Free Trade Zone—New Frontier for Foreign Investment in China

by Pillsbury Winthrop Shaw Pittman LLP

On September 29, 2013, China launched the mainland’s first free trade zone (FTZ) in Shanghai. The initiative is intended to be a pilot program to provide a blueprint of how China will reform its economic structure. The FTZ is an area of approximately 29 square kilometers located in Shanghai's Pudong New District, including the Waigaoqiao Bonded Zone, Waigaoqiao Bonded Logistics Zone, Pudong Airport Free Trade Zone, and Yangshan Bonded Port.

As expected of a free trade zone, customs formalities are greatly simplified for goods imported into the FTZ. Goods imported by companies in the FTZ may be exempted from import tax.

Certain administrative regulations and provisions, including the Law on Sino-Foreign Equity Joint Ventures, the Law on Sino-Foreign Cooperative Joint Ventures, and the Law on Wholly Foreign Owned Enterprises, are terminated for a trial period of three years starting from October 1, 2013 and will be “adjusted.”

Administrative procedures for foreign investment under the FTZ pilot program will be liberalized by way of a Negative List. With respect to projects that are not included in the Negative List, foreign and domestic investors will receive the same treatment, which requires filing instead of application for approval with the relevant administrative agencies. The Negative List released by the Shanghai Municipal Government is nearly identical to the prohibited and restricted categories of projects in the current Catalogues of Indus-tries for Guiding Foreign Investment published by National Development and Reform Commission. The Shanghai government stated in an interview that it will be updating the Negative List gradually to remove certain restrictions on the list. That is consistent with one of the stated goals of the FTZ initiative, liberaliz-ing restrictions on certain service sectors, including financial services, shipping and social services.

Simplifying and streamlining part of the foreign investment process may be the most attractive part of the FTZ pilot program. Going through the approval process by the local branch of the Ministry of Commerce, among other things, is a prerequisite for incorporating a foreign-invested enterprise outside the FTZ. The FTZ, on the other hand, is replacing the approval process by a filing-only requirement for foreign invest-ments in the Zone, whether new investments or changes to existing investments, except those in the Negative List. The filing-only requirement results in significant time saving as a company may be set up as quickly as in a few days. The simplified requirement also gives parties to a Sino-foreign joint venture increased flexibility in negotiating the joint venture, as joint venture arrangements in the FTZ will not be subject to regulatory approval. Companies in the FTZ are not required to undergo the time-consuming annual examination process each year, but need only provide annual operations reports to the authorities for publication. Last but not least, outbound investments by companies established in the FTZ will no longer require prior regulatory approval and need only register as an offshore investment project.

The other stated goals of the FTZ initiative include:

  • Functional transformation of the government – gradual reduction in the supervisory role of the government;
  • Promotion of trade by encouraging multinational companies to set up their Asia-Pacific regional headquarters or operations centers or both, making Shanghai an international trade settlement center;
  • Easing restrictions on RMB convertibility for capital account items for cross-border transactions (currently highly regulated outside the FTZ); and
  • Implementation of tax policies aimed at promoting trade and boosting investment.

Because detailed implementing rules for many areas have not been issued yet, at this time it is difficult to predict the extent of benefits that foreign and domestic investors will actually enjoy from the FTZ pilot program, other than the efficiency from the replacement of an approval regime by a filing-only regime for foreign-invested enterprise establishment. The experience to date of the FTZ’s apparent speed in registering enterprises in the Zone suggests that Chinese economic policies are heading in the right direction.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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