Written by Phenix Zheng, China Consultancy team, CW CPA

 

In recent years, the reform of enterprises’ exit from the market has widely attracted public attention. It’s said that, before the implementation of simplified deregistration processes, about 40% – 50% of the enterprises registered but not operating were like “empty shells” that had lost their vitality. This unique phenomenon in China is undoubtedly harmful to the healthy development of the market.

 

The “easy entry and strict exit” phenomenon

Since 1 March 2014, the reform of the registered capital registration system has been implemented nationwide, and this deregulation of national policy has encouraged the establishment of many small and medium-sized enterprises. The lowering of the threshold for the establishment of enterprises has a subtle impact on the market environment: When some enterprises are unable to operate normally or even have to declare bankruptcy due to poor management, they often prefer (or are forced to) not to undertake a normal deregistration process and bear a series of adverse consequences, such as revoking their business licenses and being blacklisted for monitoring. The low threshold of enterprise establishment and the high cost of deregistration, complicated procedures and serious consequences of non-deregistration together constitute an “easy entry and strict exit” phenomenon,which undoubtedly puts the enterprises in a dilemma and harms the healthy operation of the market mechanism.

To further deepen the reform of the commercial system, Chinese authorities has begun to conduct a pilot project of “Summary Deregistration” in many cities to explore the path of a simplified exit mechanism since 2015. Vigorously implementing the Summary Deregistration System will not only help to improve the efficiency of enterprises’ exit from the market, but also help to reduce the exit cost of market participants.

 

What is Summary Enterprise Deregistration?

Summary Enterprise Deregistration allows enterprises with legitimate demand and clear debt relationship to quickly and convenient exit the market through less time-consuming deregistration procedures. On March 1, 2017, the State Administration for Industry and Commerce formally started the reform of Summary Deregistration of enterprises throughout the country to improve the exit mechanism of market players and provide more convenient services for enterprises to exit from the market. This reform has achieved remarkable results. The achievements of this reform are listed as follows:

  1. Although it is necessary to create a liquidation group, the enterprise do not need to formally inform through a formal application to the registration authority for approval;
  2. The announcement period of enterprise information is shortened;
  3. The approval time is shortened. After receiving the application, the registration authority shall, within 3 working days, approve on the Summary Deregistration according to law.

 

Enterprises’ rights and obligations

To implement a healthy system of Summary Deregistration, it is necessary to clarify what rights and obligations enterprises are subject to:

  • The rights enjoyed by enterprises are mainly reflected in the right to decide independently whether and how to handle a deregistration. If the qualification conditions of the Summary Deregistration are met, any enterprise has the right to decide its own deregistration matters independently according to its actual situation, without restriction or interference from administrative organs or third parties.
  • The obligations that an enterprise should comply are mainly in relation to the obligation of good faith. The enterprise shall be responsible for the authenticity and legality of the materials submitted to the registration authority and submit the “Letter of Commitment for All Investors”. If an enterprise conceals the real situation and resorts to deception in the Summary Deregistration, the registration authority may cancel the Summary Deregistration, restore the status of the enterprise, list the enterprise as a serious illegal and dishonest enterprise, and publicize it through the national enterprise credit information publicity system. Relevant stakeholders may claim their corresponding rights through civil litigation. For those enterprises who maliciously use the Summary Deregistration procedure to evade debts or infringe upon the lawful rights of others, the relevant interested parties may claim their corresponding civil liabilities to investors through civil proceedings. If the violation of laws and regulations constitute a crime, they shall be investigated for criminal liabilities according to law.

 

Consequences of an untruthful declaration

It is worth noting that Summary Deregistration only simplifies the procedures for deregistration but does not derogate the responsibilities of enterprises. As a standard text provided by the registration authority, the “Commitment Letter of All Investors” requires all investors of the enterprise to solemnly promise that there will be no unpaid liquidation fees, wages of employees, social insurance expenses, legal compensation, taxes or other expenses, otherwise all investors will bear the corresponding legal consequences and responsibilities. Here are the consequences of an untruthful declaration:

  • After the Summary Deregistration, if there is any unliquidated debt detected by the deregistration authority, which indicates that the shareholders did not fulfill their liquidation obligations before the deregistration and committed a fraud in the application of deregistration process, the creditors may demand the shareholders to take responsibility for liquidating their unpaid debts, and the interested parties may apply for cancellation of deregistration within 3 years.
  • If the shareholders apply for a Summary Deregistration while their company’s debts are being enforced by the court and no assets are available for execution, the execution applicant can directly apply to the enforcement court for changing or adding the shareholders as enforcees. In this way, all shareholders will be jointly and severally liable for the company debts under execution.

 

Piercing the corporate veil

Under the normal deregistration procedure, it is almost impossible for enterprises that have not solved the above debt problems in advance to get deregistered successfully because the review procedures are quite strict. However, the Summary Deregistration procedure is greatly simplified, and enterprises do not need to provide complicated materials to prove that they have fulfilled all their debts. After the Summary Deregistration, the company’s qualification as a legal entity vanished, and the company’s creditors could no longer claim compensation from it.

Nevertheless, there still exists a causal relationship between the damage of creditors and the company’s violation of liquidation obligations and malicious deregistration. In principle, the company’s shareholders bear limited liability for the company’s debts only within the limit of their capital contribution. However, in the case of Summary Deregistration, the company’s shareholders are also the commitment persons in the “Commitment Letter of All Investors” thus must be held responsible for paying off the debts of the company in accordance with their commitments. This kind of responsibility may pierce the corporate veil of the company and therefore hold the shareholders personally responsible.

 

Further reform rolled out to improve the efficiency of Summary Deregistration in 2018

According to many enterprises, the Summary Deregistration rolled out since 2017 still has problems such as limited scope of application, long announcement period, low error-tolerant rate of registration process, etc. In order to improve these problems and further explore the way of Summary Deregistration reform, the General Administration of Market Supervision issued a notice to carry out new pilot work to further improve the reform of Summary Deregistration of enterprises in some provinces, cities and districts since December 3, 2018.

The new pilot work is based on the principle of efficiency, transparency and risk control, taking into account the values of administration according to law and innovation and emphasizing the duties of good faith and legal responsibilities of enterprises. It involves the following aspects:

1. Expansion of the scope of application

On the basis of the original reform, the new pilot work has further expanded the scope of application of Summary Deregistration of enterprises.

  • For some private stock companies and all kinds of enterprise branches that have not carried out business activities after obtaining their business licenses, have not incurred claims and debts before applying for Summary Deregistration, or have completed liquidation of claims and debts, the Summary Deregistration procedures for enterprises shall apply.
  • For farmers’ co-ops and their branches that meet the above conditions, they can undergo Summary Deregistration procedures.

2. Reduction of public announcement period and provision of online services

The public announcement period for the Summary Deregistration of an enterprise is reduced from 45 calendar days to 20 calendar days. After the expiration of the public announcement period, the enterprise shall apply with the registration authority for a Summary Deregistration within 30 calendar days. At the same time, the pilot regions have built an online service platform for enterprises so that they can choose to apply ordinary deregistration procedures or Summary Deregistration procedures. The pilot regions also promote business collaboration between departments, implement “shared information and synchronized guidelines” for deregistration works, realize the “one network service” deregistration of enterprises, and improve work efficiency.

3. Establish error-tolerant mechanism

According to the previous reform system, when an enterprise applies for a Summary Deregistration, the Summary Deregistration procedures shall not be applied if the enterprise was found “in the list of abnormal business operations”, “being frozen in equity (investment rights and interests), pledged or mortgaged to movable property”, and “unincorporated enterprise branches not deregistered”. The pilot stipulates that if the above commercial entities apply for a Summary Deregistration again in accordance with the procedures after the abnormal status is cleared, they shall be granted permission.

4. Strengthen the cohesion with the judicial department

The market supervision department in the pilot areas should further strengthen communication and cooperation with the people’s court. If the people’s court adjudicates compulsory liquidation or bankruptcy, the relevant enterprises can apply to the registration authority for a Summary Deregistration without going through the public announcement period. For those who provide fake materials to cheat in Summary Deregistration, the interested parties may apply to the people’s court to safeguard their legitimate rights and interests in accordance with the relevant provisions of the Regulation of the people’s supreme court on certain issues concerning the application of the < company law > ( II ).

5. Strengthen organizational security

The market supervision departments of all pilot regions shall communicate and coordinate with the people’s courts, the departments of human resources and social security, commerce, taxation, etc, in linking up their network, and ensure the orderly development of various measures. They shall further research on and formulate the implementation plans of the reform pilot, adjust and improve the relevant system measures and work processes in time. Moreover, relying on information technology, they shall improve the corresponding functions of the national enterprise credit information publicity system and develop the reminding service functions for enterprises. And at last, strengthen publicity and guidance in the interpretation of the pilot policy, and guide enterprises to choose a suitable way for deregistration according to actual needs.

 

Overall, following the basic direction of the previous reform, this new pilot reform has achieved further progress and covered some more comprehensive and specific contents. Comparing with the differences between the basic systems before and after the pilot, it is not difficult to find that the previous Summary Deregistration procedure waives only a procedure of a liquidation group for filing and submitting reports and a responsibility to publish on newspapers than ordinary deregistration. Luckily, the new pilot work in 2018 is more detailed than before. It has really made great progress in simplifying the jumbled procedures, improving the efficiency of Summary Deregistration, expanding the scope of application of the procedures, and strengthening the examination of enterprise application qualifications and the supervision on credit level control.

If you wish to know more about China’s new pilot reform of simplified enterprise deregistration, please contact Ms. Phenix Zheng (phenix.zheng@cwhkcpa.com).

 

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