Laying down the bankruptcy law

The EBL Interpretation was enacted with a view of correcting such abnormal situations as soon as possible and arming the Bankruptcy Law with clearer guidance.

Bankruptcy causes made clearer

Though the causes of bankruptcy are stipulated by the legislation pattern of universalism in the Bankruptcy Law, in practice there is a different understanding as to the standard of determining the causes of bankruptcy due to the expression of legal provisions and the particularity of the standard adopted in Chinese legislation. Therefore, it is necessary to make the standard clear. Pursuant to Paragraph 1 of Article 2 of the Bankruptcy Law, there are two standards to determine whether the debtor has a justified cause for bankruptcy: 1) The debtor cannot pay off his debts due and his assets are not enough to pay off all the debts; and 2) the debtor cannot pay off his debts due and he apparently lacks the ability to pay off his debts.

In the EBL Interpretation, some key concepts for the cause of bankruptcy are interpreted, such as “cannot pay off debts due”, “assets are not enough for paying off all the debts” and “apparently lacks the ability to pay off debts”. In particular, as civil subjects have independent qualification and status, the ability of each individual civil subject to pay off debts has to be separately reviewed. There are no joint relations between different civil subjects on the determination of the ability to pay off debts or the cause of bankruptcy. The joint and several liabilities of other subjects for debts of the debtor are liabilities to creditors, instead of the extension or regeneration of the debtor's ability to pay off debts. Therefore, where any interested party claims that the debtor doesn't have a cause for bankruptcy on the ground that those persons jointly and severally liable for debts of the debtor didn't lose the ability to pay off the debts, the People's Court shall not uphold such claim.

In view of the above, concerning the judicial interpretation, the causes of bankruptcy are specified and can be summarised as “insufficient funds and the inability to pay off debts”.

Clear interpretation

Under some circumstances, even if the ledger assets of a debtor exceeds his liabilities, he may still lack the ability to pay off his debts due to an improper structuring of assets such as serious fund deficiencies or an inability to realise assets in the long-term. This is different from insolvency, where the focus lies in the assets/liabilities ratio.

In the Bankruptcy Law, the circumstance that “the debtor cannot pay off his debts due and he apparently lacks the ability to pay off his debts” is stipulated as one of the causes of bankruptcy with a view to covering other circumstances other than the situation of “the debtor cannot pay off his debts due and his assets are not enough to pay off all the debts” in order to moderately ease the application standard of bankruptcy proceedings, and to weaken the requirements of insolvency in the cause of bankruptcy. As there are only abstract provisions in the Bankruptcy Law which lead to difficult determinations in practice, the standard of applying the definition is affected.

Therefore, with a view to easing the difficulty in determining the cause of bankruptcy and promoting an effective operation of bankruptcy proceedings, several major circumstances of “apparently lacking the ability to pay off debts” are listed in the EBL Interpretation. They are that: 1) if the debtor cannot pay off his debts due to a deficiency in assets or a failure of assets realisation or other reasons; 2) if the debtor cannot pay off his debts and the whereabouts of its legal representative are unknown and there are no other personnel responsible for managing the assets; 3) if the debtor cannot pay off his debts upon enforcement of the People's Court; and 4) if the debtor cannot pay off his debts as he has been in a deficit for a long time and has difficulty in getting out of the red.

In addition, the EBL Interpretation provides that creditors may apply for bankruptcy even where the assets of an enterprise exceed the enterprise's liabilities, provided that it meets the statutory requirements of “insufficient funds, unknown whereabouts of the legal representative, enforcement and long-term losses”.

In Article 4 of the EBL Interpretation, it is stipulated that “even where the ledger assets of the debtor exceed his liabilities, the People's Court shall consider him apparently lacking the ability to pay off debts in case of any of the following circumstances: 1) 'insufficient funds' refers to the situation where the debtor cannot pay off debts due to serious fund deficiencies and the long-term inability of assets realisation; 2) 'unknown whereabouts' refers to the situation where the debtor cannot pay off debts because the whereabouts of his legal representative are unknown and there are no other personnel responsible for managing the assets; 3) 'enforcement' refers to the situation where the debtor cannot pay off his debts upon enforcement of the People's Court; 4) 'long-term losses' refers to the situation where the debtor cannot pay off his debts as he has been in a deficit for long and has difficulty in getting out of the red; and 5) other circumstances causing the debtor to lose the ability to pay off his debts”.

Burden of proof

In accordance with the EBL Interpretation, the People's Court shall review the bankruptcy application filed by creditors in strict accordance with the foregoing conditions as stipulated in the Bankruptcy Law, instead of proposing impractical requirements on the burden of proof of creditors and raising the threshold of filing a bankruptcy application by creditors in another form. In accordance with Paragraph 2 of Article 11 of the Bankruptcy Law, after the People's Court rules the creditors' bankruptcy application is admissible, the debtor shall submit relevant financial certificates and other documents to the People's Court within a statutory period.

The foregoing provisions suggest: 1) where the creditors file a bankruptcy application, the debtor shall submit relevant financial certificates and the People's Court shall not allocate the burden of proof to the creditors; 2) even if the debtor fails to submit the above certificates, instead of ruling an application inadmissible or rejecting it, the People's Court shall also accept the application provided that the bankruptcy application filed by the creditors against the debtor conforms to the foregoing conditions stipulated under the Bankruptcy Law; and 3) where the debtor fails to submit relevant financial certificates after the People's Court rules the application admissible, the People's Court may take compulsory measures (for example, financial penalties) against the debtor.

Furthermore, the EBL Interpretation clearly specifies that the applicant is not obliged to prepay relevant court fees in bankruptcy cases.

In Article 4 of the EBL Interpretation, it is stipulated that “the court fees in bankruptcy cases shall be paid from the assets of the debtor pursuant to Article 43 of the Bankruptcy Law; where relevant litigant parties make an objection to the application for bankruptcy on the ground that the applicant failed to prepay relevant court fees, the People's Court shall not uphold the same”.

Clear interpretation of bankruptcy application details

As different courts have different practices on law enforcement, the aspects to be reviewed after the People's Court receives a bankruptcy application are clearly interpreted in the EBL Interpretation with a view to standardising and unifying bankruptcy People's Court application reviews.

Pursuant to Articles 2, 7 and 8 of the Bankruptcy Law, the People's Court shall review a bankruptcy application from two aspects, namely substantial and formal conditions. A review of substantial conditions determines whether an application meets the conditions of invoking bankruptcy proceedings, mainly including the subject qualification of the applicant, the subject qualification of the debtor, and whether the debtor has a cause for bankruptcy. A review of formal conditions examines the written documents to be submitted by the applicant according to the law.

The EBL Interpretation also stipulates where written documents need to be supplemented or corrected by the applicant, the People's Court shall notify the applicant of the issues to be supplemented or corrected in time so as to prevent any delay of the actual review time. As the People's Court reviews a bankruptcy application based on the documents provided by litigant parties, the time of supplementing and correcting documents will not be accounted into the statutory review period.

Judicial supervision

In order to strengthen judicial supervision, it is specially provided in the EBL Interpretation that the applicant may directly file a bankruptcy application with the superior court in these events: 1) that the lower court doesn't receive the bankruptcy application filed by the applicant; 2) that the lower court doesn't issue a written receipt of the application and attached evidence; or 3) that the lower court fails to rule admissibility within the statutory period. Upon receiving the bankruptcy application, the superior court shall order the lower court to review the application according to the law and to make a timely ruling on its admissibility. If the lower court fails to do so, the superior court may make a ruling itself. Where the superior court rules the application admissible, it may instruct the lower court to try the case. In accordance with these provisions, the judicial supervision responsibilities of the superior court relating to bankruptcy cases are strengthened.

Feng Li and Lu Dai, SG & Co PRC Lawyers, Shanghai