Looking for new opportunities

China Law & Practice's Annual Review was released at the Awards Ceremony in Beijing this month. Part of the Annual Review comprises insights from leading lawyers. It also includes analysis of the most important news stories of the year. Please click here to view the Annual Review on issuu.

1. What important legislation and policies on foreign investment in the real estate sector have been issued in China during the past year?

With respect to foreign exchange control, the Circular on Further Improving and Revising the Foreign Exchange Control Policy on Direct Investment (Hui Fa [2012] No.59) issued by the State Administration of Foreign Exchange improves the manner of exchange control relating to direct investment by eliminating and revising certain administrative permission items relating to exchange control in respect of direct investment. The major changes relevant to foreign investment in real estate are: (1) elimination of approvals for reinvestment by foreign investors of income lawfully derived in China; (2) simplification of foreign exchange registration procedures for foreign investment in respect of the acquisition of the equity of the Chinese party by the foreign investor; (3) elimination of approvals for the purchase of foreign exchange for overseas payment in connection with direct investments; and (4) permitting foreign-invested enterprises to issue loans to their offshore parent companies, with the limit on such loans not to exceed the sum of the profits distributed to the foreign investor but not outwardly remitted and the proportion of the retained profits to which the foreign investor is entitled.

Furthermore, this year, the State Council has determined five policy measures relating to real estate control (the new five measures), the main contents of which include: (1) improving the responsibility system for the task of stabilising housing prices; (2) resolutely suppressing speculative purchase of premises; (3) increasing the supply of ordinary commercially developed housing and land; (4) accelerating the planning and construction of low income home ownership projects; and (5) beefing up market oversight. Medium-sized and large municipalities, such as Beijing, Shanghai, Guangzhou and Shenzhen have also issued local implementing rules for the new five measures. Following the successive issuance of the new five measures and the local implementing rules, housing prices and purchases have been suppressed to varying degrees, thereby affecting the investment by foreign-invested real estate enterprises in housing projects and causing a diversion of these investments into commercial property, industrial real estate projects, logistics real estate.

With respect to foreign investment in the real estate sector, the relevant Chinese authorities are currently seeking more flexible policies and simplified approval procedures, while the number of foreign-invested real estate enterprises that have undergone record filing with the Ministry of Commerce is continuously increasing. It should be noted that the Chinese government continues to stringently regulate the round tripping of investment in the real estate sector.

2. Which main types of real estate projects have recently been favoured by foreign real estate private equity funds? What are the reasons underlying this?

Recently, the eyes of foreign real estate private equity funds have been turning away from the traditional housing projects and commercial (shopping centre) projects to office property, logistics real estate projects and industrial real estate projects. The underlying reasons are: (1) with the issuance of policies placing restrictions on purchases in housing projects and reasons such as the estimation of, and payback period for, returns on investment, private foreign-invested real estate funds generally do not now view housing real estate projects as a primary option; (2) because of the existence of a certain bubble in commercial (shopping centre) real estate projects and the relatively high follow-up operating costs in these projects, they tend to be wary about investing in such projects; (3) the costs for acquiring office property away from prime locations are relatively low, there is a certain predictability of the returns on these investments and the follow-up operating costs are also comparatively more controllable; and (4) modern logistics facilities and warehousing property are currently in extremely short supply in China, the state has designated the logistics sector as a modern service industry sector that is to be heavily supported and encouraged. Furthermore, pursuant to relevant provisions of the Department of Foreign Investment Administration of the Ministry of Commerce, foreign investment in logistics (warehousing) real estate does not constitute foreign investment in the real estate sector, accordingly, foreign investment in logistics real estate is not subject to the numerous restrictions on foreign investment in the real estate sector in China.

3. What are the prospects like for new sections of the real estate industry such as logistics real estate and industrial real estate?

Logistics real estate

In recent years, growth in domestic demand in China has sparked the rapid growth of the logistics industry, but there still remains a serious shortage in the supply of modern logistics facilities. The National Development and Reform Commission, the China Securities Regulatory Commission and 10 other departments have jointly issued the Implementing Opinions on Encouraging and Guiding Private Investment into the Logistics Sector, which expressly propose to support the investment of private capital in the construction of logistics infrastructure in sectors such as transportation, warehousing, delivery, distribution, logistics computerisation as well as logistics parks, and to offer more support to logistics enterprises in terms of optimisation of land policy and financial environment. During the last few years, due to demand outstripping supply, average rents in China's logistics warehouse sector have increased approximately 5% to 10% each year. China's online retail industry has been expanding rapidly, meaning that the demand for warehousing space and property will continue to grow.

Industrial real estate

The outline of the state's 12th Five-year Plan proposes a focus on adjusting the industrial structure, and treating industrial chains as the links and industrial parks as the soil to develop a large number of modern industrial concentrations with refreshing professional character, excellent brand images and complete service platforms. Against such a background, the models for developing industrial real estate are continuously developing in innovative directions and supply and demand are continuously expanding. Under the new five measures, industrial real estate has been promoted to industrial property for comprehensive ancillary services. Cooperation with brick and mortar enterprises is the new model for industrial real estate.

4. Recently, what have been the main channels for raising funds for private real estate funds in China? What methods are normally used to carry out investment? What are the particular features of the various investment methods?

Recently, the main channels available to private real estate funds to raise funds include: (1) funds of funds; (2) trust funds; (3) enterprise capital; and (4) private capital. Renminbi private equity funds in China mainly raise funds through enterprise capital and private capital channels. The funds of type (1) and (2) mainly favour funds sponsored by state enterprises and by relatively robust developers, whereas the funds of type (3) and (4) favour funds other than funds sponsored by state enterprises and developers. The investment methods of private real estate funds include: (1) debt investment; (2) equity investment; (3) bridge financing; and (4) combined debt and equity investment. The particular features of the various investment methods are as follows: (1) debt investment: stable, relatively low investment risk, short investment period and high return rate; (2) equity investment: attaches importance to the future growth prospects and capital value increase of the investee enterprise, participates in the enterprise's operations, management and material decisions, investment risks are relatively high, the investment period long and relies on an exit mechanism to sell the equity held to realise the returns; (3) bridge financing: satisfies short-term funding needs, financing costs high, repayment period short and requires collateral from the enterprise as security; and (4) combined debt and equity investment: the equity investment only accounts for a small portion of the entire financing need of the target enterprise, with the remaining portion invested by way of debt, and to ensure that the project risks and return rate are relatively stable, the investment period is usually longer than that of a bridge financing.

5. What are the main taxes on private real estate funds in China organised as limited partnerships?

The main taxes on a private real estate fund organised as a limited partnership (LP) include: (1) exemption of enterprise income tax at the fund level; (2) natural person LPs are subject to 20% income tax on dividends, extra dividends and capital gains; and legal person LPs are exempt from tax on dividends and extra dividends and subject to 25% income tax on capital gains; (3) at the legal person general partnership (GP) level, they are exempt from tax on dividends and extra dividends and subject to 25% income tax on carry and capital gains; and (4) at the management company level, in addition to including the management fee it charges in its annual taxable income and paying income tax thereon, it is also subject to 5% business tax (see Figure 1 below).

It has recently been reported that the state tax authority is considering rules for the withholding of income tax before a limited partnership fund makes a distribution to LPs and GPs, and the possibility that relevant specific provisions will be issued in the near future cannot be excluded.

6. What are the financing channels available, in general, to real estate enterprises in China at present? What are the particular features of the various financing channels?

The main financing channels available to real estate enterprises in China include: (1) bank loan financing: interest rates are greatly affected by policy, and financing is relatively difficult; (2) real estate trust financing: the term is relatively long, financing costs low, the method is flexible, proceeds large, variable sources are available and fund raising period short; (3) private real estate fund financing: term is relatively short, financing costs low, the method is flexible, variable sources are available and fund raising period short.

7. What are your predictions on the most recent developments and timetable for the launching of REITs
in China?

In March this year, the China Securities Regulatory Commission (CSRC) promulgated the Provisions for the Administration of the Asset Securitisation Business of Securities Companies, which in truth is paving the way for the launch of REITs. The CSRC has completed the feasibility study and preparatory work relating to the launching of REITs and is preparing to select the appropriate time to issue a draft for comments on the relevant rules.

According to forecasts, the drafting of the long anticipated provisions permitting investment in the form of REITs has been completed, and it is likely that REITs will become reality in the near future. The drafting of provisions addressing REITs will mainly focus on the regulatory body for REITs and their lawful form, but the question of whether the barriers to investment by foreign investors will be removed will not be included on the discussion agenda for the moment. According to forecasts, the first-stage provisions addressing REITs may touch upon many restrictions on, and the regulation of, REITs managers. Investment in REITs by foreign investors may be restricted, preventing them from directly investing in REITs and requiring them to sell the REITs products specified by the competent authority through equity joint ventures with enterprises in China. Based on the experiences and lessons learnt from the development of securities investment funds in China and taking into account the REITs models in other countries and regions, the regulators will effect regulation over aspects such as asset requirements, structure design and duties of the participants.

Author biography

Eric Chen (Partner)

Specialising in the sectors of real estate, infrastructure, logistics and energy, Eric Chen has been advising for various leading international PE funds and investment entities such as Morgan Stanley, Carlyle Group, Wells Fargo, JP Morgan, KKR, Aetos, Citigroup, Grosvenor, Bain Capital, ARA, CLSA, APL and GLP in their acquisition transactions and strategic investments in China.

Further, Chen regularly advises leading international law firms such as Allen & Overy, Paul Hastings, Morrison & Foerster, Freshfields Bruckhaus Deringer, DLA Piper, White & Case and Baker & McKenzie in relation to various PRC legal matters.

He has an LLM from the University of Edinburgh, Law School and an LLB from Soochow University, Law School.

寻找新机遇

大成律师事务所的陈巍律师探讨房地产行业的最新发展, 包括转向办公物业、物流地产项目以及工业地产项目

1. 过去一年内中国有哪些关于外商投资房地产业的重要立法和政策出台？

在外汇管理方面，国家外汇管理局发布的《关于进一步改进和调整直接投资外汇管理政策的通知》(汇发[2012]59号)，改进直接投资外汇管理方式，取消和调整部分直接投资外汇管理行政许可项目。与外商投资房地产相关的主要改变为：(1)取消外国投资者境内合法所得再投资核准；(2)简化外国投资者收购中方股权外资外汇登记手续；(3)取消直接投资项下购汇及对外支付核准；(4)允许外商投资企业向其境外母公司放款，放款额度不得超过该外国投资者已分配未汇出利润以及按比例享有的未分配利润之和。

此外，今年国务院确定了五项关于房地产调控工作的政策措施(新国五条)，主要内容包括：(1)完善稳定房价工作责任制；(2)坚决抑制投机投资性购房；(3)增加普通商品住房及用地供应；(4)加快保障性安居工程规划建设；(5)加强市场监管。北京、上海、广州、深圳等大中城市也针对新国五条发布了地方实施细则。在新国五条及各地细则陆续发布后，住宅的价格及购买受到了不同程度的抑制，从而影响了外商投资房地产企业对于住宅类项目的投资，投资的项目开始转移到商业物业、工业地产项目、物流地产等领域。