to acceptance of the bankruptcy application but is still pending completion by the parties, shall be continued or be rescinded; and the administrator shall give such notice of its decision to the other party. Where the administrator does not notify the other party to the contract within two months from the date of acceptance of the bankruptcy application or does not reply within 30 days from the date of receipt of a reminder by the other party to the contract, the contract shall be deemed rescinded.
Where the administrator decides on the continued performance of the contract, the other party to the contract shall perform the contract; however, the other party to the contract shall have the right to request for a security deposit from the administrator. Where the administrator does not provide a security deposit, the contract shall be deemed rescinded.
In restructuring and insolvency processes, the termination, retention of title and set-off provisions shall not be enforceable.
Where an administrator or a debtor terminates a contract pursuant to provisions under this Law, the other party to the contract must declare creditor rights in respect of any claim for damages arising from the contract termination
What conditions apply to the sale of assets / the entire business in a restructuring or insolvency process? Does the purchaser acquire the assets “free and clear” of claims and liabilities? Can security be released without creditor consent? Is credit bidding permitted? Are pre-packaged sales possible?
The disposal of specific assets or the entire business of the debtor is required to be agreed by the creditors’ meeting and approved by the Court, and the disposal of assets must be conducted through auction/ bidding, unless other resolutions are adopted by the creditors’ meeting, and the purchaser will obtain the assets ‘free and clear’ of claims in the process.
Security interests over specific assets of the debtor shall be suspended during the restructuring period. Unless there is a possibility of damage or obvious reduction in the value of the security that is detrimental to the interests of the security holder, the security interest holder may apply to the People’s Court for a resumption of the security interest.
And the pre-packaged sales is not permitted
What duties and liabilities should directors and officers be mindful of when managing a distressed debtor? What are the consequences of breach of duty? Is there any scope for other parties (e.g. director, partner, shareholder, lender) to incur liability for the debts of an insolvent debtor?
The director, supervisor or senior managers, who have loyalty and diligence duties to companies including a distressed debtor, should undertake civil liabilities where they violate the duties and result in insolvencies of the company under the ELB, they are not allowed to be in the position as director, supervisor or senior manager within three years after the termination of insolvency proceedings
In general, the director, supervisor or senior manager are not liable for the obligation of the company. However, if they breach the duty of loyalty and diligence and render bankruptcy of the company, they would assume the civil responsibilities. Those persons are not required to serve as a director, supervisor or senior manager in any company within three years.
Do restructuring or insolvency proceedings have the effect of releasing directors and other stakeholders from liability for previous actions and decisions?
No, it does not.
Will a local court recognise concurrent foreign restructuring or insolvency proceedings over a local debtor? What is the process and test for achieving such recognition? Has the UNCITRAL Model Law on Cross Border Insolvency or the UNCITRAL Model Law on Recognition and Enforcement of Insolvency-Related Judgments been adopted or is it under consideration in your country?
There are no regulations on that a local court recognise concurrent foreign restructuring or insolvency proceedings over a local debtor in EBL. However, Where a foreign court’s judgment or ruling on a bankruptcy case that has taken effect involves assets in the territories of the People’s Republic of China held by a debtor, and an application or request for judicial recognition and enforcement of the judgment is made to the People’s Court, the People’s Court shall, pursuant to the international treaty that the People’s Republic of China has concluded or is a member of, or pursuant to the principle of reciprocity, examine the application or request; where the People’s Court deems that the application or request will not violate the basic principles of the law of the People’s Republic of China, threaten national sovereignty, security and public interest, and will not impair the lawful rights and interests of the creditors within the territory of the People’s Republic of China, the People’s Court shall make a ruling on recognition and enforcement.
The UNCITRAL Model Law on Cross-Border Insolvency has been adopted in PRC. Upon the Court recognise the bankruptcy rule made by a foreign court, the domestic assets of debtors are required to clear off employees’ claims and taxes, the assets left may be distributed pursuant to the regulations of foreign Court.
Can debtors incorporated elsewhere enter into restructuring or insolvency proceedings in the jurisdiction?
In general, the bankruptcy cases shall be under the administration of the People’s Court with the jurisdiction where the relevant debtor is domiciled which means the place where the main office of the relevant debtors is located. In the case of that, the debtor has no office, it shall be under the jurisdiction of the People’s Court of the place where it is registered.
How are groups of companies treated on the restructuring or insolvency of one of more members of that group? Is there scope for cooperation between office holders?
When hearing enterprise bankruptcy cases, a people’s court should respect the independence of corporate personality with judgment on bankruptcy reasons of separate affiliates of an enterprise and application of separate bankruptcy proceedings as basic principles. If affiliates of an enterprise have highly mixed corporate personality, and the cost for distinguishing property of each affiliate is too high, severely jeopardizing the fair repayment interests of creditors, substantive consolidation of affiliates may be adopted for bankruptcy trails as an exception.
Thereis no special regulation on cooperation between office holders in EBL, however, in any event, the cooperation shall comply with all the laws and regulation in China.
Is it a debtor or creditor friendly jurisdiction?
With the development of the Chinese legal system, we think China is a friendly jurisdiction to debtor or creditor.
Do sociopolitical factors give additional influence to certain stakeholders in restructurings or insolvencies in the jurisdiction (e.g. pressure around employees or pensions)? What role does the state play in relation to a distressed business (e.g. availability of state support)?
We think, although the restructurings or insolvencies shall be involved all kinds of benefits, pressure and other sociopolitical factors, in the enterprise bankruptcy cases, Acting in accordance with the law is still the basic principle.
In general, the state does not participate in and interfere with the operation of the distressed company.In any case, the state support to a distressed company shall comply with relevant laws and regulations.
What are the greatest barriers to efficient and effective restructurings and insolvencies in the jurisdiction? Are there any proposals for reform to counter any such barriers?
According to our experiences, onthe macrolevel, China’s market economy is developing and improving, and there arestillmanyplacesneed to beimproved, andfurtheroptimized. On themicrolevel, the culture of bankruptcy has not yet been fully established, the culture of bankruptcy is in the process of being nurtured.
Additionally, China has a special national condition, especially in the areas of bankruptcy, it shall involve all kinds of benefits, and the local government may consider the social stability, however, at the same time, the boundary, scope and time which are related with the local government are not very clear, it may affect the bankruptcy process.
As far as the reform proposals are concerned, at first, Liquidation measures should be taken to urge the enterprises which have no value for continuous operation and the capacity thereof to exit the market without delay to achieve “survival of the fittest” and improve rescue and exit mechanisms for players in the socialist market.
Secondly, People’s courts should re-allocate resources via bankruptcy measures, take advantage of the major adjustments to equity, operation management, assets and technologies in business bankruptcy, make differential disposal for different enterprises, make great efforts in the motivation, allocation and collaboration of production factors like technology, capital, labour and human resources to achieve quality and the efficient real economy and industrial system.
Thirdly, Efforts should be made to further improve the four bankruptcy trial work mechanisms such as identification of bankrupt and reorganized enterprises, coordination between government and courts, case information communication, as well as lawful and orderly interest balancing, so as to drive positive operation of bankruptcy trials and demonstrate the system value and social responsibility of bankruptcy trial work