By: Peter N. Rasmussen
July 24, 2020
In these times of great uncertainty, the “sliding puzzle” of moving cash around between interrelated companies and subsidiaries in order to secure liquidity where it is needed has become more important than ever. We all know that after-tax profits, loan repayment, and inter-company settlement related to trade of goods and services can flow without much complication - even in and out of China. But what about investment capital registered in China? Can you write it down and transfer cash back to the mother company? Let me share with you a story from real life as it played out, beginning with a conversation during a board meeting at which I was present as a director.
Svend felt a tinge of frustration as he thought of his company’s excess money sitting in China, while he had large expenses to pay in his home country of Denmark. He pushed these thoughts aside and tried to congratulate himself on a good year. As he cheered with his board of directors in celebration, he heard something about modifying a company’s registered capital. He leaned in closer… could he have heard correctly?
A Danish businessman, Svend established a wholly owned subsidiary in China back in the mid 2000s. At the time, he filed a substantial amount of registered capital to invest in machines and building refurbishment. Since its establishment, Svend’s company had written off the initial investment using Chinese depreciation rules. As a result, the money originally invested in machines had been earned back and converted to cash which was kept in the company as working capital. For many years, Svend didn’t mind having cash held up in China because his business grew and naturally required more working capital. However, after some time, Svend’s business in China stabilized. He streamlined it and needed less working capital. The subsidiary now had excess cash in the bank that had nothing to do with accumulated profits which had already been remitted back to the Danish company’s mother company in the form of dividends. Rather, the excess cash resulted from the original registered capital.
Many rumors run rampant through China about registered capital. One purports that the funds are solidly locked in China and cannot be released. According to Svend, the rumor mill confirmed it was now too late.
Rumors discourage business owners from trying to lower and send home registered capital. Some rumors state that even if it is possible to obtain permission from the investment authorities to lower registered capital, then tax audits and permission from the State Administration of Foreign Exchange make it nigh on impossible to actually remit the money out of China.
Such statements and rumors may have held some truth in the past, but no longer. Chinese company laws were modified in 2014 and again in January 2020. The effect of these changes allows registered capital to be reduced and even facilitates the entire process.
A company’s registered capital is filed with the government authorities upon the creation of the company. It constitutes a portion of the company’s "total investment", which in turn consists of the sum of the investment in fixed assets plus working capital required to run the company. By law, the ratio between registered capital and total investment is fixed. For example, a registered capital of a minimum 70% of the total investment is normally required for an investment of up to 3 million USD. The amount of registered capital is public, appearing on the company’s business license.
It is possible to reduce the registered capital of your subsidiary in China without dissolving the company. This becomes especially relevant when a foreign business owner has more than enough funding to operate the company in China, even after the company has distributed profits and repaid loans. In such a case, the excess portion of the registered capital may be eligible for a reduction.
There are multiple reasons for which a company’s initial registered capital should be reduced. For example, Svend encountered a situation where fixed assets investment had been written off and converted to liquid working capital. This principle is relevant for companies in China that have downsized their operations, assigned inventory, or sold off assets and real estate in favor of leasing. Registered capital that has been transposed to cash, should now be available to the company’s shareholders.
Even where a foreign business has lost money and the registered capital is no longer intact, it is possible to reduce the registered capital under certain conditions, namely so long as the company has enough funds to safely operate, and so long as the ratio between total assets and registered capital does not drop below the level specified by law. One note of caution should be mentioned though. In cases where an investor has committed to a certain minimum amount of registered capital per square meter of land or building the authorities may demand that such a commitment is kept.
Our experience (Asia Base) – including Svend’s case – has shown that the process is not as complicated and as long as rumors suggest. Changes to registered capital can now be made without further reason and completed fairly quickly, typically within a month.
Reduction of a company’s registered capital requires filing with local authorities and a public announcement in an approved newspaper. If requested by the company’s existing creditors, a settlement with such creditors must be reached. The process is concluded with the modification of the company’s registration with the authorities and the remittance of the money.
Svend received the audited annual report of his China subsidiary last week showing that the capital reduction was complete. He then called for a board meeting and in the invitation he noted: "I had not really expected that this was possible - but we successfully received all cash from our capital reduction in China on our account in Denmark."
While the economic climate remains unstable due to Covid-19, now is a good time to evaluate and consider reducing the registered capital of a company in China. Feel free to contact Asia Base for more information.